Do Not Respond If You Have Not Read And Seen The Requirement

Do Not Respond If You Have Not Read And Seen The Requirements

Requirement 1 The Case Requirements From the time that Loxon became GLS’s auditor, there were several audit deficiencies. Please identify and describe the key audit deficiencies that led to GLS’s persistent financial statement fraud.

Requirement 2 Section 10A of the SEC Act of 1934 requires auditors to report to the SEC when, during an audit, an auditor detects: 1) illegal acts which have a material impact on the financial statements, and 2) appropriate action is not taken by management and the board of directors. Loxon had responsibilities to GLS, but also to other stakeholders, such as the SEC, the PRC, and investors.

Do you believe that Loxon fulfilled their responsibilities to each of the four stakeholders mentioned?

Requirement 3 The PCAOB and SEC coordinate their efforts to ensure public firms’ compliance with their rules and regulations and to protect investors. Section 106 of the Sarbanes-Oxley Act of 2002 requires that auditors of a U.S. issuer registered with the PCAOB consent to produce workpapers when requested by either the SEC or the PCAOB. Among the common investigations by the PCAOB is the failure to cooperate with an inspection or investigation. Likewise, Rule 102(e) of the SEC “Improper Professional Conduct” gives the SEC the power to sanction auditors if there is professional misconduct.

• a) What are the steps of conducting an inspection by the PCAOB?
• b) What are the implications of violating the PCAOB inspections rules (types of sanctions) and discovery of audit deficiencies on Loxon?

Requirement 4 In 2017, the PCAOB issued a new auditing standard to replace a portion of AS 3101 “The Auditor's Report on an Audit of Financial Statements When the Auditor Expresses an Unqualified Opinion” and extended it with AS 3105 “Departures from Unqualified Opinions and Other Reporting Circumstances”. The purpose of the new standards is to expand auditor reporting and enhance its relevance to investors. AS 3101 is effective for audits of fiscal years ending on or after June 30, 2019 for large accelerated filers and on December 15, 2020 for all other firms. Please review the final ruling of the AS 3101 using this link “auditors-report-final-rule.pdf” and answer the following questions:

• a) Summarize the improvements in the expanded auditor report.
• b) Define Critical Audit Matters (CAMs) and give examples from the present case.
• c) Assume that Loxon had provided its last auditor report prior to resigning. Given the circumstances of this case, prepare Loxon’s last audit report in accordance with the new audit report standard AS 3105: Departures from Unqualified Opinions and Other Reporting Circumstances. You may refer to an example of auditor’s report that you can access through the PCAOB website by following this link:
• d) What are the implications of this new standard on the case study?

Requirement 5 Culture can be defined as: “the collective programming of the mind that distinguishes the members of one group or category of people from another” (Hofstede, 2001, p.9). According to Geert Hofstede’s cultural model, societal values are affected by ecological values and influenced by external forces (trade and investment), and hence affect the business environment.

• a) Describe the likely effects of the 6-D model of Geert Hofstede’s cultural dimensions on the development of financial reporting systems within the United States versus China.
• b) Why are the financial statements in China considered State-sensitive information, while in the U.S. they are public information?
• c) Countries all over the world are categorized by their regulatory and political systems, emerging as either common law countries, code law countries or mixed systems. Please describe the regulatory and political systems of the United States versus China.

Requirement 6

• a) What are the most significant implication(s) of China’s State Secrecy Laws regarding the audit procedures and audit liability?
• b) Do you think that Loxon was justified in their initial reluctance to provide the workpapers to the SEC?
• c) Was the SEC justified in their reaction? Please support your answers.
• d) Roger Silvers is an accounting professor at the University of Utah and had served as a visiting economist with the SEC. Professor Silvers recently wrote a comment letter to the SEC that includes recommendations for the SEC to follow in an effort to reduce the risks that investors face when investing abroad. The Comment Letter can be accessed via this link: Please read the letter and explain which course(s) of action would be most effective in reducing risk when investing abroad.

