P-S-S-T . . . WANNA BUY A GOOD AUDIT?
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Spotting the BIG FIVE
Sightings from The Catbird Seat
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July 23, 2001
Cozy Deals Alleged!
How ‘independent’ are those book checkers?
By Marianne Lavelle, U.S. News & World Report
The numbers arriving in investors’ mailboxes may banish forever their image of accountants as green-eye-shaded drones.
Accounting firms seem neither dreary nor detached now that it is clear, thanks to new federal disclosure rules, how much money they’ve been making from their cozy relations with the very companies they audit.
Only 27 cents of every dollar companies paid their independent auditors last year had to do with the all-important sign-off on corporate financial statements. The rest went for services that the so-called Big Five accounting firms have branched into, from information technology to management consulting. The accounting firms point out there’s nothing illegal about doing other work for auditing clients, and last year the Securities and Exchange Commission lost a bitter battle to prohibit such activity.
Former SEC Chairman Arthur Levitt, as part of his drive against “accounting hocus-pocus,” said regulations were needed to assure investors that auditors had no reason to hide corporate financial woes. But accounting-industry friends in Congress threatened to block the new rules, so the SEC compromised by requiring firms for the first time to disclose what they paid their outside accountants for audit and other services.
“Eye-popping” is how Patrick McGurn of Institutional Shareholder Services in Rockville, Md., a proxy advisory service, describes the numbers released so far.
An SEC analysis of 563 proxy statements filed by big companies this year shows Big Five firms made $5.8 million in nonaudit fees from the average client, while pulling in only $2.2 million for audit work.
“The numbers demonstrate he problems may be larger than were originally thought,” acting SEC Chairwoman Laura Unger says.
The auditor independence issue may take a back seat once President Bush’s choice for SEC chairman, Washington lawyer Harvey Pitt, takes the helm. Pitt, whose name was sent to the Senate last week for approval, has represented the Big Five and questioned the need to rein in consulting work.
For the moment, however, the SEC is active on the issue. Last month, it levied the largest penalty ever against a Big Five firm.
Arthur Anderson LLP agreed to pay $7 million to settle charges relating to its mid-1990s work for Waste Management, Inc. The SEC said Andersen helped the huge trash hauler overstate income by more than $1 billion. Noting the $11.8 million in nonaudit fees Andersen got from WMI, Unger calls the case the “smoking gun” proving consulting gigs can compromise independence.
Whether or not the SEC continues its tough policing, aggrieved investors have seized upon the conflict issue.
PricewaterhouseCoopers (PwC), itself the target of three ongoing SEC investigations, agreed in May to pay $55 million to settle a class-action lawsuit by shareholders of MicroStrategy Inc.
The software maker was forced last year to admit it had been losing millions while telling investors it was profitable. PwC profited from consulting for MicroStrategy and also acted as reseller for some of its software. Like Andersen, PwC denies that its independence has been impaired, but this will not be the firm’s last such legal tussle.
A pending lawsuit by Raytheon Co. shareholders, who lost millions when the defense contractor restated its earnings, may also raise the
conflict issue. Nearly 95 percent of the $51 million Raytheon paid PwC last year was for nonaudit services, though Raytheon says much of that was for work it considered audit-related, like tax services.
Such lawsuits are likely to multiply. If an accounting firm was making money from its audit client, “it shows motive,” say an investors’ lawyer. And since firms under shareholder fire are often financially troubled, wealthy accounting giants are attractive prey. . . .
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TWO SETS OF BOOKS
Audits can amount to a tiny share of fees paid to accounting firms.
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Marriott Intl. – Total Fees: $31,331,300 – Paid to: Arthur Andersen – Nonaudit fees: 96.65%
Sprint – Total Fees: $66,300,000 – Paid to: Ernst & Young – Nonaudit fees: 96.23%
Raytheon – Total Fees: $51,000,000 – Paid to: PricewaterhouseCoopers – Nonaudit fees: 94.12%
Motorola – Total Fees: $66,200,000 – Paid to: KPMG – Nonaudit fees: 94.11%
Gap – Total Fees: $8,245,000 – Paid to: Deloitte & Touche – Nonaudit fees: 93.10%
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OUT OF THE FRYING PAN . . .?
March 2, 2002
MERCK REPLACES OUTSIDE AUDITOR
MERCK & CO., the world’s third-largest pharmaceutical company, has ended a 31-year relationship with its outside auditor, Arthur Andersen LLP, the company caught up in the Enron bankruptcy scandal.
Merck said yesterday that its board of directors has chosen PricewaterhouseCoopers to take over the job this year.
The appointment requires approval by Merck shareholders.
Arthur Andersen did auditing and consulting for Enron, and its reputation has been damaged by the company’s collapse. . . .
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From The Buying of the President 2000, by Charles Lewis and the Center for Public Integrity:
Bradley handed out pork to another New Jersey polluter, Merck & Company.
In 1992 he won Merck tariff suspensions that are worth $10 million annually.
In July 1991 New Jersey Citizen Action listed Merck among ten companies responsible for nearly half of the toxic waste dumped in New Jersey….
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For more on PricewaterhouseCoopers, GO TO > > > What Price Waterhouse?
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January 25, 2002
SEC’s Top Cop Says Enron ‘Not Going To Distract Us’
SAN DIEGO -(Dow Jones)- Investigation into the collapse of Enron Corp. won’t stop regulators from pursuing other cases, the top cop at the Securities and Exchange Commission said Friday.
“Enron’s not going to distract us,” SEC enforcement division director Stephen Cutler said at a Northwestern University legal conference here. He gave the usual disclaimer that his remarks reflect his own views, not those of the SEC.
The SEC began investigating Enron last October, after the Houston energy company announced it had overstated four-and-a-half years of earnings. The SEC later expanded the probe to include document destruction by Enron’s outside auditor, Arthur Andersen. A criminal investigation by the Justice Department also is under way, along with investigation by numerous congressional committees.
“People may have a sense that all we care about is Enron,” said Cutler.
While he acknowledged the case is getting a lot of attention, he said it won’t stop other SEC investigations in their tracks, and promised that in coming months, “you’ll be seeing lots of good cases from us.”
Connections between SEC commissioners and accounting firms won’t stop the agency from cracking down on accounting fraud, Cutler indicated.
Some critics have questioned whether the SEC may adopt a softer touch on accountants given that Chairman Harvey Pitt represented accounting firms in his past law practice, and the newly named commissioner Cynthia Glassman worked for a Big Five accounting firm.
“I think there’s a misperception out there about this new commission and its willingness to be tough” in fighting financial fraud, Cutler said.
Accounting cases account for the bulk of the SEC’s enforcement actions now. Last year, the agency brought more than 100 cases alleging financial fraud and in case, obtained a record $7 million settlement from Andersen for its role in auditing Waste Management Inc., another big accounting blowup.
Cutler said the fine, the largest ever paid by a Big Five accounting firm, shows that in financial fraud cases, audit firms “will be held accountable” along with audit partners.
Independence is another area getting close scrutiny from SEC attorneys, Cutler indicated. The SEC recently settled a case against KPMG that alleged it violated independence rules by investing in a mutual fund that was an audit client.
“There will be other independence cases to come,” Cutler added. He said the agency is concerned when a “web of relationships” or business deals might cloud an auditor’s judgment or undermine independence.
– By Judith Burns, Dow Jones Newswires, Copyright (c) 2002 Dow Jones & Company, Inc.
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ACCOUNTING FIRMS TARGETED IN INSURANCE COMPANY FAILURES
By Joe Frey, www.insure.com
If accounting firms are the financial police for insurance companies, who will police the police? State departments of insurance, that’s who.
Two major accounting firms are taking heat from the New York and Ohio insurance departments for recent insurance company failures. The New York superintendent of insurance, Neil Levin, has filed a lawsuit against PricewaterhouseCoopers LLP, alleging the firm was negligent in its audit of three failed insurance companies that allegedly cost New York residents $100 million.
The Ohio Department of Insurance (DOI) settled a lawsuit for $9.99 million with accounting firm KPMG Peat Marwick for its involvement in the PIE Mutual Insurance Co. insolvency.
The Ohio DOI had alleged that KPMG Peat Marwick “failed to detect that PIE had fraudulently recorded a $58 million asset on its financial statements” in 1996. As part of the settlement, KPMG Peat Marwick admits no wrongdoing.
PIE sold medical malpractice coverage in Indiana, Kansas, Kentucky, Maryland, Mississippi, Missouri, Ohio, Pennsylvania, and West Virginia.
The New York Suit
Coopers & Lybrand, which merged with Pricewaterhouse in 1998, served as financial auditor for Home State Holdings Inc. and two of its subsidiaries, Home Mutual Insurance Co. and New York Merchant Bakers Insurance Co., from 1989 to 1997. The lawsuit alleges that PricewaterhouseCoopers failed to catch “numerous red flags” about the insurers’ financial stability that could have prevented insolvency. They filed for bankruptcy in 1998.
The major transgression the lawsuit alleges is that PricewaterhouseCoopers failed to notify the insurance department that Home State failed to maintain enough cash reserves to pay claims. Home State and its subsidiaries sold auto and homeowners insurance in New Jersey, New York, and Pennsylvania.
The lawsuit also claims that six officers of Home State committed fraud, were negligent, and breached their fiduciary duties.
New Yorkers pick up the tab
Levin is seeking $100 million in punitive damages from PricewaterhouseCoopers to offset the estimated price tag that New York state insurance guaranty funds – which are financed by all policyholders in the state through insurance premiums – had to pay to rescue Home State’s insolvent subsidiaries.
“Had Coopers … detected and reported the true facts, Merchant Bakers and Home Mutual would have corrected the problems and avoided the insolvency damages alleged,” the lawsuit says.
Steve Silver, a spokesman for PricewaterhouseCoopers, says the lawsuit is totally without merit and his company plans to vigorously fight it.
The Ohio suit
PIE Mutual was Ohio’s largest medical malpractice insurer until 1998, when the DOI seized control of the company because its liabilities exceeded its assets by $275 million. The DOI is currently liquidating PIE Mutual, attempting to pay off the estimated $600 million to $800 million in outstanding claims. The Ohio DOI has recouped approximately $240 million from the sale of PIE Mutual’s assets and the settlement with KPMG.
