Establishing proactive auditor responsibilities in relation to fraud: The role of the courts and professional bodies in Denmark

Establishing Proactive AuditorResponsibilities in Relation toFraud: The Role of the Courts andProfessional Bodies in Denmarkija_442 79..97

Claus Holm,1 Lars Bo Langsted2 and Jesper Seehausen3

1Department of Economics and Business, Aarhus University2Department of Law, Aalborg University3Auditor, Beierholm Aalborg

Over the years, there has been considerable discussion aboutthe extent and exact nature of the responsibilities of the auditorto detect fraud. The purpose of our study is to examine how thecourts and professional bodies in a principle-based legalsystem respond to the change in the audit promulgationsintroducing proactive responsibilities in relation to fraud.We observe the outcome of actual fraud cases in which thecourt system and professional bodies in Denmark establishthe responsibilities of auditors. The data set includes allpublicized cases in the period 1996–2006. We find that theDanish audit profession has adopted the new proactiveresponsibilities identified by the standard setters, whilst thecourts and the professional bodies seem to see ‘the changes’ asmere clarifications of existing responsibilities. The proactiveresponsibilities are not further accelerated by prescriptivecourt rulings.

Key words: Fraud, auditor responsibility, Denmark, court system,proactive, good audit practice

SUMMARY

Over the years, there has been considerablediscussion about the extent and exact nature ofthe responsibility of the auditor to detect fraud inrelation to audit engagements (e.g., Uecker et al.,

1981; Chandler et al., 1993; Bonner et al., 1998;Fraser & Lin, 2004). This is illustrated by thecontinuous ‘clarification’ of pertinent auditingstandards on fraud in the United States andsimilarly by the International Federation ofAccountants (IFAC) in the International Standardson Auditing. It is noticeable that the auditor’sresponsibilities in relation to fraud have undergonea change from reactive to proactive, aspromulgated through the auditing standards (e.g.,Anderson et al., 1998; DeZoort & Lee, 1998; Glover

Correspondence to: Claus Holm, Department of BusinessStudies, Aarhus School of Business, Aarhus University,Fuglesangs Alle 4, DK-8210 Aarhus V, Denmark. Email:[email protected]

International Journal of Auditing doi:10.1111/j.1099-1123.2011.00442.xInt. J. Audit. 16: 79–97 (2012)

ISSN 1090-6738© 2011 Blackwell Publishing Ltd

et al., 2003; Lynford & Bedard, 2003). In this study,we examine how this change in regulationis adopted in a Danish setting. Engaging inclarification of existing responsibilities identified inauditing standards can be seen as a way for theaudit profession to protect self-interests (Parker,1994; Chandler, 1997; Cowton, 2009). This can beinterpreted as a chosen level of self-regulation inorder to avoid legal intervention enforcing newaudit regulations or adverse court rulings claimingaudit failures in fraud cases (see also Jönsson, 1991;Buckless & Peace, 1993; DeZoort & Lee, 1998;Glover et al., 2003).

The purpose of our study is to examine howcourts and professional bodies have responded tothe change in the audit promulgations introducingproactive responsibilities in relation to fraud.Consequently, we observe the outcome of actualfraud cases in order to analyse and discuss therole of the Danish Responsum Committee,Disciplinary Tribunal and the courts inestablishing the extent and nature of thepromulgated proactive responsibilities. We havechosen to focus on the first decade after theintroduction of the ‘proactive responsibilities’in relation to fraud. This enables us to discernwhether the courts and professional bodiesconsider these as new (changed) responsibilitiesor clarified (existing) responsibilities. The data setincludes all publicized fraud cases against Danishauditors in the period 1996–2006. Our paperprovides insight into the Danish audit marketwith an ultimately principle-based legal systembased on the legal provision termed ‘good auditpractice’.

Overall, we find that the Danish audit professionhas adopted the new proactive responsibilitiesidentified by the standard setters, whilst thecourts and the professional bodies seem to see‘the changes’ as mere clarifications of existingresponsibilities. This study contributes to ongoingdebates about principle-based vs. rule-basedregulatory systems. While the nature of a principle-based legal system implies more uncertainty aboutthe extent of the auditor’s responsibilities inrelation to fraud, we do not find that the regulatorychange towards proactive responsibilities inrelation to fraud has been further accelerated byprescriptive court rulings. We suggest that theinteraction between standard setters and therulings of courts and professional bodies shouldbe understood in the context of the less litigiousenvironment of our study.

1. INTRODUCTION

The auditor’s work is unlikely to be subject toscrutiny unless something adverse occurs such asfraud. Over the years, there has been considerablediscussion about the extent and exact nature of theresponsibility of the auditor to detect fraud in auditengagements (e.g., Uecker et al., 1981; Chandleret al., 1993; Bonner et al., 1998; Fraser & Lin, 2004).This is illustrated by the continuous ‘clarification’of pertinent auditing standards on fraud in theUnited States, e.g., SAS 53 (AICPA, 1988), SAS 82(AICPA, 1997) and SAS 99 (AICPA, 2002), andsimilarly by the IFAC in the International Standardson Auditing, e.g., ISA 240 (IAASB, 2001, 2004,2009). Sunder makes the argument that moststandards in accounting are born small, but grow indetail over time because ‘earlier versions generaterequests for clarification that arise from conflictinginterpretations rooted in the self-interests ofthose who implement the standards’ (Sunder,2010: 108). The economic rationale suggests thatany profession will protect the rights and benefitsacquired (Parker, 1994; Wallace, 2004; Cowton,2009). The European Commission points out in itsGreen Paper on the role, position and liability of thestatutory auditor within the European Union thatthe public expects the auditor to play a role inprotecting the interests of shareholders, creditorsand other stakeholders by providing assuranceregarding the existence of fraud (EU Commission,1996). Hence, the public’s trust in auditing isdiminished by fraud scandals: for example, thecollapse of Enron and other corporate scandalswhich have contributed heavily to decreasing thetrust of users of financial statements and thegeneral public in the reliability of auditors(Knechel, 2007; Landsman et al., 2009). A frequentresponse to calm the political waters has beencodification of standards, meaning the rules aremade clear to all (Sunder, 2010). An elaborateeffort on this part has been the now completed‘clarity project’ by the International Auditingand Assurance Standards Board (IAASB) withthe proclaimed aims of enhancing thecomprehensibility as well as making substantivechanges to many of the existing auditing standards(IAASB, 2008). Engaging in clarification of existingresponsibilities identified in auditing standardscan be seen as a way for the audit profession toprotect self-interests (Parker, 1994; Chandler, 1997;Cowton, 2009). From the perspective of the auditprofession, this can be interpreted as a chosen level

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Int. J. Audit. 16: 79–97 (2012)© 2011 Blackwell Publishing Ltd

of self-regulation in order to avoid legalintervention enforcing new audit regulations oradverse court rulings claiming audit failures infraud cases (see also Jönsson, 1991; Buckless &Peace, 1993; DeZoort & Lee, 1998; Glover et al.,2003).

It is noticeable that the auditor’s fraudresponsibilities have undergone a change fromreactive to proactive, as promulgated through theauditing standards (e.g., Anderson et al., 1998;DeZoort & Lee, 1998; Glover et al., 2003; Lynford &Bedard, 2003). Statements like the following madeby the US Public Company Accounting OversightBoard (PCAOB) illustrate the proactive emphasisencompassing the auditor’s responsibilities inrelation to fraud: ‘the auditor should [becausethe risk of non-detection is likely to be higherfor misstatements caused by fraud than formisstatements caused by error] assess risks andapply procedures directed specifically to thedetection of a material, fraudulent misstatement ofthe financial statements’ (PCAOB, 2007: 2).

