Deck 11: Liability of Accountants and Other Professionals

Question 1

Regarding liability for negligence to third parties, under the Restatement test, an accountant is liable to known third-party users of the accountant's work product and also to those in the limited class whose reliance on the work the accountant specifically foresaw.

Answer 1

True

Question 2

An accountant who commits fraud is liable to those parties he or she reasonably should have foreseen would be injured through a justifiable reliance upon the fraudulent information.

Answer 2

True

Question 3

A plaintiff may only recover under Section 11 of the Securities Act of 1933 if the plaintiff can establish that the plaintiff purchased securities in an initial public offering.

Answer 3

False

Question 4

The reasonably foreseeable users test holds an accountant liable to any third-party who was or should have been foreseen as a possible user of the accountant's work product and did, in fact, use and rely upon that work product for a proper business purpose.

Question 5

Accountants may not be sued for malpractice because that action is only available in the medical community.

Question 6

Which of the following established GAAP?

A) The American Institute of Certified Public Accountants
B) The American Institute of Auditors
C) The Financial Accounting Standards Board
D) The American Accounting and Auditing Standards Board
E) The Federal Accounting Standards Board

Question 7

After a significant amount of responsibility for the bankruptcy of ____________ Corporation was placed on the firms that provided accounting services for the corporation, the role of accountants became a question of significant public interest.

A) Enron
B) Acron
C) Selinas
D) Prolific
E) Deltoid

Question 8

When a federal law is at issue, state protection of an accountant-client privilege does not apply.

Question 9

GAAS was established by which of the following?

A) The American Institute of Certified Public Accountants
B) The American Institute of Auditors
C) The Financial Accounting Standards Board
D) The American Accounting and Auditing Standards Board
E) The Federal Accounting Standards Board

Question 10

After an audit, the accountant is the legal owner of working papers.

Question 11

Generally, unless engaged to detect __________, an accountant is not a fraud detector unless the fraud is uncovered in the course of exercising reasonable care and skill.

A) Negligence
B) Misfeasance
C) Malfeasance
D) Fraud
E) Malpractice

Question 12

Over the last few years, plaintiffs have been successful in bringing fraud suits against accountants under the Racketeer Influenced and Corrupt Organizations Act.

Question 13

Which of the following is false regarding compliance with GAAP and GAAS?

A) Failure to comply with GAAP and GAAS will almost certainly constitute a breach of duty.
B) Compliance with GAAP and GAAS does not automatically mean that the duty of care has been met.
C) In some circumstances, a reasonable, competent accountant would do more than that the GAAP or GAAS requires.
D) GAAP standards are established by the Financial Accounting Standards Board, and GAAS standards are established by the American Institute of Certified Public Accountants.
E) State statutes may not impose additional legal requirements on accountants beyond GAAP and GAAS.

Question 14

An action against an accountant for failing to properly perform the job for which the accountant was hired is referred to as a[n] _________ action.

A) Malfeasance
B) Malpractice
C) Impropriety
D) Misguidance
E) Misjudgment

Question 15

Which of the following was the result at the Supreme Court level in Matrixx Initiatives Inc., v. Siracusano, the case in the text in which the plaintiffs brought a class action alleging that the defendant violated security laws by failing to release reports that its product Zicam Cold Remedy had been found to result in a loss of smell?

A) That the plaintiffs would not be allowed to proceed because they did not present statistically significant evidence that Zicam caused loss of smell.
B) That the plaintiffs would be allowed to proceed because they sufficiently pled scienter and also presented statistically significant evidence that Zicam caused loss of smell.
C) That under the "total mix" standard, the plaintiffs sufficient pled materiality in regard to the alleged failure to disclose; that plaintiffs sufficiently pled scienter; and that plaintiffs would be allowed to proceed.
D) That under the "total mix" standard, the plaintiffs failed to sufficient plead materiality in regard to the alleged failure to disclose and therefore would not be allowed to proceed.
E) That although under the "total mix" standard, the plaintiffs pled materiality in regard to the alleged failure to disclose, the plaintiffs failed to sufficiently plead scienter and would therefore not be allowed to proceed.

