Accounting Ethics (and fraud)

Postings by Art Berkowitz on ethics and fraud. Most of them are serious, but sometimes we also need to have a little fun.

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Location: Orange County, California, United States

Art Berkowitz, C.P.A. is an author, speaker, and consultant from Orange County, California. He writes ethics, fraud, and accounting courses (CPE) for accountants and other financial professionals. Art has also written a weekly online column for The Wall Street Journal and a book on the Enron debacle. To order any of his self-study courses go to www.artberkowitz.com

Wednesday, June 01, 2005

Public Interest Meets Turf Wars and Self-Interest

The high profile of the corporate scandals might lead some people to believe that opposing corporate reforms would be bad for their health. But when self-interest and personal power are at stake, even such clear issues as promoting transparency and corporate ethics have trouble bearing the weight.

The Public Company Accounting Oversight Board (PCAOB) was established by Congress to provide independent oversight over the preparers of financial information and the professions that help ensure their integrity. So when the PCAOB issues new standards to protect the public from overly aggressive corporate executives, one would think that everyone except the crooks would be rallying ‘round the flagpole.

Well, not quite!

You see, Congress specifically gave the PCAOB authority only over financial statements issued by publicly-held companies.

Are there others? Sure.

Banks want to make sure the companies they lend money to are being truthful. So do bonding companies who ensure the integrity of most contractors… and partners who might not be involved in the day-to-day activities of the company.

You get the idea. There are plenty of others who would like to be sure that the financial information they receive is truthful and clearly presents all of the information they need to know (what has become known as transparency).

So what is the problem?

Well, that’s where the turf war comes in.

The American Institute of CPAs, a professional organization of the CPA profession, was not overly thrilled about seeing a good chunk of their authority whisked away in the name of integrity. In fact, they looked downright incompetent during the Congressional hearings, since most of the scandals had taken place during their watch. Not that they were responsible for the corporate executives who secretly paid themselves hundreds of times the compensation that they had been receiving just a few years earlier or for the auditing firms like Arthur Andersen that decided that bottom line profits were more important than the integrity they had sworn to uphold. But somehow Congress and the public got this idea that people who had a personal self-interest in the outcome of the controls might not be the best people to be in charge of the regulatory process.

In May 2004, the non-independent AICPA issued a “white paper” to remind CPA firms that they were the boss when it came to nonpublic financial statements. In June, the PCAOB issued a series of questions and answers under heavy pressure from …well you decide.

Here are some examples:

If a CPA firm adopts the stricter standards of the PCAOB and refers to those standards in an audit report of a non-issuer , does the auditor represent that he or she has complied with the Commission’s auditor independence requirements? NO

Does a reference to the “auditing standards of the PCAOB” or to “the standards of the PCAOB” in an auditor’s report on the financial statements of a non-issuer imply that the non-issuer is subject to, or otherwise complied with, some or all of the provisions of the Act and other securities laws or the Commission’s rules and regulations? NO.

Does inclusion of a reference to the Board’s standards in an auditor’s report on the financial statements of a non-issuer cause the audit to become eligible for review as part of the Board’s inspection? NO.

If a non-issuer elects to have its financial statements audited pursuant to the Board’s standards, must it also have its internal control over financial reporting audited pursuant to the Board’s Auditing Standard No. 2, “An Audit of Internal Control Over Financial Reporting Conducted in Conjunction with an Audit of Financial Statement”? NO.

So much for turf wars, what about the self-interest?

Congress was very careful during the Congressional hearings on the scandals to remain neutral in the area of accounting standards. They recognized that an independent body, the Financial Accounting Standards Board (FASB) had been established several years earlier to ensure that experts in the field who had “no axe to grind” would be in charge of issuing the rules covering accounting standards. They recognized that many of the problems included in the Income Tax Code were the direct result of partisan pressures and political self-interest. Now the reasons for the independent body are becoming clear again.

Although experts from across this country and around the globe have clearly stated that financial statements that do not include stock options as a cost of doing business are a distortion of the concept of transparency and the integrity of financial statements, some members of Congress have put their political self-interest ahead of the principles they espouse. Interestingly, some of the supporters of the measure to restrict what the independent FASB is permitted to do, include pro-consumer advocates like Senator Barbara Boxer, who is up for re-election in a state that has influential high-tech companies that use stock options and oppose the new FASB rules.

Reprinted from July 2004 press release

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