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CASE A- AUDITOR LIABILITY Essay

Because of the fact that there is no legal, cultural, and moral framework for assigning liability in the case of the failure of investor decision, the question of whether or not investors may be able to blame or sue the false actions and problematic decisions as a result of auditor information failure is a hazy question to be addressed. From the point of view of auditors and the current business practice, assigning liability to auditors and trusting the financial statements that they produce entirely in order to base various positions that are connected to investment is problematic because of two points.

First, investors should be able to look at other various financial statements and documents before investment decisions are made. The rationale for this is that there could be problems associated with the failure of auditors to correctly indicate information on audited documents. Second, current business practices should take into consideration not only human errors which are also expected to occur in the process that auditors make, but also on various financial documents that are provided with a company which are accompanied to the results of auditor information. In the first place, the cutthroat world of business requires that the future

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and prospective investors should take into consideration all factors — including the various risks that are associated with investing in that specific firm — before a decision is made. The cultural standpoint — as well as the existing legal framework for dealing with problems in auditor information required that such investors have a well-founded research on the company they are investing in. Therefore, to answer it, although there are definitely channels in place for potential investors use financial documents that are provided by the corporate auditor in order to make decisions with regards to investing, the key word that is provided for us which is the complete relying on such financial documents is not advisable.

In fact, throughout the history of corporations, any investor should realize that there has been a complicated and well-documented history of investor actions that had made use of documents and financial statements that had been provided to them by auditors which resulted in various failures and losses as a result of completely relying on such auditor financial documents.

The second question that is required of us to answer this should an investor be able to sue auditors for providing false documentation and financial information? First and foremost, the way that the legal system is constructed — specifically those related to corporate law — allows for any kind of legal action to be made in cases of protest which would be duly investigated according to corporate law. Therefore, it is definitely the case that investors would be able to sue auditors. However, this is a question of whether or not they may be able to, and not if it is the right decision to do and if they should. Again, the question of morality and actual practice of suing auditors for providing financial information is a discussion of great interest in the business world. Some sites claim that a legal framework under the wing of corporate law should be passed that auditors for a corporation or a company should have no liability whatsoever as to the problems which result in using the financial information to provide in order to make future investment decisions. On the other end of the spectrum, however, there are those who claim that full liability should be taken by the auditors of the company if and when Harry and shareholders as well as investors of a company make false and problematic decisions — decisions that would eventually translate to financial losses — as a result of the erroneous documents that they have provided.

Proponents of the first argument claimed that if auditors are not required to shoulder any kind of liability for the problems that would be faced by shareholders and investors with respect to losses because of the financial information they have provided, then there would be no need for auditors to be paid or to be employed in the first place. Auditors, as a rule of thumb, and as is the popular convention as well as the actual job description they receive upon employment — and these critics have pointed out that auditors are one of the highest paid in the corporate financial industry — have under their responsibility to provide accurate information and correct financial documents not only to the general public but also — and especially — to the shareholders and investors of the firm. If they are allowed complete immunity to legal action and liability as a result of not being able to perform their duties, then the whole point of the auditing process as well as employing auditors would be irrelevant in the first place. In fact, case studies have pointed out that in certain situations where companies have already specified that their current auditors do not shoulder any form of liability and investors and shareholders may not be able to sue auditors for providing erroneous financial information have had a complete lack in capital due to low investment — or even in some cases a complete absence of willing investors.

On the other end of the decision spectrum, however, some have pointed out that auditors must have no shouldered liability and investors should not be able to sue them because of the fact that auditors, like any other employee of the corporation, are individuals and since the corporate entity is a separate entity from individuals, that investors have no right to sue auditors directly but rather general such legal actions towards the corporation as a whole. The proof that those who vouch for this site claim is that financial bankruptcy is not associated in carried over to the shareholders and investors of a corporation but rather to the corporate entity itself. Therefore, in this legal framework, the same argument must also run to the actions of auditors. Although auditors are lower ranking officers from the shareholders and members of the board of directors of companies, they should be given the same corporate benefits of separation from the corporate entity and their own liability.

Because of these two arguments, the current legal framework does not have a permanent set of decision rules in order to asign auditor liability. Therefore, it has been the dominant convention in the corporate world that although auditors in one degree to another may be sued because of providing false and loss of current financial documents and computations, especially in cases of fraud and other morally problematic actions, this decision process should give auditors limited liability in most cases.

In fact, in the real world scenario where many auditors in corporations that provided problematic financial information are low ranking in the first place, and because investment in capital decisions range to the millions of dollars, selling them would not be able to replenish such losses in the first place.

What we have learned in this case and scenario is that there are many factors to consider especially when assigning liability to certain entities or individuals within the corporate and business framework and background. Although it is easy enough to point fingers and assign faults, limitations on liability must be implemented because of the current way that corporations and businesses operate today and because of the various legal frameworks that are installed within the business operating system and environment. In the case of auditors — and even other financial employees — they are not robotic entities and machines, but rather are human beings also makes mistakes and could even operate under morally problematic situations — such as cases of fraud. Therefore, in such circumstances, investors and shareholders may be able to sue individuals for fraudulent actions but such liabilities must be limited and fall under the greater umbrella of the corporate entity that covers such auditors and financial employees.

References

Dye, R. A. (1993). Auditing standards, legal liability, and auditor wealth. Journal of Political Economy, 887-914.

Ewert, R. (1999). Auditor liability and the precision of auditing standards. Journal of Institutional and Theoretical Economics, 155, 181-206.

Napier, C. J. (1998). Intersections of law and accountancy: unlimited auditor liability in the United Kingdom. ACCOUNTING ORGANISATIONS AND SOCIETY, 23, 105-128.

Narayanan, V. G. (1994). An analysis of auditor liability rules. Journal of Accounting Research, 39-59.

Pae, S., & Yoo, S. W. (2001). Strategic interaction in auditing: An analysis of auditors’ legal liability, internal control system quality, and audit effort. Accounting Review, 333-356.

Radhakrishnan, S. (1999). Investors’recovery friction and auditor liability rules. Accounting Review, 225-240.

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