In this study we examine how this changein regulation is adopted in a Danish setting.Because auditing is inherently a practice-orienteddiscipline, audit regulation has often beendescribed as a codification of established goodaudit behaviour (Wilks & Zimbelman, 2004) whichis ‘nudged along’ by enforcement activities(Campbell & Parker, 1992). It is in this context thatthe auditor’s responsibilities in relation to fraudhave developed over time. Peecher et al. (2007:464) suggest that auditing approaches evolveendogenously in response to changes in society’sinformation needs and regulations, businessorganizations’ value creation processes andavailable accounting and auditing technologies. Ina similar manner, it is our contention that theresponsibilities manifested in audit regulationswork in a symbiotic relation with actual practice,court rulings on litigation cases and disciplinaryactions imposed by professional and supervisorybodies subject to institutional differences inindividual countries (see also Anderson, 1977;Anderson et al., 1998; Blij et al., 1998). Hence, thepurpose of our study is to examine how courtsand professional bodies have responded to thechange in the audit promulgations introducingproactive responsibilities in relation to fraud. Ineffect, we observe the outcome of actual fraudcases in order to analyse and discuss the role ofthe courts and professional bodies in establishingthe extent and nature of the promulgated

proactive responsibilities. We choose to focus onthe first decade after the introduction of the‘proactive responsibilities’ in relation to fraud.This also enables us to discern whether the courtsand professional bodies consider these as new(changed) responsibilities or clarified (existing)responsibilities.

The audit profession is facing increasingdemands for documentation of compliance withauditing standards (examples in the context offraud are provided by Glover et al., 2003; Mock& Turner, 2005; Hammersley et al., 2010). Legalenvironments may be either principle-based orrule-based (e.g., Satava et al., 2006; Dennis, 2008),hence the audit profession in different countrieshas been forced to deal with such opposingdemands. Therefore, it is important to examineand recognize the conditions of the auditprofession in the context of different legalenvironments, which have been shown toinfluence disciplinary outcomes under differentliability regimes (e.g., Carrington, 2010) as well askey attributes such as levels of audit fees (e.g.,Kallunki et al., 2007) and audit quality (e.g.,Francis, 2004). Our paper provides insight into theDanish audit market with an ultimate principle-based legal system based on the legal provisiontermed ‘good audit practice’. With its historicaltradition for mandatory audits of listed companiesand most limited liability companies, Denmarkrepresents a rather large audit market which,before the new regulation exempted the smallestcompanies from mandatory audits, numberedapproximately 140,000 companies under themandatory audit regime (Holm & WarmingRasmussen, 2007). In the period before 1996,codification of ‘good audit practice’ dominated theDanish audit regulation, introducing the auditor’sreactive responsibilities in relation to fraud in thegeneral auditing standards. The period witnesseda number of serious fraud cases resulting in highpublic and political awareness, but sanctionsagainst auditors were not strengthened beyondthe proportional size of the cases (Holm et al.,2011). In the period after 1996, the proactiveapproach to the auditor’s responsibility to detectfraud was introduced in the audit regulation inDenmark, i.e., starting by the Executive Order onAuditors’ Statements issued in 1996. One of theprovisions in this Executive Order states thatwhen planning and performing the audit, theauditor must to a certain extent be aware ofcircumstances that are indicative of fraud or other

Establishing Proactive Auditor Responsibilities in Relation to Fraud 81


irregularities that are of importance to the users offinancial statements.1 This provision predates theDanish Audit Guideline 21 on fraud (DISAPA,1999) by a few years. The latter is inspired by theAmerican SAS 82 (AICPA, 1997) and is the firstDanish auditing standard that deals exclusivelywith the auditor’s responsibility in this area(Kiertzner, 2006).2

The actual cases provide a basis for identifyingthe responsibility to recognize potential fraudsituations during an audit and the responsibility toreact upon such knowledge (on the relevance ofsituational factors, see also St. Pierre & Anderson,1984). The low incidence and the confidentialnature of fraud provide serious constraints ondata availability for research studies in this area(Lynford & Bedard, 2003). Though accountingstudies identify the contribution of court systemsas being very important, this has been relativelyignored in research (Mills & Young, 1999: 244). Inthe context of our study, examining the outcome ofactual fraud cases is of prime importance becausethe auditor’s responsibilities are ultimatelydetermined by the courts (DeJong & Smith, 1984;Buckless & Peace, 1993; Baker & Prentice, 2008).

Overall, we find that the Danish courts andprofessional bodies are responsive to the proactiveresponsibilities identified by the standard setters.We find that in the fraud cases handled by theResponsum Committee as part of the professionalbody, the proactive responsibilities are interpretedas a clarification of previously uncodified specificresponsibilities in relation to fraud. Differencesin perception of the auditor’s responsibilitiescould lead to adverse outcomes. However, wefind that the Disciplinary Tribunal acts in line withthe interpretations of the professional body, andwe find no discord with the interpretations bythe courts either. As regards the change inpromulgated responsibilities, we do find that courtrulings relate to specific proactive audit acts, suchas the prescribed responsibility to consider thepossibility of fraud when planning the auditprocedures at the beginning of the audit process.Hence, we find that the Danish audit professionhas adopted the new proactive responsibilitiesidentified by the standard setters, whilst thecourts and the professional bodies seem to see‘the changes’ as mere clarifications of existingresponsibilities. The study contributes to ongoingdebates about principle-based vs. rule-basedregulatory systems. While the principle-based legalsystem implies the existence of more uncertainty

about the extent of the auditor’s responsibilities inrelation to fraud, we do not find that the regulatorychange towards proactive responsibilities inrelation to fraud has been further accelerated byprescriptive court rulings. We suggest that theinteraction between standard setters and therulings of courts and professional bodies shouldbe understood in the context of the less litigiousenvironment of our study. Our findings do not,however, rule out the potential for future discourseconcerning interpretations of the auditor’sresponsibilities in relation to fraud.

In the next section, we review prior literature onfraud issues related to our study. In Section 3, wedescribe the methodology used to identify, classifyand analyse the actual fraud cases. Section 4provides an analysis of fraud cases handled bycourts and professional bodies. Finally, Section 5concludes the paper.

2. LITERATURE REVIEW

Prior studies have dealt with the issue of theauditor’s responsibilities in relation to fraudfrom different viewpoints, including audit failuresand regulations. In a comprehensive review ofempirical fraud research, Nieschwietz et al. statethat their review is warranted primarily becausepolicy makers, academics, government officialsand practising auditors have debated the auditor’sresponsibility for detecting fraud for severaldecades (Nieschwietz et al., 2000: 190). Hoganet al. (2008: 246–7) note that ‘despite existingauditing standards and authoritative guidance onan auditor’s responsibility for discovering andreporting financial statement fraud, there remainsan expectation gap between what investors believethe auditor’s responsibility should be in detectingfinancial fraud and what auditors are willing toassume as responsibility in this area’. From theusers’ point of view, the lack of understanding ofthe role of an auditor obscures the distinctionbetween detecting fraud and reacting to observedfraud. Differences in expectations are observed interms of the perceived level of assurance for frauddetection, with users expecting higher levels thanauditors (e.g., Epstein & Geiger, 1994; Goldwasser,2005).