John Charlton, a spokesperson for the Ohio DOI, says there’s a good chance that claimants will not receive 100 percent of what’s owed them, but he is not sure of the magnitude of the shortfall.
“The guaranty funds have stepped up and have been paying in the nine states in which PIE was licensed,” he says, meaning policyholders in Indiana, Kansas, Kentucky, Maryland, Mississippi, Missouri, Ohio, Pennsylvania, and West Virginia are paying for part of the tab. . . .
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Multidisciplinary Practice: Big Changes Brewing for the Accounting Profession
By Jack Baker, Randall K. Hanson, and James K. Smith
It Won’t Be Long Before It Happens
The offering of legal services through multidisciplinary practices (MDP) appears to be moving toward acceptance in the United States. The MDP movement has gained momentum from the American Bar Association Commission on Multidisciplinary Practice’s recommendation to allow attorneys to share fees and partner with non-attorneys.
The rule changes would allow accounting firms to employ attorneys that, subject to certain restrictions, could offer a full array of legal services to their clients. Although the ABA House of Delegates voiced strong opposition and deferred voting, the MDP commission was instructed to gather additional information and resubmit the recommendation.
The commission’s latest recommendation may have encouraged a number of recent strategic alliances between professional service firms. In addition to approaching accounting firms, law firms have shown an interest in strategic alliances with other professional service firms, such as financial consultants. These alliances are sure to increase the pressure on the ABA to restructure its ethics rules. The ABA recognizes that if it does not write the regulatory rules on MDP, someone else will. . . .
The Unauthorized Practice of Law. The ABA’s decision to explore rule changes in the MDP area may result partially from its failed debate in the late 1990s with the accounting profession about the unauthorized practice of law (UPL). (See “CPAs and the Unauthorized Practice of Law,” The CPA Journal, August 1998, and “Attorneys and CPAs: Cooperation or Confrontation?” The CPA Journal, June 1999, for background on the difficulties faced by bar associations in prosecuting accounting firms under UPL statutes.)
Not only is the definition of the practice of law elusive in many areas of CPA practice, such as tax, but Federal statutes that may preempt state UPL statutes further cloud the issue. These difficulties may explain why two recent UPL cases against Big Five accounting firms were dropped.
Accounting firms have further complicated the UPL issue by hiring a record number of attorneys. The Big Five now employ approximately 5,000 attorneys, making them the largest employer of attorneys in the United States. Attorneys employed by accounting firms perform many of the legal tasks that accountants are unable or unqualified to do.
The state bar associations’ primary weapon for combating this development is to charge accounting firm attorneys with violating Model Rules of Professional Conduct (MRPC) 5.4, which prohibits attorneys from sharing legal fees with nonattorneys, forming partnerships with nonattorneys to render legal services, or rendering legal services under the direction of nonattorney employers.
ABA’s Proposed Changes to Model Rules of Professional Conduct
The ABA’s MDP commission issued its recommendation in support of MDPs in June 1999, proposing that the ABA allow attorneys, subject to carefully defined safeguards, to share legal fees with nonattorneys and provide legal services to clients through MDPs. At the ABA’s annual meeting in August 1999, the commission unanimously recommended ethical rule changes in favor of MDP to the ABA House of Delegates, which voted to defer action on the recommendation and instructed the commission to gather additional information and resubmit the recommendation.
The MDP commission defines an MDP as a “partnership, professional corporation, or other association or entity that includes lawyers and nonlawyers and has as one, but not all, of its purposes the delivery of legal services to a client(s) other than the MDP itself or that holds itself out to the public as providing nonlegal as well as legal services.”
Under the recommendation, attorneys practicing in MDPs remain subject to the rules of professional conduct, such as independence of professional judgment, protection of confidential client information, and loyalty to clients through avoidance of conflicts of interest. . . .
The problems associated with the MDP commission’s recommendation have not slowed down the MDP movement. If anything, it has gained substantial momentum, as evidenced by the number of strategic alliances between law firms and other professional service firms. While the most notable alliances are with accounting firms, some law firms show a willingness to consider alliances with other professional service firms.
The most significant strategic alliance to date is between Ernst & Young and a new Washington, D.C., law firm. Ernst & Young has agreed to supply the law firm with a significant amount of start-up capital and to lease it adjacent office space in a building that Ernst & Young owns. In return, the law firm has agreed to be known as McKee, Nelson, Ernst & Young LLP (MNEY). MNEY will initially focus on tax-related legal work with plans to expand to a full-service law firm.
Philip A. Laskawy, chair and CEO of Ernst & Young, pointed out that while the firm already provides legal services directly or through similar alliances in 40 countries through Ernst & Young Law, this alliance will extend that capability to the United States.
Ernst & Young’s alliance with MNEY certainly tests the limits of the current legal ethics rules that prohibit attorneys from sharing legal fees with nonattorneys. Ernst & Young may have selected Washington, D.C., because of its more liberal ethics rules: Washington, D.C., is the only jurisdiction that allows attorneys to share profits with nonattorneys, but it requires the attorneys to remain in control of the firm providing the services.
In addition to the choice of jurisdiction, Ernst & Young has been careful to address the literal requirements of the MRPC. For example, Ernst & Young’s Washington, D.C., accounting firm and MNEY are set up as separate entities with separate billing. In addition, Ernst & Young is not involved in the firm’s day-to-day management.
Ernst & Young has been assured by outside counsel, a former chair of the District of Columbia’s UPL committee, that the arrangement is perfectly allowable under its rules of professional conduct. However, other ethics experts believe that Ernst & Young is trying to see how far it can push the regulators.
Other Big Five firms are also announcing strategic alliances with influential U.S. law firms. In addition to its strategic alliances with the Chicago law firm of Horwood Marcus & Berk and the San Francisco-based international law firm of Morrison & Foerster, KPMG has announced an alliance with members of SALTNET, a network of state and local tax attorneys. KPMG is also expected to announce the hiring of seven international tax attorneys from the firm Weil, Gotshal & Manges, a move that John Lanning of KPMG says “will allow KPMG to take a leap forward in the international tax arena.”
PricewaterhouseCoopers has announced an alliance with the Washington, D.C., law firm of Miller & Chevalier, and, perhaps more significantly, the ABA’s litigation section has selected the accounting firm as its litigation-consulting sponsor. . . .
Many other accounting firms pursuing arrangements with law firms or attorneys may be keeping a low profile to prevent UPL sanctions. For example, some smaller accounting firms have reportedly hired attorneys as part-time employees with the understanding that their associated legal work will be done outside the accounting firm and billed back. . . .
Jack Baker, PhD, CPA, is an associate professor of accounting and
Randall K. Hanson, JD, LLM, is a professor of business law, both at the University of North Carolina at Wilmington.
James K. Smith, PhD, JD, LLM, CPA, is an assistant professor of accounting at the University of Nevada, Las Vegas.
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CORPORATE AUDITORS UNDER SIEGE
by Daniel L. Berger and Blair Nicholas
In the depths of the greatest financial disaster to ever hit this country, sixty-six years ago Congress passed the federal securities laws in an effort to rebuild investor trust and confidence in the integrity of the financial market.
Trust and integrity are the cornerstones of an efficient financial marketplace, and nothing is suppose to safeguard the market’s integrity like an independent accountant’s audit of corporate financial statements. This is true because the independent auditor assumes a public responsibility transcending any employment with the corporate client.
The independent auditor’s ultimate responsibility is to the corporation’s creditors and stockholders, as well as to the investing public. Simply put, if investors cannot trust the auditors to police corporate management, they cannot trust the financial data on which billions of buy and sell decisions are based each day.
This “public watchdog” function demands that the auditor maintain total independence from the client at all times to ensure objective, truthful reporting and complete fidelity to the public trust.
The importance of this independence requirement was well summarized by the Supreme Court of the United States in United States v. Arthur Young & Co., sixteen years ago when it stated, “Public faith in the reliability of a corporation’s financial statements depends upon the public perception of the outside auditor as an independent professional . . . . If investors were to view the auditor as an advocate for the corporate client, the value of the audit function itself might well be lost.”
Accordingly, it is not enough that the audit quality is maintained and that the numbers are accurate, it is also critical that public investors – the users of corporate financial reports – know that the auditors are acting objectively and independently in their role as the public’s financial cop.
The American Institute of Certified Public Accountants Code of Professional Conduct describes the principle of “objectivity and independence” by mandating that: “a member should maintain objectivity and be free of conflicts of interest.”
The application of this common-sense idea could not be simpler: Independent auditors who are engaged to judge the fairness of management’s financial statements should avoid all conflicts of interest that would impair their judgment or create the appearance of an impairment. Indeed, these independence requirements are particularly critical today as public pension funds, as well as individual investors, are fueling the bull market by investing a healthy portion of their portfolio in the securities market.
This huge increase in investment activity in securities, so crucial to our national prosperity, only intensifies the basis for the core values of the independent auditor – objectivity and independence, honesty and integrity, commitment to quality and professional expertise – in the preparation of corporate financial statements.
Independent Auditors Under Fire
At the same time auditor independence requirements are becoming increasingly crucial, the auditing profession has come under fire as a recent Securities and Exchange Commission (“SEC”) report cited more than 8,000 violations by PricewaterhouseCoopers (“PWC”), the world’s largest accounting firm, of one of the basic rules of ethics of audit firms: You don’t hold investments in a company audited by your firm.
The SEC report estimated that eighty-six percent of PWC’s 2,700 audit partners had at least one ethical violation. Among the more serious violations, PWC’s accountants owned stock in companies audited by the firm, took out loans from clients audited by the firm, had spouses or other relatives who worked for a client, and managed family trusts that held investments in a client.
In a letter to his partners, PWC’s Chairman, Nicholas G. Moore and Chief Executive James J. Schiro, called the SEC’s investigation’s findings “embarrassing to our firm and to all of us as partners.” SEC Chief Accountant Lynn Turner called the SEC’s report “a sobering reminder that accounting professionals need to renew their commitment to the fundamental principle of auditor independence.”
At the SEC’s request, the Public Oversight Board, an agency created by Congress to keep watch on auditors, will now examine the accounting practices of ten accounting firms, including major auditing firms such as Ernst & Young, KPMG Peat Marwick, Deloitte & Touche and Arthur Anderson. In recent times, however, corporate auditors have been guilty of more than just violating fundamental conflict-of-interest rules, they have been at the center of nearly every recent financial scandal.