Question 16

At a minimum, the duty of care of the accountant entails compliance with which of the following?

A) Generally acknowledged accounting principles only.
B) Generally acknowledged auditing standards only.
C) Generally accepted accounting principles only.
D) Generally accepted auditing standards and generally acknowledged accounting principles.
E) Generally accepted accounting principles and generally accepted auditing standards.

Question 17

Which of the following was the result on appeal in the case in the text In re Century Aluminum Company Securities Litigation, the case in the text involving plaintiffs who purchased secondary-offering shares and who attempted to sue under Section 11 of the Securities Act of 1933 for misrepresentations allegedly released regarding the secondary offering?

A) The court affirmed the trial court's dismissal of the case recognizing that it is impossible as a matter of law for purchasers of aftermarket shares to have claims based on Section 11 because Section 11 does not apply to secondary-offering shares.
B) The court affirmed the trial court's dismissal of the case recognizing that it is often impossible for purchasers of aftermarket shares to have claims based on Section 11 because they normally purchase through brokers that do not acknowledge the source of the shares.
C) The court affirmed the trial court's dismissal of the case recognizing that the plaintiffs had not submitted sufficient evidence of misrepresentations.
D) The court allowed the case to proceed contingent on the plaintiffs submitting proof by an expert that misrepresentations occurred.
E) Finding that the plaintiffs had met all prerequisites in regard to proof, the court ruled that the case should be allowed to proceed to trial.

Question 18

What are the three primary types of liability assessed against accountants under common law?

A) Negligence, breach of contract, and accounting misalignment
B) Breach of contract, fraud, and accounting misalignment
C) Fraud, negligence, and accounting misalignment
D) Breach of contract, negligence, and innocent misrepresentation
E) Negligence, breach of contract, and fraud

Question 19

Whether third parties have a claim against an accountant on the basis of their reliance upon negligently prepared financial statements is the same in all states because it is governed by federal law.

Question 20

In the Case Opener "WorldCom," the court ruled that the chairman of WorldCom's board of directors could have no personal liability for misrepresentations of the company's condition in filings with the Securities and Exchange Commission.

Question 21

Which of the following involves accountant liability to third parties based upon privity or near privity?

A) The Ultramares rule
B) The Class test
C) The Reliance Rule
D) The Restatement test
E) The Carroll Rule

Question 22

Under the _____, an accountant is liable to known third-party users of the accountant's work product and also to those in the limited class whose reliance on the work the accountant specifically foresaw.

A) Ultramares rule
B) Class test
C) Reliance rule
D) Restatement test
E) Carroll rule

Question 23

In the instance of a breach of contract where the accountant, however, completed substantial performance, an accountant is entitled to which of the following?

A) The full amount of the contractually agreed-on fee minus the amount of damages caused by the accountant.
B) The contractually agreed-on fee without any deduction.
C) A reasonable hourly rate.
D) No more than one thousand dollars.
E) Nothing.

Question 24

Which of the following is fraud without fraudulent intent?

A) Actual fraud
B) Presumed fraud
C) Immaterial fraud
D) Constructive fraud
E) Reliance fraud

Question 25

When an audit is complete, an accountant usually issues a[n] _______________ letter stating his or her assessment of the company that was audited.

A) Opinion
B) Auditing
C) Accounting
D) Disclaimer
E) Responsive

Question 26

Which of the following is viewed as a middle ground test in regard to accounting liability to third-party users?

A) The Privity Rule
B) The Near Privity Rule
C) The Restatement Test
D) The Ultramares Rule
E) The Reasonably Foreseeable Users Rule

Question 27

When an accountant is found liable for fraud, what type of damages may be assessed in addition to compensatory damages in order to punish the accountant?

A) Punishable
B) Punitive
C) Material
D) Nominal
E) Incidental

Question 28

Which of the following is true regarding states that have adopted the reasonably foreseeable users test for accountant liability to third-parties?

A) All states have adopted it.
B) Three-quarters of the states have adopted it.
C) Half the states have adopted it.
D) Very few states have adopted it.
E) All 50 states have rejected it although it is the proposed rule under the Restatement (Third) of Torts.

