Chapter 03 Exercise 50 LO 3-1 Assume that Smith & Smith, CPAs, audited Apollo Shoes Inc., last year. Now CEO Larry Lancaster wishes to engage Anderson, Olds, and Watershed, CPAS (AOW) to audit its annual financial statements. Lancaster is generally pleased with the services provided by Smith & Smith, but he thinks the audit work was too detailed and interfered excessively with normal office routines. AOW has asked Lancaster to inform Smith & Smith of the decision to change auditors, but he does not wish to do so. Required: Put in order the steps AOW should follow with regard to dealing with a predecessor auditor and a new client before accepting the engagement. 1. Explain to Lancaster the need to inquire of Smith & Smith and request permission to make such inquiries. 2. 3. Ask Lancaster to authorize Smith & Smith to respond fully to all inquiries because Smith & Smith would be prohibited from disclosing confidential information without former client permission. Advise Smith & Smith of Lancaster's decision to change auditors. Advising Smith & Smith would be a good business judgment as well as an act of professional courtesy. Make reasonable inquiries of Smith & Smith regarding matters that will aid in deciding whether to accept the engagement. 4. (AOW should ask about facts that might bear on the integrity of management, disagreements with management about accounting and auditing matters, and Smith & Smith' understanding of the reason[s] for the change of auditors.) 5. 6. If Smith & Smith does not respond fully to AOW's questions, consider the implications of the limited response in deciding whether to accept the engagement. Use procedures such as reviewing Apollo's financial statements; inquiring of third parties such as Apollo's banks, legal counsel, investment bankers, and others in the business community as to Apollo's reputation; and evaluating AOW's ability to serve Lancaster and Apollo properly with reference to industry expertise, size of engagement, and available staff. This is done in effort to satisfy AOW's quality control objectives. Inform Lancaster that a first time audit is more time consuming than a recurring audit because the new audit team is 7. generally unfamiliar with the client's operations and does not have the benefit of past knowledge of company affairs to use as a guide. Discuss with Lancaster the estimated required audit time and fee arrangement with a clear explanation of the purpose 8. and scope of the audit. Any work that can be done by client personnel should also be discussed so that excess audit time might be eliminated and proposed report deadlines can be reasonably met. 9. Accept the engagement and confirm the understandings in an engagement letter.