(answered) Impulse Pty Ltd (Impulse) is an entertainment system manufacturer that was established in 2005. You

(answered) Impulse Pty Ltd (Impulse) is an entertainment system manufacturer that was established in 2005. You

Impulse Pty Ltd (Impulse) is an entertainment system manufacturer that was established in

2005. Your audit firm King & Queen have been the auditor of Impulse since its formation. The

audit report for the year ended 30 June 2012 was unqualified. Although Impulse had been

suffering liquidity problems with a drop in both debtors’ turnover and inventory turnover,

King & Queen did not consider that any additional audit work was necessary in regard to the

valuation of these assets. In August 2012, Impulse obtained a large loan from a finance

company, Easy Finance Limited (EFL), to provide additional working capital. However, Impulse

continued to experience severe trading problems and was placed in liquidation in December

2012.

King & Queen has been notified by EFL’s solicitors that they are taking action against your firm

based on the audit of the 30 June 2012 financial report. EFL claim that the cause of Impulse’s

failure related to the inadequate provision for doubtful debts and a fall in the value of

inventories on hand, and that these problems were evident at 30 June 2012, but had not been

adequately dealt with in the financial report due to your negligence. They also claim that they

would not have given the loan to Impulse if the 2012 financial report had been qualified.

Required

(a) Would King & Queen be liable to EFL? Provide specific case references to support your

answer.

(b) Would your answer change if EFL had written to King & Queen advising you that they

intended to make a loan to Impulse and were relying on the 2012 audited financial report

to assist them in making their decision?