The Firestone Group, Ltd. (Firestone), a company engaged in real

Question
The Firestone Group, Ltd. (Firestone), a company engaged in real estate development, entered into a contract to sell nursing homes it owned to a buyer. The buyer paid a $30,000 deposit to Firestone and promised to pay the remainder of the $28 million purchase price in the future. The profit on the sale, if consummated, would have been $2 million. To raise capital, Firestone planned on issuing $7.5 million of securities to investors. Firestone hired Laventhol, Krekstein, Horwath & Horwath (Laventhol), a national CPA firm, to audit the company for the fiscal year. When Laventhol proposed to record the profit from the sale of the nursing homes as unrealized gross profit, Firestone threatened to withdraw its account from Laventhol. Thereafter, Laventhol decided to recognize $235,000 as profit and to record the balance of $1,795,000 as “deferred gross profit.” This was done even though, during the course of the audit, Laventhol learned that there was no corporate resolution approving the sale, the sale transaction was not recorded in the minutes of the corporation, and the buyer had a net worth of only $10,000. Laventhol also failed to verify the enforceability of the contracts. Gerald M. Herzfeld and other investors received copies of the audited and invested in the securities issued by Firestone. Later, when the buyer did not purchase the nursing homes, Firestone declared bankruptcy. Herzfeld and the other investors lost most of their investment. Herzfeld sued Laventhol for securities fraud, in violation of Section 10(b) of the Securities Exchange Act of 1934. Is Laventhol liable? Herzfeld v. Laventhol, Krekstein, Horwath & Horwath, 540 F.2d 27, Web 1976 U.S. App. Lexis 8008 (United States Court of Appeals for the Second Circuit)

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