Accounting Fraud& the New SEC Task Force

Malvika JainWinsy Wong

Mackenzie O’DonnellMBA 6011: Financial & Managerial Accounting

A background look at“New Fraud Crackdown Looms”

by Emily ChasanWall Street Journal, July 9 2013

“Asking Tough Questions, Delivering the Truth”

-Emily Chasan, WSJ, on her aggressive reporting style

Always investigate the backgrounds of the folks who bring you the news!

Senior Editor at the Wall Street Journal’s CFO Report on accounting & auditing.

Former Senior Hedge Fund Correspondent for Reuters in NYC & Stock Market.

Former team leader of the Reuters bankruptcy and restructuring team, leading coverage of the bankruptcies of Lehman Brothers, General Motors and Chrysler.

Reuters Company News Reporter of the Year, 2008NewsBios 30 Under 30 Award, 2007

Newswomen's Club of NY Front Page Award, 2007Newswomen's Club of NY Front Page Award, 2006

Fat Cigars & Private Jets: Recent Financial Fraud

Who’s In Charge Here? The SEC and Sarbanes- Oxley

2010 Whistleblower Amendment

A New SEC Task Force

What Factors are in Play Now? Advice for Corporate Management

Overview

Fat Cigars & Private Jets

Jeffrey Skilling, CEOENRON – Gas & Energy

$138.7bn to bankrupt in 2001‘America’s Most Innovative Company’

• Hid debts & losses in Offshore accounts

• Mark to Market revenue recognition Counted unearned rev

• Used Merchant Model. Reported sales price as rev instead of just the middle-man’s cut.

• Snowballed. Recorded flop ventures as making profits.

Bernie Ebbers, CEO, Worldcom – Long distance phone callingFormer Sunday School Teacher & basketball coach. Worldcom lost $11bn in accounting fraud in 2002

Recognized revenue from unallocated accounts

Capitalized ‘line costs’ instead of expensing

Dennis Kozlowski, Tyco International – Security systems

Cost company $600 million with Swartz & Belnick, 2002

Sentenced 25 years in jail.

Took personal loans, not revealed to stockholders

Spring loaded. Concealed positive news for future benefits.

MAJOR &minor

So Who’s in Charge Here?

THE ENFORCEMENT AUTHORITY:UNITED STATES SECURITIES & EXCHANGE COMMISSION

Since 1934 the SEC has overseen key participants in the finance & securities sectors: securities exchanges, securities brokers & dealers, investment advisors, mutual funds.

Each year the SEC brings hundreds of civil enforcement actions against individuals & companies for violation of security laws.

Typical infractions about securities and the companies that issue them:-insider trading

-accounting fraud-providing false or misleading information

Public Company Accounting Reform and Investor Protection Act, more commonly referred to as Sarbanes-Oxley Act or SOX

2002Sarbanes-Oxley Act

Federal law setting new standards for all public

company boards, management & public

accounting firms.

Management Reporting - Management Certifications

-Management Report on Internal Controls

Auditor Independence

Board Governance

Management & Board Conduct

Enforcement & Penalties

- Audit Committee Standards

- Prohibition of loans to Directors & Officers

-Accelerated Reporting of Insider Trading

-Disclose Code of Conduct for finance officers

- Whistleblower Protection

-Public Company Oversight Board (PCAOB)

-Criminal Penalties for known untrue certifications

-Audit Committee pre-approves all auditor services- Lead audit partner limited to 5 year rotation

Janet DolanPresident and CEO

Tennant Co., Minneapolis Industrial cleaning products

"well-intentioned but it was a rush to judgment.... (Congress) just threw something at corporate America and left it to us to figure out.... The

legislation was broad on requirement and short on specificity."

FEEDBACK

FEEDBACK

Richard BreedenFormer Chairman of the SEC

Director of BBVA, a Spanish bankCourt-appointed monitor for WorldCom Inc., now MCI

“one of the most important acts passed in decades… but accounting firms see (a) license to audit controls. That means every control has to have a written set of procedures with the need

to audit now very costly.”

Dan HaleVice President and Chief Financial Officer

Allstate Corp., Northbrook, Ill.

" without precise definitions, different auditors may reach different conclusions, even in similar situations.”

Frank Dodd: The 2010

Whistleblower Protection

AmendmentSEC is authorized by Congress to provide monetary awards to eligible individuals who come

forward with high-quality original information that leads to a Commission enforcement action in which over $1,000,000 in sanctions is ordered. The range for awards is between

10% and 30% of the money collected.

Whistleblowers help the SEC identify possible fraud violations early.

Assistance from a whistleblower who knows of violations is among the most powerful weapons in the law enforcement arsenal of the SEC.

Allows the Commission to minimize harm to investors, better preserve the integrity of the United States' capital markets, and more swiftly hold accountable those responsible.

…despite SOX act, fraud still continues…

Companies may still easily be shifting their accounting and that a new crackdown on fraud with new rules may only be providing new loopholes to discover and exploit.

WHY Launch the Task Force NOW?

“The next fraud is going to happen, it’s just a matter of time” -James Walker, Former Chairman

Institute of Management Accountants’ Ethics Committee

BACKGROUND:Launched on 7/2/2013

Targeting 9,000 publicly traded companies

Enforced by an expert committee of attorneys and accountants

PURPOSE:Fraud Detection at earlier stage

Being Proactive NOT Reactive

To increase prosecution of violations involving false or misleading financial statements and disclosures

HOW IT WORKS: Ongoing review of financial statement restatements and revisions

Analysis of performance trends by industry

Insider help - bounties to whistleblowers

Technologically advanced software: Accounting Quality Model

Others

• Management’s Discussion and Analysis

On the Books

• Revenue Recognition

• Off-Balance Sheet Transactions

• Capitalized VS Noncapitalized Expenses

• Financial Reserves

• Acquisition Accounting

Protection from Accounting Frauds

On-going Process

• Internal Accounting Control (GAAP Standard)

• External Accounting Control

• Consult SEC for Rules

• Increase Transparency

What Factors Are In Play Now?

Watch Out! Whistleblowers can come from within your company

Watch Out! SEC will detect when you make changes to your statements

Watch Out! Auditors will not necessarily on your side doing you a favor