The studies on audit failures are concernedprimarily with the litigation and enforcementactivities of supervisory bodies such as theSecurities and Exchange Commission (SEC) in theUnited States (see, e.g., Campbell & Parker, 1992;

82 C. Holm et al.


Rollins & Bremser, 1997; Bonner et al., 1998). In aclosely related study, Carrington examines how theSwedish Supervisory Board of Public Accountantsframe a sufficient audit (‘good audit practice’) byinvestigating a sample of 354 disciplinary casesfrom the period 1995 to 2004 (Carrington, 2010).He classifies the wrongdoings mentioned inthe disciplinary cases into two main categories(process and professional) and suggests that‘the relative importance between process andprofessional aspects of a sufficient audit is clearlytilted in favour of the professional aspects. Asufficient audit is an audit that preserves thepriest-like status of the auditor, which enables theritual of verification’ (Carrington, 2010: 680). Whilethe focus of his study goes beyond the fraudfocus of our study, he examines the demandsfor a sufficient audit in a disciplinary contextconditioned by low litigation very similar tothe Danish corporate environment (for Swedishauditor regulation in relation to fraud, see alsoLarsson, 2005a, 2005b).

Several US studies are relevant to the contextof our study because they examine the auditimplications and user perceptions of thereplacement of SAS 53 (AICPA, 1988) by SAS 82(AICPA, 1997), hence reflecting queries about theintended clarification of the fraud responsibilities(e.g., Anderson et al., 1998; DeZoort & Lee, 1998;Knapp & Knapp, 2001; Glover et al., 2003; Lynford& Bedard, 2003). In an experimental study, Gloveret al. (2003) distinguish between ‘pre- and post-SAS82’ auditors and find that, in accordance with theprescribed changes in the fraud standard, auditorsare more aware of the need to modify audit plansand more likely to increase the extent of their audittests performed in response to increased fraud.However, they do not find (pre- or post-SAS 82)evidence that auditors modify the nature of theplanned tests in response to the increased fraudrisk (Glover et al., 2003: 249). The professional body(AICPA) argues that SAS 82 should provideoperational guidance to audit practitioners. One ofthe proactive responsibilities introduced in SAS 82is the need to make explicit fraud risk assessments.Knapp and Knapp (2001) examine thisresponsibility in an experimental study and theirfindings suggest that effectiveness is improved forexperienced auditors performing an explicit fraudrisk assessment using analytical procedures. In asample of 23 Big 5 audit clients, Lynford andBedard (2003) examine the relationship betweenfraud risk factors and auditors’ fraud risk

assessments. Their study provides descriptiveevidence that most clients have one or more factorsindicative of fraud risk. But only the client’sfinancial condition is a significant factor related tofraud risk assessments. They also show that the roleof fraud risk assessments in audit test planningvaries depending on the type of procedure beingplanned.

Some studies specifically examine userperceptions of the replacement of SAS 53 (AICPA,1988) by SAS 82 (AICPA, 1997). Relying onthe attribution theory framework, Andersonet al. (1998) examine attributions of auditorresponsibilities by auditors and practising judges.This is relevant in the context of our study, i.e.,‘the judges were selected as a knowledgeable,influential group who provide views reflective ofthe legal environment and, therefore, allow forthe detection of potential expectational differencesbetween the legal and audit communities’(Anderson et al., 1998: 217). They find that auditors’attributions of responsibility are significantlyaffected by the collusion and materiality variablesin the fraud case, while the judges’ assessmentsof auditor responsibility are affected by theinteraction between their general attitudesregarding the auditing profession and collusionin the fraud case. They also find that evidencereliability and materiality significantly affectauditors’ attributions, while they do not play a rolein the attributions of the judges (Anderson et al.,1998). In another experimental study, DeZoort andLee (1998) hypothesize that the nature of the newstandard (SAS 82) and the contemporary auditenvironment will result in perceptions that thenew standard increases auditors’ responsibilitiesfor fraud detection (as compared to SAS 53).Their findings suggest that perceptions ofexternal auditor responsibility to detect fraud wereincreased across different groups of participants.They also find that the external auditors’perceptions increased more than the perceptions ofinternal auditors and fraud examiners (DeZoort &Lee, 1998: 168). The empirical evidence fromthe US studies suggests that the introduction ofproactive responsibilities was accompanied bymore detailed guidance for external auditors and,thus, resulted in an increase in perceptions ofauditor’s responsibilities for fraud detection.However, these studies also show that newconcerns and challenges were raised by researchas well as standard setters. This subsequentlyled to a rapid replacement of SAS 82 by SAS 99



(AICPA, 2002), introducing further clarificationsand suggestions for new audit procedures such asbrainstorming sessions on the possibility of fraudin all audit engagements (see, e.g., Carpenter, 2007;Hunton & Gold, 2010).

3. METHODOLOGY

In this section, we describe the methodology usedto identify, classify and analyse the fraud casesused in this study. The 30 fraud cases consideredin this study are instances where the responsibilityof the auditor has been questioned. It includesall the cases that were made publicly available inthe period from 1996 to 2006. We chose to limitthe period studied to the first decade after theintroduction of the ‘proactive responsibilities’ inrelation to fraud. We deliberately consider the casesbased on the outcome dates and not on the time ofthe audit pertaining to the case. This is necessary toexamine the role of courts and professional bodiesin establishing the proactive responsibilities, andit also enables us to discern whether the courtsand professional bodies consider the promulgatedfraud responsibilities as new (changed) or clarified(existing) responsibilities. It should be noted thatthe list of cases is not exhaustive in terms of fraudcases raised within the court system in Denmarkand certainly not in terms of the number of criminaloffences committed. In fact, in many fraud casesthe particular responsibilities of the auditor isnot questioned. In comparison, the MARC‘Classification and Analysis of Major EuropeanBusiness Studies’ (2005) identifies 21 of 60 businessfailures as involving the role of the auditor. Dueto our interest in examining the auditor’sresponsibility for fraud, only fraud cases involvingthe role of the auditor are examined.

Table 1 provides an overview of the type of fraudcases considered. Here we make a distinctionbetween case documents provided by theResponsum Committee, the Disciplinary Tribunaland the court system. The responsibility ofthe Responsum Committee as an independentcommittee formed by the Danish Institute of StateAuthorized Public Accountants (DISAPA) is toprovide expert opinions called ‘responsa’ on ‘goodaudit practice’. The concept of ‘good audit practice’is a legal provision in the Danish Auditors Act(2003, 2008). It states that the auditor must performaudits in accordance with what can be described asgood or sound audit practice. Similar provisionsare found in the audit laws of Norway and Sweden

(see Eilifsen, 1998; Carrington, 2010). The Danishterm is ‘god revisionsskik’ and it is based on theidea of the ‘bonus pater familias’ (good family father)in Roman law or ‘the reasonable man’ in Englishlaw. The key point is that the legal provision doesnot provide guidance on what to do, partly becauseeven good and reasonable people sometimes actnegligently, partly because the demands of carediffer depending on the specific circumstances(Langsted, 2008). The legal provision provided inthe Auditors Act is supplemented (and interpreted)by other acts and other types of regulation, e.g.the Danish auditing standards. Furthermore, theextent and nature of the auditor’s responsibilitiesare interpreted under specific circumstancesthrough responsa from the Responsum Committee,disciplinary decisions made by the DisciplinaryTribunal and rulings by the courts in the regularcourt system.

