Accounting Profession Has a Duty to Shareholders Before buying shares in a company, investors usually rely on an important safeguard—the auditor’s opinion of its financial statements. And that opinion usually declares that the statements are both “presented fairly” and “in accordance with generally accepted accounting principles (GAAP).” For decades, though, auditors have tried to duck legal liability to the investors they serve. Auditors appear to want what does not exist: authority without responsibility.

Two Canadian lawsuits promise to clarify the trust that investors can place in auditors. One case, Stephen Kripps et al. v. Touche Ross (now Deloitte & Touche) et al., emerged from the B.C. Court of Appeal. In 1985, Kripps et al. relied on the audited financial statements of a mortgage company to buy $1.9 million of its debentures. The company went into receivership, and the investors lost $2.7 million, including interest. The investors sued the auditor, lost in a lower court, and won at appeal.

A 2-to-1 appeal court majority ruled that “Touche had actual knowledge that a simple application of GAAP would . . . lead to financial statements that could not be said to have fairly represented the financial position” of the company. “Auditors cannot hide behind [the formula] ‘according to GAAP,’” the court declared, “if the auditors know . . . that the financial statements are misleading.” It ruled against Touche. The court’s point is correct—GAAP is too loose a standard to be a sufficient safeguard by itself. That is why the financial statements must also be “presented fairly,” to use the actual language of the auditor’s opinion. Despite the ruling’s validity, some accountants want the Canadian Institute of Chartered Accountants (CICA) to support an appeal by Touche to the Supreme Court.

Postscript: On November 6, 1997, the Supreme Court of Canada denied Deloitte & Touche’s right to appeal the negligence ruling against it by the B.C. Court of Appeal. However, as discussed earlier, the Supreme Court made it much more difficult for investors to sue Canadian auditors under common law in its Hercules decision.

1- Whey financial statements prepared in accordance with generally accepted accounting principles (GAAP) may not be always sufficient for financial statements to present fairly the financial position of the audit client?. Describe and give examples.

2- Do you think this will increase or decries the liability of auditors?   

3- In what basis or grounds, auditors are hold liable in this case?

Source: “Accounting profession has a duty to shareholders,” The Financial Post, May 20, 1997, p. 14. © 2015 National Post, a division of Postmedia Network Inc.