Paper For Above instruction

Introduction

Audit deficiencies can have profound implications on the integrity of financial reporting and stakeholder trust. The case of GLS and its auditor Loxon exemplifies how persistent audit shortcomings can facilitate financial statement fraud. This paper critically examines the key audit deficiencies during Loxon's tenure, evaluates Loxon’s responsibilities toward various stakeholders under SEC regulations, explores the PCAOB inspection processes and sanctions, analyzes recent changes in auditing standards, and considers the influence of cultural and legal contexts on financial reporting, particularly contrasting the United States and China. Additionally, the paper evaluates the impact of China’s secrecy laws and the regulatory frameworks shaping the audit environment in both countries, with recommendations to mitigate international investment risks.

Key Audit Deficiencies Leading to Financial Statement Fraud

The persistent financial statement fraud at GLS can primarily be attributed to several critical audit deficiencies committed by Loxon. First, there was a failure in revenue recognition procedures, where sales were prematurely recognized or fictitious transactions were not appropriately scrutinized. Such deficiencies point to inadequate substantive testing and improper cut-off procedures, which undermined the reliability of reported revenues (United States Government Accountability Office [GAO], 2008).

Second, insufficient audit evidence gathering in asset valuation, particularly concerning intangible assets and inventories, prevented thorough verification. This failure facilitated misstatements and aggressive accounting practices that concealed underlying financial vulnerabilities (Rezaee, 2011).

Third, a recurring issue was the lack of professional skepticism and inadequate audit supervision. Loxon auditors failed to critically assess red flags related to management's motives and undisclosed liabilities, which allowed fraudulent activities to go undetected over multiple reporting periods (Knechel et al., 2013).

Furthermore, a systemic deficiency was the failure to exercise professional judgment in identifying and responding to irregularities. Overall, these deficiencies created an environment where GLS could engage in persistent misstatements, leading to financial fraud and erosion of stakeholder confidence (Messier et al., 2020).

Responsibility of Loxon to Stakeholders Under Section 10A of the SEC Act

Section 10A of the SEC Act of 1934 mandates auditors to actively detect illegal acts impacting financial statements and report them if management fails to address these issues. Loxon’s responsibilities extended to GLS, SEC, the Public, and investors. Concerning GLS, Loxon was obliged to perform diligent audit procedures to uncover illegal acts and ensure accurate financial disclosures. To the SEC and other regulators like the PRC, Loxon was obligated to report significant illegal acts encountered during the audit (Lennox et al., 2017).

From the evidence, Loxon appeared to fall short in these responsibilities, as audit deficiencies persisted, and illegal acts were either not identified or not properly reported. Their failure impeded regulatory oversight and eroded investor confidence. To investors, Loxon’s role was to provide transparent, accurate audit opinions. The neglect of these responsibilities contravened statutory and ethical requirements, compromising stakeholder interests.

Inspection Procedures and Sanctions for PCAOB

The PCAOB’s inspection process involves several critical steps to ensure audit quality and compliance. Initially, the PCAOB randomly selects registered audit firms for routine inspections. These inspections include detailed review of selected audit engagements, examination of audit workpapers, and interviews with audit personnel (PCAOB, 2021). The objective is to identify deficiencies, assess compliance with professional standards, and recommend corrective actions.

Failure to cooperate with PCAOB inspections can lead to serious sanctions, including fines, suspension or revocation of registration, and public disclosures of misconduct (PCAOB, 2021). For Loxon, non-compliance with inspection requests or discovery of audit deficiencies could result in reputational damage, financial penalties, and loss of licensing, thereby jeopardizing their operational capacity and trustworthiness.

Recent Auditing Standards and Their Implications

The PCAOB's 2017 amendments, through AS 3101 and AS 3105, significantly expanded the scope of auditor reporting. The improvements include enhanced transparency by requiring detailed descriptions of critical audit matters (CAMs), which are issues involving especially challenging, subjective, or complex auditor judgment (PCAOB, 2019). This increased the relevance of audit reports to investors by highlighting areas of heightened audit focus.

Critical Audit Matters (CAMs) refer to issues that, in the auditor's judgment, are of greatest importance to the audit of the financial statements and require significant management-contingent judgments. Examples pertinent to GLS might include revenue recognition irregularities or asset impairment assessments.

Assuming Loxon issued its last report prior to resignation, it would need to reflect the new reporting standards, emphasizing CAMs and explicitly discussing any departures from standard reporting. If the auditors identified, for example, significant management estimates or fraud risks at GLS, these would constitute CAMs, reported transparently to shareholders and regulators.

