CHAPTER 1 j
The Role of the j j j
j Public Accountant in the j j j
American Economy j
Review Questions
j
1-1 The ―crisis of credibility‖ largely arose from the number of companies that restated their previously issued
j j j j j j j j j j j j j j j
financial statements as a result of accounting irregularities and fraud. Especially responsible were the very
j j j j j j j j j j j j j j j
visible Enron and WorldCom fraud cases. Both companies filed for bankruptcy and constituted the largest
j j j j j j j j j j j j j j j
companies in American history to do so. The extent of the accounting irregularities and fraud being
j j j j j j j j j j j j j j j j
investigated and disclosed brought into question the effectiveness of financial statement audits. In
j j j j j j j j j j j j j
addition, the criminal conviction of Arthur Andersen, LLP, one of the then Big 5 accounting firms, on
j j j j j j j j j j j j j j j j j
charges of destroying documents related to the Enron case brought into question the ethics standards of the
j j j j j j j j j j j j j j j j j
profession.
j
1-2 Assurance services are professional services that enhance the quality of information, or its context, for
j j j j j j j j j j j j j j
decision-making. The two types are: (a) those that increase the reliability of information and (b) those
j j j j j j j j j j j j j j j j
that involve putting information in a form or context that facilitates decision-making.
j j j j j j j j j j j j
1-3 A financial statement audit is, by far, the most common type of attest engagement. The overall assertion,
j j j j j j j j j j j j j j j j
made by management, most frequently is that the financial statements follow generally accepted accounting
j j j j j j j j j j j j j j
principles.
j
1-4 A large corporation with securities listed on a stock exchange is required by the rules of the stock exchange
j j j j j j j j j j j j j j j j j j
and by the rules of the Securities and Exchange Commission to provide an audit report with the annual
j j j j j j j j j j j j j j j j j j
financial statements furnished to its stockholders. It also is required to engage the auditors to provide an
j j j j j j j j j j j j j j j j j
opinion on its internal control. Apart from legal requirements, however, a large listed corporation
j j j j j j j j j j j j j j
recognizes that it must maintain investor confidence in the reliability of its financial statements and
j j j j j j j j j j j j j j j
internal control over financial reporting if it is to continue to be able to secure capital from the public.
j j j j j j j j j j j j j j j j j j j
jThe report by a firm of certified public accountants adds credibility to the financial statements prepared by
j j j j j j j j j j j j j j j j
the corporation. When a small family-owned enterprise elects to have an audit, the purpose usually is to
j j j j j j j j j j j j j j j j j
use the auditors' report to support an application for a bank loan.
j j j j j j j j j j j j
Solutions Manual, Chapter 6, Page 1 of 358 j j j j j j j
,1-5 A report by an independent public accountant concerning the fairness of a company's financial statements is
j j j j j j j j j j j j j j j
commonly required in the following situations:
j j j j j j
(1) Application for a bank loan. j j j j
(2) Establishing credit for purchase of merchandise, equipment, or other assets. j j j j j j j j j
(3) Reporting operating results, financial position, and cash flows to absentee owners (stockholders or
j j j j j j j j j j j j
partners).
j
(4) Issuance of securities by a corporation. j j j j j
(5) Annual financial statements by a corporation with securities listed on a stock exchange or traded
j j j j j j j j j j j j j j
over the counter.
j j j
(6) Sale of an ongoing business. j j j j
(7) Termination of a partnership. j j j
1-6 To add credibility to financial statements is to increase the likelihood that they have been prepared
j j j j j j j j j j j j j j j
following the appropriate criteria, usually generally accepted accounting principles. As such, an increase
j j j j j j j j j j j j j
in credibility results in financial statements that can be believed and relied upon by third parties.
j j j j j j j j j j j j j j j j
1-7 Business risk is the risk that the investment will be impaired because a company invested in is unable to
j j j j j j j j j j j j j j j j j j
meet its financial obligations due to economic conditions or poor management decisions. Information
j j j j j j j j j j j j j
risk is the risk that the information used to assess business risk is not accurate. Auditors can directly
j j j j j j j j j j j j j j j j j j
reduce information risk, but have only limited effect on business risk.
