Question

An auditor uncovers a plan to overstate inventory and thereby increase reported profits for a division. The auditor has substantial evidence that the divisional manager was aware of and approved the plan to overstate inventory. There is also some evidence that the manager may have been responsible for the implementation of the plan. The auditor should?

1) Inform senior management and the audit committee of the findings and discuss possible further investigation.
2) Continue to conduct interviews with subordinates until a definite case is made and then report the case to the audit committee.
3) Inform the divisional manager of the auditor's suspicions and obtain the manager's explanation of the findings before pursuing the matter further.
4) Document the case thoroughly and report the suspicions to the external auditor for further review.

Answer 1

The auditor should inform senior management and the audit committee of the findings and discuss possible further investigation, ensuring proper adherence to company policy and legal requirements. Thus, the option 1 is the correct answer.

Step-by-step explanation:

When an auditor uncovers a plan to overstate inventory which would inflate profits, the correct course of action is to inform senior management and the audit committee of the findings and discuss possible further investigation. This is because senior management and the audit committee have the responsibility and authority to address and rectify such significant issues. Reporting the matter transparently helps to maintain the integrity of the financial reporting process and ensures that any actions taken are legitimate and in accordance with company policy and legal requirements. It would be inappropriate to inform the divisional manager of the suspicions prior to reporting, as they may be involved in the fraudulent activity. Conducting interviews with subordinates for a definite case or reporting suspicions to the external auditor should come after alerting the company's senior management and audit committee.