Fraud detection in accounting - Essay Example

Background information "While the company grew rapidly through the 1990s, some of the worst manifestations of its culture -- obsessions with bonuses, the stock price and exotic accounting -- were also growing, and out of control. Though the corporation's character flaws can be traced to its earliest days, they flourished under top executive Jeff Skilling. He didn't act in a vacuum. Enron had a distracted, hands-off chairman, a compliant board of directors and an impotent staff of accountants, auditors and lawyers. But it was Skilling's relentless push for creativity and competitiveness that fostered a growth-at-any-cost culture, drowning out voices of caution and overriding all checks and balances." (Fowler, 2005) Enron has developed into becoming a part of America's top ten companies in the span of nearly two decades. Their sudden rise to power seemed impossible to many industries in the financial world. However, the scam which brought upon Enron success was discovered. The controversy involving powerful institutions has made an immense impact in the corporate world leading to their downfall and the implementation of stringent laws of the government. Enron and Arthur Andersen faced the collapse of their careers which affected the industry and the birth of the Sarbanes-Oxley Act. The largest bankruptcy in history marked the existence of fraudulent accounting procedures by Enron and Arthur Andersen in 2001. the once blue chip stock ended up to be valued for small meager amounts. Most of Enron's profits were from transactions with controlled limited partnerships which turned into debts that were not reported on its financial statements. The issue or problem that led to the (alleged) violation. Deception was the name of the game for Enron. They concealed their controversial and suspicious dealings and transaction with their growing debt so that they appear debt-free and admirable to stockholders and the public. At last, every lie and cover up was made known to many when the company suddenly and unexpectedly filed for Chapter 11 Bankruptcy. That was their last resort. Not even company partnerships and affiliations could save the money and the glory of Enron. When the news of bankruptcy of Enron was revealed, the reasons behind Enron's downfall remained unclear and uncertain. There were mixed reactions among businessmen, politicians, stockholders and others. Most of them were enraged while some felt concerned. There were those who were not surprise that the discrepancies with the financial statements could actually happen. It was as if it was the common habit among those who wish to decrease their debt. Questions such as the reason behind the downfall as well as the possible ways and means for preventing bankruptcy rose among the interested public. What hindered the company or the government from foreseeing the end of Enron Was there money laundering or fraud behind the scandal If there was, has the laws implemented by the government sufficient to verify the financial records of Enron Management's involvement in the alleged violation. To shed light on the Enron controversy, a whistleblower, Sherron Watkins, decided to confess all the financial secrets of the company. The government took its role by initiating an investigation powered up by some of the congressional committees. Aside from Watkins, other key players admitted their involvement and decided to testify while some still pleads not guilty. The involvement of an accounting firm as reputable as Arthur Andersen with the controversy, heightened the interest of the public as well as legislators, economists and politicians. The firm also experienced a great loss even though the verdict has not yet been announced. Their clients retracted their loyalty and shifted to other competitive firms. Some employees resigned and sought other jobs from other companies. The accounting firm did a great job on the falsification and manipulation of Enron's financial statements that the discrepancies remained unnoticed to the public and to the government. "Enron executives, auditors, lawyers and board members are all to blame for allowing improperly created partnerships to inflate the company's earnings, hide its debt and wrongfully enrich a handful of insiders, said a report released Saturday. The harsh report from an internal investigation also revealed that Enron overstated profits by $1 billion in the last two years, far more than previously reported. It also detailed how several executives pocketed more than $40 million from partnerships that were poorly monitored and controlled by those in positions of responsibility, including the board of directors." (Fowler, 2005) Any involvement by outside parties, particularly auditors, in the alleged violation. What they do or fail to do that allowed the violation to occur. What could/should they have done differently "Kenneth Lay, the former Chairman of the Board and Chief Executive Officer and Jeffrey Skilling, former Chief Executive Officer and Chief Operating Officer, went on trial for their part in the Enron scandal in January 2006. The 53-count, 65-page indictment covers a broad range of financial crimes, including bank fraud, making false statements to banks and auditors, securities fraud, wire fraud, money