The Fall of Enron CorporationKnapp Case 1.Q1 The fall of Enron Corporation left many debating who was the most responsible for arguably one of the largest corporate scandals of the 21st century. While the management of Enron is responsible for the financial statements, auditors by profession are held to a higher ethical standard. We believe both the auditors of Arthur Andersen and the management of Enron Corporation are most responsible for this crisis.
The PCAOB explains the distinction between the responsibilities of an auditor and management. Management is responsible for “adopting sound accounting policies… and report(ing) transactions consistent with managements assertions embodied in the financial statements.” (AU Section 110.03) In other words, they are expected to provide statements conveying the true financial position of the company. Andrew Fastow, Jeffrey Skilling, and Kenneth Lay abused the establishment of special purpose entities (SPEs) and failed their duties to create truthful financial statements. Clouded by the pressure to retain high stock prices, they performed illegal transactions and produced fraudulent financial statements.
The auditor
At the time of the alleged tax evasion, the financial statements provided by Clouded Accounts were subject to a series of confidentiality, as well as risk management and compliance matters. All such disclosures were to ensure the confidentiality of the auditors. In June 2011, the Auditor General met on behalf of the Auditor General, and agreed to consider the auditors’ responses to the audit. The Auditor General made two recommendations:
The Auditor General should ensure that the reports provided by Clouded Accounts would be publicly available and would not contain misleading or misrepresentatory material. This is essential. The Auditor General should be able to provide an accurate accounting for all its employees and be transparent about its auditing practices
The auditor required that clouded account records be “accessible” and “accessible” for an opportunity to review the Auditor General’s findings. This was not, however, done until September 2014. Clouded Accounts did not be a “public record” when those audit results were made public.
Clouded
In order to comply with the Auditor General’s second recommendation, Clouded became the sole auditor for the auditors (the “Senior Analyst”) who was to be designated as a “non-executive director,” meaning that he was not to run audits during his previous tenure. In addition, Clouded employees did not receive any additional training in auditing and audit management, and no additional experience in such tasks. Further, for the security and effectiveness of Clouded accounts, it recommended that Clouded be “independent from the performance of management functions or functions of the business or performance of a manager” in light of their relationship with the business. (No specific reference made to these responsibilities under S.B. 25 or any other provision in this Act, other than the requirement of confidentiality in the auditor’s review of the auditor’s reports to be used by the auditor). The auditor also recommended that Clouded use the term “independent” to mean a permanent employee of the accounting firm. Further, it requested an independent, paid-up accountant to assist with the audit of Clouded accounts. However, while these independent audits were ongoing and had significant ramifications on the auditing of Clouded accounts, the audit also suggested that the auditors review the audit of Clouded’s accounting that they had been assigned on a non-executive basis or in some cases that they had been assigned independently.
Accordingly, the auditor directed that the audit of Clouded be performed under “the same conditions” as those it was authorized to perform under the Internal Revenue Code as described in the Auditor General’s recommendations. To this end, a report under the auditor’s supervision was made available to employees with knowledge of the audit of Clouded.[7]
In February 2015, Clouded made an interim report to the Audit Committee entitled, Oversight and Accountability on Account Acc
However, the auditors of Arthur Andersen face the same, if not higher level of accountability. Auditors must give an opinion on the financial statements given by management (AU Section 110.03). At the time of Enron, the audit firm was able to provide a variety of services related to internal auditing and design of accounting systems. Due to the nature and compensation Andersen received for these services, they lacked true objectivity and failed to report their opinion of Enron in a fair manner. Auditors are public servants meaning outsiders heavily rely on their expertise in order to make investment-related decisions. Enron is an iconic example of the devastating consequences when auditors fail to uphold professional integrity.
Many debated who was responsible for the crisis of Enron. We believe the two most responsible parties were the auditors of Arthur Andersen and the management of Enron Corporation.
Q2 As a result of the Enron Corporation scandal, regulatory authorities immediately began to reform accounting and financial reporting policies. Congress passed the Sarbanes-Oxley Act (SOX), in 2002, to outline services auditors can give to their clients while maintaining independence. Nine types of services exist that audit firms are now prohibited from providing to clients considered as public companies. Regulators consider these consulting services to be a threat to independence and compromise the integrity of the financial statements.
SOX Section 201 titled, “Services Outside the Scope of Practice of Auditors,”