The fraud cases considered by the ResponsumCommittee are presented in Table 1, together withthe cases from the Disciplinary Tribunal and thecourts. Cases can be put before the ResponsumCommittee by the members of DISAPA, thegovernment, the administrative authorities and thecourt system. The Responsum Committee has noobligation to consider cases from other parties suchas clients, and hence other parties have to engage aState Authorized Public Accountant to raise a caseon their behalf. Unlike the Disciplinary Tribunaland the courts, the Responsum Committee cannotimpose sanctions on auditors. The ResponsumCommittee makes expert opinions regarding ‘goodaudit practice’, but it is up to the DisciplinaryTribunal and/or the courts to decide whethersanctions should be imposed on the auditorinvolved (Langsted, 2009). Furthermore, neitherthe Disciplinary Tribunal nor the courts are obligedto request a responsum from the ResponsumCommittee before deciding whether to enforcesanctions.

As identified in Table 1, three types of legalliability can be imposed on auditors: (1)disciplinary liability, (2) civil liability (or liabilityto pay damages) and (3) criminal liability. TheDisciplinary Tribunal is mandated by the DanishAuditors Act (2008) to handle disciplinary liabilitycases regarding the audit profession.3 TheDisciplinary Tribunal is chaired by a judge andconsists of members representing the businesscommunity (the majority) as well as members ofthe audit profession. Disciplinary liability canresult in different sanctions depending on the

84 C. Holm et al.


Tab

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Cla

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offr

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case

sb

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113

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1112

61

30



severity of the offence and other circumstances.These sanctions include a warning, a fine or asuspension of the license to practise as an auditor.Cases of civil or criminal liability, on the otherhand, are resolved in the regular Danish courtsystem consisting of local district courts, two highcourts and the Supreme Court.4 Similarly, criminalliability can result in different sanctions dependingon the severity of the offence, the provision that isviolated and other circumstances.5 These sanctionsinclude a fine, imprisonment or – similar todisciplinary liability – a suspension of the license topractise as an auditor. Civil liability cannot resultin any sanctions as such. Instead, in cases of civilliability, the plaintiff seeks to claim damages fromthe defendant, i.e., the auditor. Thus it is assumedthat the plaintiff has suffered an economic loss,e.g., because the auditor has been negligent inperforming an audit or another type of engagement(Langsted, 2009).

Classification of fraud cases

We obtained information about the publicizedfraud cases from various sources. The database ofthe Danish Institute of State Authorized PublicAccountants is electronically available to the publicand contains more than 1250 responsum casesdating back to 1930. Based on a thorough wordsearch using several different combinations ofwords such as fraud, criminal act, etc., we were ableto identify a total of 11 cases related to fraud in theperiod 1996–2006 (see Table 1). As a next step, wecarried out a detailed examination of the fraudresponsa provided by the Responsum Committee. Itshould be noted that any particular responsumtypically addresses more than one issue pertainingto the responsibility of the auditor. Most of theissues raised involve specific scenarios whichprovide insight into whether the auditor hasconducted the mandated tasks in accordance with‘good audit practice’. Table 1 also shows whetherthe auditor has received criticism from theResponsum Committee, which is the case in 8 ofthe 11 cases. Criticisms raised in the responsum maylater on lead to sanctions against the auditor, butthis is not necessarily the outcome in the tribunaland court systems. An additional 19 fraud caseswere identified from the Disciplinary Tribunal (12)and court systems (7) (see Table 1). We haveconsidered only publicly available cases that raisequestions in relation to the responsibility of theauditor in fraud settings. Because the tribunal and

court systems need to arrive at an interpretation ofthe auditors’ responsibilities, the responsum may bea useful instrument in tribunal and court systems.One of the court cases provides an example ofthe importance of the responsum. Here, two of thethree judges stated that the absence of a responsumpertaining to the specific area precludes them fromfinding the auditor responsible in violating ‘goodaudit practice’, see court case 2 (1997), as listed inTable 3. Consequently, a certain overlap of fraudcases could be expected, but because we discardinterrelated cases issued earlier than 1996, only twooverlaps are present in our investigation, i.e.,responsum case 1151 (2000) is related to court case5 (2003) and responsum case 1213 (2003) is relatedto court case 7 (2006). We have decided to includethe cases as separate cases in the investigationdue to the different approaches of the differentinstitutions, while still noting that the substancematter of the underlying frauds is the same forthese particular cases.

We have examined each of the 30 fraud cases indetail in order to extract information about thespecific circumstances of the fraud scenariosand the responsibilities of the auditors involved.In addition to the detailed information in theindividual fraud cases, we use the following mainclassifications:

(a) type of case document (responsum, tribunal,court)

(b) type of perpetrator(s) (management,employee, management and employee incollusion, external party, internal and externalparty in collusion)6

(c) ISA 240 fraud classification (fraudulentreporting, misappropriation of assets,concealment/ combination of the two)7

(d) criticism of auditor (yes/no)(e) type of criticism (none, insufficient or

inappropriate audit tasks, communicationfailure(s), both audit task and communicationfailure(s))

(f) type of liability (disciplinary, civil, criminal)(g) type of sanction (none, warning, fine, liability

amount, imprisonment, suspension)Based on a tabulation of the 30 fraud cases, we areable to discern the relationships between types offraud and types of perpetrator (see Table 2). Theidentified relationships provide an initial insightinto which kind of scenarios would most likely leadto an examination of the auditor’s responsibilitiesin relation to fraud. Firstly, it is observed thatfraudulent reporting is a management deed (6 out

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of 6 cases). Secondly, most of the cases where theresponsibility of the auditor is questioned (21 of 30)involve concealment of misappropriation of assets.As identified in ISA 240, fraud often involvescarefully organized schemes designed to concealthe fraud.8 Pure cases of misappropriation ofassets are rare for obvious reasons – the perpetratordoes not want to be caught. Thirdly, both themanagement and employees choose concealmentwhere possible. Fourthly, none of the cases involvecollusion by internal or external parties or puretheft by an external party. While collusion isgenerally likely in fraud cases, we find no cases inthe period where questions are raised against theauditor in such contexts. The relatively smallnumber of cases identified in this decade is typicalin the Danish setting and comparable to otherEuropean countries with less aggressive litigationenvironments than in the United States (see Baker& Quick, 1996; Carrington, 2010). For comparison,we have also identified the number of fraud casesduring the two decades immediately before ourperiod of interest. Only six fraud cases wereidentified from 1976 to 1986, whereas the totalfor the period 1986–1996 amounted to 22 fraudcases. The increase in number of tribunal and courtcases suggests an interesting pattern, but this maymerely reflect trivial fluctuations in cases raisedagainst auditors. Consequently, only a closerscrutiny of the individual cases will enable us todetermine whether and how the new proactiveresponsibilities established by the courts and theprofessional bodies have affected auditors.

4. ANALYSIS

In this section, we examine how the courts andprofessional bodies have responded to the changein the audit promulgations introducing proactiveresponsibilities in relation to fraud. Consequently,we observe the outcome of actual fraud cases inorder to analyse and discuss the role of courts

and professional bodies in establishing the extentand nature of the promulgated proactiveresponsibilities. The empirical findings availablefor the period 1996 to 2006 are based on anincreased number of fraud cases relative to the timespan.9 In 8 of the 11 responsum cases, criticism ismade by the Responsum Committee. Before 1996,specific regulatory requirements for the Danishauditor’s responsibilities in relation to fraud wereabsent (Holm et al., 2011). The earliest reference tothe ‘new’ Danish Audit Guideline 21 (DISAPA,1999) is found in responsum case 1181 (2001, 2,in translation): ‘In Audit Guideline 21 it is statedthat if the auditor during his audit detects anytransactions that could give reason for apresumption that there was a risk of fraudulentacts, the audit must be extended to clarify this.It is noted that this guideline came into effect in1999, but according to the committee it conformswith the guidelines for good audit practice inthe period concerned’. Thus the ResponsumCommittee expresses a possible reaction to frauddetection that is very similar to earlier references tothe Danish Audit Guideline 1 (DISAPA, 1993)related to the general responsibility of the auditor(as opposed to specific responsibilities). In themajority of the fraud cases, the ResponsumCommittee actually refers to the Danish AuditGuideline 1 and not Audit Guideline 21. In thissense, the criticism raised during this period doesnot seem to change dramatically, suggesting thatthe proactive responsibilities are interpreted bythe professional body as a mere clarification ofpreviously uncodified specific responsibilities inrelation to fraud.