laundering, conspiracy and insider trading. U.S. District Judge Sim Lake had previously denied motions by the defendants to hold separate trials and to move the case out of Houston, where the defendants argued the negative publicity surrounding Enron's demise would make it impossible to get a fair trial." (Fowler, 2005) Corporate governance is a duty that a CPA has to fulfill in a morally and ethically acceptable manner assuring that all components are meeting the compliance guidance and the monetary information is reported impartially and transparently. These misdeeds render the financial statements unreliable, inaccurate but suited to the purpose of creating a misleading impression on the business' financial status. Most of these scandals were not immediately noted because of the negligence of public accounting firms in their execution of duty. In these cases, Forensic Accounting is very relevant as it can be applied in preventing, detecting and investigating financial frauds like embezzlement, securities fraud, tax evasion and money laundering schemes Auditors could have provided the management information to the senior management, consolidation of Annual Operating Plan and Quarterly Profit Estimates for all departments, tax advisory and tax planning, continual improvement to finance systems, establish policies and provide guidance, contribute to establishing robust financial control environment across the different departments and promote consistency and align various departments with companies' finance infrastructure. Any issues that affect or endanger the company's financial information could have been discussed to the senior management by the auditor through presenting documentations and financial statements to back up their position. Advisory on recent developments in regulatory framework with emphasis on regulations and establishing policies across the different departments is also a part of the functions of the auditor. Management Information Finance provides an array of MI to companies' senior management. This information is both statistical and financial in nature while the frequency of requirement varies from designated intervals to ad-hoc. Further, analyses should be made based on historical data as well as forecast data there by creating models for the future operations of the employees and management. The procedure of complying with the legislation largely involves the documentation of actions and dealings used within companies. However, improvements to interior controls weren't mandated, so some companies completed no enhancements to their control procedures. The work required by such regulations has really formed a paperwork exercise for companies. They have reams and reams of paper that provide proof of what and how the company does in regards to financial data and operations. Public company auditors should disclose out their audit with the Centre Managers or Function Head. For audits covering multiple departments, e.g. payments audit covering different company sites ensure that apart from closing out the audit with the respective Centre Managers, the Group Auditors should ideally have closing meetings with both Chief Operating Officers and if due to practical problems this is not possible, then at least with one. Once a public company has been provided with an audit report, an individual should be given responsibility and accountability for resolution of the audit comments. This should be included in their primary responsibilities until the majority of items are resolved. Ideally, this accountability should rest with the Head of the Process, e.g. Vice President. Make sure to only close audit items when they are fundamentally and comprehensively resolved. Deadlines must be set carefully and agreed formally - if unrealistic time constraints are set to close the audit items, there will be the inevitable temptation to compromise standards which is the slippery slope to repeat recommendations at the next audit. A thorough audit trail should be established to track and record the actions agreed and undertaken to close out each audit recommendation. Where required, a file (soft copy advisable) should also be maintained so that all correspondence relating to audit resolution can be retained. The management team is accountable for full resolution of the audit items on time and is directly accountable for any repeat recommendations. For issues identified as "Low risk" and reported separately as "Miscellaneous Low Risk Recommendations Document", the response will have to be directly provided by the Centre Manager / Function Head to the Group Auditors within two months from the receipt of the document. The regulatory bodies are successful in their goal to improve the management of financial services. New laws are being drafted and reviewed and amendments are also being looked into. This is a good sign that the regulatory bodies are taking part in gathering the response and feedback of the people in the financial industry and that they are also able to evaluate the effectiveness and appropriateness of the rules that they promulgated. Aside from the regulations being set by the government regarding the delivery of financial services, the financial institutions and investors should also take part in making the financial system efficient, fair