j j j j j j j j j j j
1-8 At the beginning of the century, the principal objective of auditing was the prevention and detection of
j j j j j j j j j j j j j j j j
fraud. Audit work centered on the balance sheet, because the income statement was regarded as highly
j j j j j j j j j j j j j j j j
confidential and not for public disclosure. Today, the principal objective of auditing is to form an
j j j j j j j j j j j j j j j j
opinion on the fairness of financial statements and their conformity with generally accepted accounting
j j j j j j j j j j j j j j
principles. But the professional standards also require that an audit be designed to provide reasonable
j j j j j j j j j j j j j j j
assurance of detecting material misstatements, due to errors or fraud. Particular emphasis is placed on
j j j j j j j j j j j j j j j
the income statement which is of great importance to investors. Auditing today also has the objectives of
j j j j j j j j j j j j j j j j j
meeting the requirements of the Securities and Exchange Commission (SEC) and the Public Company
j j j j j j j j j j j j j j
Accounting Oversight Board for public companies.
j j j j j j
1-9 The statement is incorrect. The increasing integrated databases of today, along with available audit
j j j j j j j j j j j j j
procedures make audited entire populations a possibility in many situations.
j j j j j j j j j j
1-10 An operational audit attempts to measure the effectiveness and efficiency of a specific unit of an
j j j j j j j j j j j j j j j
organization. It involves more subjective judgments than a compliance audit or an audit of financial
j j j j j j j j j j j j j j j
statements because the criteria of effectiveness and efficiency of departmental performance are not as
j j j j j j j j j j j j j j
clearly established as are many laws and regulations or generally accepted accounting principles.
j j j j j j j j j j j j j
The report prepared after completion of an operational audit is usually directed to management of
j j j j j j j j j j j j j j
the organization in which the audit work was done.
j j j j j j j j j
1-11 A compliance audit is an audit to determine whether financial reports or other assertions are in compliance
j j j j j j j j j j j j j j j j
with established criteria. The necessary ingredients are verifiable data and the existence of standards
j j j j j j j j j j j j j j
established by an authoritative body. An operational audit, on the other hand, is a review of a department
j j j j j j j j j j j j j j j j j j
or other unit of a business or governmental organization to measure the effectiveness and efficiency of
j j j j j j j j j j j j j j j j
operations. Internal auditors often perform operational audits as do auditors employed by the
j j j j j j j j j j j j j
Government Accountability Office (GAO) of the federal government.
j j j j j j j j
1-12 Internal auditors must be independent of the department heads and other line executives whose work they
j j j j j j j j j j j j j j j
review. However, internal auditors are not independent in the same sense as a public accounting firm.
j j j j j j j j j j j j j j j j
Solutions Manual, Chapter 6, Page 2 of 358 j j j j j j j
, The public accounting firm serves many clients and the revenue obtained from any one client is only a small
j j j j j j j j j j j j j j j j j j
part of the revenue of the firm. Internal auditors, on the other hand, are employees of one company, and are
j j j j j j j j j j j j j j j j j j j j
subject to the restraints inherent in the employer-employee relationship. Internal auditors can achieve a
j j j j j j j j j j j j j j
great deal of independence by reporting to the audit committee of the board of directors, but they cannot
j j j j j j j j j j j j j j j j j j
achieve the same degree of independence as is possessed by the external public accounting firm.
j j j j j j j j j j j j j j j
1-13 The internal auditors are employees of Spacecraft, Inc., and may be influenced by corporate management.
j j j j j j j j j j j j j j
The public accounting firm is independent of the company and is in a better position to take positions
j j j j j j j j j j j j j j j j j
opposed to those of company management. The work of the internal audit staff emphasizes measurement
j j j j j j j j j j j j j j j
of the efficiency and effectiveness of various operating units of the company and compliance with all types
j j j j j j j j j j j j j j j j j
of controls, whereas the public accounting firm is primarily concerned with determining the fairness of
j j j j j j j j j j j j j j j
Spacecraft's financial statements.
j j j
1-14 The Government Accountability Office (GAO) is a staff of professional auditors which reports to Congress.
j j j j j j j j j j j j j j
Its function is to determine that programs carried out by federal agencies conform to the financial
j j j j j j j j j j j j j j j j
authorization of the Congress. It is also concerned with the cost-effectiveness of government programs.