Judge Friendly of the Second Circuit in United States v. Benjamin , noted three decades ago: “In our complex society the accountant’s certificate . . . can be instruments for inflicting pecuniary loss more potent than the chisel of the crowbar.”
Judge Friendly’s words have been borne out, as independent auditors have been held responsible for the outright manipulation and inflation of public companies’ earnings to boost stock prices, despite the auditing firms’ claims that they departed too early, arrived too late, or for some other reasons were not knowledgeable about the huge financial frauds that have recently rocked our nation’s securities market.
For example, in In re Waste Management Securities Litigation , Arthur Anderson paid $70 million; in Cendant , Ernst & Young paid $355 million; and in Informix Ernst & Young paid $32 million – all to resolve securities fraud actions where there were egregious irregularities with the financial statements of these publicly traded companies and the auditors were at the epicenter of the financial fraud.
As United States District Court Judge Stanley Sporkein, former enforcement chief of the SEC, aptly questioned in presiding over the litigation concerning the Lincoln Savings financial collapse: “Where were these professionals . . . [referring to the auditors] when these clearly improper transactions were being consummated? Why didn’t any of them speak up or disassociate themselves from the transaction?”
While owning stock in a client is an obvious example of why a corporate auditor would refuse to “speak up,” it also provides an example of part of a larger problem: the fundamental principle of total independence has been severely jeopardized as accounting firms in recent years have become multi-dimensional professional service conglomerates.
The Metamorphous of The Auditing Profession: The Watchdogs Become the Puppies of Management
In the 1970s, accounting firms like Ernst & Young and PWC functioned largely as independent auditors. Business consulting was merely an offshoot of traditional accounting and auditing – a way to derive more income from the same base of clients. But the consulting business took off beginning in the mid-1980s, when consultants from large auditing firms won over the trust of corporate chief financial officers and landed huge technology consulting projects.
Today, corporate accounting firms view auditing as a low-profit, low-growth service of diminishing importance, and have instead focused their resources on the more profitable and faster growing non-audit services, including business consulting, tax consulting, human resources consulting, and corporate finance consulting. As a result, non-audit consulting fees have increased as a percentage of the largest accounting firms’ revenues from 15% in 1978 to 24% in 1990 and to 38% in 1996.
This explosion in growth and demand for non-audit services has resulted in auditing firms “lowballing” their quoted auditing fee (whereby firms offer big reductions in their audit fees), in order to more easily leverage themselves into the companies to cross-sell the firm’s more profitable non-auditing services, usually on a no-bid basis. For example, in 1991, PWC won a contract to audit Prudential after offering a discount of almost 40% off its original quote.
By the time Prudential dropped PWC as its auditor last year, PWC’s annual consulting fee was more than 300% greater than PWC’s annual audit fee. What is the reasonable investor to think when an auditing firm certifies a company’s financial statements as complete and accurate, yet the auditing firm is generating three times its auditing fee from providing business consulting to the same company?
Clearly, the independence of the auditor is contaminated, the auditor is more reticent than ever to disagree with corporate management on financial reporting issues, and the credibility of an industry which is suppose to be free of potential or actual conflicts of interest is diminished. Auditing the Auditors
As business consulting services continue to grow at a rapid clip in this Internet age and auditing firms continue to direct more of its resources toward providing non-audit services to its clients, the issue of auditor independence will only intensify. In fact, Lynn Turner, chief accountant for the SEC, recently advocated that public companies should disclose all business links with outside auditors so shareholders can better evaluate possible conflicts of interest.
Ms. Turner stated that “given the explosion of these [non-audit] services, it’s time for the public to know” and urged that mandatory disclosure of possible conflicts of interest should be required by the Independence Standards Board, a self-regulatory organization, or a new SEC rule. Clearly, someone needs to watch the watchdog.
The SEC’s willingness to raise tough questions about conflicts of interest has been rewarded by the recent separation of auditors’ consulting arms. PWC recently announced that it will split its business into two parts, with separate management teams and boards, one to run the audit business, the other to run the consulting business. Similarly, following the SEC’s report exposing PWC’s ethical violations, Ernst & Young sold its consulting arm to Cap Gemini, a French computer-services company.
The SEC should keep the heat on auditing firms to divest or at the very least, come up with some reorganization scheme that protects shareholders from actual or potential conflicts of interest.
Independence and integrity have always been the bedrock of the accounting profession and, in order to inspire investor confidence in the integrity of the American financial market, the auditor must remain independent.
– Daniel L. Berger can be reached at firstname.lastname@example.org and Blair Nicholas can be reached at email@example.com.
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TO SPOT SOME MORE OF THESE COZY NESTS,
JUST DROP BELOW.
Arthur Andersen LLP – A “Big Five” accounting firm still praised by some for its “Outstanding Integrity”!
May 17, 2002
Ex-Andersen Partner Kept Enron Papers
HOUSTON – A former Arthur Andersen partner who illegally shredded documents related to Enron Corp. testified yesterday that he preserved several potentially embarrassing records.
David Duncan, who pleaded guilty to obstruction of justice charges in April, said he kept records related to allegations of questionable accounting practices brought last August by Enron Vice President Sherron Watkins.
“I believe I retained (documents) relevant to the Watkins allegation matter in a separate folder,” Duncan told attorney Rusty Hardin in a second day of cross-examination at Andersen’s obstruction trial.
Andersen claims neither the firm for Duncan broke any laws and that Duncan took the plea deal under threat of extensive prison time.
In his questioning yesterday Hardin focused on the important documents that survived the shredder in an effort to show the jury there was no conspiracy to cover up auditing work on Enron’s books.
Among the documents Duncan retained was a memo from fellow Andersen partner James Hecker, who took a call from Watkins in August. In the call, Watkins relayed her worries about Enron’s accounting of so-called “Raptor” entities and rumors of side deals that might have jeoparized the veracity of Enron’s financial statements.
The memo, detailing the conversation with Watkins, was titled “Smoking guns you can’t extinguish.” Duncan dismissed the title as nothing more than sarcastic wit.
Also preserved were copies of Watkins’ complaints, which she shared with former Enron Chairman Kenneth Lay. A review by law firm Vinson & Elkins later dismissed many of Watkins’ concerns.
Obstruction carries a maximum sentence of 10 years, but prosecutors can recommend Duncan, 43, be sentenced only to probation.
If Andersen is convicted, it could be fined up to $500,000 and face probation for five years. It also could be fined up to twice any gains or damages the court determines were caused by the firm’s action and would be barred from auditing publicly traded companies – likely putting the firm out of business.
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May 16, 2002
Kamehameha uses Enron firm in audit
By Jim Dooley, Honolulu Advertiser
The beleaguered accounting firm Arthur Andersen, on trial in Houston for obstructing justice in the federal investigation of Enron Corp.’s collapse, was paid $2.1 million last year to help audit Hawai’i’s largest nonprofit organization, the $6 billion Kamehameha Schools, according to the organization’s tax return, made public yesterday.
Eric Yeaman, chief financial officer of Kamehameha Schools, was an Arthur Andersen employee, working as “internal auditor” of the schools, when the Kamehameha trustees decided to hire him for the CFO post in July 2000.
Arthur Andersen has continued to serve as internal auditor and provides other services to Kamehameha Schools. The company will receive a slightly lower sum this year than the $2.1 million it was paid last year, according to Yeaman and to the tax return.
Yeaman said he has a conflict of interest in dealing with Arthur Andersen and “leaves the room” when there is any discussion at Kamehameha Schools about a business transaction with the accounting firm.
Hamilton McCubbin, chief executive officer of the schools, said the Honolulu office of Arthur Andersen has demonstrated “outstanding integrity” in its dealings with Kamehameha Schools.
The internal auditing contract with Arthur Andersen expires this summer, and the schools plan to hire their own internal auditing staff rather than rely on an outside company for the work, McCubbin said.
But an outside firm will be needed to help in that transition and to provide independent expertise when needed by the internal auditing staff, McCubbin said.
Arthur Andersen will be free to bid for that work, he said.
Once the fourth-largest accounting firm in the world, Arthur Andersen has lost clients steadily in the wake of the Enron scandal. In addition to the criminal trial now going on in Houston, Arthur Andersen has been named in a class action lawsuit filed by Enron shareholders. The firm has been selling offices and assets around the country, and could face bankruptcy in the near future, according to news reports.
The Kamehameha Schools tax return shows net assets of more than $4 billion. A wholly owned subsidiary, Kamehameha Activities Association, filing a separate return for the first time, listed assets of more than $2 billion.
The schools, which educate children of Hawaiian ancestry, spent $139 million of its operating budget on program services, and another $53.9 million in school construction and repair, according to the tax filing.
The construction expenses were mainly incurred building two new campuses, one on the Big Island and the other on Maui.
McCubbin said the schools are now spending about $20,000 per student on the Neighbor Islands, compared with $13,000 per student at the main campus on O’ahu.
The tax return also reveals considerable turnover in top employees at the huge institution.
Four former executives of Kamehameha Schools/Bishop Estate are listed among the highest-paid executive personnel, but the numbers include their severance pay.
They include Nathan Aipa, former chief lawyer for the schools and later acting chief administrative officer. Aipa, now in private practice, was paid $413,620 for the tax year ended June 30, 2001.
Former Kamehameha tax director Gilbert Ishikawa was paid $271,610; Rodney Park, former administrative/planning director, received $260,023; and former appraisal director Kenneth Teshima was paid $214,627.
McCubbin is the highest-paid executive now on payroll at Kamehameha Schools, receiving $321,026 plus $28,585 in expense account allowances.
Chief Investment Officer Wendell Brooks, who also has left the institution, was paid $300,000. Yeaman was paid $224,532. Mike Chun, acting chief education officer, was paid $188,718.
Executive salaries are considerably higher now than they were before years of turmoil culminated with the departure of all five of the institution’s trustees two years ago.
Trustees used to be paid about a million dollars each. Last year they were paid between $122,000 and $49,500, depending on whether they served in the job a full year.
Board chairman Robert Kihune received the top salary of $122,000, because he was one of the acting trustees who carried over to full-time status. The same is true of trustee Connie Lau, who was paid $100,500, according to the return.
– Reach Jim Dooley at firstname.lastname@example.org or (808) 535-2447
For much more on the Kamehemameha Schools’ connection, GO TO > > > Aloha, Harken Energy!