Question 29

Which of the following standards is used in applying the reasonably foreseeable users test regarding accountant liability to third-parties?

A) Strict product liability
B) Negligence
C) Fraud
D) Breach of contract
E) Privity

Question 30

As set forth in the case in the text, Bily v. Arthur Young & Co., which of the following is true regarding auditor liability to third parties under the Restatement rule?

A) An auditor retained to conduct an annual audit and to furnish an opinion for no particular purpose generally undertakes no duty to third parties.
B) An auditor retained to conduct an annual audit and to furnish an opinion for no particular purpose does undertake a duty to any foreseeable third party users.
C) An auditor retained to conduct an annual audit and to furnish an opinion for no particular purpose undertakes a duty only to third parties who are financial institutions.
D) An auditor retained to conduct an annual audit and to furnish an opinion for no particular purpose generally undertakes a duty only to directors of the company who provide loans to the company.
E) An auditor retained to conduct an annual audit and to furnish an opinion for no particular purpose generally undertakes no duty to third parties except for financial institutions and also directors who provide loans to a company.

Question 31

Which of the following are various documents used and developed during an audit and included notes, calculations, and memorandums?

A) Calculation documents.
B) Working papers.
C) Auditing copies.
D) Accounting memoranda.
E) Client documentation.

Question 32

Which of the following is true regarding the use of working papers in negligence cases involving the accountant's work?

A) Working papers can be used as evidence in negligence cases.
B) Working papers cannot be used as evidence in negligence cases.
C) Working papers can be used as evidence in negligence cases only if a bank is the plaintiff.
D) Working papers can be used as evidence in negligence cases only if a non-corporate plaintiff is involved.
E) Working papers may be used as evidence in negligence cases only if the accountant failed to provide the client with copies of them.

Question 33

What is the rationale behind the Restatement Test of accountant liability to third-parties?

A) The economy will benefit if investors recognize that they have sufficient rights of recovery.
B) It is only fair to hold accountants liable if they are in privity with a plaintiff.
C) Much of what accountants do is prepare work for parties that are not their clients and therefore, it makes sense for accountants to owe a duty to intended receivers.
D) Potential investors should have a route of recovery even if they could not be foreseen by accountants.
E) The general public should have a route of recovery even if they could not be foreseen by the accountant.

Question 34

In reference to the case of Credit Alliance Corp. v. Arthur Anderson & Co., what did the court rule regarding the effort to hold the defendant accounting firm liable on a third-party reliance theory?

A) The plaintiff was allowed to recover because the Ultramares Rule was applied.
B) The plaintiff was not allowed to recover because the Carroll Rule was applied.
C) The plaintiff was allowed to recover because it was a foreseen user.
D) The plaintiff was allowed to recover because it was in a foreseen class of users.
E) The plaintiff was not allowed to recover because the court did not find the necessary link between the plaintiff and the accounting firm.

Question 35

The contract entered into with a client when an accountant is hired to perform a task is referred to as a[n] ______________.

A) Accounting contract
B) Accounting and auditing agreement
C) Engagement letter
D) Procurement letter
E) Performance letter

Question 36

Under which of the following tests is an accountant held liable to any third-party that was or should have been foreseen as a possible user of the accountant's work product and that, in fact, did use and rely upon that work product for a proper business purpose?

A) The Reasonably Foreseeable Users Test
B) The Restatement Test
C) The Privity Test
D) The Near Privity Test
E) The Ultramares Rule

Question 37

A financial statement is considered ____________ if no, or insubstantial, accounting procedures were used in the compilation of the document.

A) Audited
B) Unaudited
C) Unqualified
D) Qualified
E) Generally accepted

Question 38

Which of the following is true regarding states adhering to the privity or near privity rule for third party liability of accountants?

A) All the states utilize it.
B) All states except one utilize it.
C) Three-quarters of the states utilize it.
D) One-half of the states utilize it.
E) Only a few states utilize it.

Question 39

Which of the following is true regarding the number of states that have adopted the Restatement Test of accountant liability for negligence to third-parties?