j j j j j j j j j j j j j j
The audit activities include investigation of the costs and performance of corporations holding government
j j j j j j j j j j j j j j
contracts.
j
1-15 Among the many important contributions to auditing literature by the AICPA are the series of Statements on
j j j j j j j j j j j j j j j j
Auditing Standards (SASs), Statements on Standards for Attestation Engagements (SSAEs), Industry Audit
j j j j j j j j j j j j
and Accounting Guides, Audit Guides, Audit Risk Alerts, Statements on Standards for Accounting and
j j j j j j j j j j j j j j
Review Services (SSARSs), , and the Code of Professional Conduct (only two required).
j j j j j j j j j j j j j
1-16 A peer review is a critical review of a public accounting firm's practices by another public accounting
j j j j j j j j j j j j j j j j
firm (or other CPAs functioning as a peer review team). The purpose of a peer review is to encourage
j j j j j j j j j j j j j j j j j j j
adherence to quality control standards established by the accounting firm and the profession.
j j j j j j j j j j j j j
1-17 The Securities and Exchange Commission (SEC) is an agency of the federal government and is responsible
j j j j j j j j j j j j j j j
for administering a number of acts, including the Securities Act of 1933 and the Securities Exchange Act of
j j j j j j j j j j j j j j j j j j
1934. In meeting this responsibility, the SEC reviews financial statements of companies offering
j j j j j j j j j j j j j
securities for sale to the public. It is particularly concerned with requiring full disclosure of financial
j j j j j j j j j j j j j j j j
information and with preventing misrepresentation. Through the Public Company Accounting Oversight
j j j j j j j j j j j
Board, the SEC now oversees public accounting firms that audit public companies. Included in this
j j j j j j j j j j j j j j j
oversight process includes development of auditing, independence, and quality control standards;
j j j j j j j j j j j
inspection of performance; and enforcement of the standards.
j j j j j j j j
The AICPA is the national organization of certified public accountants. It has long been a leader in
j j j j j j j j j j j j j j j j
accounting and auditing research, in publication of authoritative accounting and auditing pronouncements
j j j j j j j j j j j j
and studies, and in promoting high professional standards of practice.
j j j j j j j j j j
1-18 Services offered by public accounting firms in addition to auditing include other forms of attestation, tax
j j j j j j j j j j j j j j j
work, consulting services, litigation support services, fraud investigation services, personal financial
j j j j j j j j j j j
planning and accounting services. This last category includes preparation of financial statements for
j j j j j j j j j j j j j
smaller companies that have limited accounting personnel and various types of write-up work. Public
j j j j j j j j j j j j j j
accounting firms also perform a variety of other services. Consulting services include aiding clients in
j j j j j j j j j j j j j j j
the design of accounting systems, conversion to Information Technology (IT) systems, preparation of
j j j j j j j j j j j j j
budgets, planning business combinations with other companies, executive search, and numerous other
j j j j j j j j j j j j
projects. Public accounting firms are restricted as to the consulting services that they may provide to
j j j j j j j j j j j j j j j j
audit clients that are public companies.
j j j j j j
Solutions Manual, Chapter 6, Page 3 of 358 j j j j j j j
, 1-19 The partnership form of organization for a public accounting firm offers several advantages over a sole
j j j j j j j j j j j j j j j
proprietorship. A partnership offers the opportunity for specialization by the partners in areas such as
j j j j j j j j j j j j j j j
taxation, auditing, and consulting services. Partners can discuss difficult technical problems among
j j j j j j j j j j j j
themselves, and benefit from different perspectives. Also, the partnership may be better able to attract
j j j j j j j j j j j j j j j
and retain high quality professional staff, because they may be rewarded by acceptance into the
j j j j j j j j j j j j j j j
partnership.
j
1-20 The following characteristics of a professional corporation distinguish it from the traditional corporation:
j j j j j j j j j j j j
(1) All shareholders must be engaged in the practice of public accounting.
j j j j j j j j j j
(2) To the extent possible, directors and officers should be certified public accountants.
j j j j j j j j j j j
(3) Shares of a professional corporation may be transferred only to those engaged in public
j j j j j j j j j j j j j
accounting or to the corporation itself.