and progressive. The modern-day CPA is instrumental to company's success. AS cash flow pulsate through the organization, this individual is at the heart of what is happening. If finance is to play a general management role in the organization, the internal auditor must be a team player who is constructively involved in team operations and company's overall strategy. Aside from monitoring the flow of money inside the company, the auditor with the help of management will also be able to lessen the risk of manipulation of financial data entry. Conclusion: "Ken Lay was found guilty May 25, 2006, on all six counts that relate to Enron fraud, including conspiracy to commit wire fraud, perpetrating wire and bank fraud, and making false and misleading statements to employees at a company meeting, as well as to banks, securities analysts and corporate credit-rating agencies. He also was found guilty the same day on four other bank fraud counts in a separate case on his personal banking." (Fowler, 2005) The implications of the scandal in the political arena was expected since it had close ties with the White House due to the fact that the once prestigious company spent millions of dollars to support Bush's presidential campaign last 2002 elections. Aside from that, Enron's chief executive had personal and friendly relationships with Bush. The latter distanced from Kenneth Lay to prevent any public misconceptions. The investigations of the scandal also revealed that the company requested the presence of two US cabinet members preceding their file for bankruptcy. Even the current vice-president Dick Cheney did not escape the political associations between the government and Enron. The vice resident had several meetings with the executives of the company in lieu of their energy administration plans. The economic implications of the Enron case included the accounting industry's review of their financial policies with the fear of having the same fate as Enron. Other companies who also used the same aggressive accounting methods as Enron have been affected. They steered away from the limelight and have seemed to have lay-low for the meantime while the issues are still steaming. Enron was not the only one negatively affected by the scandal for the same fate went to Arthur Andersen. He was found guilty of destruction of financial records which proved that they had dealings and transactions with Enron. "Jeff Skilling was sentenced to prison for 24 years and 4 months. Appealing the conviction. Found guilty May 25, 2006, of 19 of the 28 counts accusing him of insider trading, securities fraud and conspiracy. In 2002, Andersen was convicted of witness tampering for shredding documents related to its audit of Enron. Since the Securities and Exchange Commission does not allow convicted felons to audit public companies, the firm agreed to surrender its licenses and its right to practice. In 2005, the Supreme Court of the United States unanimously overturned Andersen's conviction due to flaws in the jury instructions. In the court's view, the instructions allowed the jury to convict Andersen without proving that the firm knew it broke the law or that there was a link to any official proceeding that prohibited the destruction of documents. (Fowler, 2005) The existence of corporate fraud was verified by the emergence of the Enron case. With this, President George W Bush enacted a new law which targets the detection and prevention of company fraud. The US Pension regulations underwent scrutiny when it was found out that the worker of Enron lost a huge amount of money due to their pensions scheme being invested largely in Enron's own stocks. It may take sometime to convict those who will be found guilty and vindicate those who have remained innocent after the trial. Like any other children's story, what did the public learn from the Enron controversy The accounting profession tried to reconsider its structure and policies to be able to take notes of those that need to altered, added or deleted completely. They are struggling to turn the crisis into a learning opportunity. The response of the accounting profession and regulation was the enactment of the Sarbanes-Oxley Act of 2002. it has always been known internationally that the laws of the United States involves strict rules in governance with high dignity of professionalism stipulated. The certified public accountants succumbed to the need for changes in its leaders. Their unity enabled them to for a new organization known as Public Company Accounting Oversight Board. The power of the external auditor was introduced in the realm of internal controls which resulted to private and public companies implementing stringent measures to the veracity and accuracy of their financial records. These regulatory and professional responses to the Enron crisis strengthened the requirements of companies to increase the assurance of their complete adherence to the Sarbanes-Oxley Act. The legislation not only affects the financial side of corporations, but also affects the IT departments whose job it is to store a corporation's electronic records. This Law subjects companies to keep their financial documents for five years. The consequences for non-compliance are fines, imprisonment, or both. The SOX were promulgated to completely