This also brings up the question whether theprofessional body interprets and enforces thepromulgations as new (changed) responsibilities.The responsum cases deal with this in various ways.In responsum case 1151 (2000, 1, in translation), theauditor under scrutiny argues along the linesfollowed in the past: ‘It is noted that the auditor

Table 2: Types of fraud and perpetrators 1996–2006

Management Employees Collusion Total

Fraudulent reporting 6 6Misappropriation of assets

Pure cases 2 1 3Cases with concealment 12 9 21

Total 20 10 0 30



in [the communication with those charged withgovernance] dated on March 11, 1991 has statedthat “it is not the main purpose of the audit todetect frauds and irregularities” and that “if anyinaccuracies are detected during the audit, the auditwill be extended to clarify this”.’ The ResponsumCommittee counters with criticism based on thenew proactive responsibilities, i.e., identifying anaudit plan failure (responsum case 1151, 2000, 1,in translation): ‘In the specific case, it is thecommittee’s opinion that the present audit plansare adequate for an overall planning of the audit,but that the audit plan should have included areview of the internal control in the company as faras salaries are concerned. This would have revealedthat the management had not established anappropriate control of the salaries paid out.’ Hence,the responsibility to plan for the possibility offraud is here considered in the specific context ofauditing the payroll and personnel cycle. Thepotential shortcomings in the course of an auditare now more regularly tied to the responsibilityfor planning. Audit planning is, of course, aprerequisite for ‘good audit practice’, but now thewording of the Responsum Committee’s criticismaddresses this explicitly. Thus, the criticism assistsin clarifying specific responsibilities in accordancewith the proactive emphasis on fraud awareness.

In a later fraud case, the Responsum Committeealso addresses the issue of an extension of theaudit scope as a consequence of fraud suspicion(responsum case 1239, 2005, 1, in translation): ‘[I]t isthe management that is responsible for establishingadministrative procedures and good internalcontrol. It is the auditor’s task to confirm this.However, it is the committee’s opinion that theauditor should have checked that agreed initiativeswith a view to strengthening the administrativeprocedures and the internal controls had beenimplemented. . . . [T]he fact that the auditor maynot have complied with good audit practice oncertain points does not mean that the auditor loseshis right to receive a fee for his assistance indetecting fraud.’ It is noticeable that the extensionof the audit scope to examine the particularcircumstances where there is a suspicion of fraud isnot considered part of the normal audit. Thesolving of the crime may be a task where theauditor is expected to have a natural advantage, butthis is not necessarily a part of the audit task forwhich the auditor will receive the audit fee. Thisis a task beyond the financial audit. Accountingto the professional body, the auditor is still not

responsible for detecting fraud. This limits theproactive responsibilities to active fraud awarenessin the conduct of the audit. As suggested inprevious studies (e.g., Anderson et al., 1998;DeZoort & Lee, 1998; Fraser & Lin, 2004), this isconsistent with the auditors’ own interpretation ofthe promulgated fraud standards at the time, i.e.,Audit Guideline 21 (DISAPA, 1999), SAS 82(AICPA, 1997) and ISA 240 (IAASB, 2001).

The number of tribunal cases in the period1996–2006 increased compared to the two priordecades. However, not all of the cases are worthexamining in detail. One common type of fraudinvolves illegal loans to owners. The DanishPenalty Code classifies such loans as fraudulentmisstatements (Greve & Langsted, 2011).Accordingly, seven of the 12 cases lead to sanctionsagainst auditors because of their failure to adhereto the explicit responsibility of the auditor tocommunicate about such illegal loans through theaudit opinion. The disciplinary sanctions in thesealmost identical cases were auditor fines rangingfrom DKK 10,000 to DKK 40,000. Due to the similarnature of these cases involving illegal loans, Table 3only summarizes the particulars of the remainingfive tribunal cases.10

The tribunal cases include two examples offraudulent reporting by management (see tribunalcases 7 and 12). The size of the fine in tribunal case7 (2001) is considerably higher than previouslyseen. Although high, a fine of DKK 100,000 isstill just one-third of the maximum fine applicableat that time and fines of that relative magnitudehad been used before. The list of shortcomingsrelated to the audit is comprehensive andcontains elements related to audit planning,conduct, documentation and communication. Thefraudulent reporting includes examples of doublecounting of company cars, wrongful inclusion ofproperty, overvaluation of assets, missing liabilities,etc. The decision made by the Disciplinary Tribunalsuggests that many of the particular issues in thefraudulent reporting would be discovered if theauditor had conducted the audit in accordancewith ‘good audit practice’. Hence, the DisciplinaryTribunal is not imposing a new harsherinterpretation of shortcomings of the audit. In thelatest tribunal case in this period, the fines imposedon the two auditors involved are even higher, i.e.,disciplinary sanctions amounting to DKK 150,000and 140,000, respectively, in tribunal case 12 (2006).Very similar to what is seen in the responsumcases during this period, the Disciplinary Tribunal

88 C. Holm et al.


Tab

le3:

San

ctio

ns

agai

nst

aud

itor

sin

frau

dca

ses

1996

–200

6*

Cas

eID

Typ

eof

cour

t/tr

ibun

alFr

aud

type

Per

petr

ator

Aud

itor

resp

onsi

bili

ty

Trib

unal

case

6(1

999)

Dis

cipl

inar

yTr

ibun

alC

once

alm

ent

Man

agem

ent

Dis

cipl

inar

ysa

ncti

on:f

ine

(am

ount

DK

K25

,000

)Tr

ibun

alca

se7

(200

1)A

ccou

ntan

tsTr

ibun

alFr

audu

lent

repo

rtin

gM

anag

emen

tD

isci

plin

ary

sanc

tion

:fin

e(a

mou

ntD

KK

100,

000)

Trib

unal

case

9(2

005)

Dis

cipl

inar

yTr

ibun

alC

once

alm

ent

Em

ploy

eeD

isci

plin

ary

sanc

tion

:fin

e(a

mou

ntD

KK

75,0

00)

Trib

unal

case

11(2

006)

Dis

cipl

inar

yTr

ibun

alC

once

alm

ent

Em

ploy

eeD

isci

plin

ary

sanc

tion

:fin

e(a

mou

ntD

KK

10,0

00)

Trib

unal

case

12(2

006)

Dis

cipl

inar

yTr

ibun

alFr

audu

lent

repo

rtin

gM

anag

emen

tD

isci

plin

ary

sanc

tion

:fin

es(a

mou

nts

DK

K15

0,00

0an

d14

0,00

0)

Cou

rtca

se1

(199

7)Su

prem

eC

ourt

Frau

dule

ntre

port

ing

Man

agem

ent

Civ

illia

bilit

ysa

ncti

on(a

mou

ntD

KK

543,

497)

Cou

rtca

se2

(199

7)H

igh

Cou

rtC

once

alm

ent

Man

agem

ent

No

civi

llia

bilit

yC

ourt

case

3(1

998)

Hig

hC

ourt

Frau

dule

ntre

port

ing

Man

agem

ent

Cri

min

allia

bilit

ysa

ncti

on(a

udit

or1:

20da

y-fi

nes

ofam

ount

DK

K2,

000,

aud

itor

2:10

day-

fine

sof

amou

ntD

KK

2,00

0an

dau

dit

or3:

acqu

itta

l)C

ourt

case

4(1

999)

Hig

hC

ourt

Frau

dule

ntre

port

ing

Man

agem

ent

Civ

illia

bilit

ysa

ncti

on(a

mou

nts

DK

K92

2,10

8.98

and

1,53

1,82

0.71

)C

ourt

case

5(2

003)

Supr

eme

Cou

rtC

once

alm

ent

Em

ploy

eeC

ivil

liabi

lity

sanc

tion

(am

ount

sD

KK

374,

584.