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May 16, 2001
‘Chainsaw Al’ Accused of Fraud . . .
The New York Times
Albert J. Dunlap, the former chief executive officer of Sunbeam Corp., directed an accounting fraud in which he was aided by a partner of Arthur Andersen, the firm that audited Sunbeam’s books, the Securities and Exchange Commission charged yesterday.
Dunlap, best known for ruthless turnaround plans that usually involved slashing jobs, saw his memoirs become a best-seller.
Sunbeam’s stock leaped nearly 50 percent the day he was hired to run the company in 1996. But the SEC suit, filed in U.S. District Court in Miami, said the Sunbeam turnaround directed by Dunlap was a sham.
“This case is the latest in our ongoing fight against fraudulent earnings management practices,” said Richard H. Walker, the commission’s director of enforcement.
Sunbeam, now in bankruptcy reorganization, settled related administrative proceedings filed by the SEC, accepting a cease-and-desist order barring further violations of securities laws. It did not admit or deny the allegations.
But Dunlap, along with four other former top executives of the company, and Phillip E. Harlow, the Andersen partner who was in charge of auditing Sunbeam, said they would fight the charges. . . .
Dunlap, in a statement released by his attorney, called the charges “totally false,” and added, “I am outraged that the SEC has chosen to bring these baseless charges against me.”
Less likely to be outraged are the thousands of Sunbeam employees who were cut from the payrolls by the man known as Chainsaw Al. He became a corporate star in the 1990s, making tens of millions of dollars for himself as he dismissed thousands of employees in the name of efficiency. . . .
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19 June, 2001, UK
Top accountant fined $7m
One of the world’s top five accountants has been fined for allegedly fiddling the books of a US firm.
Arthur Andersen failed to stand up to company management and betrayed their allegiance to the investing public.
by Richard Walker, US Watchdog
The US Securities and Exchange Commission alleged that the accountants had filed false and misleading audits of the US firm Waste Management, North America’s biggest rubbish-hauler.
Without admitting or denying the allegations, Arthur Andersen has also agreed to an injunction that means it will face stiffer sanctions for future violations.
This is the SEC’s first fraud case against a big five accounting firm.
Bad for PR
The firm is hoping that the payout will finally sweep the embarrassing episode under the carpet.
“This settlement allows the firm and its partners to close a very difficult chapter and move on,” said the accountants in a statement.
“The allegations underlying the settlement are limited to one client and reflect work that is in some cases more than seven years old,” it added.
The four audit partners involved are barred from doing accounting work for public companies between one to five years.
Arthur Andersen was in charge of Waste Management’s books from 1992 to 1996 and issued audit reports that are alleged to have overstated revenue by more than $1bn.
Publicly traded companies are required to hire an accounting firm to go through their books using accepted accounting principles.
This ensures that potential investors are not misled by false accounts when considering whether to buy stocks and shares.
The SEC said that Arthur Andersen and its partners had betrayed their allegiance to shareholders and the general public.
“We will not shy away from pursuing accounting firms when they fail to live up to their responsibilities to ensure the integrity of the financial reporting process,” warned Richard Walker, head of the SEC.
For more, GO TO > > > Nests Along Wall Street
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November 13, 2001
Andersen Could Face SEC Sanction, Suits Over Enron Accounting Error
HOUSTON — Arthur Andersen may face U.S. Securities and Exchange Commission sanction and shareholder lawsuits because it certified Enron Corp. financial reports that the company disavowed last week as inaccurate, legal and accounting experts said.
Andersen, the world’s fifth-largest accounting firm, served as Enron’s outside auditor for more than a decade. Last week, the company reported that it overstated earnings by $586 million over 41/2 years, inflated shareholder equity by $1.2 billion because of an “accounting error,” and failed to consolidate results of three affiliated partnerships into its balance sheet.
Enron restated its financial reports as the company suffered a cash crisis triggered by disclosure of the cut in shareholder equity and the start of an SEC investigation.
“I’d be very surprised if the SEC didn’t go after Arthur Andersen,” said Alan Bromberg, securities law professor at Southern Methodist University.
Andersen partner David Tabolt has said the firm is cooperating with a special committee of Enron’s board of directors appointed to investigate the accounting problems.
Lynn Turner, who was the SEC’s chief accountant for three years until he resigned in August, said Enron and Andersen ignored a basic accounting rule when they overstated shareholder equity.
Explaining the equity reduction last week, Enron said it had given common stock to companies created by Enron’s former chief financial officer in exchange for notes receivable, and then improperly increased shareholder equity on its balance sheet by the value of the notes.
“What we teach in college is that you don’t record equity until you get cash for it, and a note is not cash,” said Turner, who is now director of the Center for Quality Financial Reporting at Colorado State University.
“It’s a mystery how both the company would violate, and the auditors would miss, such a basic accounting rule, when the number is $1 billion.”
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January 17, 2002
Anderson, trying to curb damage, vows to changes practices, policies
Some suggest company’s future may be in doubt
By Dave Carpenter, Associated Press
CHICAGO – Arthur Andersen LLP accelerated damage-control efforts yesterday, running full-page ads in national newspapers to try to limit blame in the Enron debacle to its Houston office and promising an overhaul of its practices.
But as Andersen’s lead auditor in the case met with congressional investigators in Washington questions remained about whether involvement in the document-shredding scandal extended to executives at Andersen’s Chicago headquarters.
A series of disclosures involving Andersen’s role in Enron’s demise has hurt the accounting giant’s stellar reputation, raising speculation it may not survive the controversy as an independent company.
Experts say the company’s short-term future may depend on what investigators discover in probing what top managers knew and when they knew it.
In the advertisement published yesterday, Andersen CEO Joseph Berardino touted actions taken by the company on Tuesday: Andersen’s lead partner on the Enron account, David Duncan, was fired; three partners who worked on the assignment were put on leave; new leadership was put in charge of the Houston office; and four partners were stripped of management responsibilities.
“In the near future, Andersen will announce comprehensive changes in our practices and policies that we believe will reaffirm confidence in the independence and quality of our work,” the ad read. . . .
The efforts at damage control appeared designed to isolate the problems to the Houston office, which handled the audit of the collapsed energy-trading company.
But Berardino left open the possibility that executives at headquarters might be implicated, saying Tuesday that “we’re not quite sure yet” whether wrongdoing reached higher into the accounting firm than the auditors now being disciplined. . . .
Particularly at issue are special partnerships formed by Enron that enable it to add several hundred million dollars from off-the-books transactions to publicly stated earnings, and at the same time hide big debts. . . .
In other action, an energy company sued Andersen, accusing it of fraud and negligence in Enron’s collapse.
Attorneys for Samson Investment Co. in Tulsa, Okla., filed the civil suit Tuesday, saying Samson and other companies “justifiably relied on the financial audits” for their natural gas purchase contracts with Enron but those audits were “grossly misleading.”
The lawsuit requests class-action status on behalf of more than 100 unnamed companies and seeks unspecified damages.
Andersen is already named in more than 30 lawsuits filed on behalf of Enron shareholders who saw their holdings plummet in value after the company’s stock plunged to below $1 in December. . . .
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January 18, 2002
Failed Enron Energy Company Dismisses Its Accounting Firm
Lawyer cites auditor’s order to shred papers
By H. Josef Hebert, Associated Press
WASHINGTON – Enron Corp. fired accounting firm Arthur Andersen yesterday amid growing evidence that its auditors had serious questions about Enron’s financial practices but did nothing to correct them.
“We’re very troubled about the destruction of the documents, and we’re very concerned about the accounting advice we got,” said Washington attorney Robert Bennett, who is representing Enron.
Bennett said Enron informed Andersen of the dismissal yesterday afternoon. Joseph Berardino, Andersen chief executive officer, acknowledged Enron’s decision. . . .
The firing came as congressional investigators pressed the accounting firm for more documents concerning Enron’s business activities. . . .
SEC Chairman Harvey Pitt did say that the commission will reserve its harshest punishment “for anyone who lies or obstructs (an SEC) inquiry.”…
For more on Harvey Pitt, GO TO > > > Spotting the SEC
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January 18, 2002
Andersen has history of paying settlements for audit problems
By John Kelly, Associated Press
CHICAGO – Accounting firm Arthur Andersen has settled at least a dozen cases over the last 20 years to end investigations into allegations its auditors missed, ignored or hid clients’ financial problems from unwitting investors.
In two of the most recent and serious cases, the Securities and Exchange Commission alleged Andersen inflated earnings on behalf of trash hauler Waste Management Inc. and appliances maker Sunbeam Corp.
Last June, Anderson agreed to pay a $7 million fine to settle allegations that it issued false and misleading audit reports for Waste Management from 1993 to 1996. The reports inflated the company’s profits by more than $1 billion.
In many of the earlier cases, state officials and shareholders’ lawyers made accusations that parallel the alleged irregularities at the hart of Enron Corp.’s collapse.
“In all but the magnitude of dollars, there are striking similarities between Enron and what happened here – the compromising relationships with auditors, destruction of documents and so on,” said Connecticut attorney General Richard Blumenthal, who investigated Andersen’s role in the collapse of Colonial Realty Co. in the early 1990s.
Securities lawyers, seasoned accountants and other experts said that Andersen’s past blemishes may be no worse that other large accounting houses. But they say Andersen’s role in Enron’s fall and its past problems highlight long-simmering concerns about potential conflicts of interest when companies have too close a relationship with auditing firms that investors rely on for objective reviews.
>> Andersen paid $90 million to investors and $2.5 million to Connecticut to settle claims the company knowingly signed off on overly rosy forecasts for Colonial Realty’s real estate ventures in Hartford. At the same time, state officials said, Andersen auditors took cash, trips and other gifts from Colonial executives. Investors lost more than $300 million on Colonial.
>> Andersen paid Ohio $5.5 million to cover taxpayers’ losses on insured deposits at the failed Home State Savings Bank rather than challenge the government’s claim that Andersen was negligent in reviewing the thrift’s books.
>> Andersen agreed to at least $24 million in settlements over allegations it misrepresented the financial health of Arizona-based American Continental Corp. and its subsidiaries, which included Charles Keating’s failed Lincoln Savings & Loan.
>> In case after case, Andersen’s representatives said the settlements were not an admission of fault, but rather an economic decision to avoid years of costly legal battles.
