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a. Briefly explain two practical circumstances when the auditor may be liable for damages arising from material misstatements in published financial statements on which the auditors...

a. Briefly explain two practical circumstances when the auditor may be liable for damages arising from material misstatements in published financial statements on which the auditors have expressed an audit opinion.
b. List the classes of persons who may make a successful legal action against the auditors negligence.
c. Explain how an audit firm can minimise its potential legal liability for professional negligence.

Answers

Peter
) Circumstances under which the auditors may be liable for damages arising from mater misstatements
in published financial statements on which the auditors have expressed an audit opinion.

The auditor is expected to exercise reasonable care and skill while carrying out an assignment. Failure to exercise that reasonable care and skill constitutes professional negligence on the accountants part therefore negligence is said to be the;

• Failure to detect material misstatements which, reasonably competent auditor or accountant would have be expected to detect. It follows therefore that failure to detect immaterial misstatements would not constitute negligence on the accountants part. Similarly failure to detect material misstatement which involve an ingenious scheme of fraud would also not be considered negligence on the accountants part.
• Performing an audit and failing to comply with approved auditing standards and guidelines or generally accepted accounting principles and practice e.g. attendance during stock take, bank letters, debtors circularisation and lawyers letters.

An accountant will be judged to be negligent and can suffer loss of reputation or
be required to make good the loss suffered by the complainant. But to suffer those
damages and to make good the loss the complainant must prove that theaccountant was negligent and two more conditions must be met;

• The auditor must have owed a duty of care to the plaintiff.
• The plaintiff must have suffered a loss as a result of the auditor’s negligence.

b) The parties to which the auditor may be liable.

• Any person/institution with whom the auditor has contractual relations.
• Client (individuals, companies or partnerships.
• Persons who may rely on the work of the auditor (providing the audit knew or ought to have known that the person would rely on the work.

c) Ways to minimise liability.

• By not being negligent.
• By following the precepts of auditing standards.
• By agreeing duties and responsibilities in an engagement letter. This should specify
• the specific asks to be undertaken. It should also define the responsibilities to be undertake by the client and specify any limitations to the work to be undertaken.
• By defining in his report the precise work undertaken, work not undertaken and any limitations to the work.
• By stating in the engagement letter the purpose for which the report has been prepared and that the client may not use it for any other purpose.
• By stating in any report the purpose of that report and that it may not be relied on for any other purpose.
• Authorising persons who can be recipients of reports in the engagement letter and in the report.
• By limiting or extending liability by a term in the engagement letter or third parties by a disclaimer in the report.
• Obtaining an indemnity from the client on third party.
• Defining the scope of professional competence to include only matters with auditor’s competence. Do not take work which you are not proficient at.
Musyoxx answered the question on March 14, 2018 at 16:18

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