modify corporate governance. The auditors became well-equipped with knowledge and skills to easily and accurately detect fraudulent activities in a company. They will succeed once they are able to achieve cooperation with the firms and companies in terms of the adherence to the new laws and regulations pertaining to accounting guidelines. The employees of the accounting firm as well as the workers from the institutions were also empowered by giving them the opportunity to learn and to ask when they believe that there is a possibility of fraud or falsification. In view of the recent technological advancement the role of the accountant is still indispensable in the industry. Nowadays, a lot of businesses make use of the computerized accounting procedure through Accounting Software wherein you will only need to do the initial step of data input or journal entry up to the preparation of its own books of accounts. The new computerized accounting procedure can also aid in reinforcing technical procedures and enhance student's marketable skills. However, this can provide a limited knowledge because the students are not exposed to the "real-world" of accounting systems. It will still be necessary for the students to gain first hand experience of the conceptual aspects of recording transactions rather than forcing them memorize journal entries and pronouncements In spite of the abovementioned advantages of the computerized accounting procedures, there are also disadvantages in using this system. The decision making and analytical part of the accounting procedures are not performed by the computer itself. This is where the role of an accountant is proven to be significant and essential in relation to the technological development in the business world. Aside from since Accounting processes are available on line, turning to the web to search for solutions, to interconnect and to share techniques has be the trend in accounting as online resources continue to expand. There is also a growing increase on line transactions where internet companies act as agent -facilitator and for dot.com companies who trade advertising spaces on each other's sites. Business executives sometimes with the cooperation of officials in other corporations or affiliates resort to so called "creative accounting" resulting to accounting scandals and commission of fraud. Creative accounting pertains to misdeeds by said trusted executives which involve overstating of revenues which is the most significant account in the financial statements, understating expenses and liabilities, overstating corporate assets. "The long-term trials and implications of Enron's collapse are somewhat unclear, but there is considerable political fallout both in the U.S. and in the UK relating to the money Enron gave to political figures (around US$7 million since 1990). During Clinton's eight years in office, the company and Lay contributed about $900,000 to the Democratic Party. In 1999 and 2000, the company gave $362,000 in soft-money donations to Democrats. Since 1996, between 72% and 94% of yearly American contributions went to the Republican Party, including heavy contributions to George W. Bush's presidential campaign." (Fowler, 2005) Fraud detection and deterrence should be a required part of the accounting curriculum. Accounting education needs to teach future CPAs the skills to effectively meet the public's expectations in the area of fraud. This includes a basic knowledge of criminology and the laws related to fraud, the fundamentals of investigations, and the various types of fraud schemes. Although more colleges are offering a fraud-examination course as an elective, basic knowledge of fraud detection and deterrence is essential to success in today's professional environment. American Institute of Certified Public Accountants (AICPA). "Summary of Sarbanes-Oxley Act of 2002." http://www.aicpa.org/info/sarbanes_oxley_summary.htm. 2005. Arnold, James. "Markets suffer from 'Enronitis.' BBC News Online. http://news.bbc.co.uk/1/hi/business/1809266.stm. February 8, 2002. Fowler, Tom. "Skilling Gets 24 Years In Prison For ENRON Fraud." Houston Chronicle (2005 The Associated Press. "Delistings surge after Sarbanes-Oxley, study finds." Business News. December 13, 2004. The CPA Journal. "Beyond Sarbanes-Oxley compliance: five keys to creating value." Business and Management Practices. Vol. 74, No. 6, Pg. 11. June 2004. Donaldson, William H. "Impact of Sarbanes-Oxley Act." Capital Hill Hearing Testimony before the Committee on House Financial Services. April 21, 2005. The Economist. "Sarbanes-Oxley: A price worth paying" The Economist. May 19, 2005. The Economist. "WorldCom. Another cowboy bites the dust." July 27, 2002. Field, Alan M. "Adding tough new teeth; The Sarbanes-Oxley Act places new demands on global traders." Journal of Commerce. Special Report2; pg. 54. June 14, 2004. Financial Executives International (FEI). "Sarbanes-Oxley Compliance Costs Exceed Estimates." http://www.fei.org/news/press.cfm. March 21, 2005. (1) Briner, Russell F, "Subtle Issues in Revenue Recognition", CPA Journal, March 2001 "Revenue Recognition in Financial Statements", SEC Accounting Bulletin No. 101, December 3, 1999. Turner, Lynn E, "Audit Effectiveness", SEC Accounting Bulletin No. 101, October 7, 1999. Read More