Case 5.1

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The Fund of Funds: Valuation of Investments

1. Arthur Andersen did not rely on competent and sufficient audit evidence in auditing the valuation assertion related to FOF’s natural resources assets. According to Paragraphs .21 of AU Section 326, to be competent, evidence must be both valid and relevant. Evidential matter obtained from independent sources outside an entity provides greater assurance of reliability for the purposes of an independent audit. However, many aspects of the National Resources Fund Account (NRFA) audit were completed by using the records of KRC instead of the fair market value. The number they used may contain errors or even fraud. Since FOF had no means of valuing the assets proposed for investment by NRFA and did not possess the industry expertise to do so, the numbers obtained were not valid and reliable. Furthermore, Andersen staffers even worked on both the KRC and NRFA audits contemporaneously, which led to the lack of independence. When they found that KRC’s profits on sales to FOF were 68.2% which were the highest, as compared with average profits on all sales of nearly 36%, Anderson did not do any further research to gather more evidence. Their weak professional judgment led to the insufficient evidence.

2. Additional evidence to strengthen the Summary of 1968 Sales” would have been the inclusion of valuation and revaluations of properties resold. As was later discovered, King resold a “special inventory” of properties to FOF at a profit margin of anywhere from 98.7% to 57%. Internal memos within the company would have been helpful in identifying these situations when compiling the “Summary of 1968 Sales.” Arthur Andersen had this information available to them but chose not to disclose it to their other client, FOF.

A piece of evidence that could have strengthened the of the Summary of 1968 sales in the opposite direction would have been the apportioning of overhead and other charges not directly related to the sales....