j j j j j j
(4) The corporation's shareholders and employees have liability equivalent to other forms of
j j j j j j j j j j j
organizations (i.e., the corporate form of organization does not reduce liability). Note, however,
j j j j j j j j j j j j j
that CPAs may choose to purchase liability insurance to limit potential liability.
j j j j j j j j j j j j
1-21 Local firms usually have only one or two offices, are headed by a single CPA or have a few CPAs as
j j j j j j j j j j j j j j j j j j j j
partners, and serve clients in a single city or area. The services provided are mostly income tax work,
j j j j j j j j j j j j j j j j j j
consulting services, and accounting services. Auditing is often only a small part of the practice.
j j j j j j j j j j j j j j j
Regional firms often arise from the merger and expansion of local firms. They typically maintain j j j j j j j j j j j j j j
several offices in neighboring cities and states. Auditing is a more important function for regional firms
j j j j j j j j j j j j j j j j
than for the local firms, because larger businesses are included among the clients.
j j j j j j j j j j j j j
National firms have offices in most major cities in the United States and some operate in other
j j j j j j j j j j j j j j j j
countries as well. These firms offer a full range of services, with auditing often representing the largest
j j j j j j j j j j j j j j j j j
single portion of the practice.
j j j j j
International firms have offices in most of the world’s major cities. These firms offer a full range j j j j j j j j j j j j j j j j
of services, with auditing often representing the largest single portion of the practice.
j j j j j j j j j j j j j
1-22 The various levels of accounting personnel in a large public accounting firm are staff auditors, senior
j j j j j j j j j j j j j j j
auditors, managers or supervisors, and partners (and principals).
j j j j j j j j
The staff auditor performs audit procedures such as the observation of physical inventories and
j j j j j j j j j j j j j
confirmation of receivables under the supervision of a senior. The senior auditor plans and coordinates
j j j j j j j j j j j j j j j
the audit and drafts the audit report. The senior also reviews working papers, controls the allocation of
j j j j j j j j j j j j j j j j j
audit time, and trains assistants on the job. The manager or supervisor usually is responsible for
j j j j j j j j j j j j j j j j
supervising and reviewing several audit engagements concurrently, and resolving significant problems
j j j j j j j j j j j
with the client. The partners maintain contacts with clients, develop new business, establish policies of
j j j j j j j j j j j j j j j
the firm, review the adequacy of audit work, and sign audit reports. The engagement partner is
j j j j j j j j j j j j j j j j
responsible for performance of the audit in accordance with professional standards. A partner also
j j j j j j j j j j j j j j
devotes time to the recruitment and development of staff, to AICPA and other professional group
j j j j j j j j j j j j j j j
activities, to educational and other civic activities, and generally to promoting an environment in which
j j j j j j j j j j j j j j j
the firm can prosper. The position of principal, which is often held by top-ranking consulting personnel
j j j j j j j j j j j j j j j j
who do not hold the CPA certificate, has responsibilities similar to those of a partner.
j j j j j j j j j j j j j j j
1-23 The most significant responsibilities of a partner in a public accounting firm include (only three required:
j j j j j j j j j j j j j j j
Assume ultimate responsibility for the audits assigned to him or her
j j j j j j j j j j
Sign audit reports j j
Review the audit work for compliance with firm and professional standards
j j j j j j j j j j
Maintain relations with audit clients j j j j
Solutions Manual, Chapter 6, Page 4 of 358 j j j j j j j
The Role of the j j j
j Public Accountant in the j j j
American Economy j
Review Questions
j
1-1 The ―crisis of credibility‖ largely arose from the number of companies that restated their previously issued
j j j j j j j j j j j j j j j
financial statements as a result of accounting irregularities and fraud. Especially responsible were the very
j j j j j j j j j j j j j j j
visible Enron and WorldCom fraud cases. Both companies filed for bankruptcy and constituted the largest
j j j j j j j j j j j j j j j
companies in American history to do so. The extent of the accounting irregularities and fraud being
j j j j j j j j j j j j j j j j
investigated and disclosed brought into question the effectiveness of financial statement audits. In
j j j j j j j j j j j j j
addition, the criminal conviction of Arthur Andersen, LLP, one of the then Big 5 accounting firms, on
j j j j j j j j j j j j j j j j j
charges of destroying documents related to the Enron case brought into question the ethics standards of the
j j j j j j j j j j j j j j j j j
profession.
