Foxes wearing green eyeshades. Hardly one of Aesop's Fables.
It's really the Tale of the Two-Faced Accountants, who are paid by their corporate clients yet under the law are obligated to prevent the clients from fooling the public through financial fraud.
Accounting firms were put in this position during the early 1930s after several financial scandals. The US government asked them to audit company books because it didn't want the job.
So the job of guarding the chicken coops was given to the foxes. Auditing fees, increasingly tied to consulting work, have skyrocketed since. Is it any wonder that public companies have been able to practice deception for so long? Now there are cries for reform after the Enron Corp scandal brought huge losses for investors and others. Will the company's collapse bring real change? Enron plumbed the depths of cooking books. With the help of investment bankers and lawyers, it created special-purpose entities and finance tools that generated phantom profits and kept debt off its balance sheet. In effect, it borrowed huge amounts of money, using its upward spiraling stock and questionable assets as collateral. When its stock tanked, the structures collapsed.
Arthur Andersen LLP, Enron's former auditor, has just been indicted by the government for obstructing justice by shredding crucial evidence in possible negligence and fraud charges facing itself and its client.
Damage control
Even as Andersen vigorously denies the charges, clients are abandoning ship and partners and offices are threatening to join other firms. The firm is hastily seeking to sell parts of its worldwide network to avoid complete liquidation.
But the sad truth is that Andersen has been hardly alone in allegedly permitting audit clients to dress up financial reports with smoke and mirrors.
KPMG LLP ran afoul of book cookers Penn Square Bank and National Student Marketing Corp in the past. Coopers & Lybrand LLP, now part of PricewaterhouseCoopers LLP, paid an out-of-court settlement worth millions of dollars after permitting MiniScribe Corp, a disk-drive maker, to ship bricks to a warehouse in order to create profits.
Accountants have let clients keep debt off their balance sheets for a long time, too. In 1980, when Norton Simon Inc owned the Avis rental-car company, it set up a trust to borrow money to buy cars for the unit.
During that same year, J.C. Penney Co sold US$273 million of receivables to Citicorp Inc, recorded the transaction as a sale, and used the cash to remove the debt from its balance sheet. A year later, after Penney found out that rulemakers were on the verge of stopping this practice, it bought back the receivables at an US$11 million loss and sold them to its own finance unit, again taking them off its balance sheet.
Energy companies have set up joint ventures that conceal debt because, under byzantine accounting rules, only majority owners have to consolidate debt. By owning 50 percent or less, companies can hide it.
Focusing on financial fraud, a key question arises: Should accounting firms be permitted to do consulting work for audit clients? Severe critics say the firms can police their own criminal activities when they do.
Years ago, Harold Williams, then chairman of the Securities and Exchange Commission, warned accountants that consulting for audit clients could result in a conflict of interest. His premonition was ignored.
Issue of the moment
Now Williams' warning is on everyone's lips. In the wake of recent big audit failures at Cendant Corp, Waste Management Inc and many dot-coms, the big accounting firms are rushing to shed most consulting.
Still, not too long ago, companies such as Enron even began outsourcing internal audit functions to their outside auditor -- a process obviously rife with conflict-of-interest issues.
US Senator Ron Wyden, a Democrat from Oregon, sounded the alarm more than 15 years ago while serving in the House. "It's like watching a baseball game where the same person is the batter, fielder, baserunner and umpire, and then sells popcorn, takes tickets and sings the national anthem," he said.
If anyone is listening today, auditors can be made more independent. Public companies should pay their audit fees into a government-regulated pool, from which outside auditors would collect fees. This would stop the cops from being paid directly by those they are supposed to police.
There should be no financial link between the audited company and the auditor. Outside auditors should not -- repeat, not -- do any consulting work for audit clients, especially not handling the clients' outsourced internal audit function.
Auditing firms should be rotated every five years or so, enabling them to remain independent from clients. And last but not least, all accounting education should stress ethical behavior above toting up the numbers.
Hopefully, the Enron scandal can spur such reform because the stakes are so high, the losses so pervasive and the headlines so glaring. But after decades of deception, it's hard to imagine that accountants, once labeled the Escoffiers of fraud, will stop helping their clients cook their books. Greed has a big appetite.
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