Audit Scandals

 

In the last 20 years frequent headlines have exposed unethical corporate behavior, misleading accounting practices, and incompetent and illegal auditing processes. There were many scandals from 1990 through 2010 that led to the increase in audits,  controls governance and the passing of Sarbanes Oxley legislation.

 

Companies such as Enron, Adelphi, Xeros, Arthur Anderson, ImClone, Tyco, and Worldcom, to name just a few, have given us a glimpse into the misbehavior of some executives and made the public aware of inadequacies in corporate governance, and the potential risk. Corporate greed and malfeasance have resulted in criminal indictments of corporate executives for inflating earnings, falsifying financial statements, disguising company financial conditions, and misappropriating assets.

 

Today, corporate America is on shaky ground. The public’s reaction is difficult to measure. Stock market performance is volatile and unpredictable, and there are countless instances of financial disappointment and loss. Corporations at risk must redeem credibility, pass external audits, and demonstrate strong controls to the satisfaction of government. They must also be able to stand up to public scrutiny.

 

The repercussions of fraudulent and inappropriate accounting and control practices can be widespread. The company’s stockholders and creditors may experience loss; employees may suffer job loss and diminished retirement savings. Depositors in financial institutions, auditors, and accountants may be subject to investigations. Attorneys, insurers who write officers’ liability policies and experience large claims, customers who depend on the company’s products, merger companies who enter into partnership based on erroneous finances, and even companies whose reputations can be tarnished by association, may all be affected.

 

It is critical that corporations regain a sense of ethical and honest behavior and return to basic effective corporate governance. It is vital that strong, solid, and well executed audit programs be established to provide management teams with the necessary tools to restore trust and sound operations. Unfortunately, we can no longer put all of our faith in external audit organizations. Internal audit infrastructures must be the primary focus. Emphasis needs to be placed on establishing ethical standards and expectations, audit education, acceptable behavior, financial preparation, open and honest communications, and on the implementation of sound business practices and controls.  

 

Here are some highlights of the scandals mentioned above:

 

Enron 

• Shareholders lost nearly $11 billion by the end of November 2001 

• Enron’s nontransparent financial statements did not clearly depict its operations and finances with shareholders and analysts

• Executives created complex financing structures and so bewildering that few people could understand them

• Enron used special purpose entities, including limited partnerships or companies created to fulfill a temporary or specific purpose to fund or manage risks associated with specific assets and hide Enron losses

• Enron tried to persuade agencies to change their rating

• Enron filed for bankruptcy on Dec 2, 2001 under Chapter 11

• Some executive were indicted for various charges and sent to prison 

Adelphi Communcations Corporation

• In March 2002, the Rigas family, founders of the Adelphi , the nation’s fifth largest cable company, borrowed more than $2 billion from the company and was responsible for each other’s debt – the Rigas family used the money for lavish spending

• After a 4 month trial, prosecutors stated that the Rigas family treated the company like their own ATM machine. The family was convicted of conspiracy, security fraud and bank fraud and were sentenced to jail for more than 15 years.   

HealthSouth

• HealthSouth was involved in a corporate accounting scandal where the CEO was accused of directing company employees to falsely report grossly exaggerated company earnings in order to meet stockholder expectations

• By mid 2006, HealthSouth completed its recovery

Xerox 

• In June 2002 an audit showed that Xerox improperly posted revenues before they were actually made

• The SEC had estimated in April that there was an overstatement of $3 billion from 1997 to 2000

ImClone 

• On August 8. 2002, the CEO was arrested on security fraud charges

• There were charges of obstruction of justice and bank fraud in addition to security fraud and perjury charges

Tyco 

• Shareholders were not informed of $170 million in loans that were taken by Tyco’s CEO , CFO and chief legal officer. They were taken interest free and not approved by Tyco’s compensation committee.

• The former CEO was accused of using company funds to purchase $18 million for an apartment in Manhattan

• Tyco was also involved in a practice known as spring-loading, a financial manipulation in which the pre-acquisition earnings of the acquired company are unreported so as to give the merged company an artificial boost 

Worldcom 

• An internal audit discovered that $3.3 billion in profits were improperly recorded on its books from 1999 to the first quarter of 2002

• The company improperly reported $3.8 billion in expenses as capital investments

• The suspicion was that WorldCom deliberately inflated its reserves to be able to dip into them to boost profits in order to meet profit projections

• The CEO and former CFO were arrested and handcuffed in front of TV cameras

• They were charged with securities fraud, conspiracy and other charges  

Arthur Anderson   

• Arthur Anderson, the external auditing firm of Enron, shredded more than 2 tons of documents before Anderson received word of being under  investigation

• On March 14, 2002 the Justice Department announced the criminal indictment of Arthur Anderson

• On June 15, Arthur Anderson was found guilty on charges of obstruction of justice and the firm was fined a maximum of $500,000. On August 12, Arthur Anderson ceased operations

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