A) None because there is no Restatement test
B) All the states
C) About half the states
D) One-fourth of the states
E) Only a few states

Question 40

Which of the following is true regarding the liability of accountants under the law of Canada?

A) Canadian law is well settled in relation to an accountant's liability to nonclients.
B) Canadian law does not recognize liability of an auditor in relation to a prospectus distributed with the auditor's filed consent by an issuer of securities containing misrepresentations.
C) Canadian law does not recognize liability on the part of an auditor for misrepresentations made in secondary-market disclosures made with the auditors' written consent.
D) As in the U.S., in Canada the common law holds accountants liable for negligence to clients.
E) In Quebec alone, accountants may not be held liable even if a causal link between fault and damage is established.

Question 41

Which of the following are penalties under the Sarbanes-Oxley Act for the willful violation of the section requiring the retention of working papers?

A) There are no penalties because the Sarbanes-Oxley Act does not require the retention of working papers.
B) Accountants may be fined but not imprisoned.
C) Accountants may be fined or imprisoned for up to ten years, but not both.
D) Accountants may be fined, imprisoned for up to ten years, or both.
E) Accountants may be fined, imprisoned for up to five years, or both.

Question 42

Which of the following is false regarding the Private Securities Litigation Reform Act?

A) The act sets forth a specific set of actions and guidelines an accountant must follow after identifying a potentially illegal activity when conducting an audit.
B) The act makes no reference to notifying the SEC of wrongdoing although it does reference notifying the applicable company's board of directors.
C) The act states that accountants are liable for the portion of the damages for which they are responsible.
D) In the event of a willful violation of the act, the SEC can seek an injunction against the accountant.
E) Under the act, an accountant's silence when the accountant thinks he or she might have discovered fraud is enough to constitute aiding and abetting.

Question 43

"Prenuptial Agreement." Rhonda performed accounting services for Greg's used car business. She had a contract with Greg to the effect that she would audit his books and financial statements for his own use, not for the purpose of obtaining loans. In auditing Greg's business, she developed various notes, calculations, memorandums, and other papers. Candace, Greg's fiancé, approached Rhonda to inquire about Greg's business. Candace and Rhonda had been friends for many years. Rhonda allowed Candace to look at the various notes, calculations, and other papers resulting from her review of Greg's financial statements and other records. Candace told Rhonda that she really needed to investigate Greg because they were thinking of getting married, and she believed he had a legal obligation to disclose the information to her because of negotiations involving a prenuptial agreement. Rhonda agreed and proceeded to discuss Greg's finances with Candace revealing all the information that Greg had disclosed to her. Candace broke up with Greg telling him that after what she discovered from Rhonda, she was concerned that Greg could not support her in the way in which she wanted to become accustomed. Greg was very angry with Rhonda and told her that she was unethical and had violated the accountant-client privilege.

-What is Rhonda's contract with Greg to do audit work for him called?

A) Absolute contract
B) Engagement letter
C) Retention contract
D) Audit affirmation letter
E) Preview contract

Question 44

Which of the following was created by the Sarbanes-Oxley Act to obtain greater government oversight of public accounting firms?

A) The Public Accounting Firms Oversight Commission
B) The Public Company Accounting Oversight Board
C) The Securities Review Board
D) The Auditing Analysis and Review Board
E) The Certified Public Accountant Commission

Question 45

Which of the following may be held liable in a malpractice action?

A) Doctors but not accountants or real estate brokers
B) Doctors and accountants but not real estate brokers
C) Doctors and real estate brokers but not accountants
D) Accountants and real estate brokers but not doctors
E) Doctors, accountants, and real estate brokers

