Mark Williams, CPA, was engaged by Jackson Financial Development Company to audit the financial statements of Apex Construction Company, a small closely held corporation. Williams was told when he was engaged that Jackson Financial needed reliable financial statements that would be used to determine whether to purchase a substantial amount of Apex Construction’s convertible debentures at the price asked by the estate of one of Apex’s former directors.
Williams performed his audit in a negligent manner. As a result of his negligence, he failed to discover substantial defalcations by Carl Brown, the Apex controller. Jackson Financial purchased the debentures, but it would not have done so if the defalcations had been discovered. After discovery of the fraud, Jackson Financial promptly sold them for the highest price offered in the market at a $70,000 loss.
a. What liability does Williams have to Jackson Financial? Explain.
b. If Apex Construction also sues Williams for negligence, what are the probable legal defenses Williams’s attorney would raise? Explain.
c. Will the negligence of Mark Williams, CPA, prevent him from recovering on a liability insurance policy covering the practice of his profession? Explain.