EXPECTATION GAP

EXPECTATION GAP

Auditors responsibility in relation to:

1. Larger range of parties

The Caparo case limits the parties who may successfully sue the auditor for negligence. It appears that only persons who have a contractual relationship with the auditor can make a claim. (ie the shareholders & directors of the company).
In some respects this seems reasonable, as it seem unfair that a 3rd party should be able to successfully sue an auditor for damages when he has paid nothing towards the cost of the audit. However, the credibility of the report should not be reduced hence the audited f/s.

A set of a/c should have the same meaning to the co, the shareholders and the 3rd parties. It unreasonable for auditors to argue that an error in the f/s could be material to 3rd parties & not material to shareholders or the co’s management. If 3rd parties believe that audited a/c are not accurate , this can affect decisions by potential investors & banks who lend money to co’s. the long term effect is a fall in share price, because investors will be less willing to purchase shares of the co and as well as raising of new finance. Banks & individuals will also be unwilling to lend money to the co. It is therefore unreasonable that auditors should be liable for negligence to a wide range of parties.

1. Detecting & reporting all errors & fraud

ISA 240 – The auditor’s responsibility in relation to fraud & error states: the auditor should design audit procedures to obtain reasonable assurance that misstatements arising from fraud & error that are material to the f/s taken as a whole are detected.
So, the auditor is not responsible for detecting immaterial fraud & error. When fraud & errors are deliberately hidden by the co’s management, it would be unreasonable to expect the auditor to detect it using normal audit procedures.
If the auditor was to detect all fraud & errors, it would considerably increase the cost of the audit and the final result might not be cost effective.

1. Investment company & pension funds holding client’s money

Institutions who hold client’s money & invest it for them are covered by specific legislation. If there are breaches in these legislations, the auditor can report this to the regulatory body without being liable to the client for breach of confidentiality.
It is unreasonable to ask the auditor to ensure that no loss arise on investment held by a financial institution. However, there is a need for the auditor to ensure that funds are invested in accordance with the wishes of the client, that unauthorized investments are not made and that there is no fraudulent misappropriation of funds with a view to commit fraud.