64an

d43

,750

)C

ourt

case

6(2

004)

Supr

eme

Cou

rtFr

audu

lent

repo

rtin

gM

anag

emen

tN

oci

vill

iabi

lity

Cou

rtca

se7

(200

6)Su

prem

eC

ourt

Mis

appr

opri

atio

nof

asse

tsM

anag

emen

tC

ivil

liabi

lity

sanc

tion

(am

ount

DK

K8,

000,

000)

*Tri

buna

lcas

es1,

2,3,

4,5,

8an

d10

are

exam

ples

ofill

egal

loan

s,w

hich

are

excl

uded

from

the

tabl

e.



considers the importance of audit planning withexplicit references to the Danish Audit Guidelines 1(Fundamental Principles), 14 (Auditing CompaniesUsing EDP), 17 (Audit of EDP-Based User Systems)and 18 (Audit Protocol Communication), but notAudit Guideline 21 (Fraud) (DISAPA, 1989, 1990,1991, 1993, 1999). Audit planning is seen as anindispensable prerequisite for an appropriate auditand therefore presumably also for any frauddetection on the part of the auditor. Similarremarks are made in tribunal case 9 (2005), whichinvolves a pure case of employee concealmentmade possible by insufficient separation of duties.In this case, the tribunal sanctions the auditor witha fine of DKK 75,000 due to inappropriate auditplanning (tribunal case 9, 2005, 3).11

The different composition of members ofthe Responsum Committee and the DisciplinaryTribunal opens the possibility of conflictinginterests of the two bodies. Differences inperception of the auditor’s responsibilities (assuggested in prior studies by Anderson et al.,1998, DeZoort & Lee, 1998 and Fraser & Lin,2004) could lead to adverse outcomes in casesconsidered by the professional body acting in theself-interest of the membership body of auditorsand in cases considered by the DisciplinaryTribunal with a majority of non-accountingmembers. However, the outcome of the fraudcases in this period suggests that the DisciplinaryTribunal acts in line with the interpretations of theprofessional body.

Finally, we turn to the circumstances of the fraudcases handled in the court system from 1996 to2006. Due to the often very public nature of thefraud cases brought before the High Courts or theSupreme Court, the courts are positioned toadvocate the auditors’ fraud responsibilities in aprescriptive manner if there is a discord betweenlegal, societal interests and professional interests inthe auditing standard promulgations. As explainedin Section 3, courts base their rulings on theirinterpretation of the legal provision ‘good auditpractice’ as supplemented by other laws, auditingstandards as well as existing responsa from theResponsum Committee and decisions made bythe Disciplinary Tribunal. Hence, it is from thisperspective that we analyse the role of the courtsin establishing the extent and nature of thepromulgated proactive responsibilities.

All but one of the seven court cases in thisperiod are related to management frauds. Courtcases 3 and 6 deal with the major corporate fraud

scandal of the period involving ‘Nordic FeatherCompany’. The fraudulent reporting was initiatedby the charismatic and dominant head of thelisted company, Johannes Petersen, who held acombined position as chair of the supervisoryboard and CEO. In 1990, the company wasdeclared bankrupt – at that time the head of thecompany had committed suicide. The bankruptestate was met with claims of more than DKK 2billion. Trust in the auditor profession became apublic issue because it was difficult for the publicto understand how the company could havereceived unqualified audit opinions for a numberof years, even after the auditors had become awareof major problems, including the obvious signal ofauditors resigning. The fraud case continued forseveral years in the court systems and ended witha High Court decision against the managementand the auditors (court case 3, 1998). Membersof management were sentenced to several years’imprisonment for gross fraud against investorsand creditors. Later, two of the three auditorsinvolved were found to be criminally liable andwere sanctioned with fines. We find no discordbetween the interpretations by the professionalbody and the High Court. The court’s ruling wasin line with the interpretation of the ResponsumCommittee which on ten specific issues criticizedthe auditors for not providing qualified auditopinions. The identified shortcomings related tospecific audit tasks and communication failures inaudits conducted before the promulgation of theproactive responsibilities. However, the ruling canbe viewed as addressing the societal need forreassurance of trust in the audit profession, hencesupporting the clarification effort promoted bythe profession at the time. In the related case, theSupreme Court ruled in favour of two resigningauditors (court case 6, 2004). The two auditorswere appointed in 1987 and resigned in 1988without auditing the company in question. TheSupreme Court finally absolved the two resigningauditors of civil liability towards the shareholders.Consequently, the court ruling clarified that theauditors had the prerogative to signal that theaudit engagement was impossible to fulfil, hencethe court concurred that auditors are not ascribedspecial or additional responsibilities due to fraudoccurring in the company.

The remaining fraud cases are civil liability casesraised on behalf of stockholders or other plaintiffsasserting that they have suffered an economicloss, e.g., because the auditor has been negligent

90 C. Holm et al.


in performing an audit or another type ofengagement. In court cases 2 and 6, the auditorswere acquitted of neglect. The particular reasoningin court case 2 was briefly mentioned earlier;to demonstrate the weight the courts assign tointerpretations provided by the ResponsumCommittee. That is, the ruling is in favour ofthe auditor due to the absence of a responsumexplaining the particular responsibilities regardingan audit of related companies within a group.

The size of the civil liability claims should not beseen as a measure of the severity of the sanction. Theamount awarded in court cases 1, 4, 5 and 7 reflectsthe economic losses on the part of the plaintiffs dueto neglect on the part of the auditors (see Table 3).The importance of the interpretations from theResponsum Committee is further emphasized bythe fact that, in each of the cases incurring civilliability, a responsum is used as an element of thecourt ruling showing auditor neglect. The criminalacts of the management predate the promulgation ofproactive responsibilities of the auditors in courtcases 1 and 4. In court case 1 (1997), the managementissued fictitious invoices to their factoring servicecompany. The criticism raised in responsum case 938(1989) expresses the auditor’s responsibility. TheResponsum Committee finds shortcomings in thisaudit as compared to an appropriate audit, e.g., thelack of sampling tests controlling the existence ofreal deliveries behind hypothecated invoices andthe lack of confirmation letters to debtors. Under thepremises of the court case, it is assumed that thebank involved would have refused further use ofthe credit facilities if appropriate information on thecircumstances of the company had been provided tothem. The neglect by the auditor, compared to anappropriate audit, is sufficient to find him liable inthis fraud case. Court case 4 (1999) is a somewhatsimilar instance of fraudulent reporting. Inaccordance with responsum case 1049 (1995), theHigh Court found that the auditor involved hadincurred civil liability and he was sentenced to paydamages to the plaintiffs (i.e., to the factoringcompany amounting to DKK 922,108.08 and to thebank amounting to DKK 1,531,820.71). Under thepremises, the court decision states that the auditor isnot reproached for not detecting fictitious invoicesas part of the management fraud scheme. However,due to clearly demonstrated shortcomings of theaudit, the financial statements portray an excessivelypositive picture of the actual financialcircumstances. Because of his obligation to providean opinion on the true and fair view of the financial

statements, the auditor was found liable in relationto both plaintiffs.