Question 46

"Wedding Plans." Selena, a certified public accountant, is hired by Bob to do an audit on his business. He tells her that the audit results will be used by him in an attempt to obtain a $10,000 loan, probably from ABC Bank. Later, however, Bob changes his mind and uses the approved financial statements from Selena to get a loan for $100,000 from XYZ Bank. On the same day that she was hired by Bob, Selena, who specializes in reviewing financial statements for companies seeking loans, was approached by Carl who asked her to review his financial statements so that he could get a loan for $10,000 from an unspecified bank. Selena approved the statements, and he got a loan from ABC Bank. Additionally, Alice requested that Selena review her financial statements so that she could get a loan of $25,000 from a rich uncle. Selena is a bit uneasy about Alice because she believes that Alice is somewhat untrustworthy. Therefore, Selena requires that Alice agree in writing that the report will be transmitted only to the uncle, not to any other potential lenders. Selena approved the financial statements but, in fact, Alice uses the approved statements to get a loan for $25,000 from XYZ Bank. During the time that she had set aside to audit and review the financial statements of Bob, Carl, and Alice, Selena was also preparing for her wedding. She was engaged in choosing menus, dress fittings, and parties. All of this negatively affected her work and she negligently approved all financial statements referenced. Unfortunately, Bob, Carl, and Alice ended up defaulting on the loans. The lenders sued Selena.

-Under the Restatement Test, as discussed in the case in the text, Bily v. Arthur Young & Co., which of the following is true regarding the action brought by ABC Bank against Selena based upon the loss of funds on Carl's loan?

A) The bank will be able to recover because there was privity of contract.
B) The bank will be able to recover because no more than $10,000 was involved.
C) The bank will be able to recover because Selena was aware of how her work would be used even if she did not know the exact name of the bank involved.
D) The bank will not be able to recover because the identity of the bank was not known to Selena.
E) The bank will not be able to recover unless it can establish that it had dealt with Selena in the past.

Question 47

"Accountant Dissatisfaction." Paul agreed to perform accounting services for Teresa, and they entered into a contract setting forth the terms of their agreement. Teresa wanted Paul to review her financial information and her system of internal controls. Teresa became dissatisfied with Paul's work after he reported some irregularities in her financial statements. Paul, on the other hand, claimed that he had adequately performed his duties and that, at the most, any mistakes that he made were minimal.

-If Paul ______________ performed on the contract, he may be entitled to complete compensation minus the amount of damages caused by the breach.

A) Completely
B) Substantially
C) Partially
D) Adequately
E) Materially

Question 48

"Prenuptial Agreement." Rhonda performed accounting services for Greg's used car business. She had a contract with Greg to the effect that she would audit his books and financial statements for his own use, not for the purpose of obtaining loans. In auditing Greg's business, she developed various notes, calculations, memorandums, and other papers. Candace, Greg's fiancé, approached Rhonda to inquire about Greg's business. Candace and Rhonda had been friends for many years. Rhonda allowed Candace to look at the various notes, calculations, and other papers resulting from her review of Greg's financial statements and other records. Candace told Rhonda that she really needed to investigate Greg because they were thinking of getting married, and she believed he had a legal obligation to disclose the information to her because of negotiations involving a prenuptial agreement. Rhonda agreed and proceeded to discuss Greg's finances with Candace revealing all the information that Greg had disclosed to her. Candace broke up with Greg telling him that after what she discovered from Rhonda, she was concerned that Greg could not support her in the way in which she wanted to become accustomed. Greg was very angry with Rhonda and told her that she was unethical and had violated the accountant-client privilege.

-What are the various documents including, notes, calculations, and memorandums that Rhonda developed in her review of Greg's financial statements called?

A) Working papers.
B) Consultation papers.
C) Computation papers.
D) Analysis papers.
E) Review papers.

Question 49

Which of the following requires accountants to use adequate procedures so that they can detect illegal acts committed by an audited company?

A) The Private Securities Litigation Reform Act
B) The Public Securities Auditing Reform Act
C) The Public Detection Act
D) The Accountant Crime Deterrence Act
E) The Fraud and Illegality Deterrence Act

Question 50

"Prenuptial Agreement." Rhonda performed accounting services for Greg's used car business. She had a contract with Greg to the effect that she would audit his books and financial statements for his own use, not for the purpose of obtaining loans. In auditing Greg's business, she developed various notes, calculations, memorandums, and other papers. Candace, Greg's fiancé, approached Rhonda to inquire about Greg's business. Candace and Rhonda had been friends for many years. Rhonda allowed Candace to look at the various notes, calculations, and other papers resulting from her review of Greg's financial statements and other records. Candace told Rhonda that she really needed to investigate Greg because they were thinking of getting married, and she believed he had a legal obligation to disclose the information to her because of negotiations involving a prenuptial agreement. Rhonda agreed and proceeded to discuss Greg's finances with Candace revealing all the information that Greg had disclosed to her. Candace broke up with Greg telling him that after what she discovered from Rhonda, she was concerned that Greg could not support her in the way in which she wanted to become accustomed. Greg was very angry with Rhonda and told her that she was unethical and had violated the accountant-client privilege.

