You are an accountant at Lofty Dreams, CPA (the “Firm”), a public accounting fir
ID: 2499352 • Letter: Y
Question
You are an accountant at Lofty Dreams, CPA (the “Firm”), a public accounting firm. Tory Burch , one of the Firm’s senior audit partners, called you into his office. He explained to you that one of the Firm’s audit clients is Quenneville Sports Co. (“Quenneville”), a publicly-held sporting goods retailer. Tory then told you that he just got off the phone with Andy Rathje , a member of the board of directors of Quenneville, about a new business venture that Andy was starting. Andy wants to start a new drug company that develops and markets a hair-growth drug that treats men that have difficulty growing facial hair, such as playoff beards for hockey or “movember mustaches.” Tory then told you that Andy is seeking for him (Tory ) to be an “angel investor” in this new business. Specifically, Andy is seeking for Tory (who you know is affluent) to make a material investment in this new business.
Tory then asked you to identify any potential problems if he were to make a material investment in this new business. Tory asked you to use the “research process” to identify any relevant professional authorities that address whether there is any colorable authority in the law that prohibits him making such an investment. He suggested that you consider the Code of Federal Regulations, as well as any SEC or PCAOB standards, as well as any other professional authorities.
He asked you to draft a memorandum to him that analyzes the issue, considers alternatives, and develops a conclusion.
Explanation / Answer
Memorandumfor investment in Quenneville Sports Co.
Issue : Quiennewille wants to start a new drug company that develops and markets a hair-growth drug that treats men that have difficulty growing facial hair, such as playoff beards for hockey or “movember mustaches.” Tory then told you that Andy is seeking for him (Tory ) to be an “angel investor” in this new business. Specifically, Andy is seeking for Tory (who you know is affluent) to make a material investment in this new business.
Prohibitions by 17 CFR 210.2-01 - Qualifications of accountants.
1. Section 210.2-01 is designed to ensure that auditors are qualified and independent of their audit clients both in fact and in appearance. Accordingly, the rule sets forth restrictions on financial, employment, and business relationships between an accountant and an audit client and restrictions on an accountant providing certain non-audit services to an audit client.
2. Section 210.2-01(b) sets forth the general standard of auditor independence. Paragraphs (c)(1) to (c)(5) reflect the application of the general standard to particular circumstances. The rule does not purport to, and the Commission could not, consider all circumstances that raise independence concerns, and these are subject to the general standard in § 210.2-01(b). In considering this standard, the Commission looks in the first instance to whether a relationship or the provision of a service: creates a mutual or conflicting interest between the accountant and the audit client; places the accountant in the position of auditing his or her own work; results in the accountant acting as management or an employee of the audit client; or places the accountant in a position of being an advocate for the audit client.
3. These factors are general guidance only and their application may depend on particular facts and circumstances. For that reason, § 210.2-01 provides that, in determining whether an accountant is independent, the Commission will consider all relevant facts and circumstances. For the same reason, registrants and accountants are encouraged to consult with the Commission's Office of the Chief Accountant before entering into relationships, including relationships involving the provision of services, that are not explicitly described in the rule.
(a) The Commission will not recognize any person as a certified public accountant who is not duly registered and in good standing as such under the laws of the place of his residence or principal office. The Commission will not recognize any person as a public accountant who is not in good standing and entitled to practice as such under the laws of the place of his residence or principal office.
(b) The Commission will not recognize an accountant as independent, with respect to an audit client, if the accountant is not, or a reasonable investor with knowledge of all relevant facts and circumstances would conclude that the accountant is not, capable of exercising objective and impartial judgment on all issues encompassed within the accountant's engagement. In determining whether an accountant is independent, the Commission will consider all relevant circumstances, including all relationships between the accountant and the audit client, and not just those relating to reports filed with the Commission.
(c) This paragraph sets forth a non-exclusive specification of circumstances inconsistent with paragraph (b) of this section.
(1) Financial relationships. An accountant is not independent if, at any point during the audit and professional engagement period, the accountant has a direct financial interest or a material indirect financial interest in the accountant's audit client, such as:
(i) Investments in audit clients. An accountant is not independent when:
(A) The accounting firm, any covered person in the firm, or any of his or her immediate family members, has any direct investment in an audit client, such as stocks, bonds, notes, options, or other securities. The term direct investment includes an investment in an audit client through an intermediary if:
(1) The accounting firm, covered person, or immediate family member, alone or together with other persons, supervises or participates in the intermediary's investment decisions or has control over the intermediary; or
(2) The intermediary is not a diversified management investment company, as defined by section 5(b)(1) of the Investment Company Act of 1940, 15 U.S.C. 80a-5(b)(1), and has an investment in the audit client that amounts to 20% or more of the value of the intermediary's total investments.
(B) Any partner, principal, shareholder, or professional employee of the accounting firm, any of his or her immediate family members, any close family member of a covered person in the firm, or any group of the above persons has filed a Schedule 13D or 13G (17 CFR 240.13d-101 or 240.13d-102) with the Commission indicating beneficial ownership of more than five percent of an audit client's equity securities or controls an audit client, or a close family member of a partner, principal, or shareholder of the accounting firm controls an audit client.
(C) The accounting firm, any covered person in the firm, or any of his or her immediate family members, serves as voting trustee of a trust, or executor of an estate, containing the securities of an audit client, unless the accounting firm, covered person in the firm, or immediate family member has no authority to make investment decisions for the trust or estate.
(D) The accounting firm, any covered person in the firm, any of his or her immediate family members, or any group of the above persons has any material indirect investment in an audit client. For purposes of this paragraph, the term material indirect investment does not include ownership by any covered person in the firm, any of his or her immediate family members, or any group of the above persons of 5% or less of the outstanding shares of a diversified management investment company, as defined by section 5(b)(1) of the Investment Company Act of 1940, 15 U.S.C. 80a-5(b)(1), that invests in an audit client.
(E) The accounting firm, any covered person in the firm, or any of his or her immediate family members:
(1) Has any direct or material indirect investment in an entity where:
(i) An audit client has an investment in that entity that is material to the audit client and has the ability to exercise significant influence over that entity; or
(ii) The entity has an investment in an audit client that is material to that entity and has the ability to exercise significant influence over that audit client;
(2) Has any material investment in an entity over which an audit client has the ability to exercise significant influence; or
(3) Has the ability to exercise significant influence over an entity that has the ability to exercise significant influence over an audit client.
Conclusion: Tory should not invest in Quennewille.
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