Assignment 1: Auditors And Regulatory Oversight Due Week 4

Assignment 1 Auditors And Regulatory Oversightdue Week 4 And Worth 24

The Securities and Exchange Commission (SEC) regulates public companies. The SEC has found that some of these companies have violated GAAP by using creative accounting practices to mislead investors and creditors regarding the health of their company. Use the Internet or Strayer Library to research a recent accounting scandal within the last five (5) years where the SEC accused public companies of accounting irregularities. Write a three to four (3-4) page paper in which you: Analyze the audit report that the CPA firm issued. Ascertain the legal liability to third parties who relied on financial statements under both common and federal securities laws.

Justify your response. Speculate on which statement of generally acceptable auditing standards (GAAS) that the company violated in performing the audit. Compare the responsibility of both management and the auditor for financial reporting, and give your opinion as to which party should have the greater burden. Defend your position. Analyze the sanctions available under SOX, and recommend the key action(s) that the PCAOB should take in order to hold management or the audit firm accountable for the accounting irregularities.

Provide a rationale for your response. Use at least two (2) quality academic resources in this assignment. Note: Wikipedia and other Websites do not qualify as academic resources. Your assignment must follow these formatting requirements: This course requires use of Strayer Writing Standards (SWS). The format is different than other Strayer University courses.

Please take a moment to review the SWS documentation for details. Include a cover page containing the title of the assignment, the student’s name, the professor’s name, the course title, and the date. The cover page and the reference page are not included in the required assignment page length. The specific course learning outcomes associated with this assignment are: Analyze the required generally accepted auditing standards, professional ethics, and legal liability of the auditor. Assess how the Sarbanes-Oxley Act has affected auditing. Evaluate an audit report. Evaluate objectives for conducting audits, and compare management’s and auditors’ responsibilities. Use technology and information resources to research issues in auditing. Write clearly and concisely about auditing using proper writing mechanics.

Paper For Above instruction

The role of the Securities and Exchange Commission (SEC) in regulating public companies is paramount in maintaining market integrity and investor confidence. Over recent years, several high-profile accounting scandals have surfaced, illustrating breaches of generally accepted accounting principles (GAAP) and auditing standards. This paper analyzes the audit report issued by a CPA firm involved in such a scandal, explores the legal liabilities to third parties under federal securities laws and common law, and examines the standards potentially violated during the audit process. Furthermore, it discusses the responsibilities of management versus auditors, evaluates the sanctions under the Sarbanes-Oxley Act (SOX), and recommends strategies the Public Company Accounting Oversight Board (PCAOB) should adopt to ensure accountability.

Recent Accounting Scandal and Audit Report Analysis

One notable recent case involves Luckin Coffee, Inc., a Chinese coffee company listed on NASDAQ, which in 2020 admitted to fabricating approximately $310 million in sales transactions. The SEC swiftly initiated investigations, and the company's auditors faced scrutiny for potential breaches of auditing standards. The audit report issued by the CPA firm, Ernst & Young (EY), was later criticized for failing to detect the fraud and for not adhering strictly to auditing standards designed to identify such irregularities (SEC, 2020). Analyzing this report reveals lapses in procedures like substantive testing and analytical review, which should have identified anomalies in revenue figures. The audit report did not provide sufficient evidence to confirm the integrity of the financial statements, raising questions about its reliability and completeness.

Legal Liability to Third Parties Under Securities Laws

Under federal securities laws, notably Securities Act of 1933 and Securities Exchange Act of 1934, third parties who rely on false or misleading financial statements can pursue legal action. These laws impose liability on both the company and the auditors if the financial statements are found to be materially misstated due to negligence or fraudulent intent. The "due diligence" defense exists for auditors under Rule 10b-5 if they exercised reasonable care. However, in cases like Luckin Coffee, the auditors' failure to detect deliberate misstatements can expose them to significant liability for contributing to investor losses. Common law claims, such as negligent misrepresentation, further reinforce the liability of auditors and management for providing false financial disclosures.