-Which of the following is accurate regarding Greg's assertion that Rhonda violated the accountant-client privilege?

A) Greg was correct since the accountant-client privilege exists in all states through common law.
B) Greg was incorrect because there is no an accountant-client privilege in any state.
C) Greg was correct because the accountant-client privilege is recognized by federal law.
D) Greg was correct because the accountant-client privilege is recognized in all states through statutory law.
E) More information is needed in order to know if Greg is correct because the accountant-client privilege is recognized in some states, but not in all states.

Question 51

"Wedding Plans." Selena, a certified public accountant, is hired by Bob to do an audit on his business. He tells her that the audit results will be used by him in an attempt to obtain a $10,000 loan, probably from ABC Bank. Later, however, Bob changes his mind and uses the approved financial statements from Selena to get a loan for $100,000 from XYZ Bank. On the same day that she was hired by Bob, Selena, who specializes in reviewing financial statements for companies seeking loans, was approached by Carl who asked her to review his financial statements so that he could get a loan for $10,000 from an unspecified bank. Selena approved the statements, and he got a loan from ABC Bank. Additionally, Alice requested that Selena review her financial statements so that she could get a loan of $25,000 from a rich uncle. Selena is a bit uneasy about Alice because she believes that Alice is somewhat untrustworthy. Therefore, Selena requires that Alice agree in writing that the report will be transmitted only to the uncle, not to any other potential lenders. Selena approved the financial statements but, in fact, Alice uses the approved statements to get a loan for $25,000 from XYZ Bank. During the time that she had set aside to audit and review the financial statements of Bob, Carl, and Alice, Selena was also preparing for her wedding. She was engaged in choosing menus, dress fittings, and parties. All of this negatively affected her work and she negligently approved all financial statements referenced. Unfortunately, Bob, Carl, and Alice ended up defaulting on the loans. The lenders sued Selena.

-Under the Restatement Test, as discussed in the case in the text, Bily v. Arthur Young & Co., which of the following is true regarding the effort by XYZ Bank to recover against Selena based upon Alice's default?

A) The bank will be able to recover because it was in privity with Selena.
B) The bank will be able to recover because it was in privity with Alice, and Alice was in privity with Selena.
C) The bank will be able to recover because Selena was aware that her audit would be used to obtain a loan.
D) The bank will not be able to recover because it cannot establish reliance upon Selena's work.
E) The bank will not be able to recover because Selena and Alice had specifically agreed that the audit would only be used to obtain a loan from Alice's uncle.

Question 52

"Accountant Dissatisfaction." Paul agreed to perform accounting services for Teresa, and they entered into a contract setting forth the terms of their agreement. Teresa wanted Paul to review her financial information and her system of internal controls. Teresa became dissatisfied with Paul's work after he reported some irregularities in her financial statements. Paul, on the other hand, claimed that he had adequately performed his duties and that, at the most, any mistakes that he made were minimal.

-If Paul engaged in ____________ breach, he is not entitled to compensation for work completed.

A) A substantial
B) An adequate
C) A material
D) Any type of
E) A comprehensive

Question 53

Which of the following is true regarding any affirmative defenses available under Section 20(a) of the Securities Exchange Act?

A) There are no affirmative defenses available.
B) Comparative negligence is an affirmative defense.
C) Contributory negligence is an affirmative defense.
D) An affirmative defense exists when the controlling person acted in good faith and did not directly or indirectly induce the act or acts constituting the underlying violation or cause of action.
E) Comparative negligence and contributory negligence are affirmative defenses, and also an affirmative defense exists when the controlling person acted in good faith and did not directly or indirectly induce the act or acts constituting the underlying violation or cause of action.

