CBI Holding a New York based firm serves as the parent company for several wholly owned subsidiaries. Ernst and Young became CBI’s independent auditors and performed audits for CBI’s financial statements from 1990 through 1993. Ernst and Young failed to investigate the alleged advances and conform to clients facts which may include investigating credit limit and analyzing vendor’s payable accounts. Instead the auditors record in their work papers the client’s feeble explanation for the advances.After investigations from a former CBI accountant and CBI controller, Ernst and Young have determined that CBI auditors had failed to detect unrecorded liabilities because they had failed to properly perform a search.
Yet, Ernst and Young did not notify CBI’s board of directors of the 1992 and 1993 audit errors. Nevertheless, Ernst and Young made an effort to retain CBI as an audit client after determining that the 1992 and 1993 audits have been unsatisfactory. Research QuestionDid Ernst and Young have an obligation to inform CBI management of their failure to determine the true nature of the advances prior to seeking the “reaudit” engagement? Authoritative Literature (AU 561 - .04) states that, “When the auditor becomes aware of information which relates to financial statements previously reported on by him, but which was not known to him at the date of his report, and which is of such a nature and from such a source that he would have investigated it had it come to his attention during the course of his audit, he should, as soon as practicable, undertake to determine whether the information is reliable and whether the facts existed at the date of his report.
In this connection, the auditor should discuss the matter with his client at whatever management levels he deems appropriate, including the board of directors, and request cooperation in whatever investigation may be necessary.”(AU 561 - .05) mentions the need to make reliable information known, and it states that “When the subsequently discovered information is found both to be reliable and to have existed at the date of the auditor's report, the auditor should take action in accordance with the procedures set out in subsequent paragraphs if the nature and effect of the matter are such that (a) his report would have been affected if the information had been known to him at the date of his report and had not been reflected in the financial statements and (b) he believes there are persons currently relying or likely to rely on the financial statements who would attach importance to the information. With respect to (b), consideration should be given, among other things, to the time elapsed since the financial statements were issued.”(AU 561 – .09a) states that, “If the auditor has been able to make a satisfactory investigation of the information and has determined that the information is reliable: (i) The disclosure should describe the effect the subsequently acquired information would have had on the auditor's report if it had been known to him at the date of his report and had not been reflected in the financial statements.
The disclosure should include a description of the nature of the subsequently acquired information and of its effect on the financial statements. (ii) The information disclosed should be as precise and factual as possible and should not go beyond that which is reasonably necessary to accomplish the purpose mentioned in the preceding subparagraph (i). Comments concerning the conduct or motives of any person should be avoided.” These rules may be applicable to this case.
ConclusionAccording to (AU 561 - .06) “When the auditor has concluded, after considering (a) and (b) in paragraph .05, that action should be taken to prevent future reliance on his report, he should advise his client to make appropriate disclosure of the newly discovered facts and their impact on the financial statements to persons who are known to be currently relying or who are likely to rely on the financial statements and the related auditor's report.” Therefore, auditors should give their clients feedback on what is taking place in the company, including other individuals that may be relying on data.
Hence, management may be able to make the necessary changes to improve weaknesses or make better decisions for the future.In consonance with the Auditing and Assurance Services book “reaudit” engagement includes auditing again or may refer to the initial stage of an audit when the auditor notifies a client he has accepted the audit work and clarifies his understanding of the audit purpose. Based on the case findings, when Ernst and Young reviewed internal documents that proved to be questionable; Ernst and Young accepted the explanation rather than investigate further or treat the item as unrecorded liabilities. In reference to (AU 561 - .04), Ernst and Young should have researched the data thoroughly and inform the board of directors about their findings.Based on (AU 561) data and the case information I believe that Ernst and Young have an obligation to inform CBI management of their failure to determine the true nature of the advances prior to seeking “reaudit” engagement.
