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Summer, 2012 by Rick Kravitz, CPA, MBA, CGMA, FACFEI Center for Socially Responsible AccountingProtecting the Public Interest
Background • CPA’S and Public accountants constitute the largest army of independent observers of corporate behavior • Accountants are no less moral or ethical today than they were before • Public accounting is a new profession barely over 100 years old • Underlying principles that guide this profession were not even codified until 2009 • Conflicts exist between AICPA and PCAOB Interim Professional Standards • No global convergence (condorsement) of International Standards until 2015(?) • Accounting principles not based on fact, case law, statutes, regulations, scientific or empirical observation. 2
Public accounting and The Great recession • The public accounting profession has been held virtually blameless for its role in the events that led up to the financial meltdown. • Wealth destruction in excess of over $30 trillion dollars resulted in permanent loses for some, a decade of recovery for others and has forced people into starvation in third world countries.
Measuring Outcomes – How did we Do? • “If public audits were measured by their outcome similar to how we measure Medical outcomes, medical research or even a social science experiments, the results would be unsettling. “ • PUBLIC AUDITS IN CONFORMITY WITH GAAP AND GAAS PRINCIPLES • failed to identify the largest global corporate failures in history, • failed to disclose trillions of dollars of off balance sheet assets that seized the markets. • failed to unearth shadowy investments, massive mortgage frauds, Ponzi Schemes. • Clean audits delivered months before the implosion of formally healthy businesses. • MF Global, AIG, Olympus Camera, Parmalat, Satyam • Federal National Mortgage Agency (un-booked liabilities of another trillion dollars) • Federal home loan mortgage corporation, • Lehman brothers, Washington mutual, • Hurried acquisition of Merrill lynch by Bank of America • 67,100 Suspicious Activities Frauds reported to the FBI 4
Accountants not responsible for uncovering fraud • Accountants have abandoned George May’s (founding father of auditing) ‘zeal to protect the public trust…use accounting as a social force…) • Failure to uncover fraud is the greatest disparity between public’s perception and industry perception • Plagues the accounting profession in the eyes of the public • No major fraud has been uncovered by an accounting firm • Failed assumption that ‘separation of duties’ and internal controls protects against fraud • Sarbanes Oxley failure (world’s greatest frauds committed under the watchful eye of the PCAOB)
Financial Fraud • 10 year SEC study - ¾ of the frauds are committed by or with the knowledge of the CEO • Fraudsters are not that hard to find • Fraudster are not particularly clever in the way they defraud the business • Wasendorf (PFG), Corzine (MFG), Kozlowski, Ebbers, Skilling, Fastow, Tanzi, Kanebo, Satyam, Stanford, Madoff, Drier
Financial Fraud[REVENUE RECOGNITION] • GE’s legendary ability to deliver consistent earnings growth (GE settles claims of fraud…agrees to pay $50 million [August,2009, Financial Times]) • Beazer Homes earnings management scheme to meet or exceed expectations [July,2009, AICPA Forensic and Valuation Reporter] • Xerox’s advanced recognition of lease transactions • Paragon Construction’s accelerated contracts • Sunbeam’s channel stuffing revenue upsides • Rite Aid’s revenue smoothing techniques • Crazy Eddie’s – he just made up the numbers • Adelphia, Enron and PNC’s related party sales • Enron and Dynegy’s double booking • Waste Management, Knowledge Ware and others who manufactured their own creative recognition techniques • Satyam allegedly inflated revenue and falsified data • Citibank - $40 billion civil charges for dumping toxic mortgage assets to the public. • GE Capital – municipal finance bid rigging allegedly defrauded public entities. • $390 million theft from K1 Hedge Fund representing small global investors Summer 2012
Socially Responsible Principles • Protecting the public interest, protecting the public trust : • Shareholders and investors • Employees • Vendors/suppliers • Communities and government (municipal and federal) • Customers 8
Socially Responsible Accounting Principles and Practices • Sustainable (corporations live beyond the next CEO) • Honest, accurate, transparent (full disclosure-nothing is left out), truthful • Legally defensible (reasonableness standard) • Independently measures financial risk of the enterprise • Independently represents the true financial condition of the company not only at a point in time but over time • Results in Improved accountability to the public • Legitimates our principle rason d’être- to serve society and protect the public 9
WAITING TO HAPPEN • Banks trim debt at quarters obscuring risk (41% increase in risk hidden) WSJ,5/2010. • $6 trillion of public pension liability not on state, city or federal balance sheets. • $1 trillion of FNMA and student loan liabilities not on balance sheets • 60 trillion dollars of off sheet financing (repos, leveraged swops) Summer 2010