Deck 20: Legal Liability Cases

Question 1

Beckler & Associates CAs issued an unqualified opinion on the financial statements of Queen Ltd.The financial statements contained misstatements that resulted in a material overstatement of Queen's net worth.Queen provided the audited financial statements to Mac Bank in connection with a loan made by Mac to Queen.Beckler knew that the financial statements would be provided to Mac.Queen defaulted on the loan.Mac sued Beckler to recover the losses associated with Queen's default.Which of the following must Mac prove in order to recover? I.Beckler was negligent in conducting the audit.
II)Mac relied on the financial statements.

A)I only.
B)II only.
C)Both I and II.
D)Neither I nor II.

Answer 1

C

Question 2

Under common law,which of the following statements most accurately reflects the liability of a CA who gives a fraudulent opinion on an audit of a client's financial statements?

A)The CA is liable only to third parties who are in privity of contract with the CA.
B)The CA is liable only to known users of the financial statements.
C)The CA probably is liable to any person who suffered a loss as a result of the fraud.
D)The CA probably is liable to the client even if the client was aware of the fraud and did not rely on the opinion.

Answer 2

C

Question 3

Which of the following is NOT an element of a successful negligence action against auditors?

A)There must be proof that damage resulted.
B)The plaintiff must be a known user of the financial statements.
C)There must be a legal duty of care to the plaintiff.
D)There must be a reasonable connection between the breach of duty of care and resulting losses.

Answer 3

B

Question 4

Which of the following elements,if present,would support a finding of constructive fraud on the part of a CA?

A)Gross negligence in applying generally accepted auditing standards.
B)Ordinary negligence in applying generally accepted accounting principles.
C)Identified third-party users.
D)Scienter.

Question 5

A CA may be liable to any purchaser of a security if the CA issued a clean opinion on materially misstated financial statements.The CA usually will not be liable to the purchaser ________.

A)if the purchaser is guilty of contributory negligence
B)if the CA can prove due care in the audit
C)unless the purchaser can prove privity with the CA
D)unless the purchaser can prove scienter on the part of the CA

Question 6

When referring to public accountants,what does breach of contract mean?

A)A lawsuit involving a client and an auditor.
B)Services were not performed as agreed.
C)Auditor bills clients for extra services.
D)There is no engagement letter signed by the client.

Question 7

The lessons for accountants that are inherent in the 1136 Tenants' Corporation v.Rothenberg & Co.case include all of the following EXCEPT which one?

A)Engagement letters are as essential for accounting engagements as they are for audit engagements.
B)Regardless of the nature of the engagement,a public accountant should be alert for and should follow up on any unusual items such as missing invoices.
C)Accountants should clearly communicate the extent of their association with financial information.
D)Public accountants cannot be held liable to third parties in nonaudit or review engagements.

Question 8

Which of the following statements represents an audit failure?

A)A client goes bankrupt or has serious financial difficulty.
B)An auditor failed to conduct an audit in accordance with GAAS.
C)An auditor cannot collect the audit fees from the client.
D)An auditor is sued by a third party.

Question 9

Under the common law,in a lawsuit concerning auditor liability,the primary beneficiary is _______.

A)the recipient of funds when someone dies
B)a party for whose benefit the audit or service is being performed
C)the client
D)the shareholders of the company

Question 10

While conducting an audit,Larson Associates CAs failed to detect a material misstatement in its client's financial statements.Larson's unqualified opinion was included with the financial statements in a registration statement and prospectus for a public offering of securities made by the client.Larson knew that its opinion and the financial statements would be used for this purpose.In a suit by a purchaser against Larson for common law negligence,Larson's best defence would be that the ________.

A)audit was conducted in accordance with generally accepted auditing standards
B)client was aware of the misstatements
C)purchaser was not in privity of contract with Larson
D)identity of the purchaser was not known to Larson at the time of the audit

Question 11

Foreseeable third parties are best described as ________.

A)management of the company
B)those that have direct involvement through a contract
C)those third parties who will rely on the audit and are specifically known by the auditor
D)those third parties who potentially will rely on the audit but are not specifically known by the auditor

Question 12

When an auditor is found guilty of a fraudulent misrepresentation,there is liability owed to ________.

A)third parties with privity and contracted parties
B)any party that suffered a loss
C)shareholders only
D)all parties with privity

Question 13

Sun Corp.approved a merger plan with Cord Corp.One of the factors that led to the approval of the merger was the fact that the Cord's financial statements were audited by Frank & Co.CAs.Sun had engaged Frank to audit Cord's financial statements.While performing the audit,Frank failed to discover certain irregularities that later caused Sun to suffer substantial losses.For the lawsuit to be successful,Sun must prove that Frank & Co. ,CAs ________.

A)knew of the irregularities
B)failed to exercise due care
C)was grossly negligent
D)acted with scienter

Question 14

A company whose partners' liability is limited to the capital they have invested in the business is known as a ________.

A)partnership
B)corporation
C)proprietorship
D)limited liability partnership

Question 15

An important case that limits the auditor's liability to those third parties of which the auditor had knowledge was ________.

