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    Lincoln Savings and Loan Association - 9 questions

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    Lincoln Savings and Loan Association

    1. Arthur Young was criticized for not encouraging Lincoln to invoke the substance-over-form principle when accounting for its large real estate transactions. Briefly describe the substance over form concept and exactly what it requires. What responsibility, if any, do auditors have when a client violates this principle?

    2. Explain how the acceptance of large, high-risk audit clients for relatively high audit fees may threaten an audit firm's de facto and perceived independence. Under what circumstances such prospective clients should be avoided?

    3. How is an auditors' examination affected when a client has engaged in significant related party transactions? What measures should an auditor take to determine that such transactions have been properly recorded by a client?

    4. Professional standards require auditors to consider a client's "control environment." Define control environment. What weaknesses, if any, were evident in Lincoln's control environment?

    5. What was the significance of Lincoln receiving nonrecourse notes rather than recourse notes as payment or partial payment on many of the properties it sold?

    6. SAS No.31, "Evidential Matter," identifies five key management assertions that underlie a set of financial statements. What are the key assertions that Arthur Young should have attempted to substantiate for the Hidden Valley transaction? What procedures should Arthur Young have used for this purpose, and what types of evidence should have been collected?

    7. DO you believe that Jack Atchison's close relationship with Lincoln and Charles Keating prior to his leaving Arthur Young was proper? Why or why not? After joining Lincoln's parent company, ACC, should Atchison have "interfaced" with the Arthur Young auditors assigned to the Lincoln and ACC engagements? Again, support your answer.

    8. Does the AICPA Code of Professional Conduct discuss the collegial responsibilities of CPA firms? In your opinion, were representatives of either Ernst & Young or Kenneth Leventhal & Company unprofessional in this regard during their congressional testimony?

    9. What responsibility does an auditor have to uncover fraud perpetrated by client management? Discuss factors that mitigate this responsibility and actors that compound it. Relate this discussion to Arthur young's audits of Lincoln.

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    Lincoln Savings and Loan Association

    1. Arthur Young was criticized for not encouraging Lincoln to invoke the substance-over-form principle when accounting for its large real estate transactions. Briefly describe the substance over form concept and exactly what it requires. What responsibility, if any, do auditors have when a client violates this principle?

    A: The substance over form concept means that transactions should be recorded based on their economic reality as opposed to the contractual form that they assume. An example is a lease. Just because it says there are "monthly rent payments" doesn't mean that virtually all the rights and privileges of ownership are not conveyed by the contract. The lease payments may really represent principle and interest payments for an asset purchase.

    The responsibilities are for the company's accountants know the economic substance of transactions and not just the literal contract format. Then, they should record and report the transaction based on its economic substance.

    2. Explain how the acceptance of large, high-risk audit clients for relatively high audit fees may threaten an audit firm's de facto and perceived independence. Under what circumstances such prospective clients should be avoided?

    When a particular client is particularly lucrative or a very large part of the CPA firm's practice, it compromises the auditors a bit. Their awareness that this client is a "big deal" to the CPA firm makes them a bit tentative about rocking the boat. It is a judgment about whether to accept a new client and not standard rules. A client that is not forthcoming about their business, seems to have had trouble with prior auditors, or has extensive related party transactions or less-than-ethical business models (gambling) may be a reason to consider avoiding the job.

    3. How is an auditors' examination affected when a client has engaged in significant related party transactions? What measures should an auditor take to determine that such transactions have been properly recorded by a client?

    Two duties are important with related party transactions. First, are they adequately disclosure so the reader of the financial statements is clear about the extent and nature of them. Second, is there ...

    Solution Summary

    Your response is 1,066 words and includes examples from the Lincoln Savings and Loan Case specified in the posting. Response presumes the student is enrolled in an audit course and is somewhat familiar with terms and audit procedures.

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