The Determination of Audit Responsibilities: An Application of Agency Theory.

When auditors perform a standard audit, they are operating in an economic environment where the level of their audit responsibilities to investors is ultimately determined by the courts. The exposure to litigation that auditors face in this environment is difficult to anticipate or prepare for because courts, over time, change the level of these responsibilities. To provide auditors with an approach for anticipating and preparing for possible court-initiated changes in audit responsibilities, this paper uses agency theory to describe the investor-auditor relationship and how the courts monitor disputes that arise in this relationship. The Hochfelder cases, which are generally recognized as being crucial cases in the determination of auditor responsibilities, are used to demonstrate the relevance of this approach. Finally, the paper suggests how this approach might be used to anticipate the outcome of court cases and prepare for future changes in audit responsibilities.