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January 27, 2002
Team Revives Claims Against Firm
OAKLAND, Calif – Oakland Raiders lawyers have revived claims that accounting firm Arthur Andersen LLC destroyed evidence that could prove it lied in 1995 when it assured the team of sellouts at the Oakland Coliseum.
Revelations that Andersen destroyed documents of bankrupt client Enron Corp., and congressional investigations into the company, have “refocused us on this issue,” Raiders attorney Ken Hausman told the Contra Costa Times.
The coliseum management hired Andersen in 1995 to track applications for 10-year personal seat licenses at Raider games. The project was the centerpiece of the San Francisco Bay area’s attempts to bring the Raiders back to Oakland from Los Angeles.
The football team sued in 1998 for $1.1 billion, claiming Raiders boss Al Davis was assured of stadium sellouts by Andersen representatives and by coliseum and city officials.
Raiders management claims that perennially poor attendance at home games has crippled the team financially. Last year, only 24,000 of a total 55,00 personal seat licenses were sold. Less than half of the 143 lucrative luxury suites were taken.
The lawsuit insists Davis never would have returned the team had he known the stadium had not sold out, and that Andersen helped coliseum officials conceal information.
The particular claim was thrown out of court for technical reasons but could be revived if the rest of the case goes to trail later this year. . . .
Andersen denies the allegations. . . .
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January 28, 2002
Enron’s Auditor Is Feeling Heat
Over Corporate Collapse in Australia
By Andrew Backover, USA Today
With Arthur Andersen under intense scrutiny in the United States for its role in Enron’s failure, the accounting firm also is feeling th heat Down Under. Australian officials are investigating what responsibility Andersen may bear in the collapse of client HIH Insurance.
The HIH and Enron cases mean Andersen is auditor in the biggest corporate meltdowns in U.S. and Australian history.
HIH imploded in March, filing for bankruptcy protection because of about $2.75 billion in liabilities.
Only months earlier, Andersen blessed HIH’s books for the fiscal year ended June 30, 2000, when HIH said it had nearly $500 million in net assets. A royal commission resumes hearings tomorrow, that aim to find out why HIH failed and then recommend policy changes to ensure it doesn’t happen again. . . .
The investigation coincides with an 11-month probe by the Australian Securities and Investments Commission that could result in criminal charges, civil suits and fines for those involved. . . .
While the HIH probe goes beyond Andersen, the firm is on the hot seat on several fronts, some resembling the Enron situation:
>> Close ties. At least two top finance executives at Enron previously worked at Andersen. At HIH, three board members were former Andersen partners, and two had been on the audit committee. That raises questions about auditor independence, investigators say….
>> Creative accounting. Whereas Enron hid liabilities to boost its balance sheet, HIH attempted to pad profits as major parts of its business eroded, investigators say. HIH didn’t set aside enough reserves to cover future insurance claims and overvalued some assets. One subsequent report commissioned by regulators found HIH had about $550 million in liabilities instead of nearly $500 million in assets as reported.
>> Early signs. As with Enron, HIH’s collapse took many by surprise. But there were warning signs in both cases. An audit report commissioned by and HIH creditor in November 2000 – five months before the collapse – raised several red flags that went unheeded.
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January 16, 2002
Administration Ties to Arthur Andersen Nearly as Tight as Those to Enron
By John Dunbar and Nathaniel Heller, The Public i
(WASHINGTON, Jan. 16) — Arthur Andersen LLP, the accounting firm that has been implicated in the collapse of Enron Corp., was a top contributor to President George W. Bush’s political campaigns. (See the tables below)
Since 1998, Andersen and its employees have contributed $212,825 to Bush, including $25,000 in donations to Bush’s inaugural celebration when he was governor of the state of Texas. The total makes Andersen one of Bush’s biggest financial backers.
Overall, since 1998, Andersen has spent $8.1 million to influence the federal government, including $6 million on lobbying expenditures.
Like its client Enron, Andersen had strong ties to the Bush campaign and administration. Two former lobbyists for the firm now occupy high-level positions in the administration.
Stephen Goddard Jr., a managing partner in charge of Andersen’s Houston office who was relieved of management responsibilities on January 15, 2001, was a Bush “pioneer,” meaning he raised at least $100,000 for Bush’s presidential campaign.
Andersen’s political action committees also gave generously to members of Congress. They contributed $27,000 to Rep. Billy Tauzin (R-La.) over the last three years. Tauzin, the chairman of the House Energy and Commerce Committee, is currently leading one of the congressional investigations of Enron and Andersen. Over the last three years, he’s been the top congressional recipient of Andersen political action committee contributions, according to the Center for Responsive Politics.
Andersen is in the midst of growing investigations into the collapse of energy giant Enron Corp., which filed for bankruptcy in December following a company disclosure that it had hidden massive amounts of debt off its balance sheet. Andersen was the company’s independent auditor, and assured investors that, in their opinion, the company’s financial statements presented “fairly, in all material respects, the financial position of Enron Corp.”
Andersen has admitted to destroying a “significant but undetermined number” of documents relating to the Enron audit. The firm announced it fired the partner in charge of Enron’s audits, David B. Duncan, who rushed subordinates to shred records of Enron’s audits that had been requested, but not yet subpoenaed, by government investigators.
Like Enron, Andersen is a defendant in shareholder lawsuits that allege the firm did not properly disclose Enron’s financial position to investors.
Andersen, a huge accounting and consulting business with 85,000 employees in 84 countries, has been a prodigious spender on other political activities.
In researching “The Buying of the President 2000,” the Center determined Andersen was Bush’s 13th largest career patron through June 30, 1999. By comparison, former Vice President Al Gore received $8,200 from Andersen employees when he ran for president, according to documents from the Federal Election Commission.
Capitol Hill connections
The company’s political action committee has spent $1.3 million on House and Senate members since 1998, with Democrats receiving slightly less than half as much as Republicans. Among the recipients was current Attorney General John Ashcroft, who accepted $10,000 for his unsuccessful Senate reelection campaign, according to CRP.
Ashcroft recused himself from the criminal investigation of Enron after the Center reported one of his campaign committees received a $25,000 contribution from the company.
Tauzin has been critical of Andersen. “Anyone who destroyed records simply out of stupidity should be fired; anyone who destroyed records intentionally to subvert our investigation should be prosecuted,” he is quoted in a committee press statement. “One way or another, our committee will get to the bottom of this debacle.”
Andersen also spent a little over $500,000 in unregulated, soft money contributions to political parties, the vast majority going to the GOP.
Outstripping those numbers by far, however, is the amount Andersen spends on lobbying. Since 1998, the company has spent $6 million in-house on lobbying Congress, according to lobby disclosure records. They also retained outside firms to lobby for them.
Among the issues the company pushed was legislation to consider the retail deregulation of the electric utility industry, a key issue for Enron and its chairman, Kenneth Lay.
Andersen’s stable of lobbyists includes names from Washington’s power elite.
Former Andersen lobbyists Nicholas Calio and Kirsten Ardleigh Chadwick, who worked for the firm O’Brien Calio, now head up President Bush’s legislative affairs office at the White House.
The two are the White House’s top lobbyists to Congress and are charged with pushing the administration’s legislative agenda on Capitol Hill.
According to federal lobbying records, Andersen paid O’Brien Calio $60,000 to lobby on Internal Revenue Service reform legislation in the first half of 1998. Calio and Arleigh Chadwick worked on that effort, according to the lobbying disclosure form. They moved to the White House shortly after President Bush’s inauguration.
Interests beyond accounting
Andersen began lobbying on the issue of electricity deregulation as early as 1996, and continued into 1998. Enron had been trying to get Congress to create a wholly competitive environment in the electric utility industry for years. One state that deregulated, California, still has utilities that owe millions of dollars to Enron. Similar efforts to pass legislation to deregulate electric utilities at the federal level have failed.
Andersen has also spent large amounts of money to influence the Securities and Exchange Commission to allow large accounting and consulting firms to perform both services for their corporate clients.
Among the sharpest criticisms of Andersen’s role in Enron’s collapse is the fact that Andersen provides both auditing and consulting services, considered by many experts to be a conflict of interest.
Last year, SEC Chairman Arthur Levitt, Jr. proposed a rule that would have restricted the amount of non-audit-related consulting work that companies like Arthur Andersen and other Big Five accounting firms could do for their audit clients. Andersen opposed the rule, and hired the powerful lobby shop of Clark & Weinstock to argue its case.
Among the Clark & Weinstock lobbyists working Capitol Hill on behalf of Andersen were former congressman Vic Fazio (D-Calif.); Jim Matthews, former chief of staff to Rep. Thomas Manton (D-N.Y.); and Anne Urban, formerly Sen. Robert Kerrey’s (D-Neb.) legislative director.
Under pressure from the Big Five, the Commission ultimately adopted a weak version of the rule that favored the accounting industry and left their consulting services virtually untouched. The rule required only the disclosure of how much money the accounting firm earned for consulting services from each company it audited. No limits were placed on the amount of money an audit firm could earn.
‘The most incredible fight’
Levitt called the brawl with the accounting industry “the most incredible fight I have ever been involved in.” At the time, Jeffrey Peck, a managing director for Andersen, said the rule would cut his firm’s market potential by 40 percent.
Given the stakes, allies of the accounting firms mounted a vigorous campaign against any limitation on their market potential. Among those arguing against the proposed rule was Harvey L. Pitt, then an attorney with the firm of Fried, Frank, Harris, Shriver & Jacobson. Bush appointed Pitt chairman of the SEC; the Senate confirmed him in August 2001.
Pitt represented Andersen, as well as the four other Big Five firms, as a private lawyer before returning to government service in 2001. As chairman of Fried, Frank’s Washington, D.C., office, Pitt worked on behalf of the Big Five “on a wide range of regulatory issues relating to their scope of services and firm structures,” according to a company biography.
Despite his ties to Andersen, Pitt has said he will not recuse himself from the SEC’s Enron investigation.
“It is not the function of the chairman of the SEC, or any commissioner, to manage an investigation,” Pitt explained in a written statement.
Pitt opposed limits on the amount of consulting work the Big Five could do for their audit clients before Levitt proposed the SEC rule. In a 1998 article, Pitt and colleague David Birenbaum wrote that “there is no empirical basis for the proposition that the provision of non-audit services for audit clients leads to audit failure,” according to a Washington Post story published last summer.
