Susich, Bruce_Accounting for Lawyers_Fall_2012
I. GAAP; Financial Reporting – Relevant, Reliable and Comparable
a. GAAP; Financial Reporting
GAAP – “Generally Accepted Accounting Principles”
i. For the preparation of financial statement;
ii. For publically traded companies (Mandatory);
iii. For any business (Permissive).
· An audit will state, inter alia, that the financial statements are presented in accordance with GAAP;
· The official body is the Financial Accounting Standards Board (“FASB”);
· Sources of GAAP
o FASB[1] & SEC[2]
§ SEC has the legal authority to establish reporting requirements which overrides FASB pronouncements for companies that issue stock to the public (SEC's Regulation S-X governing accounting presentations and filings with the SEC);
§ SEC has recognized GAAP to be those accounting rules set by the FASB. (Arthur Andersen v. SEC)
· International standards – IFRS (International Financial Reporting Standards)[3].
· Common Filings:
10-K
Official annual financial report filed by listed companies.
10-Q
Quarterly version of the 10-K, but with less detail and generally unaudited.
8-K
Current event report noting key happenings.
· What is 10-K Filing?
b. Introduction to Auditing
i. Business Risk & Information Risk
1. Business Risk – The risk that a business will fail to meet its objectives;
2. Information Risk – The risk that the information circulated by the company will be false or misleading.
ii. Audit Service – Attestation Service – Assurance Service[4]
When the assertions are embodied in a company’s financial statements, we refer to the attestation as auditing.
iii. What is auditing?
A systematic process of objectively obtaining and evaluating evidence regarding assertions about economic actions and events to ascertain the degree of correspondence between the assertions and established criteria and communicating the results to interested users.
iv. Auditors are independent.
v. Certified Public Accountants (CPA) requirements
1. Educational, testing requirements;
2. Experience & continuing education requirements;
3. Peer review requirements;
4. Licensed by home state (In California it is the California State Board Accountancy).
vi. Audit Risk
1. Inherent Risk; – an error or fraud enter the accounting information system
2. Control Risk; – an error or fraud not caught by the client’s internal controls
3. Detection Risk; – an error or fraud not caught by the auditor’s procedures
vii. Objectives of Audit
1. Existence or occurrence; – 事件
2. Rights and Obligations; – 权利义务
3. Completeness; – 完整性
4. Valuation and Allocation; – 估价
5. Presentation & Disclosure. – 披露
viii. Audit Techniques
8 basic techniques / procedures:
1. Inspection of Records and Documents;
2. Inspection of Tangible Assets;
3. Observation;
4. Inquiry;
5. Confirmation;
6. Recalculation;
7. Re-performance;
8. Analytical Procedure.
e.g., cash, accounts payable, inventory…
ix. Auditor’s Report
Unqualified Report
Financial Statements contain no known departures from GAAP
Adverse Report
Financial Statements not presented in conformity with GAAP
Qualified Report
Except for limited departures, financial statements contain no known departures from GAAP
Disclaimer of Opinion
Auditors choose not to express an opinion on the company’s financial statements
c. Auditor Liability – (Independence & Duty of Care)
i. Independence;
1. Independence in fact – unbiased / impartial to financial statement
2. Independence in appearance – reflection of others’ perception of auditor independence
Q: financial relationships / managerial relationships
ii. Duty of Care
· Reflects a level of performance that would be exercised by reasonable auditors in similar circumstances;
· At a minimum level, auditors need to plan, perform and supervise an audit, exercising professional skepticism at every step;
· Reasonable Assurance (not absolute assurance) – auditors;
o Accounting involves some judgments and estimates;
o Auditors reply on sampling;
o Misstatements can be hard to detect particularly omissions and fraud.
· Fraud: expectation gap between public perspective & auditor perspective
o Public perspective – primary purpose of an audit is to ferret out all fraud, whether major or minor;
· Materiality – information is material if it is likely to influence financial statement users’ decisions.
iii. Lawyer’s response to audit inquiries
Client Consent to Response
(得到客户同意)
a. Respond to client’s initial letter requesting lawyer to provide information to auditor if letter signed by agent of client;
b. Any disclosure of a confidence or secret or to the evaluation of a claim requires additional disclosure to client;
c. Lawyer should keep in mind that an adverse party may assert that any evaluation of a potential liability is an admission（律师的意见要谨慎）;
d. Lawyer should consider having client review and approve draft of letter to auditor.
Limitation on Scope of Response
(律师业务范围声明)
a. Indicating scope of their engagement;
b. Indicating date of response;
c. Response is limited to matters given substantive attention;
d. Response is limited to attorneys currently in the firm.
Response may be limited to Material Items
(只囊括实质内容)
Response should indicate that the response is limited to items that are considered individually or collectively material to the presentation of the client’s financial statement.
Limited Response
(报告内
c transaction… identified to the supplier.” – Does not require that the auditor know the name of the exact third-party, only of their general existence and the nature of the transaction.
· Court rejects the Intent to Benefit Test for general negligence actions, but approve it for negligent misrepresentation.
4. Federal Security Law Approach – § 11 of 33 Act – RS Fraud – material false / misleading – RS瑕疵
· Liability arises under section 18 of the 1934 Act or section 11 of the 1933 Act.
“Certain enumerated parties liable to purchasers of registered securities when any material false or misleading information is included in a registration statement. Accountants not liable if audit was conducted in accordance with GAAS.”
Liability limited to third persons who, in reliance on the audit report, purchased or sold the securities. Damages limited to the amount of the offering.
Negligence – Court’s holding – for those who contract for the audit service
· Auditor liability for general negligence in the conduct of an audit is confined to persons who contract for the audit services. Other persons may not recover on a pure negligence theory. – (general negligence适用于合同相对人)
Negligent Misrepresentation – For whom the representation is made
· Negligent misrepresentation is a separate and distinct tort, a species of the tort of deceit.
· This rule limits exposure to a class of persons for whom the representations were made.
· Very similar to the Restatement Second of Torts Section 552, subdivision (b).
Why did the court reject the “Intent to Benefit” test for general negligence actions, but approve it for negligent misrepresentation?
[1] In 1973, The American Institute of Certified Public Accountants designated the Financial Accounting Standards Board… as the body to establish authoritative accounting principles.
[2] SEC is an agency of the United States established by the Congress in 1934. It has statutory power to administer and enforce the various federal securities laws. It has been empowered by the Congress to make rules and regulations implementing and enforcing the laws which its administers, including rules and regulations concerning accounting.
[3] Issued by IASB (The International Accounting Standards Board)
[4] Attestation Services: Assurance provided for specific assertions made by management. Assurance Services: The lending of credibility to information.
[5] Ultrameres Corp. v. Touche, 255 N.Y. 170 (1931).
[6] Rosenblum v. Adler, 93 N.J. 324 (1983).