The two remaining fraud cases both presentexamples of an auditor’s neglect in relation toadequately checking the internal control systemsof the clients. Court case 5 (2003) involvesconcealment fraud committed by an employee. TheSupreme Court ruled in accordance with thecriticism raised by the Responsum Committeein the related responsum case 1151 (2000). Thepremises of the ruling indicate that the auditorshould have (a) examined the internal controlswhich would have revealed that the managementhad not established appropriate controls in relationto payment of salaries, and (b) communicatedthe weaknesses of the internal controls to thosecharged with governance as well as describedappropriate measures to improve the controlsystems. The Supreme Court found that the auditorwas liable to pay damages to the plaintiffs becausethe neglect can be directly associated with theabsence of preventive measures against thisparticular fraud. Hence, the proactive role of theauditor in relation to fraud is here extendedconsiderably compared to previous interpretationsof fraud responsibilities. Court case 7 is classifiedas an example of misappropriation instead ofconcealment. This is a somewhat arbitraryclassification because the main problem hereis a widespread absence of bookkeeping in thecompany. The Responsum Committee in therelated responsum case 1213 (2003) expressedcriticism of the auditor as he should have madesure that the accounting system and internalcontrols of this investment company wereestablished and functioning. The premises of theSupreme Court are clear, i.e., court case 7 (2006, 17)refers directly to the Danish Audit Guideline 1:due to the lack of appropriate bookkeepingand financial reporting, the auditor should haveplanned the audit in accordance with anassessment of the risk of errors as being relativelyhigh (DISAPA, 1993, paragraph 6). The lack ofinspection constitutes an audit failure that is sosevere that the auditor and the audit firm are foundliable to pay damages to the plaintiff of the highestamount to date, i.e., DKK 8 million. Consequently,the interpretation of the court concurs with theview promoted by the professional body, henceestablishing the extent and nature of the auditors’responsibilities in relation to fraud by clarifying thecase-specific responsibilities in accordance with theproactive emphasis on fraud awareness.



5. DISCUSSION AND CONCLUSION

The auditor’s responsibilities in relation to fraudhave undergone a change from reactive toproactive, as promulgated through the auditingstandards (e.g., Anderson et al., 1998; DeZoort &Lee, 1998; Glover et al., 2003; Lynford & Bedard,2003). The audit profession engages in clarificationof existing responsibilities. This can be interpretedas a way to protect self-interests (Parker, 1994;Chandler, 1997; Cowton, 2009) and a means ofself-regulation in order to avoid legal interventionimposing new audit regulations or detrimentalcourt rulings (see also Jönsson, 1991; Buckless &Peace, 1993; DeZoort & Lee, 1998; Glover et al.,2003). While the auditor’s responsibilities relatingto fraud have been subject to numerous studies (forextensive literature reviews, see Nieschwietz et al.,2000; Hogan et al., 2008), previous research hasnot provided empirical evidence on the adoptionof this change by the national court systems.Examining the outcome of actual fraud casesis of prime importance because the auditor’sresponsibilities are ultimately determined by thecourts (DeJong & Smith, 1984; Buckless & Peace,1993; Baker & Prentice, 2008). As a premise forour study, we contend that responsibilities laiddown in audit regulations work symbioticallywith actual practice, court rulings on litigationcases and disciplinary actions by professional andsupervisory bodies (see also Campbell & Parker,1992; Wilks & Zimbelman, 2004; Peecher et al.,2007). This interaction is subject to institutionaldifferences in individual countries, thus implyingthe relevance of international as wellcountry-specific studies in this area. Prior studieshave dealt with the issue of the auditor’sresponsibilities in relation to fraud fromdifferent viewpoints, including audit failuresand regulations. The studies on audit failure areconcerned primarily with the litigation andenforcement activities of supervisory bodies suchas the SEC in the United States (see, e.g., Campbell& Parker, 1992; Rollins & Bremser, 1997; Bonneret al., 1998). Hence, this provides the impetus forresearch into the role of the courts and professionalbodies in establishing the extent and natureof the promulgated proactive responsibilities inless litigious environments than, for example,the United States (for a related study in theScandinavian context, see also Carrington, 2010).Accordingly, the purpose of our study is toexamine how Danish courts and professional

bodies responded to the change in theaudit promulgations introducing proactiveresponsibilities in relation to fraud. Our studyprovides insight into the Danish audit market andits ultimate principle-based legal system based onthe legal provision termed ‘good audit practice’. Inthe period after 1996, the proactive approach to theauditor’s responsibilities for fraud detection wasintroduced in Denmark parallel to other nationaland international auditing standards on fraud (e.g.,SAS 82, SAS 99 and ISA 240).

In this study, we collect and analyse a uniquedata set which includes all publicized fraud casesagainst Danish auditors in the period 1996–2006.We chose to focus on the first decade after theintroduction of the ‘proactive responsibilities’ inorder to examine the role of courts and professionalbodies in establishing the proactive responsibilities.An important issue is, of course, whether thecourts and professional bodies consider thepromulgated fraud responsibilities as new(changed) or clarified (existing) responsibilities.We find that in the fraud cases handled by theResponsum Committee, the criticisms against theauditor have been based on shortcomings ofthe audits, either in the form of inappropriate/insufficient audit tasks or communication failures.The nature of the criticisms suggests thatthe proactive responsibilities are interpreted bythe professional body as a mere clarification ofpreviously uncodified specific responsibilities inrelation to fraud. According to the professionalbody, the auditor is still not responsible fordetecting fraud, which is consistent with theauditors’ own interpretation of the promulgatedfraud standards (see also Anderson et al., 1998;DeZoort & Lee, 1998; Fraser & Lin, 2004). Thedifferences in composition of members in theResponsum Committee, the Disciplinary Tribunaland the courts opens up the possibility ofconflicting interests of these bodies (see alsoSunder, 2010). Moreover, differences in theperception of auditors’ responsibilities (assuggested in prior studies by Anderson et al., 1998,DeZoort & Lee, 1998 and Fraser & Lin, 2004)could lead to adverse outcomes in cases consideredby the professional body acting in the self-interestof the auditor profession and in cases consideredby the Disciplinary Tribunal with a majority ofnon-accounting members. However, the outcomeof the fraud cases in this period suggests thatthe Disciplinary Tribunal acts in line with theinterpretations of the professional body.

92 C. Holm et al.


Due to the often very public nature of thefraud cases brought before the High Courts orthe Supreme Court, the courts are positioned toadvocate the auditor’s fraud responsibilities in aprescriptive manner if there is a discord betweenlegal, societal interests and professional interestsin the auditing standard promulgations. However,we find no discord between the interpretationsby the professional body and the courts. Thecommon outcome of the fraud cases consideredby the courts and professional bodies is in linewith the court rulings before the transition intomore proactive auditor responsibilities regardingfraud. However, pertaining to the transition inpromulgated responsibilities, we find that courtrulings relate to specific proactive audit acts, suchas the prescribed responsibility to consider thepossibility of fraud when planning the auditprocedures at the beginning of the audit process.Overall, we find that the courts and professionalbodies can be characterized as responsive to theproactive responsibilities identified by the standardsetters even though their interpretations suggestthat they see the ‘changes’ as mere clarifications ofexisting responsibilities. In the period 1996–2006,we also observe an increase in sanctions imposedand civil liabilities. We attribute this to a change inperception by the court system. Consequently, theDanish court system now considers fraud as anormal, although unusual, business scenario forwhich the auditor has proactive responsibilitieswhen planning and conducting the audit.