A)Dupuis v.Pan American Mines
B)Hedley Byrne & Co.Ltd.v.Heller & Partners Ltd.
C)Caparo Industries PLC.v.Dickman et al.
D)Haig v.Bamford et al.

Question 16

During a review engagement,CA discovers that the gross margin has increased by 20% over the last few years.To avoid potential liability due to possibly misstated financial statements,what should CA do?

A)Correct the gross margin to be consistent with prior years.
B)Obtain additional information to correct or substantiate the figures.
C)No additional work is required for review engagements.
D)Downgrade the assignment to a compilation engagement.

Question 17

A letter where accountants sign that they have been notified that a particular recipient of the financial statements and audit report intends to rely upon them for particular purposes is known as a(n)________.

A)management letter
B)compliance letter
C)reliance letter
D)engagement letter

Question 18

In a common law action against an accountant,lack of privity is a viable defence if the plaintiff ________.

A)is the client's creditor who sues the accountant for negligence
B)can prove the presence of gross negligence that amounts to a reckless disregard for the truth
C)is the accountant's client
D)bases the action upon fraud

Question 19

Third-party plaintiffs bringing action under common law need NOT prove ________.

A)they were damaged or suffered a loss
B)reliance on the financial statements
C)the financial statements were direct cause of loss
D)breach of contract

Question 20

While conducting an audit,Larson & Larson Chartered Accountants failed to detect a material misstatement in its client's financial statements.Larson's unqualified opinion was included with the financial statements in a prospectus for a public offering of securities made by the client.Larson knew that its opinion and the financial statements would be used for this purpose.Which of the following statements is correct with regard to a suit against Larson and the client by a purchaser of the securities?

A)The purchaser must prove that Larson was negligent in conducting the audit.
B)The purchaser must prove that Larson knew of the material misstatements.
C)Larson will not be liable if they had reasonable grounds to believe the financial statements were accurate.
D)Larson will be liable unless the purchaser did not rely on the financial statements.

Question 21

Due professional care occurs when an auditor observes all the rules of conduct for the profession and applies all the standards of the profession.

Question 22

The Securities and Exchange Commission in the United States will hold a negligent auditor liable under common law.

Question 23

A relationship of direct involvement between parties to a contract is known as privity

Question 24

Accountants are not liable for misstatements in compilation or review engagements.

Question 25

Primary beneficiaries are third parties who have paid to have an audit performed.

Question 26

Under common law,a plaintiff who is owed a legal duty of care must prove reliance on misleading statements and damages suffered because of that reliance.

Question 27

A defendant accountant will likely first try to argue that it had no privity relationship with the plaintiff.

Question 28

Accountants are liable under the common law for breach of contract if they fail to fulfill their contractual obligations with their clients and for negligence if they fail to exercise due care in the performance of services for their clients

Question 29

Due professional care implies that the practitioner is conducting his or her work to the highest possible standard and will make no errors.

Question 30

Joint and several liability is a doctrine that allows a successful plaintiff to recover the full amount of damage award from the defendants who have money or insurance.

Question 31

A reasonably foreseeable third party would include current shareholders but not lenders.

Question 32

To protect themselves,before an engagement letter is submitted to a client,what should an auditor complete to assist in deciding whether to accept a particular client for an engagement?

A)Management letter.
B)Client acceptance checklist.
C)Reliance letter.
D)Limited liability letter.

Question 33

The OSC in Canada has powers to decide what is GAAP,similar to the SEC in the United States.

Question 34

Constructive fraud is characterized by an intentional act designed to deceive,mislead or injure the rights of another person.

Question 35

If a professional accountant is able to reasonably foresee a limited class of potential users for his or her work,liability may then be imposed for ________.

A)ordinary negligence
B)constructive fraud
C)gross negligence
D)fraud

Question 36

A breach of contract suit is a claim that could be brought by a client against an accountant that accounting services were not performed in the manner agreed upon.

Question 37

A plaintiff,who is a normal trade creditor,can collect damages under common law for negligence from the corporation's auditors.

Question 38

Auditors are increasingly obligated to report illegal acts to third parties outside the company in which they occurred.

Question 39

case,it was held that the auditor takes complete responsibility for detecting fraud in a set of financial statements they are auditing.

Question 40

In a common law action against an accountant,all that a plaintiff must prove is that the accountant was negligent,grossly negligent,fraudulent,or otherwise responsible for the damages claimed.

Question 41

What is privity?

Question 42

What are the legal liabilities of professional accountants under the common law?

Question 43

What is joint and several liability?

Question 44

Negligence is the failure to perform a duty with the requisite standard of care.What are the four elements of negligence and what would be an auditor's defence against them?

Question 45

What is a primary beneficiary?

Question 46

Some people argue that there is a legal liability crisis for auditors in Canada.Do you agree or disagree? Provide some evidence supporting this argument,and some evidence contradicting this argument.

Question 47

Who would be considered a reasonably foreseeable third party for an auditor?

Question 48

Even in a review engagement,the accountant cannot merely accept client-supplied information that appears to be false or misleading.