Question: The public accounting firm of Hanson and Brown was expanding

The public accounting firm of Hanson and Brown was expanding very rapidly. Consequently, it hired several staff assistants, including James Small. Subsequently, the partners of the firm became dissatisfied with Small's production and warned him that they would be forced to discharge him unless his output increased significantly.
At that time, Small was engaged in audits of several clients. He decided that, to avoid being fired, he would reduce or omit entirely some of the required auditing procedures listed in audit programs prepared by the partners. One of the public accounting firm's non-SEC clients, Newell Corporation, was in serious financial difficulty and had adjusted several of its accounts being examined by Small to appear financially sound. Small prepared fictitious working papers in his home at night to support purported completion of auditing procedures assigned to him, although he in fact did not examine the Newell adjusting entries. The public accounting firm rendered an unqualified opinion on Newell's financial statements, which were grossly misstated. Several creditors, relying upon the audited financial statements, subsequently extended large sums of money to Newell Corporation.

Would the public accounting firm be liable to the creditors who extended the money in reliance on the erroneous financial statements if Newell Corporation should fail to pay its creditors? Explain.

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  • CreatedOctober 25, 2014
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