Today is not a good day. As the engagement partner for Big, Boldov, and Best $($B$3)$ it is your responsibility to write the audit report for Oreco Mining Corporation, a publicly listed company. Ninety five percent of the reports you write are clean opinions. Will this one be one of the $5\%?$

You decide to make tea. You linger in the lunch room, watch the pot boil, and gather your thoughts. Tea in hand you return to your desk and reread the audit file so you can start your analysis supporting your decision.

The first issue is how to present the financial statements. You were appointed as auditor this year, after a large institutional investor won a proxy war to remove the previous board of directors and bring in new management. This was done just before year end.

Oreco$$s auditors last year, Shan, Shaw and Shah, LLP $(3$S$)$ are a reputable mid$-$size firm. Their opinion last year was unqualified. However, while reviewing their working papers, you note that there was discussion over the client$$s booking maintenance expenses as capital improvements. The amount booked as maintenance expenses was just at materiality.

The new management has brought in a lot of changes, but most of the accounting policies remained the same as prior years. As in prior years then, you have to deal with capitalization of maintenance. There has also been a down turn in the commodities market and the new management is sensitive to showing losses. They have said they don$$t mind writing off the mistakes of previous management but have to show progress to investors.

Your field manager has recommended an adjustment to maintenance expense of just over materiality. She has also recommended accelerating depreciation to reflect greater than expected wear and tear, resulting in an adjustment of about twice materiality. Oreco$$s new management

has said they will book the accelerated depreciation if you will agree to ignore the adjustment to maintenance expense.

Most disturbing is a memo from the field manager that reads as follows:

$$I$$m not sure how to deal with this but while on site I visited the tailings pond. I$$m no expert but this is an environmental disaster waiting to happen. The sides are overgrown with willow trees and you can see cracks in the cement wall. It doesn$$t look like anything has been done to fix it in years. If the wall goes, there will be spillage into the French River and the entire watershed will be poisoned. I have no idea the cost to fix it$,$ but the clean$-$up and liability cost would be in the billions. I am purposefully not putting this in the evidence file but thought you should know.$$

Booking a large reserve for environmental costs would cause the stock to crash. Even an accrual to fix the pond would be a super material adjustment. Your firm is also the auditor for the institutional investor and they would not be happy if your report caused them to take a big loss on their investment in Oreco. Maybe you could just point out the problem to management and ask them to fix it next year? And after all, you really don$$t know what the numbers are. Is it your job to be the environmental watchdog?

The ball$$s in your court. Your tea is cold. Time to write your report.

It is rare to run into so many issues all at once. But that$$s the nature of an integrated case. The issues to consider in this case are:

$1)$ Can you ignore the discussion of capitalized maintenance from Shan, Shaw and Shah?

$2)$ Will you accept management$$s proposal of ignoring the maintenance adjustment while

booking the extra amortization?

$3)$ How will you deal with the possible environmental costs, if at all?

a$)$ Do you have enough evidence? Can you ever have enough evidence?

b$)$ Since any disaster is in the future, can you ignore it$?$

$4)$ Are you independent of the institutional investor and do you have an objective state of mind?