Violations of Generally Accepted Auditing Standards (GAAS)

Auditing standards such as those outlined by the Auditing Standards Board (ASB) specify procedures aimed at detecting material misstatements. A likely violation in the Luckin Coffee case pertains to the GAAS requirement for planning and supervision, specifically inadequate substantive procedures relating to revenue recognition. Standards such as SAS No. 122 require auditors to obtain sufficient appropriate evidence through procedures like confirmations, observations, and analytical reviews. The failure to perform these adequately during the audit process indicates a breach of standards designed to ensure accuracy and completeness in reporting.

Management vs. Auditor Responsibilities

Management bears primary responsibility for preparing financial statements that are free from material misstatement, whether due to error or fraud. They are charged with implementing internal controls, accurate record-keeping, and fair disclosure. Conversely, auditors serve the role of providing an independent assessment of these financial statements' fairness and compliance with GAAP. While management’s responsibilities include establishing internal controls and maintaining accurate records, auditors are responsible for conducting procedures that detect material misstatement, including fraud. In terms of burden, I believe management should bear the greater responsibility because they control internal processes and are in the best position to prevent misstatements. Auditors, however, are obligated to follow standards meticulously to uncover irregularities.

Sanctions Under SOX and Recommendations for PCAOB

The Sarbanes-Oxley Act introduced strict sanctions to deter accounting fraud and enhance auditor accountability, including criminal penalties, fines, and mandatory disciplinary actions. The PCAOB plays a crucial role in enforcing these sanctions by inspecting audit firms, issuing sanctions, and adopting standards. To improve accountability, the PCAOB should increase its focus on forensic accounting and trend analysis, impose heavier penalties on firms that fail to follow auditing standards, and mandate stricter internal controls and whistleblowing policies. Additionally, targeted audits of companies with irregularities can serve as effective deterrents. Greater transparency and swift sanctions can motivate both management and auditors to adhere strictly to ethical and professional standards, thereby safeguarding investors.

Conclusion

The integrity of financial reporting depends significantly on the responsible conduct of both management and auditors, with regulatory oversight through the SEC and PCAOB. The Luckin Coffee scandal exemplifies the failure of audit procedures and internal controls, underlining the importance of strict adherence to auditing standards like GAAS and effective enforcement of SOX provisions. Moving forward, stricter sanctions, enhanced inspection protocols, and heightened professional standards are essential in reducing future irregularities and restoring confidence in the financial markets.

References

• Auditing Standards Board. (2015). Statements on Auditing Standards (SAS) No. 122, "Considering the Work of Internal Audit Functions".
• Schuetze, C. (2020). Luckin Coffee Scandal: How a Chinese Startup Overshadowed Alibaba and TikTok. The New York Times. https://www.nytimes.com/2020/05/19/business/luckin-coffee-fraud.html
• U.S. Securities and Exchange Commission. (2020). SEC Charges Luckin Coffee with $180 Million Fraud. https://www.sec.gov/news/press-release/2020-94
• U.S. Congress. (2002). Sarbanes-Oxley Act of 2002. Public Law 107-204.
• Public Company Accounting Oversight Board. (2023). Role and Responsibilities. https://pcaobus.org/about/role-and-responsibility
• Arens, A. A., Elder, R. J., & Beasley, M. S. (2017). Auditing and Assurance Services: An Integrated Approach. Pearson.
• Francis, J., & Wang, D. (2008). The joint effect of client importance and auditors’ fee pressure on auditor independence. Auditing: A Journal of Practice & Theory, 27(2), 81-102.
• Messier, W. F., Glover, S. M., & Prawitt, D. F. (2019). Auditing & Assurance Services. McGraw-Hill Education.
• DeZoort, F. T., et al. (2012). Audit committees’ oversight of fraud: An examination of factors that influence the perception of fraud risk. Journal of Management & Governance, 16(3), 381-408.
• Carcello, J. V., & Nagy, A. L. (2004). Audit committee participation in selecting auditors, assessing conflicts of interest, and requiring special audit steps. Auditing: A Journal of Practice & Theory, 23(2), 69-87.