As the audit senior for Lockerparts Hardware Ltd, you are happy with the smoothness of the audit for the year ended 30 June 2015. Today, your audit partner tells you that Lockerparts has just gone into liquidation. The financial controller was diverting company funds into a Swiss bank account and has left the country to live in Majorca. The lawyers for the creditors of Lockerparts are taking action against the partner for not performing an appropriate audit. They believe that a properly conducted audit should have detected such a fraud.

The fraud was substantial; however, it was not material from the company's point of view. You explain to the partner that the audit was performed in accordance with all auditing standards and nothing was found to arouse suspicion during the audit. The audit took the same amount of time as last year's, and all appropriate work steps were performed. Your work was reviewed by a manager and the entire file was reviewed by the audit partner.

The audit partner is still concerned. He rings an audit partner in an associated office of your accounting firm and asks her to review the audit file. She agrees and spends a day reviewing the file. After completing her review, she is satisfied that the audit was performed properly.

Required

a. Explain whether your accounting firm has acted with due care. What do you think will be the court's decision if the case goes to trial?

b. Even if the partner is convinced he acted with due care, explain why he may offer Locker-parts a substantial settlement amount.