Due to the exploratory nature of this study,the implications for practice and future researchare interrelated. The study contributes to ongoingdebates about principle-based vs. rule-basedregulatory systems. Our findings demonstrate thatwhile the principle-based system has a possibledisadvantage in terms of uncertainty of the legalposition of the auditor, the change towardsproactive responsibilities in relation to fraud is notaccelerated by prescriptive court rulings. ‘Goodaudit practice’ is a legal provision to be interpretedand hence it changes continuously with thedevelopments in society and in the auditprofession. Our findings, however, do not rule outthe potential for future discourse concerninginterpretations of the auditor’s responsibilities inrelation to fraud. The continuous need for changesin the regulations in rule-based systems is evidentby observing the pace of the standard setters. Whilethe changes in regulations are enforced globallyacross legal systems, they are supposedly of less

importance in a more principle-based legal systemsuch as the Danish system. The presumption isthat the audit profession has to monitor theinterpretations of the outcomes of specific fraudcases brought before the court systems andprofessional bodies. In the context of thelow-litigious environment exemplified in thisstudy, it is noticeable that the audit professionseems to pre-empt the possible discourse on theresponsibilities in relation to fraud by embracingthe proactive regulation introduced by the standardsetters. Hence, further research into how theauditor’s responsibilities are determined indifferent legal systems and what constitutes anappropriate audit effort in relation to fraudcertainly continues to be pertinent.

The limitation of this study is related to dataavailability. Even though our study is based on allthe publicized fraud cases in the period 1996–2006, we acknowledge that the number of casesis relatively small. Although this it not ageneralizability issue due to the availability ofall data, it is a caveat of the study to berecognized. In the Danish setting, frauds are fairlyrare in occurrence and not all fraud cases leadto questions being raised as to the particularresponsibilities of the auditor. This is consistentwith the perception that the corporateenvironment in Denmark is not highly litigious.This is noticeable and accentuates the importanceof interpretations of the fraud responsibilitiesbased on the relatively few responsum, tribunaland court rulings. Future research shouldexamine the role of courts and professional bodiesin other countries and institutional environments.The ease with which new promulgations can beadopted into audit practice is germane to ensuretrust in auditors. This calls for internationalcomparisons of the interaction between standardsetters, court systems and the new oversightbodies established in many countries in the wakeof recent corporate scandals.

NOTES

1. Specifically, the provision stipulates thefollowing: ‘In connection with this [i.e., whenplanning and performing the audit], theauditor to a certain extent must be aware ofcircumstances that are indicative of fraud andother irregularities and that are of importanceto the users of financial statements’.



2. The audit codification process in Denmarkexperienced a shift from local Danish auditguidelines to the International Standards onAuditing (ISAs) similar to the development inother countries. In effect, Danish auditingstandards based on ISAs were implementedthrough a gradual transition from 2002 to 2006concurrent with the translation of the ISAs intoDanish (Holm & Warming Rasmussen, 2007).

3. From 1967 to 2002, the Danish auditordisciplinary system was a two-stage systemwith the Disciplinary Tribunal as the first layerand the Accountants’ Tribunal as a court ofappeal. The Accountants’ Tribunal is nowabolished and the Disciplinary Tribunal aloneconstitutes the disciplinary system.

4. No cases start out at the Supreme Court level.As a main rule, it is only possible to appeala judgment once, i.e., either from one of thedistrict courts to one of the two High Courts(if the case starts out at the first level) or fromone of the two High Courts to the SupremeCourt (if the case starts out at the secondlevel).

5. Many of the criminal provisions – in particularthe most ‘serious’ ones – are found in theCriminal Code. However, criminal provisions –in particular the less ‘serious’ ones – arealso found in other acts, e.g., the FinancialStatements Act (§164), the Auditors Act (§27)and the Companies Act (§§160–61).

6. Management fraud is defined as fraudinvolving one or more members of themanagement or those charged with governance,whereas employee fraud is defined as fraudcarried out by employees only. In either case,there may be collusion inside the company orwith third parties outside the company (IAASB,2009, §36).

7. Fraud may be divided into fraudulentfinancial reporting and misappropriationof assets. Fraudulent financial reportingis defined as intentional misstatements oromissions of amounts or disclosures infinancial statements intended to deceive usersof financial statements (IAASB, 2009, A2).Misappropriation of assets, on the otherhand, is defined as theft of a company’sassets (IAASB, 2009, A5). Compared to thedistinction between management fraud andemployee fraud, cases of fraudulent financialreporting are often, but not exclusively,characterized as management fraud, whereas

cases of misappropriation of assets are often,but not exclusively, employee fraud.

8. Examples of such schemes that the standardmentions include (1) forgery, (2) deliberatefailure to record transactions, and (3)intentional misrepresentations being made tothe auditor.

9. The six fraud cases identified in the period1976–1986 consist of 5 responsum, 1 tribunal andno court cases, whereas the 22 fraud cases in1986–1996 consist of 14 responsum, 6 tribunaland 2 court cases. As shown in Table 1, thenumber of cases in our period of interest(1996–2006) is 30, which consists of 11responsum, 12 tribunal and 7 court cases.

10. Even though the seven cases involving illegalloans are simple and straightforward illegalacts, we have decided to include them in thisstudy as they represent a subset of the totalnumber of fraud cases raised against auditorsin the period, i.e., we examine all and not asample of the fraud cases against Danishauditors. See also Fraser and Lin (2004) on theauditors’ perception of illegal acts related tofraud.

11. The size of the fines suggests differentcircumstances in each of the disciplinary cases.The two cases involving fraudulent reportinglead to relatively higher fines than the casesinvolving concealments (see Table 3). It shouldbe noted that the fine of DKK 25,000 in tribunalcase 6 (1999) relates to a fraud case involvingcriminal charges against both the managementand the auditor. Part of the circumstances isoutdated, while the part considered by thetribunal dates back to 1991 and 1992 when themaximum fine would have been DKK 50,000.This is considered explicitly in the decision ofthe tribunal court. In comparison, the sanctionof DKK 10,000 in the employee concealmentcase found in tribunal case 11 (2006) should beregarded as being considerably less harsh.

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94 C. Holm et al.



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AUTHOR PROFILES

Claus Holm is a professor of accounting andauditing at Aarhus University. He holds a PhD inAuditing, an MSc in Accounting and Auditing, andan MSc in Business Administration. He is the centredirector of the Accounting Research Centre (ARC)at the Department of Economics and Business,Aarhus University. His research interests includethe fields of corporate governance, auditing andfinancial reporting

Lars Bo Langsted is a professor of law at AalborgUniversity. He holds an LLM in Business Law. Hehas worked as Public Prosecutor at the DanishPublic Prosecutor for Serious Economic Crimeand as head of section at the Danish Ministry ofJustice. His research interests include the fieldsof economic crime, board responsibilities,professional liability and regulation of professions.

Jesper Seehausen is a professional consultant forBeierholm and an external associate professor atAalborg University. He holds a PhD in Accountingand Auditing, and an MSc in Business Economicsand Auditing. His fields of interest includeauditing, accounting and auditing regulation,going concern, auditors’ reports, fraud andeconomic crime, company law, management andauditor responsibility and liability, accounting,auditing and legal research.