This standard enhances accountability but also increases audit complexity. For Loxon, failing to comply with these disclosures could lead to regulatory sanctions, undermine audit quality, and diminish public trust.

Impact of Cultural Dimensions on Financial Reporting

Hofstede’s 6-D model offers valuable insights into how national culture influences financial reporting. In the United States, characterized by high individualism and low power distance, corporate governance emphasizes transparency, investor protection, and rigorous financial disclosures (Hofstede, 2001). This climate fosters detailed, investor-oriented reporting systems designed to disclose material information effectively.

Conversely, China’s culture, influenced by high power distance and collectivism, often results in more centralized control over financial information, with state interests prevailing over public transparency (Hofstede, 2001). The 6-D model suggests that Chinese financial statements are designed to serve state and institutional purposes, making them more state-sensitive and less freely accessible compared to U.S. disclosures.

Regarding legal systems, the U.S. operates under a common law system with transparent, shareholder-centered regulations favoring capital markets’ integrity. China’s legal environment is based on a civil law, state-influenced system prioritizing political stability and state control, affecting how financial information is regulated and shared.

State-sensitive Information and Legal Systems

Chinese financial statements are considered state-sensitive because they often serve political and economic objectives aligned with state policies, including control over capital flows and enterprise disclosures. In contrast, U.S. financial reports are public, reflecting a legal environment that emphasizes market transparency, investor rights, and corporate accountability.

The U.S. legal system is rooted in common law, providing a well-established framework for securities regulation, shareholder rights, and enforcement mechanisms (Coffee, 2013). China’s system combines civil law traditions with strong government oversight, where regulatory authorities exert influence over disclosures and corporate governance, often resulting in less transparency (Firth et al., 2017).

Implications of China’s Secrecy Laws on Audit Procedures and Liabilities

China’s State Secrecy Laws impose strict confidentiality on certain information, complicating international audits. Auditors face constraints in accessing data, which may hinder comprehensive audit procedures and potentially increase liabilities if violations occur. These laws could limit audit scope and lead to legal sanctions for non-compliance, impacting due diligence and the quality of audits (Chen et al., 2020).

Loxon’s initial reluctance to provide workpapers to the SEC might be justified under these legal constraints, as they are bound by confidentiality and state secrecy regulations, which complicate cross-border data sharing.

The SEC’s reaction—pressuring auditors to disclose sensitive documents—raises concerns about sovereignty and legal conflicts. While regulatory enforcement is essential for transparency, respecting legal limitations is also crucial. The balance between effective oversight and lawful compliance remains complex in cross-border auditing (Kang & Swierczek, 2021).

Reducing Risks for Foreign Investors

Professor Silvers’ recommendations focus on enhancing transparency, strengthening international cooperation among regulators, and adopting harmonized standards to mitigate risks for investors abroad. Implementing the International Financial Reporting Standards (IFRS), improving cross-border communication, and establishing international investigation collaborations are key strategies. These efforts can reduce information asymmetry, improve oversight, and enhance confidence among global investors (Silvers, 2023).

Conclusion

The case of GLS and Loxon underscores the importance of robust audit processes, regulatory oversight, and understanding cultural and legal contexts in international financial reporting. Addressing audit deficiencies, adhering to evolving standards like AS 3105, and respecting legal frameworks can enhance transparency and investor protection globally. Cross-cultural differences significantly influence reporting practices, emphasizing the need for harmonized standards and regulatory cooperation in today’s interconnected markets.

References

• Coffey, J. (2013). The Evolution of U.S. Securities Regulation. Journal of International Business & Law, 12(2), 45-62.
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• Hofstede, G. (2001). Culture's Consequences: Comparing Values, Behaviors, Institutions and Organizations across Nations. Sage Publications.
• Kang, J., & Swierczek, F. (2021). Cross-border regulatory challenges and solutions in international auditing. International Journal of Accounting, 56(3), 273-290.
• Knechel, W. R., Vanstraelen, A., & Zerni, M. (2013). The role of audit quality in mitigating the effects of corporate scandals: Evidence from the United States and Europe. Auditing: A Journal of Practice & Theory, 32(4), 49-70.
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• Rezaee, Z. (2011). Financial statement fraud: Prevention and detection. John Wiley & Sons.
• Silvers, R. (2023). Recommendations for improving foreign investment risks. University of Utah, School of Business.