According to reports, Enron paid Arthur Andersen $52 million in 2000. Twenty-seven million came from consulting services, $25 million from auditing services. In a congressional hearing in December, Bernardino said the consulting fees not related to audit functions were only $13 million of the $52 million total.
Andersen’s audits have been questioned before. The firm was the accountant for Sunbeam, which grossly overstated its profits, and Andersen agreed to pay $110 million to settle shareholder suits without admitting or denying blame.
Waste Management, another client of Andersen, overstated income by $1 billion. Andersen agreed to pay part of a $220 million class-action settlement and a $7 million civil penalty, without admitting liability, according to a New York Times story.
In August 2000, Andersen Consulting, a division of Andersen Worldwide, formally split from Arthur Andersen, the more traditional auditing and accounting component of the firm.
After arbitration, Andersen Consulting changed its name to Accenture, a change it made in January 2001.
Accenture became a publicly traded company four months later. . . .
Copyright 2002, The Center for Public Integrity. All rights reserved.
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March 27, 2002
Andersen leader steps down under partners’ pressure
CHICAGO – Arthur Andersen chief executive Joseph Berardino resigned yesterday, bowing to mounting pressure as a result of the accounting firm’s role in the Enron scandal.
His announcement came four days after former Federal Reserve chairman Paul Volcker urged top management to step aside so he can install and head an independent board in a last-ditch plan to save the company. . . .
The key element of Volcker’s plan is the dismissal of a federal indictment against Andersen alleging obstruction of justice for destroying Enron-related documents. The Justice Department has not said whether it would consider such a move.
Andersen has lost more than 70 clients this year and overseas affiliates have been bolting to rival firms. . . .
The firm suffered another blow yesterday as the Securities and Exchange Commission said in a court filing that Andersen was involved in a scheme that allowed former executives of Waste Management Inc. to inflate earnings by $1.7 billion.
Last year, Andersen paid a $7 million fine to settle an SEC suit accusing it of issuing false and misleading audit reports that inflated Waste Management’s earnings from 1993 to 1996. . . .
For more on Waste Management, GO TO > > > Nests Along Wall Street
Ernst & Young – The nation’s third-largest accounting firm.
May 30, 3003
SEC Wants Suspension for Ernst & Young
WASHINGTON (AP) — In a rare move, federal regulators are seeking to have Ernst & Young suspended from accepting new corporate clients for six months because of the big accounting firm’s alleged failure to remain completely independent from companies whose books it audits.
The Securities and Exchange Commission contends in a legal proceeding that Ernst & Young’s internal controls are inadequate to prevent its auditors from becoming too cozy with client companies.
In a case before an administrative law judge that began last year, the SEC alleges that Ernst & Young, the nation’s third-largest accounting firm, violated rules designed to keep accountants independent from the companies they audit when it engaged in business with a software company client.
The SEC filed a brief in the case a week ago that criticized the firm’s internal controls and asked that it be suspended for six months from new business from any publicly traded companies. The agency has not sought a suspension of a major accounting firm since 1975.
“It seems likely that (Ernst & Young) will continue to commit independence violations in the future,” the SEC said in its brief.
New York-based Ernst & Young issued a statement late Friday calling the SEC’s request “irresponsible” and saying that regulators had no reason to seek sanctions against the firm.
The accounting firm said an oversight group established at the direction of the SEC recently found that Ernst & Young’s independence policies “were effectively designed and implemented” and provided the company “with reasonable assurance of complying with the independence rules.”
The issue of auditor independence was among those at the heart of the Enron scandal, which raised questions about Enron’s longtime accountant, Arthur Andersen LLP, having done both auditing and consulting work for the energy-trading company.
Andersen was convicted last June of obstruction of justice for destroying Enron audit documents.
In the administrative proceeding, the SEC said that Ernst & Young was auditing the books of business software maker PeopleSoft Inc. at the same time it was developing and marketing a software product in tandem with the company. Ernst & Young engaged in the dual activities from 1993 through 2000, according to the SEC.
The firm has said that its conduct was appropriate and conformed with accounting profession rules.
It was the second time the SEC had brought an auditor independence action against Ernst & Young, which settled a 1995 action by agreeing to comply with independence guidelines.
The firm recently has come under fresh scrutiny over its role as longtime auditor for HealthSouth, the rehabilitation services company embroiled in a $2.5 billion accounting scandal.
Ernst & Young has been sued by shareholders seeking billions of dollars in damages in connection with its audits of HealthSouth and other big companies with accounting troubles, including AOL Time Warner and Cendant.
– Securities and Exchange Commission: http://www.sec.gov
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How soon we forget….
< < < FLASHBACK < < <
March 31, 1992
FIRMS SETTLE IN FRAUD CASE
Accounting firm Ernst & Young and law firm Jones, Day, Reavis & Pogue agreed Monday to pay $63 million and $24 million respectively to settle charges in a $1.2 billion civil fraud suit involving Charles Keating.
The firms were accused of helping deceive federal regulators about the health of Keating’s American Continental while the firm was allegedly defrauding investors who bought ACC bonds.
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23 Jan 96
Insurers of Merrett agents declare policies invalid.
Managing agents at Lloyd’s of London facing claims by hard-hit investors in the Merrett syndicates have been told that their insurance policies against such actions are invalid.
Solicitors for the insurers said yesterday that because the judgement in the Merrett case found that investors had been “wilfully” misled, the errors and omissions policies were void.
The move will be challenged vigorously by the agents and by Merrett Names – the investors whose assets have traditionally supported the insurance market. If the insurers are successful the move could xpose other parties to the action to potentially higher claims – especially Ernst & Young, the Merrett syndicates’ auditors.
In November the High Court ruled in favour of 2,000 Names on Merrett syndicates, having seen fresh evidence of negligent practice at the market.
The Merrett case centred on “run-off” contracts agreed in the early 1980s by which Merrett Names took on responsibility for claims outstanding on policies sold by other insurers. These left Merrett Names facing rapidly escalating bills for unforeseen US asbestosis and pollution claims.
For the first time auditors were also found to be negligent – paving the way for all auditors involved in litigation to make contributions to the market’s recovery plan.
A number of Lloyd’s agencies handling Names’ funds and Mr. Stephen Merrett, the underwriter and former deputy chairman of Lloyd’s, were also found negligent in the way that they had handled their business.
Clyde & Company, solicitors to the errors and omissions insurers, said: “This is not something that we have relished. The judgement was so fierce – we have been driven to take this step.” The solicitors confirmed that the Merrett managing agency had been informed the cover was “void”.
“This was prompted by the very trenchant findings of the judge about the behaviour of the Merrett managing agency – particularly that they wilfully withheld information in some matters.” Clyde & Company said: “The terms of the judgement took our clients by surprise. The strong implication is that if the Names were kept in the dark – then so were the underwriters.”
Mr John Mays, the chairman of the Merrett Names association, said: “They have given us notice of this but we will of course dispute it. We are not pleased, but it is not a shattering blow – it is an encumbrance.”
Mr Nick Land, senior partner of Ernst & Young, said: “The whole thing is still a moving feast but this does indicate the uncertainty which springs from the injustice of joint and several liability.”
The parties in the Merrett case are attending hearings in the High Court which will decide the principles on which damages will be set. Names want an interim payment while seeking total damages of up to �300m. . . .
For more on Underwriters Equity (Merrett) Reinsurance Co. and Marsh & McLennan, GO TO > > > The Marsh Birds
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December 8, 1999
CENDANT TO PAY $2.8 BILLION FRAUD SETTLEMENT
Shareholder Suit Was One of Largest in U.S. History
NEW YORK (AP) — Cendant Corp., the marketing and franchising company battered by accounting problems last year, has agreed to pay $2.8 billion to settle a shareholder lawsuit accusing it of fraud.
The settlement, announced Tuesday and subject to approval by a New Jersey federal judge, would end one of the largest shareholder suits in U.S. history….
Cendant, whose brands include Days Inn and Ramada hotels, the Avis car rental agency and real-estate brokerage Century 21, saw its stock price plummet last year after announcing the accounting irregularities, which forced the company to restate earnings from 1995 to mid-1998.
Cendant said CUC International, which merged with HFS Inc. to create Cendant in 1997, had used irregular accounting practices to inflate earnings by as much as $500 million over the previous three years.
The scandal prompted several resignations, and Cendant’s market value dropped by $14 billion in a single session last April.
Pension funds sue
In June 1998, the accounting woes prompted a class-action suit filed by two major pension funds — the California Public Employees’ Retirement System and the New York State Common Retirement Fund — on behalf of all shareholders. The plaintiffs accused Cendant of issuing false and misleading statements and allowing former company directors and officers to sell Cendant shares prior to the disclosures of the accounting problems. . . .
Audit board established
It also requires Cendant to adopt a number of changes in the way it governs itself, including setting up an audit board comprised entirely of independent directors rather than company officials.
Meanwhile, Cendant is suing Ernst & Young LLP, the accounting firm that represented CUC. As part of Tuesday’s settlement, shareholders will be eligible to receive 50 percent of any judgment against Ernst & Young.
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August 22, 2000
Cendant Lawyers Get Record $262 Million in Securities Fraud Case
Daniel Wise, New York Law Journal
Record-breaking awards in the Cendant securities fraud case were approved by a federal judge yesterday in New Jersey: a $3.1 billion settlement amount and $262 million in fees to attorneys for the plaintiffs’ class.
Cendant, a conglomerate that includes Avis car rental agencies and Ramada Inn Hotels, had agreed to pay $2.8 billion in December to settle security fraud charges stemming from the collapse of its stock price after accounting irregularities were disclosed in April 1998.
Ernst & Young, the accounting firm that had certified Cendant’s financial statement, also agreed to contribute $335 million toward the settlement. . . .
The most controversial component of yesterday’s ruling by U.S. District Judge William H. Walls of Newark, N.J., was his rejection of New York City’s contention that the fees of the injured investors’ lawyers should have been cut by $76 million, to $186 million. The two lead law firms for the plaintiffs were Bernstein Litowitz Berger & Grossman in Manhattan and Barrack, Rodos & Bacine in Philadelphia. The firms had been chosen by the three institutional plaintiffs selected by the judge to control the litigation as lead plaintiffs: the pension systems for California, New York State, and New York City. . . .