j
1-2 Assurance services are professional services that enhance the quality of information, or its context, for
j j j j j j j j j j j j j j
decision-making. The two types are: (a) those that increase the reliability of information and (b) those
j j j j j j j j j j j j j j j j
that involve putting information in a form or context that facilitates decision-making.
j j j j j j j j j j j j
1-3 A financial statement audit is, by far, the most common type of attest engagement. The overall assertion,
j j j j j j j j j j j j j j j j
made by management, most frequently is that the financial statements follow generally accepted accounting
j j j j j j j j j j j j j j
principles.
j
1-4 A large corporation with securities listed on a stock exchange is required by the rules of the stock exchange
j j j j j j j j j j j j j j j j j j
and by the rules of the Securities and Exchange Commission to provide an audit report with the annual
j j j j j j j j j j j j j j j j j j
financial statements furnished to its stockholders. It also is required to engage the auditors to provide an
j j j j j j j j j j j j j j j j j
opinion on its internal control. Apart from legal requirements, however, a large listed corporation
j j j j j j j j j j j j j j
recognizes that it must maintain investor confidence in the reliability of its financial statements and
j j j j j j j j j j j j j j j
internal control over financial reporting if it is to continue to be able to secure capital from the public.
j j j j j j j j j j j j j j j j j j j
jThe report by a firm of certified public accountants adds credibility to the financial statements prepared by
j j j j j j j j j j j j j j j j
the corporation. When a small family-owned enterprise elects to have an audit, the purpose usually is to
j j j j j j j j j j j j j j j j j
use the auditors' report to support an application for a bank loan.
j j j j j j j j j j j j
Solutions Manual, Chapter 6, Page 1 of 358 j j j j j j j
,1-5 A report by an independent public accountant concerning the fairness of a company's financial statements is
j j j j j j j j j j j j j j j
commonly required in the following situations:
j j j j j j
(1) Application for a bank loan. j j j j
(2) Establishing credit for purchase of merchandise, equipment, or other assets. j j j j j j j j j
(3) Reporting operating results, financial position, and cash flows to absentee owners (stockholders or
j j j j j j j j j j j j
partners).
j
(4) Issuance of securities by a corporation. j j j j j
(5) Annual financial statements by a corporation with securities listed on a stock exchange or traded
j j j j j j j j j j j j j j
over the counter.
j j j
(6) Sale of an ongoing business. j j j j
(7) Termination of a partnership. j j j
1-6 To add credibility to financial statements is to increase the likelihood that they have been prepared
j j j j j j j j j j j j j j j
following the appropriate criteria, usually generally accepted accounting principles. As such, an increase
j j j j j j j j j j j j j
in credibility results in financial statements that can be believed and relied upon by third parties.
j j j j j j j j j j j j j j j j
1-7 Business risk is the risk that the investment will be impaired because a company invested in is unable to
j j j j j j j j j j j j j j j j j j
meet its financial obligations due to economic conditions or poor management decisions. Information
j j j j j j j j j j j j j
risk is the risk that the information used to assess business risk is not accurate. Auditors can directly
j j j j j j j j j j j j j j j j j j
reduce information risk, but have only limited effect on business risk.
j j j j j j j j j j j
1-8 At the beginning of the century, the principal objective of auditing was the prevention and detection of
j j j j j j j j j j j j j j j j
fraud. Audit work centered on the balance sheet, because the income statement was regarded as highly
j j j j j j j j j j j j j j j j
confidential and not for public disclosure. Today, the principal objective of auditing is to form an
j j j j j j j j j j j j j j j j
opinion on the fairness of financial statements and their conformity with generally accepted accounting
j j j j j j j j j j j j j j
principles. But the professional standards also require that an audit be designed to provide reasonable
j j j j j j j j j j j j j j j
assurance of detecting material misstatements, due to errors or fraud. Particular emphasis is placed on
j j j j j j j j j j j j j j j
the income statement which is of great importance to investors. Auditing today also has the objectives of
j j j j j j j j j j j j j j j j j
meeting the requirements of the Securities and Exchange Commission (SEC) and the Public Company
j j j j j j j j j j j j j j
Accounting Oversight Board for public companies.
j j j j j j
1-9 The statement is incorrect. The increasing integrated databases of today, along with available audit
j j j j j j j j j j j j j
procedures make audited entire populations a possibility in many situations.
