head: Running PROFESSIONAL ETHICS AND THE LEGAL LIABILITY OF CPA
Professional Ethics and the Legal Liability of CPAs
Joey D. Finley
Kaplan University
Auditing
AC410
Bradley Cochran
September 01, 2012
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PROFESSIONAL ETHICS AND THE LEGAL LIABILITY OF CPA
Professional Ethics and the Legal Liability of CPAs
Questions Requiring Analysis: 3-31
Ron Barber, CPA, is auditing the financial statements of DGF, Inc., a publicly held
company. During the course of the audit, Barber discovered that DGF has been making illegal
bribes to foreign government officials to obtain business, and he reported the matter to senior
management and the board of directors of DGF.
a. If management and the board of directors take appropriate remedial action, should
Barber be required to report the matter outside the company?
No, the matter does not require Barber to report outside the company if applicable and
suitable corrective action has been taken within the company by the management and the board
of directors (Whittington & Pany, 2012).
b. Describe Barbers appropriate response if management and the board of directors fail
to take appropriate remedial action.
If remedial actions are not taking then the Private Securities Act requires that auditors
report a matter outside of a company. In not being given appropriate remedial action would lead
to expect that the wrong doer to discontinue their resignation as an auditor. This result must be
informed to the customers board of directors. Management has one day to send the statement to
the SEC (Whittington & Pany, 2012).
Problems: 3-43
Thomas Gilbert and Susan Bradley formed a professional corporation called Financial
Services Inc.A Professional Corporation, each taking 50 percent of the authorized common
stock. Gilbert is a CPA and a member of the AICPA. Bradley is a CPCU (Chartered Property
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PROFESSIONAL ETHICS AND THE LEGAL LIABILITY OF CPA
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Casualty Underwriter). The corporation performs auditing and tax services under Gilberts
direction and insurance services under Bradleys supervision.
One of the corporations first audit clients was Grandtime Company. Grandtime had total
assets of $600,000 and total liabilities of $270,000. In the course of his examination, Gilbert
found that Grandtimes building with a carrying value of $240,000 was pledged as collateral for
a 10-year term note in the amount of $200,000. The clients financial statements did not mention
that the building was pledged as collateral for the 10-year term note. However, as the failure to
disclose the lien did not affect either the value of the assets or the amount of the liabilities, and
his examination was satisfactory in all other respects, Gilbert rendered an unqualified opinion on
Grandtimes financial statements. About two months after the date of his opinion, Gilbert learned
that an insurance company was planning to loan Grandtime $150,000 in the form of a firstmortgage note on the building. Realizing that the insurance company was unaware of the
existing lien on the building, Gilbert had Bradley notify the insurance company of the fact that
Grandtimes building was pledged as collateral for a term note.
Shortly after the events described above, Gilbert was charged with several violations of
professional ethics.
Identify and discuss at least four ethical implications of those acts by Gilbert that were in
violation of the AICPA Code of Professional Conduct.
One rule that Gilbert violated was Rule 102, where a member is free of interest in
providing professional services. Gilbert may have suggested different types of coverage of
insurances after informing the insurance company about the lien. Also Gilbert violated Rule 202,
where must members observe and obey with standards while conducting professional services.
He gave an unqualified opinion on Grandtimes financial statements. It did not include the lien.
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Another rule violated was Rule 301 stating a member cannot violate confidentiality between
auditor and customer. Gilbert should not have told Bradley to tell the insurance company about
the lien on building owed by Grandtime. With Gilberts interest in Financial Services Inc. of
50%, he violated Rule 505 affecting his independence (Whittington & Pany, 2012).
Questions Requiring Analysis: 4-21
Jensen, Inc. filed suit against a public accounting firm, alleging that the auditors
negligence was responsible for failure to disclose a large defalcation that had been in process for
several years. The public accounting firm responded that it may have been negligent, but that
Jensen, Inc., was really to blame because it had completely ignored the public accounting firms
repeated recommendations for improvements in internal control.
If the public accounting firm was negligent, is it responsible for the loss sustained by the
client? Does the failure by Jensen, Inc., to follow the auditors recommendation for better
internal control have any bearing on the question of liability? Explain.
If an accounting firm was negligent then of course they are at least in part responsible for
loss as a result of their negligence. Jensen, Inc. has the validity to sue for claims to recover any
losses that would be related to directly and possibly indirectly of the customers loss. The issue
that may come up as a counter from the accounting firm is that Jensen, Inc. did not follow the
recommendations of how to improve the internal controls of Jensen, Inc. This particular counter
negligence point may be the factor that could have a court judge in favor of the accounting firm
(Whittington & Pany, 2012).
PROFESSIONAL ETHICS AND THE LEGAL LIABILITY OF CPA
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Questions Requiring Analysis: 4-26
The international CPA firm of Arthur Andersen faced significant liability in conjunction
with its audits of Enron Corporation.
a. From a legal liability perspective, describe the unique features of this audit case.
The unique features of this case would include that the CPA firm Arthur Andersen had
been proven to be guilty of destruction of legal documents which is a felony. In particular the
firm itself was actually indicted with no specific personnel mentioned in the cause. Their
conviction lead to the ultimate disappearance of the company once it subsequently went out of
business (Whittington & Pany, 2012).
b. Describe the important implications of this audit case for a firm of public accountants.
It simply goes to show how actions and non-ethical judgments of just one or a few
individual managers and employees can ruin a whole company. The likely hood was that just a
significantly small percentage of the entire workforce for Enron was aware of the truth in what
was transpiring illegally and unfortunately once the upper level people were caught it eventually
lead to the demise of the company as a whole, and the job loss of every employee (Whittington
& Pany, 2012).
PROFESSIONAL ETHICS AND THE LEGAL LIABILITY OF CPA
References
Whittington, O. R., & Pany, K. (2012). Professional Ethics. In T. Vertovec (Ed.), Principles of
Auditing & Other Assurance Services (18th ed., pp. 66-106). New York, NY: McGrawHill/Irwin.
Whittington, O. R., & Pany, K. (2012). Legal Liability of CPAs. In T. Vertovec (Ed.), Principles
of Auditing & Other Assurance Services (18th ed., pp. 107-136). New York, NY:
McGraw-Hill/Irwin.
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