Case 4-4 Threats to Audit Independence
Katy Carmichael, CPA, was just promoted to audit manager in the technology sector at a large public accounting firm.
She started at the firm six years ago and has worked on a number of the same client audits for multiple years. She prefers being placed on same client audits year over year as she believes her knowledge about the client grows each year, resulting in a better audit. Public accounting firms tend to do this as it provides continuity between the firm and the client and often results in a more efficient (less costly) audit as well.
Katy was thrilled to learn that she would be retaining three of her prior audit clients, including what she considers her favorite client (DGS – Drako Gaming Solutions). She has friendships with those in the financial reporting area including the CFO with whom she has makes joint business investments.
The audit planning for DGS’s next audit is about to begin. As is common practice with all audits, each member of the audit engagement team is asked to fill out a questionnaire about any type of relationship (personal, business, or financial) they might have (or any other member of the engagement team might have with the client company, any of its customers, suppliers, employees, or direct family members of their employees. Katy will soon be meeting with the firm’s compliance partner assigned to the DGS audit to go through the completed questionnaire. In that regard, answer the following questions.
1. Identify any potential threats to independence that exists based on the facts of the case. [150 words]
Assume Vick and Ethan are CPAs. Ethan Lester was seen as a “model employee” who deserved a promotion to CFO, according to Kelly Fostermann, the CEO of Fostermann Corporation, a Maryland-based, largely privately held company that is a prominent global designer and marketer of stereophonic systems. Kelly considered Lester to be an honest employee based on performance reviews and his unwillingness to accept the promotion, stating that he wasn’t ready yet for the position. Little did she know that Lester was committing a $50,000 fraud during 2015 by embezzling cash from the company. In fact, no one seemed to catch on because Lester was able to override internal controls. However, the auditors were coming in and to solidify the deception, he needed the help of Vick Jensen, a close friend who was the accounting manager. Lester could “order” Jensen to cover up the fraud but hoped he would do so out of friendship and loyalty. Besides, Lester knew Jensen had committed his own fraud two years ago and covered it up by creating false journal entries for undocumented sales, returns, transactions, and operating expenses.
Lester went to see Jensen and explained his dilemma. He could see Jensen’s discomfort in hearing the news. Jensen had thought he had turned the corner on being involved in fraud after he quietly paid back the $20,000 he had stolen two years ago. Here is how t
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