j j j j j j j j j j
1-10 An operational audit attempts to measure the effectiveness and efficiency of a specific unit of an
j j j j j j j j j j j j j j j
organization. It involves more subjective judgments than a compliance audit or an audit of financial
j j j j j j j j j j j j j j j
statements because the criteria of effectiveness and efficiency of departmental performance are not as
j j j j j j j j j j j j j j
clearly established as are many laws and regulations or generally accepted accounting principles.
j j j j j j j j j j j j j
The report prepared after completion of an operational audit is usually directed to management of
j j j j j j j j j j j j j j
the organization in which the audit work was done.
j j j j j j j j j
1-11 A compliance audit is an audit to determine whether financial reports or other assertions are in compliance
j j j j j j j j j j j j j j j j
with established criteria. The necessary ingredients are verifiable data and the existence of standards
j j j j j j j j j j j j j j
established by an authoritative body. An operational audit, on the other hand, is a review of a department
j j j j j j j j j j j j j j j j j j
or other unit of a business or governmental organization to measure the effectiveness and efficiency of
j j j j j j j j j j j j j j j j
operations. Internal auditors often perform operational audits as do auditors employed by the
j j j j j j j j j j j j j
Government Accountability Office (GAO) of the federal government.
j j j j j j j j
1-12 Internal auditors must be independent of the department heads and other line executives whose work they
j j j j j j j j j j j j j j j
review. However, internal auditors are not independent in the same sense as a public accounting firm.
j j j j j j j j j j j j j j j j
Solutions Manual, Chapter 6, Page 2 of 358 j j j j j j j
, The public accounting firm serves many clients and the revenue obtained from any one client is only a small
j j j j j j j j j j j j j j j j j j
part of the revenue of the firm. Internal auditors, on the other hand, are employees of one company, and are
j j j j j j j j j j j j j j j j j j j j
subject to the restraints inherent in the employer-employee relationship. Internal auditors can achieve a
j j j j j j j j j j j j j j
great deal of independence by reporting to the audit committee of the board of directors, but they cannot
j j j j j j j j j j j j j j j j j j
achieve the same degree of independence as is possessed by the external public accounting firm.
j j j j j j j j j j j j j j j
1-13 The internal auditors are employees of Spacecraft, Inc., and may be influenced by corporate management.
j j j j j j j j j j j j j j
The public accounting firm is independent of the company and is in a better position to take positions
j j j j j j j j j j j j j j j j j
opposed to those of company management. The work of the internal audit staff emphasizes measurement
j j j j j j j j j j j j j j j
of the efficiency and effectiveness of various operating units of the company and compliance with all types
j j j j j j j j j j j j j j j j j
of controls, whereas the public accounting firm is primarily concerned with determining the fairness of
j j j j j j j j j j j j j j j
Spacecraft's financial statements.
j j j
1-14 The Government Accountability Office (GAO) is a staff of professional auditors which reports to Congress.
j j j j j j j j j j j j j j
Its function is to determine that programs carried out by federal agencies conform to the financial
j j j j j j j j j j j j j j j j
authorization of the Congress. It is also concerned with the cost-effectiveness of government programs.
j j j j j j j j j j j j j j
The audit activities include investigation of the costs and performance of corporations holding government
j j j j j j j j j j j j j j
contracts.
j
1-15 Among the many important contributions to auditing literature by the AICPA are the series of Statements on
j j j j j j j j j j j j j j j j
Auditing Standards (SASs), Statements on Standards for Attestation Engagements (SSAEs), Industry Audit
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and Accounting Guides, Audit Guides, Audit Risk Alerts, Statements on Standards for Accounting and
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Review Services (SSARSs), , and the Code of Professional Conduct (only two required).
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1-16 A peer review is a critical review of a public accounting firm's practices by another public accounting
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firm (or other CPAs functioning as a peer review team). The purpose of a peer review is to encourage
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adherence to quality control standards established by the accounting firm and the profession.