Question 54

Under which of the following are accountants civilly liable for misstatements and omissions of material facts made in registration statements the SEC requires?

A) Section 11 of the Securities Act of 1933
B) Section 10 of the Securities Act of 1934
C) Section 12 of the Securities Act of 1934
D) Section 13 of the Securities Act of 1935
E) Section 12 of the Securities Act of 1933

Question 55

For which of the following does the Securities Exchange Act impose liability?

A) Fraudulent statements made to the SEC.
B) Fraudulent statements made to courts.
C) Fraudulent statements made to a client in connection with performing an audit.
D) Negligence in performing an audit or in the construction of a financial statement.
E) Fraud in performing an audit.

Question 56

"Wedding Plans." Selena, a certified public accountant, is hired by Bob to do an audit on his business. He tells her that the audit results will be used by him in an attempt to obtain a $10,000 loan, probably from ABC Bank. Later, however, Bob changes his mind and uses the approved financial statements from Selena to get a loan for $100,000 from XYZ Bank. On the same day that she was hired by Bob, Selena, who specializes in reviewing financial statements for companies seeking loans, was approached by Carl who asked her to review his financial statements so that he could get a loan for $10,000 from an unspecified bank. Selena approved the statements, and he got a loan from ABC Bank. Additionally, Alice requested that Selena review her financial statements so that she could get a loan of $25,000 from a rich uncle. Selena is a bit uneasy about Alice because she believes that Alice is somewhat untrustworthy. Therefore, Selena requires that Alice agree in writing that the report will be transmitted only to the uncle, not to any other potential lenders. Selena approved the financial statements but, in fact, Alice uses the approved statements to get a loan for $25,000 from XYZ Bank. During the time that she had set aside to audit and review the financial statements of Bob, Carl, and Alice, Selena was also preparing for her wedding. She was engaged in choosing menus, dress fittings, and parties. All of this negatively affected her work and she negligently approved all financial statements referenced. Unfortunately, Bob, Carl, and Alice ended up defaulting on the loans. The lenders sued Selena.

-Under the Restatement Test, as discussed in the case in the text, Bily v. Arthur Young & Co., which of the following is true regarding whether XYZ Bank can recover against Selena based upon the loan to Bob?

A) XYZ Bank will not be able to recover because it was not in privity with Selena.
B) XYZ Bank will not be able to recover because Selena did not know that Bob planned to get a loan from XYZ Bank.
C) XYZ Bank will not be able to recover $100,000 from Selena because the transaction went from $10,000 to $100,000, increasing materially the audit risk.
D) XYZ Bank will be able to recover from Selena because there was privity of contract.
E) XYZ Bank will be able to recover from Selena only if they have been a client of hers in the past.

Question 57

Which of the following does the Sarbanes-Oxley Act of 2002 require regarding working papers?

A) Accountants must maintain working papers for ten years starting with the end of the fiscal period in which the audit was conducted.
B) Accountants must maintain working papers for seven years starting on the last day of the audit.
C) Accountants must maintain working papers for five years starting with the end of the fiscal period in which the audit was conducted.
D) Accountants must maintain working papers for one year starting on the last day of the audit.
E) The act does not require that accountants maintain working papers.

Question 58

Which of the following is true regarding what a plaintiff must do in order to recover damages under the Securities Act of 1933 after purchasing a security covered by a registration statement containing false information or missing information?

A) A plaintiff must prove reliance on the registration statement.
B) A plaintiff must prove privity with the accountant at issue.
C) The plaintiff must establish reliance and privity.
D) The plaintiff must establish reliance on the financial statement, privity with the accountant, and also that the securities were purchased in an initial public offering.
E) The plaintiff does not have to prove reliance on the financial statement nor must the plaintiff prove contractual privity.

Question 59

"Accountant Dissatisfaction." Paul agreed to perform accounting services for Teresa, and they entered into a contract setting forth the terms of their agreement. Teresa wanted Paul to review her financial information and her system of internal controls. Teresa became dissatisfied with Paul's work after he reported some irregularities in her financial statements. Paul, on the other hand, claimed that he had adequately performed his duties and that, at the most, any mistakes that he made were minimal.