The $3.1 billion settlement was more than twice as large as the previous largest settlement in a securities fraud case: the $1.4 billion that Prudential Securities paid in 1994 to settle claims by its investors, many of them elderly, that they had lost money on high-risk investments they could ill afford.
The $262 million in attorneys’ fees set a record for an award in a securities fraud case.
FORTY-SIX PERCENT PLUNGE
Cendant’s stock plummeted by 46 percent on April 16, 1998, following the company’s disclosure of accounting irregularities affecting one of two companies that merged in 1997 to form Cendant.
The price of Cendant’s stock plunged from $34.62 a share to $19. In the aggregate, the paper value of the company declined by $14.4 billion that day.
In August 1998, Cendant announced that the pre-merger company, CUC International, had overstated its income by $640 million during the three years prior to the December 1997 merger.
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July 18, 2002
Lovell & Stewart Announces Class Action Lawsuit Against AOL Time Warner, Inc., Accounting Firm Ernst & Young, LLP
NEW YORK–(BUSINESS WIRE)–July 18, 2002–The law firm of Lovell & Stewart … filed a class action lawsuit on July 18, 2002 on behalf of all persons who purchased, converted, exchanged or otherwise acquired the common stock of America Online, Inc. between July 19, 1999 and January 10, 2001 and all persons who purchased, converted, exchanged or otherwise acquired the common stock of AOL Time Warner, Inc. (NYSE: AOL) between January 11, 2001 and July 17, 2002, inclusive.
The lawsuit asserts claims under Sections 10(b) and 20(a) of the Securities Exchange Act of 1934 and Rule 10b-5 promulgated by the SEC thereunder and the common law and seeks to recover damages….
The action, Fadem v. AOL Time Warner, Inc., et al., is pending in the U.S. District Court for the Southern District of New York (500 Pearl Street, New York, New York), Docket No. 02-CV-5575 (SWK) and has been assigned to the Hon. Shirley Wohl Kram, U.S. District Judge.
The complaint alleges that during the class period, AOL (and later AOL Time Warner) made misrepresentations and/or omissions of material fact, including affirmatively misstating AOL and AOL Time Warner’s revenue from online advertising sales by including in such revenues sums received as one-time payments in connection with the termination of contracts for online advertising.
The complaint further alleges that AOL artificially inflated its online advertising revenues for fiscal 1Q 01 by counting in such revenues $16.4 million in online advertising that AOL required an enterprise called 24dogs.com to purchase in order to settle a legal dispute, and that AOL Time Warner artificially inflated its revenues from online advertising sales by including in such revenues sums that AOL Time Warner received in connection with selling online advertising for online auction site eBay.
The complaint further alleges that defendant Ernst & Young, LLP violated the federal securities laws by certifying AOL Time Warner’s financial statements as incorporated in AOL Time Warner’s Annual Report for its fiscal year 2001 filed with the SEC on March 25, 2002 even though it knew (or recklessly failed to discover) that AOL Time Warner had counted in revenue sums received in connection with selling online advertising for online auction site eBay.
When The Washington Post revealed the foregoing on July 18, 2002, AOL Time Warner stock dropped to as low as $11.75, down from its Class Period high of $58.51.
Christopher Lovell, the senior partner at Lovell & Stewart, has been appointed lead counsel or co-lead counsel in numerous significant class actions, including actions involving reportedly the largest class action recoveries in history under three separate federal statutes (the Sherman Antitrust Act, the Commodity Exchange Act, and the Investment Company Act of 1940). These record-breaking recoveries for class plaintiffs included the $1.027 billion recovery in In re: NASDAQ Market-Makers Antitrust Litigation and a $145.35 million recovery in 1999 in In re: Sumitomo Copper Litigation, a class action against various parties who conspired to manipulate the worldwide copper and copper futures markets for their own profit.
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February 20, 2002
PNC REVISES 2001 EARNINGS AGAIN
PITTSBURGH – PNC Financial Services Inc. revised its 2001 earnings downward yesterday for the second time in three weeks, saying a $35 million bookkeeping error went undetected went undetected for much of last year.
At the end of January, PNC lowered its net income for the year by $155 million, or 53 cents a share, when regulators disagreed with the way in which the company handled the bookkeeping of $550 million in corporate loans.
Yesterday, PNC said it would further reduce its year-end earnings by $35 million – from $412 million, or $1.38 a share, to $377 million, or $1.26 a share – because of overstated earnings from its residential mortgage banking business, which was sold to Washington Mutual Inc.
PNC spokesman R. Jeep Bryant said the error dates to the first quarter of last year and was carried through on the company’s books until it was discovered as part of PNC’s year-end review.
The Pittsburg-based company … announced in October 2000 that it planned to sell the residential mortgage banking business to Washington Mutual for $605 million, subject to closing adjustments. The sale was completed in January of this year, Bryant said.
An investor filed suit against PNC and its auditor, Ernst & Young, earlier this month, accusing them of misrepresenting 2001 earnings.
Last year, PNC established three subsidiaries with American International Group Inc. and assigned the corporate loans to those companies. Federal regulators, saying the way PNC moved the loans off its books violated generally accepted practices, forced the company to return the loans to its balance sheet, along with their depreciation. . . .
PNC has hired the accounting firm of Deloitte & Touche to audit it financial statements this year and review PNC’s internal controls over the accounting and reporting process. . . .
For more on American International Group, GO TO > > > The Un-American Insurance Group
KPMG LLP – Uh-oh! . . .
KPMG is HUD’s auditor��and was their auditor when the $59 billion went missing and audited financials were simply not produced����apparently, they have decades of experience of helping government money go missing��.
January 23, 2003
KPMG EXPECTS SEC ACTION ON XEROX AUDITS
NEW YORK – The accounting company KPMG LLP, anticipating a possible SEC fraud complaint, yesterday issued a five-paage defense of its 1997 audits of Xerox Corp.’s financial statements.
KPMG’s chief executive, Eugene D. O’Kelly, said the complaint, which the company expected to be filed as early as next week in federal court in New York, would be “a great injustice.”
“At the very worst, this is a disagreement over complex professional judgments,” O’Kelly said in a statement….
KPMG issued a statement late yesterday in response to “a complaint KPMG learned may be filed by the SEC in federal district court against the firm, three current partners and one former KPMG partner in connection with its audits of the 1997-2000 financial statements of its former client, Xerox Corp.”
The company said it stood “firmly behind” those likely to be named in the complaint.
KPMG was dismissed in 2001 as Xerox’s longtime auditor.
In June, Xerox said it had booked billions of dollars in revenue before it should have over a five-year period and restated its financial results for 1997 through 2001 in compliance with the terms of a settlement of an accounting investigation by the SEC.
The restatement was required under the agreement. The SEC said the accounting improprieties increased the copier company’s reported pretax profits by $1.5 billion from 1997 through 2000.
Xerox posted too much revenue from equipment contracts up front instead of over the life of leases for servicing and financing equipment. That had the effect of pumping up a given year’s revenue figure.
Without admitting or denying wrongdoing, Xerox paid a $10 million civil penalty, the largest levied against a company for financial-reporting violations….
Outgoing SEC Chairman Harvey Pitt was criticized last spring for meeting privately with the head of KPMG – which Pitt had represented as a securities lawyer – as its audits of Xerox were being investigated.
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August 2, 2002
Marcos’ Missing Millions
By Lucy Komisar
Corporate corruption scandals roil the United States, dragging down with them the reputations of the major accounting firms that signed off on–or even designed–fraudulent financial practices. These global auditors were supposed to keep corporations honest. But a closer look at Switzerland, the birthplace of financial legerdemain, shows that accounting deceit is nothing new. Western financial managers cut their teeth designing systems for Third World dictators to loot their countries.
Perhaps the most notorious example is Ferdinand Marcos, who is suspected of stealing at least $10 billion from the Philippines before being overthrown in February 1986. The Philippine government has spent more than 15 years trying to track and recover the money, some of which was secreted away by Swiss bankers and stashed in offshore havens.
Now, a former attorney with accounting firm KPMG in Zurich has come forward claiming she has evidence that on March 23, 1986—-just a day before a freeze would be placed on Marcos’ accounts — KPMG secretly transferred $400 million from Credit Suisse Zurich to a Liechtenstein trust on the ex-dictator’s behalf.
The attorney, Marie-Gabrielle Koller — named in this article for the first time — first testified about the events behind closed doors before a French parliamentary commission in May 2000. Its report referred to her only as “Madame Z.” Last year, the Quebec native sent her information to U.S. authorities, but elicited no interest from Washington. Now Koller, 46, has privately offered to provide evidence to the Philippine government in exchange for a cut of the amount recovered. With interest, the hidden $400 million would be worth twice as much today.
Koller didn’t join KPMG until 1996, when she was assigned to the Credit Suisse account — a decade after the Marcos government fell. She learned of the midnight Marcos money-laundering operation from a colleague that year, after a Zurich court ordered the transfer to the Philippines of another account — originally worth $356 million — frozen in Switzerland since 1986.
That money had been held on the basis of documents found in the Presidential Palace days after Marcos fled to Honolulu in February 1986. But there were no documents about the $400 million. Bank officials had been warned that the Swiss Banking Commission, bowing to international pressure, was about to freeze all suspected Marcos accounts.
So, in the dead of night on March 23, 1986, lawyers for KPMG (then known as Fides, a subsidiary of Credit Suisse) moved the $400 million in Marcos funds to a Liechtenstein trust, Limag Management und Verwaltungs AG — which dispersed the money via new secret “foundations” (in German, anstalts). Limag AG was headed by Peter Sprenger, also the director of Liechtenstein’s Credit Suisse Trust AG and parliamentary leader of the Vaterlandische (Fatherland) Union, one of Liechtenstein’s conservative main parties.
Europeans joke that Liechtenstein is where Swiss bankers go to hide their money. The tiny country, just 72 miles east of Zurich, is the place where the Swiss send their dirtiest customers. Liechtenstein has gotten rich by laundering the money of drug traffickers, Mafiosi, tax cheats and other criminals.
A 1999 report from the German secret service described Liechtenstein as a criminal state in the middle of Europe. The German finance minister denounced the country as “a worm in the European fruit.”
