'For Dr. Sir Adams only'.

Running Head: ASSIGNMENT 1: AUDITOR AND REGULATORY OVERSIGHT 1

Auditor and Regulatory Oversight

J

Dr.

University

ACC403

AUDITING

January 29, 2017

1 Abstract

In recent past, several public companies in an attempt to hype their financial health have, in connivance with independent auditors manipulated and falsified their financial statements in blatant violation of Generally Accepted Auditing Standards (GAAS). Such practices are not unethical, but criminal both under common laws and federal laws as they deceive investors and creditors in making major and critical financial decisions based on falsehood. This paper focuses on the Accounting scandal involving Autonomy Corporation PLC and the CPA firm Deloitte LLP. It attempts to analyze the audit report issued by CPA firm, ascertain the legal liability to third parties who relied on the financial statements under both common and federal securities laws and provide justification. It identifies the GAAS violated and compares the responsibilities of Autonomy and Deloitte. It further attempts to analyze the sanctions available under SOX and recommends the key actions that Public Company Accounting Oversight Board (PCAOB) should take to hold Autonomy and or Deloitte accountable.

When Hewlett Packard (HP), in August 2011, said it wanted to buy Autonomy, the British software company that specializes in analyzing “structured” data, for $10.3 billion, many industrial analysts thought HP had paid over the odds. HP, in November of the same year, agreed it had been duped. HP had to write off $8.8 billion related to Autonomy in its fourth quarter report which was “linked to serious accounting improprieties, misrepresentation and disclosure failures”. (The Economist, 2012, 11/2012). It is interesting to note that some of Autonomy’s former executive anonymously disclosed that the Autonomy had inflated its figures just before the acquisition. Revenue was inflated by 21% in 2009, 30% in 2010, and 26% in 2011. Though revenue growth was 5% in 2010, Autonomy reported 1707%. (The Guardian, 09/05/2014). Interestingly Deloitte’s independent audit report on Autonomy’s financial statements for the year ending December 31, 2010 declared that the financial statements give a true and fair view of the financial operations of Autonomy and that the financial statements have been prepared in accordance with GAAS. Deloitte did not disclose any of these material misstatements and went ahead to state that his client’s financial statements have been prepared in accordance with generally accepted accounting principles and represents a true and fair picture of financial transactions that took place within the accounting period. Having relied on the audited report in deciding the purchase of Autonomy, HP can sue Deloitte under common law, the Ultramares doctrine, as a third party. HP can be classified as a foreseeable user of the audited statements and have the same rights as those with privity of contracts. Under the Securities Act of 1933, third party users of Financial Statements like HP “only need to prove that the audited financial statements contained material misrepresentations or omissions.” (Arens, Elder, Beasley, 2014). Rule 10b-b of the Securities Exchange Act of 1934 also makes accountants liable if the intentionally or recklessly misrepresent information intended for third-party use. Autonomy and Deloitte intentionally misrepresented information to make the health of Autonomy look good to deceive potential investors like HP. Both are therefore liable.

Deloitte has violated GAAS AU150 Section 01 & 02 which require independent auditors to “plan, conduct, and report the results of an audit in accordance with generally accepted auditing principles”, “maintain independence in mental attitude in all matters relating to the audit” and “exercise due professional care in the performance of the audit and the preparation of the audit report” (GAAP, AU Section 150). . Deloitte has violated GAAS AU150 Section 01 & 02 which require independent auditors to “plan, conduct, and report the results of an audit in accordance with generally accepted auditing principles”, “maintain independence in mental attitude in all matters relating to the audit” and “exercise due professional care in the performance of the audit and the preparation of the audit report” (GAAP, AU Section 150).

Management, in this case Autonomy, “is responsible for adopting sound accounting policies, maintaining adequate internal control, and making fair representations in the financial statements”. (Arens, Elder, Beasley, 2014). Since management deals with the day to day administration of the business they stand in a better position to know the business transactions, assets, liabilities, and equity better than the auditor. The auditor’s knowledge of the business and its internal control is limited to what he acquires during the audit. Management is also responsible for the integrity and fairness of the financial statements and must ensure that appropriate presentation and disclosures are made. The auditor however has the responsibility to issue an adverse or qualified report if management insists on disclosures which the auditor finds unacceptable or simply withdraw from the engagement. The Chief Executive Officer (CEO) and Chief Financial Officer (CFO) of Public companies are required under the Sarbanes-Oxley Act to certify the annual and quarterly financial statements submitted to SEC. By signing those statements, they certify that the statements “fully comply with the requirements of the Securities and Exchange Act of 1934 and that the information contained in the financial statements fairly represent, in all material respects, the financial condition and results of operations”. (Arens, Elder, Beasley, 2014). The auditor, according to the AICPA auditing standards is responsible for discovering material misstatements due to fraud or error, and maintain professional skepticism when conducting the audit. The auditor is responsible for reasonable assurance but not absolute assurance that the statements are free from material misstatements. This is because the auditor’s work is usually based on sampling from the population. The likelihood that there could still be some misstatements cannot be ruled out absolutely. That notwithstanding, it appears to me that the auditor carries a greater responsibility in certifying the fairness of the financial statements. As a professional, the auditor has the skills and must exercise due care in reviewing all evidence before issuing his report. Section 110, subsection 2 of the PCAOB guidelines even gives the auditor additional responsibility to notify the client’s audit committee if management fails in its responsibilities during the audit.

Under the SEC Rules of Practice and the PCAOB Rules of the Board, individual CPAs or the firm can be temporarily or permanently suspended from auditing financial statements of public companies because of lack of requisite qualification or engaging in unethical or improper professional conduct. The PCAOB can request offending CPAs to participate in continuing education if it establishes that the individual or CPA firm requires lacks requisite training. PCAOB can refer violating CPAs to law enforcement agencies for appropriate disciplinary actions. In extreme cases, PCAOB can publish names of offending CPAs in the business press and cause major embarrassment to them.

In conclusion, the oversight responsibilities of PCAOB and SEC gives hope for better performance from CPAs and clients.

References

Arens, A. A; Elder, R.J; Besealey, M.S. (15th Ed. 2014). Auditing and Assurance Services. An Integrated Approach. Pearson Education, Inc. Upper Saddle River, New Jersey 07458

PCAOB-Generally Accepted Auditing Standards. http://www.pcaobus.org/Standards/Auditing/Pages/AU150.

The Economist (2012, November 12): HP and Autonomy Conflicting accounts. http://economist.com/node21567005/print

The Guardian, Friday, September 5, 2014

http://wwww.theguardian.com/business/2014/sep/05/hp