-The contract that Paul and Teresa entered into setting the scope of Paul's duties is referred to as a[n] ___________.

A) Engagement letter
B) Accounting contractual letter
C) Auditing contractual letter
D) GAAP letter
E) GAAS letter

Question 60

"Accountant Dissatisfaction." Paul agreed to perform accounting services for Teresa, and they entered into a contract setting forth the terms of their agreement. Teresa wanted Paul to review her financial information and her system of internal controls. Teresa became dissatisfied with Paul's work after he reported some irregularities in her financial statements. Paul, on the other hand, claimed that he had adequately performed his duties and that, at the most, any mistakes that he made were minimal.

-Assuming that Teresa can establish that Paul failed to meet his contractual obligations, which of the following would be available to her?

A) Only a recovery for the cost of obtaining a different accountant to perform breached contractual duties.
B) Reasonable and foreseeable damages related to the breach excluding the cost of another accountant to perform breached contractual duties.
C) Reasonable and foreseeable damages related to the breach and damages for fraud which would be presumed.
D) The cost of obtaining a different accountant to perform breached contractual duties and also any reasonable and foreseeable damages related to the breach.
E) Nothing unless the contact specifically provides for damages in the event of a breach.

Question 61

What must be proven in order to recover damages under Section 10(b) of the Securities Exchange Act of 1934 and the corresponding SEC Rule 10b-5?

Question 62

Andy, a newly licensed certified public accountant, performed an audit for ABC Corporation. Shortly after the audit, a number of company officials were indicted for fraud. Andy tells his boss, Shirley, that he is not concerned because he had no duty under GAAS or GAAP to detect fraud and that so long as those obligations were met, he had no duty to do more. He says that auditors are not expected to have perfect judgment. Set forth what the initials GAAS and GAAP represent. Additionally, discuss whether Andy is correct on the following issues, and why or why not:
1. His contention regarding compliance with GAAS and GAAP completely satisfying auditing obligations.
2. His contention regarding the obligation of auditors in relation to fraud.
3. His contention that auditors are not required to have perfect judgment.

Question 63

When can an accountant be held liable to his or her client for fraud?

Question 64

Which of the following must be shown in order to establish a violation of Section 20(a) of the Securities Exchange Act?

Question 65

Discuss the defenses available to an accountant charged with negligence.

Question 66

The Sarbanes-Oxley Act prohibits registered public accounting firms from engaging in non-auditing acts for their auditing clients. List any six such non-auditing acts currently prohibited.

Question 67

"Prenuptial Agreement." Rhonda performed accounting services for Greg's used car business. She had a contract with Greg to the effect that she would audit his books and financial statements for his own use, not for the purpose of obtaining loans. In auditing Greg's business, she developed various notes, calculations, memorandums, and other papers. Candace, Greg's fiancé, approached Rhonda to inquire about Greg's business. Candace and Rhonda had been friends for many years. Rhonda allowed Candace to look at the various notes, calculations, and other papers resulting from her review of Greg's financial statements and other records. Candace told Rhonda that she really needed to investigate Greg because they were thinking of getting married, and she believed he had a legal obligation to disclose the information to her because of negotiations involving a prenuptial agreement. Rhonda agreed and proceeded to discuss Greg's finances with Candace revealing all the information that Greg had disclosed to her. Candace broke up with Greg telling him that after what she discovered from Rhonda, she was concerned that Greg could not support her in the way in which she wanted to become accustomed. Greg was very angry with Rhonda and told her that she was unethical and had violated the accountant-client privilege.

-Assuming that Rhonda discussed with Candace confidential communications that she had with Greg, which of the following is true regarding the ethical nature of that communication?

A) Rhonda did not commit an ethical violation in disclosing information to Candace unless there was a state law providing for an accountant-client privilege.
B) Regardless of whether a state law existed providing an accountant-client privilege, federal statutory law deems such conduct unethical.
C) Rhonda did not commit an ethical violation because negotiations regarding a prenuptial agreement were involved.
D) Rhonda committed an ethical violation but only because Candace was not yet married to Greg.
E) Rhonda committed an ethical violation.