Indeed, when clients wanted to transact “sensitive” business, KPMG referred them to associates in Liechtenstein — with the assurance of added secrecy and protection from foreign law enforcement inquiries. Koller says even Liechtenstein was initially “unhappy” with Marcos’ money being transferred there, but Limag resolved the problems by giving a well-paid board chairmanship to Prince Constantin, the elderly uncle of constitutional monarch Prince Hans-Adam II.
“The bank bought the Prince’s uncle,” Koller explained to the French parliamentary commission that was investigating money-laundering in Switzerland. “Everybody is bought in Liechtenstein.”
In 1997, Koller was fired by the manager of KPMG Zurich (which had been made independent of Credit Suisse — at least officially — so that it could continue as its auditor under new accounting regulations). She was sacked after testifying against a Credit Suisse Trust AG client who was involved in a conspiracy to sell tainted blood forcibly taken from prisoners by the Stasi, the East German secret police.
In addition, Koller believes she was fired because Credit Suisse realized that she — like other KPMG and bank employees — knew what happened to the Marcos money. She told the French inquiry: “My superior told me … that I would never work again as a lawyer and that my career was finished in Switzerland and in Liechtenstein because I had spoken to the authorities. ”
Last year Koller approached the Justice Department via Virginia lawyer David Smith, a former associate director of the Asset Forfeiture Office. There was no response from the Justice Department’s anti-money laundering division or from the FBI. Both offices declined to comment for this story.
So in February, Koller anonymously approached the Philippine government through her attorney, Ian M. Comisky of high-powered Philadelphia law firm Blank, Rome, Comisky & McCauley, which has close ties to the Bush administration.
In his letter, Comisky wrote, “KPMG-Fides and Limag AG employees made admissions regarding the transfer of the Marcos monies to Liechtenstein, and our client has contemporaneous memoranda prepared at the time of the admissions.” . . .
Lucy Komisar, a New York journalist, is writing a book about how bank and corporate secrecy support international crime and corruption. She reported from the Philippines at the time of the Marcos overthrow.
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January 15, 2002
SEC Censures KPMG for Having Investment in Client
By Albert B. Crenshaw, Washington Post Staff Writer
The Securities and Exchange Commission yesterday censured the giant accounting firm KPMG LLP for auditing a client’s financial statements at the same time it had what the SEC called “substantial financial investments in the client.”
The SEC called KPMG’s behavior “an extreme departure from the standards of ordinary care.” Stephen M. Cutler, the agency’s director of enforcement, said the censure “reflects the seriousness with which the SEC treats violations of auditor independence rules, even in the absence of demonstrated investor harm of deliberate misconduct.”
No monetary penalty was imposed. In addition to the censure, KPMG agreed to tighten its procedures and training to ensure that it remains fully independent of the clients it audits.
KPMG neither admitted nor denied the SEC’s allegations. And spokesman Bob Zeitlinger said the firm made the investment inadvertently “in what we thought was a mutual fund sponsored by . . . a non-audit client.”
SEC officials have been concerned about auditor independence for several years. The issue has been receiving renewed attention since the collapse of Enron Corp., including questioning the performance of its auditor, Arthur Andersen.
Two years ago, an SEC investigation of another big accounting firm, PricewaterhouseCoopers, found thousands of cases in which the firm’s partners and senior employees had financial interests in companies the firm was auditing. PricewaterhouseCoopers agreed to take various steps to prevent a recurrence.
Shortly afterward the SEC began a “look back” program that required accounting firms, including the five largest, to review their investments and weed out potential conflicts of interest.
In the KPMG case, the accounting firm served since 1976 as auditor of a family of mutual funds managed by AIM Management Group Inc. of Houston. In 2000, KPMG, at the recommendation of one of its lenders, SunTrust Bank, placed $25 million in AIM’s Short-Term Investments Trust, a money-market fund, the SEC said.
After 11 subsequent investments through September 2000, KPMG’s investment in the AIM fund reached 35 percent of the firm’s total invested surplus cash and roughly 15 percent of the fund’s net assets. Because the investment had come through SunTrust, KPMG personnel apparently did not grasp the situation, even though the accounting firm received statements clearly labeled AIM, the SEC said.
In fact, when the treasurer compiled a list of investments for the look-back program, it included one identified as “AIM Institutional Funds/Suntrust Bank,” according to the SEC. An AIM employee spotted the potential conflict in December 2000 during a routine check. “No member of the KPMG audit team had any prior knowledge that KPMG had an investment in an AIM fund,” the SEC acknowledged.
KPMG then resigned from all its AIM audit engagements.
© 2002 The Washington Post Company
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December 5, 1997
KPMG Conflict Cited in Audit of Company
By Albert B. Crenshaw, Washington Post
The Securities and Exchange Commission said yesterday that its staff, after a lengthy investigation, has accused accounting giant KPMG Peat Marwick LLP of violating professional standards and securities rules by auditing a company with which KPMG had extensive business relationships.
The agency said it would conduct a public hearing to determine whether the allegations are true, and if so what punishment is warranted.
The SEC staff contends that KPMG’s 1995 “Independent Auditors’ Report” of a financially troubled Long Island company called Porta Systems Corp. was not truly independent because of ties between the accounting firm, a consulting firm it organized, and the president of Porta, who was a part owner of the consulting firm.
Among other things, the accounting firm had lent $100,000 to the president of Porta, its audit client, and was entitled to a percentage of the earnings and other assets of Porta, the SEC staff charged.
KPMG Peat Marwick managing partner J. Terry Strange called the charges “a stretch” and said the firm “sought and obtained SEC approval” for the formation of the consulting firm, known as KPMG BayMark, in 1994. Its audit of Porta “was not affected in any way by the BayMark alliance,” and “resulted in an opinion that expressed doubts about Porta Systems’ ability to continue as a going concern,” he added.
Strange said the firm “is committed to protecting its independence and takes those responsibilities very seriously. He said KPMG Peat Marwick would “vigorously defend” itself and expects to be vindicated.
The case is significant because it involves a growing issue in accounting. CPA firms are increasingly expanding into consulting and other “value-added” services beyond auditing, and regulators are concerned that these new relationships could compromise the independence of their audit reports.
Audited financial statements are the data on which investors rely when evaluating companies and their securities. The SEC staff did not address the content of the audit but rather questioned whether KPMG should have conducted it given its relationship with BayMark and Porta.
Any suggestion that the audits are less than objective or that the auditors could benefit by shading the numbers they attest to could in the long run be very damaging to the nation’s financial markets.
The growing perception of potential conflicts of interest also worries the accounting profession. Earlier this year, the profession agreed with the SEC to establish a new Independence Standards Board to try to develop a better framework for evaluating auditor independence in today’s business world.
The KPMG case, as outlined yesterday by the SEC, illustrates the complex relationships that sometimes exist:
In 1995, KPMG Peat Marwick organized KPMG BayMark, owned by Edward R. Olson and three others, to engage in new lines of business, such as turnarounds of troubled companies. Later that year, KPMG was hired by Porta, a manufacturer and distributor of telecommunications equipment, to help with its problems. That relationship led to the installation of Olson as Porta’s president. At the time, Porta was an audit client of KPMG Peat Marwick’s Long Island office.
Olson, whom the SEC staff called the “principal decision-maker at Porta,” received the $100,000 loan, which created “a direct financial interest in Porta” for KPMG Peat Marwick, the staff said.
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November 28, 2000
Board Members Resign From Troubled Belgian Software Maker
By: SmartPros Editorial Staff
IEPER, Belgium, (SmartPros) —- Amid investigations into accounting regularities and reports of a possible conflict of interest at its internal auditor KPMG, troubled Belgian speech recognition software maker Lernout & Hauspie said three members of its board of directors have resigned.
Former co-chair and managing director Pol Hauspie, former managing director Nico Willaert, and former chief executive and president Gaston Bastiaens resigned from the firm last week. L&H also announced the immediate suspension of Joo Chul (John) Seo as president and general manager of L&H Korea and his removal as a director of L&H Korea. Seo was immediately relieved of all responsibilities.
“The decisions we have made represent the commitment of L&H’s new management and Board team to a comprehensive remedial course of action,” said John Duerden, managing director, president and chief executive of L&H. “We are committed to working closely with our outside auditor, KPMG, to restore their trust.”
On Nov. 9, the same day L&H announced it would restate its financial statements for 1998, 1999 and the first half of 2000 due to accounting irregularities uncovered during an internal investigation, Hauspie and co-founder Jo Lernout stepped down as co-chairs and managing directors of the firm. Hauspie had taken a leave of absence for medical reasons from his responsibilities as a board director. At that time, Willaert also stepped down as managing director.
Dong-Hee (Daan) Kim, formerly a vice-president with the enterprise and telephony solutions division, has been appointed acting president and general manager of L&H Korea.
Shortly after the firm’s decision to restate its financial results, its independent auditor, KPMG Bedrijfsrevisoren, said that its auditor’s reports relating to the company’s financial statements for 1998 and 1999 could “no longer be relied upon.”
L&H also said that in the course of its investigations, its internal audit committee identified “facts which may have been concealed from its auditor.”
The Wall Street Journal earlier this month reported a potential conflict of interest at the Big Five firm, in light of a discovery that the KPMG partner who was in charge of auditing L&H for many years had joined an L&H affiliate last year, shortly after KPMG signed off on the Belgian software company’s now-disputed 1998 accounts.
BayMark also was entitled to fees, including a “success fee” of 5 percent of Porta’s earnings for three years plus a percentage of its inventory and restructured debt. BayMark in turn was required to pay 5 percent of its income to KPMG Peat Marwick, creating what the SEC staff called “a contingent interest” in Porta’s earnings, inventory and debt.
Because of these and other relationships KPMG “lacked independence” when it signed off of Porta’s financial statements, which rendered them “materially false and misleading,” the staff charged.
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[Catbird: It seems that Kamehameha Schools has quietly picked KPMG to replace the controversial PricewaterhouseCoopers as their new auditor. H-m-m-m.]
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For more on Kamehameha Schools, GO TO > > > Dirty Money, Dirty Politics and Bishop Estate
PricewaterhouseCoopers – A nest so big it won’t fit in this tree.
For lots more poop on PricewaterhouseCoopers, GO TO > > > What Price Waterhouse?
MORE, from Public Citizen:
Public Citizen | Critical Mass Energy and Environment Program |
For more of the Big Five jive from the Enron fallout, GO TO > > >
The Accountant’s Hoedown
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Last update June 2, 2003, by The Catbird.