Recent accounting scandals suggest the need for care on the part of an independent auditor in accepting new clients. The independent auditor needs to know both the business of and the personnel employed by a prospective client. All other control
procedures are fruitless if a CPA chooses to serve an undesirable client. The damage suffered as a result of associating with an undesirable client can be irreparable. Discuss some key issues an independent auditor should consider in the client acceptance decision.
The following issues are relevant to the client acceptance decision:
a . Management Integrity. Can the CPA rely on the management of the prospective client to provide meaningful disclosures and representations during the engagement?
-Has any member of management or the board ever been convicted of a criminal offense?
-Has management ever been suspended or sanctioned by an administrative body?
-Does management take an overly aggressive position in making decisions concerning key determinants of financial position?
-Does management take overly aggressive tax positions?
-What is management's attitude toward the company's system of internal control?
-Does management have established policies relating to budgeting, cash flow, and costing systems?
-Is the president of the company autocratic and the board of directors passive?
-What is the professional experience and background of management and the board of directors?
-Is executive compensation based on some measure of accounting earnings?
b. Relationships with Other Professionals. What is the relationship of the prospective client with current and former lawyers and bankers and with the predecessor independent auditor?
-Did the prospective client have disagreements with the predecessor independent auditor regarding accounting principles or auditing procedures?
-Do other reputable professionals such as bankers and lawyers possess relevant knowledge regarding the prospective client's financial stability and litigation history and have these other professionals been contacted?
c. Risk of Association. What is the risk to the CPA of becoming associated with the prospective client, particularly with regard to the CPA's professional reputation and profitability?
-Is the prospective client a public company that must report to the SEC?
-Is the prospective client involved in or about to be involved in litigation?
-Has the prospective client been involved in a dispute with a regulatory agency that might lead to litigation?
-Has the prospective client been involved in a dispute with a predecessor auditor?
-Is the prospective client engaged in legitimate business activities that do not violate the law?
-Is the prospective client firm financially stable and does it possess sufficient liquidity?
What financial models might be applied to the prospective client firm's financial statements to determine financial strength and liquidity?
-Is the prospective client dependent on a single customer or a small group of customers?
d. Technical competence. Does the CPA possess the technical competence to perform the necessary services for the prospective client, particularly when functional or industry specialization is a factor?
-Does the CPA possess specific knowledge of the industry in which the prospective client operates such as knowledge of industry production processes, industry economics, industry accounting principles, industry laws and regulations, and industry tax laws?
e. Can the prospective client pay a fee commensurate with the level of accounting and auditing services required?
f. How should the information needed to make an informed client acceptance decision be obtained?
-Should the CPA use a detailed checklist listing all matters relevant to the client acceptance decision? Can a single checklist adequately cover all the issues that may arise for any given client?
-Should the CPA use a more generalized form in which information regarding the prospective client's circumstances as regards the issues listed above is documented in a memorandum? Will all the necessary issues concerning the prospective client be covered without a checklist?
-What financial models (e.g., Altman's z-score to predict bankruptcy) are available to evaluate the prospective client financially?
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