Question 1

Advantages

The concentration brings about economies of scale with regards to audit procedures and planning, and team knowledge and expertise.

The aspect of specialization also makes it possible for the firm to provide its services to clients at a lower cost if it has the ability to leverage on this specialization over a number of accounts.

Disadvantages

Specialization tends to expose the firm to influences such as regulatory and foreign competition.

There is the presence of a poorly diversified client base, which might hinder the growth of the firm.

The specialization aspect might make it difficult for the firm to attract clients from outside the industry.

Question 2

PCAOB has provided varied guidelines to firms that would help in conducting high-quality audit. When there is a high turnover, firms should:

• Ensure that the internal controls involved are strong to enable the new team to conduct its activities without encountering numerous difficulties.
• Enhance improved personnel management that will ensure the engagement team leader informs the team of the relevant requirements.
• Ensure monitoring prospects are also high to ensure that the team members are doing what is expected of them.

Question 3

Section 404 (b) of the Sarbanes-Oxley Act requires the relevant auditors to assess and provide their own opinion regarding the effectiveness of the internal controls by conducting varied substantive tests. Significant deficiencies in internal controls is the aspect when there is more than a remote likelihood of a misstatement occurring, which is more than inconsequential and be undetected. Material weaknesses, on the other hand, occur when there is a deficiency that involves a material amount. Auditors issue an unqualified opinion on the effectiveness of a client’s internal control when there is no existence of material weaknesses.

Question 4

AU section 342 provides auditors with guidance on identifying circumstances that require accounting estimates. When evaluating the reasonableness of accounting estimates, AU 342 stipulates that auditors should follow the procedure of:

• Reviewing and testing the process used to develop the estimate.
• Developing an independent expectation of this estimate to help corroborate the reasonableness of the estimate.
• Identifying whether there are controls in the preparation of the accounting estimates.
• Accumulating sufficient, reliable and relevant data to base the estimate.
• Identifying relevant factors likely to affect the accounting estimate.
• Considering the use of a specialist regarding fundamental assumptions.

Question 5

• Lack of professional due care. This is evident in the way that KPMG failed to inform the investors regarding how New Century’s “mortgage freight train was about to turn off the rails.”
• The audit engagement was improperly staffed. This comes out as a failure since the firm needed to involve a team that had sufficient knowledge about New Century since this appeared to be a high-risk engagement.
• The independence of the auditors may have been impaired. This is evidenced on how they allowed someone like Kenneally to intimidate them.
• The auditors also gave an unqualified opinion regarding the internal controls when there was the presence of material weaknesses with regards to tracking loan repurchase claims.

Question 6

The arguments include:

1. Mark-to-market accounting acts as a reinforcer of the downward cycle of panic falling prices, losses, illiquidity and credit contraction. More panic results to further falling prices and this results to increased losses.
2. Procyclicality is more of an unintended consequence of fair value accounting, but it is more of an issue for policymakers.
3. When there is a market failure of some sort, values get distorted during that time hence not reflecting true value at maturity

These arguments are legitimate because mark-to-market rule ensures that corporations value assets pursuant to the current market price. This aspect is good when markets are booming due to the profits involved, but it is dismal when the market crashes because risky assets are priced at rock-bottom levels.

Question 7

1. Risky business models are detrimental to a company’s long-term operations due to the effect of other external factors. New Century’s risky business model that involved subprime lending strategy contributed to the collapse of the company since the clients became unsustainable.
2. An audit firm’s incompetence can be detrimental to the going concern of an organization. KPMG failed to adhere to some required auditing standards hence making it difficult for them to identify the negative issues that were taking place in the organization.
3. A company filing for bankruptcy can result in unearthing issues that the public was not aware of. This is due to the investigations that are conducted in trying to assess how the company reached there.

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