Custom Furniture Company enjoyed reasonably good profits during all of its years. But at the beginning of 19X4, the company's new board of directors decided to expand the line of furniture to capture part of an emerging market for highly specialized lounge chairs. The controller reviewed the operations and financial position and issued a report to the board advising them to seek an increase in an existing loan with the local bank rather than seeking a public sale of stock. The controller's report strongly advised the termination of their present auditor and the hiring of Ms. Hunt, a CPA with a regional firm and a good reputation with bankers in the town and surrounding communities. The board took the controller's advice and asked him to contact Ms. Hunt and to inform Mr. Detach, the present auditor, of the board's decision. The loan officer of the bank reacted positively when the controller informed her of their decision to change auditors. Ms. Hunt was asked to submit an audit proposal to the board of directors of Custom Furniture. The proposal included per diem rates, the estimated audit fee, and a description of some management consulting services needed by the company. A long, intense conversation was held among Ms. Hunt, the controller, and the head of the newly formed Audit Committee of the board. The following facts emerged during this conversation. 1. Custom Furniture Company had an ongoing dispute with the Internal Revenue Service about the application of the installment sales method of recognizing some of their reve- nue. An assessment of several thousand dollars was under appeal with the tax court. The controller was confident that the tax court would reverse all or most of the assessment. Ms. Hunt pressed the issue and was told, reluctantly, that Mr. Detach had not agreed with the controller's view and believed that a liability should be recorded on the books for the estimated taxes due. The controller also acknowledged that the bank was not aware of the assessment by the Internal Revenue Service. 2. Ms. Hunt owned stock in the bank to which Custom Furniture Company had applied for an increase in its loan. The current market value of the stock was approximately four percent of Ms. Hunt's net worth, and all indications pointed to increases in the stock's market value in the near future. The controller asked about the propriety of owning this stock. While Ms. Hunt seemed reluctant to dispose of it, she nevertheless said that she would consider the matter. 3. The conversation became contentious when Ms. Hunt asked the controller and the head of the Audit Committee for permission to speak freely with Mr. Detach about all auditing and financial matters pertinent to the years in which Mr. Detach had performed the audit. The controller argued against the consultation because he believed Mr. Detach's "sour attitude" about being fired would prejudice his attitude toward Custom Furniture Company. Ms. Hunt thought the matter over and said that she would consider per- forming the audit without consulting with Mr. Detach. 4. Ms. Hunt discovered, to her surprise, that a spouse of one of her professional employees worked as a mail clerk for Custom Furniture Company and was being considered for a position as assistant controller. Ms. Hunt asked the controller if it was acceptable to use this professional employee on the audit. The controller had no objection. 5. When pressed by the head of the Audit Committee, Ms. Hunt revealed that she had performed the audit of Elaborate Furniture Company, a competitor of Custom Furniture Company. Ms. Hunt tried to explain that arrangements of this sort were common among auditors, as contrasted with the practice of lawyers. The head of the Audit Committee seemed to be pleased when Ms. Hunt told him that her expertise in auditing furniture companies could be used in the audit of Custom Furniture Company and that comparisons between the companies could help Custom Furniture Company. 6. Ms. Hunt seemed reluctant to agree to some of the management services requested by the controller, particularly a feasibility study of computerizing some financial operations of the company. She asked permission to refer these services to a colleague who specialized in such services. The controller agreed to this arrangement. 7. Under intense pressure by the controller, Ms. Hunt agreed tentatively to reduce her per diem rates to 75 percent of the usual figure. She did not tell the controller that such rates would give her firm an extremely small profit on the audit engagement. 8. The controller wanted the audit fee to be reduced if the adjusted net income for the year under audit was less than expected. Ms. Hunt would not agree, but she did say that the fees would be adjusted downward if the controller believed that they were too high. 9. When Ms. Hunt told the controller who one of her audit assistants would be, the control- ler replied that they might make this person a job offer if he did well on the audit and "got along with the company personnel." Ms. Hunt did not respond to this comment. 10. Ms. Hunt did not say anything to the controller and the head of the Audit Committee about another audit client who sold materials to Custom Furniture Company. She knew that the markups on such sales were very large and hoped that the board and manage- ment of Custom Furniture Company would not discover this fact. She made a mental note to tell her probable assistant (the spouse of Custom Furniture Company's mail clerk) about the pitfalls of revealing such information. Required:

a. Assume that Ms. Hunt has asked you, as a partner of her firm, to advise her of all ethical considerations concerning the prospective audit of Custom Furniture Company. Write a one-to two-page memo detailing all the ethical factors Ms. Hunt should consider before accepting the audit and all ethical factors she should consider during the audit, if she accepts the engagement.

b. Should Ms. Hunt accept the audit engagement if Custom Furniture Company refuses permission to allow her to discuss auditing matters with Mr. Detach? Why or why not? C. If Ms. Hunt declines the engagement, what, in your opinion, would be the most compel- ling reasons for her decision?