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1-17 The Securities and Exchange Commission (SEC) is an agency of the federal government and is responsible
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for administering a number of acts, including the Securities Act of 1933 and the Securities Exchange Act of
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1934. In meeting this responsibility, the SEC reviews financial statements of companies offering
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securities for sale to the public. It is particularly concerned with requiring full disclosure of financial
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information and with preventing misrepresentation. Through the Public Company Accounting Oversight
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Board, the SEC now oversees public accounting firms that audit public companies. Included in this
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oversight process includes development of auditing, independence, and quality control standards;
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inspection of performance; and enforcement of the standards.
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The AICPA is the national organization of certified public accountants. It has long been a leader in
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accounting and auditing research, in publication of authoritative accounting and auditing pronouncements
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and studies, and in promoting high professional standards of practice.
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1-18 Services offered by public accounting firms in addition to auditing include other forms of attestation, tax
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work, consulting services, litigation support services, fraud investigation services, personal financial
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planning and accounting services. This last category includes preparation of financial statements for
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smaller companies that have limited accounting personnel and various types of write-up work. Public
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accounting firms also perform a variety of other services. Consulting services include aiding clients in
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the design of accounting systems, conversion to Information Technology (IT) systems, preparation of
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budgets, planning business combinations with other companies, executive search, and numerous other
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projects. Public accounting firms are restricted as to the consulting services that they may provide to
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audit clients that are public companies.
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Solutions Manual, Chapter 6, Page 3 of 358 j j j j j j j
, 1-19 The partnership form of organization for a public accounting firm offers several advantages over a sole
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proprietorship. A partnership offers the opportunity for specialization by the partners in areas such as
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taxation, auditing, and consulting services. Partners can discuss difficult technical problems among
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themselves, and benefit from different perspectives. Also, the partnership may be better able to attract
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and retain high quality professional staff, because they may be rewarded by acceptance into the
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partnership.
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1-20 The following characteristics of a professional corporation distinguish it from the traditional corporation:
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(1) All shareholders must be engaged in the practice of public accounting.
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(2) To the extent possible, directors and officers should be certified public accountants.
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(3) Shares of a professional corporation may be transferred only to those engaged in public
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accounting or to the corporation itself.
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(4) The corporation's shareholders and employees have liability equivalent to other forms of
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organizations (i.e., the corporate form of organization does not reduce liability). Note, however,
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that CPAs may choose to purchase liability insurance to limit potential liability.
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1-21 Local firms usually have only one or two offices, are headed by a single CPA or have a few CPAs as
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partners, and serve clients in a single city or area. The services provided are mostly income tax work,
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consulting services, and accounting services. Auditing is often only a small part of the practice.
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Regional firms often arise from the merger and expansion of local firms. They typically maintain j j j j j j j j j j j j j j
several offices in neighboring cities and states. Auditing is a more important function for regional firms
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than for the local firms, because larger businesses are included among the clients.
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National firms have offices in most major cities in the United States and some operate in other
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countries as well. These firms offer a full range of services, with auditing often representing the largest
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single portion of the practice.
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International firms have offices in most of the world’s major cities. These firms offer a full range j j j j j j j j j j j j j j j j
of services, with auditing often representing the largest single portion of the practice.
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1-22 The various levels of accounting personnel in a large public accounting firm are staff auditors, senior
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auditors, managers or supervisors, and partners (and principals).
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The staff auditor performs audit procedures such as the observation of physical inventories and
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confirmation of receivables under the supervision of a senior. The senior auditor plans and coordinates
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the audit and drafts the audit report. The senior also reviews working papers, controls the allocation of
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audit time, and trains assistants on the job. The manager or supervisor usually is responsible for
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supervising and reviewing several audit engagements concurrently, and resolving significant problems
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with the client. The partners maintain contacts with clients, develop new business, establish policies of
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the firm, review the adequacy of audit work, and sign audit reports. The engagement partner is
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responsible for performance of the audit in accordance with professional standards. A partner also
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devotes time to the recruitment and development of staff, to AICPA and other professional group
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activities, to educational and other civic activities, and generally to promoting an environment in which
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the firm can prosper. The position of principal, which is often held by top-ranking consulting personnel
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who do not hold the CPA certificate, has responsibilities similar to those of a partner.
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1-23 The most significant responsibilities of a partner in a public accounting firm include (only three required:
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Assume ultimate responsibility for the audits assigned to him or her
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Sign audit reports j j
Review the audit work for compliance with firm and professional standards
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Maintain relations with audit clients j j j j
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