Lauren Yost & Co., a medium-sized CPA firm, was engagedto audit Stuart Supply Company. Several staff were involved in the audit, all of whomhad attended the firm’s in-house training program on effective auditing methods.Throughout the audit, Yost spent most of her time in the field planning the audit,supervising the staff, and reviewing their work.A significant part of the audit entailed verifying the physical count, cost, and summarization of inventory. Inventory was highly significant to the financial statements, and Yostknew the inventory was pledged as collateral for a large loan to First City National Bank.In reviewing Stuart’s inventory count procedures, Yost told the president she believedthe method of counting inventory at different locations on different days was highlyundesirable. The president stated that it was impractical to count all inventory on thesame day because of personnel shortages and customer preference. After considerablediscussion, Yost agreed to permit the practice if the president would sign a statement thatno other method was practical. The CPA firm had at least one person at each site to auditthe inventory count procedures and actual count. There were more than 40 locations.Eighteen months later, Yost found out that the worst had happened. Management belowthe president’s level had conspired to materially overstate inventory as a means of coveringup obsolete inventory and inventory losses resulting from mismanagement. The misstatement occurred by physically transporting inventory at night to other locations after it hadbeen counted in a given location. The accounting records were inadequate to uncover theseillegal transfers.Both Stuart Supply Company and First City National Bank sued Lauren Yost & Co.Answer the following questions, setting forth reasons for any conclusions stated:a. What defense should Lauren Yost & Co. use in the suit by Stuart?b. What defense should Lauren Yost & Co. use in the suit by First City National Bank?c. Is Yost likely to be successful in her defenses?d. Would the issues or outcome be significantly different if the suit was brought underthe Securities Exchange Act of 1934?
Lauren Yost & Co., a medium-sized CPA firm, was engaged
to audit Stuart Supply Company. Several staff were involved in the audit, all of whom
had attended the firm’s in-house training program on effective auditing methods.
Throughout the audit, Yost spent most of her time in the field planning the audit,
supervising the staff, and reviewing their work.
A significant part of the audit entailed verifying the physical count, cost, and summarization of inventory. Inventory was highly significant to the financial statements, and Yost
knew the inventory was pledged as collateral for a large loan to First City National Bank.
In reviewing Stuart’s inventory count procedures, Yost told the president she believed
the method of counting inventory at different locations on different days was highly
undesirable. The president stated that it was impractical to count all inventory on the
same day because of personnel shortages and customer preference. After considerable
discussion, Yost agreed to permit the practice if the president would sign a statement that
no other method was practical. The CPA firm had at least one person at each site to audit
the inventory count procedures and actual count. There were more than 40 locations.
Eighteen months later, Yost found out that the worst had happened. Management below
the president’s level had conspired to materially overstate inventory as a means of covering
up obsolete inventory and inventory losses resulting from mismanagement. The misstatement occurred by physically transporting inventory at night to other locations after it had
been counted in a given location. The accounting records were inadequate to uncover these
illegal transfers.
Both Stuart Supply Company and First City National Bank sued Lauren Yost & Co.
Answer the following questions, setting forth reasons for any conclusions stated:
a. What defense should Lauren Yost & Co. use in the suit by Stuart?
b. What defense should Lauren Yost & Co. use in the suit by First City National Bank?
c. Is Yost likely to be successful in her defenses?
d. Would the issues or outcome be significantly different if the suit was brought under
the Securities Exchange Act of 1934?
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