Term Paper on "Independent Auditor Has Been Playing an Important"

Term Paper 6 pages (1879 words) Sources: 1+

[EXCERPT] . . . .

independent auditor has been playing an important part in helping to ensure that a corporation's balance sheet and financial records are in compliance with different regulations. This is because there have been specific laws that allow auditors to be held accountable for their actions (such as: the Securities and Exchange Act of 1934). Under rule 10b5-1, the act allows auditors to be the subject of civil litigation for their role in a fraud that was committed. In most cases, this law will serve as a guideline for monitoring the actions of publically traded corporations and their executives. (Knapp, 2012, pp. 387 -- 388)

However, there are situations when the independence of auditors has been brought into questions. As they helped to perpetrate the fraud, by hiding the illicit activities from investors and regulators. In the last 12 years, these acts of deceit have become so engrained inside some organizations that no one knows what is happening until it is too late. This is when ordinary investors will more than likely lose out. (Knapp, 2012, pp. 387 -- 388)

There are remedies that can be sought under the Securities and Exchange Act of 1934. The problem is that this will involve lengthy civil litigation which can turn into some kind of class actions lawsuit. It is this point that the chances of investors recovering any of their funds will decline to almost zero. This is because of: the settlement, attorney's fees and court costs will eat away at any remaining assets of the firm. Once this takes place, is when investors will receive pennies on the dollar for their troubles. This is significant, because it is showing how independent auditors will play a central role in protecting the interests of the general public. When they fail to do this, it can cause ordinary investors to lose confidence in the markets and the information they receive. (Knapp, 2012, pp. 387 -- 388)

Thesis Statement

As a result, there will be a focus on the ethical issues surrounding independent auditors. To do this there is an emphasis on being vigilant and identifying possible strategies for dealing with these challenges. This is when we can show how the independent auditor is serving in a capacity that is protecting: the interests of investors, corporations and regulators.

Body

From a legal perspective, auditors are required to report their findings to regulators when any kind of potential fraud is discovered. However, there have been instances when these individuals were a part of the actual fraud that was committed. This allowed the total number of illegal activities to increase. While investors, were under the belief that the company was building for the future. Yet, in reality the new capital that executives were receiving was designed to support their personal activities. In some cases, this meant they were provided with loans to purchase properties, stocks and other items. At the same time, many of these individuals would comingle company funds with their own. This caused a number of executives to live lavish lifestyles, as they were touting how the company was rapidly expanding. Once the economy slowed down, is when these kinds of activities were difficult to hide (effectively bringing them out into the open). (Obringer, 2012)

A good example of this occurred with Tyco. During the 1990s, their celebrity CEO (Dennis Kozlowski) touted how he was turning the company into another GE with operations around the world. The problem was that many of these businesses were not producing the returns that were stated by executives. Instead, these segments were losing money. Moreover, Kozlowski and select executives had been using different company funds for expensive vacations, parties and to purchase a wide variety of personal assets (i.e. artwork, property and securities). When the fraud was unraveling, company executives continued to maintain that they were following the law. However, once it was revealed what activities were taking place, is when the board of directors turned on Kozlowski. It is at this point, that he and several key executives were convicted of fraud. This is significant, in showing how auditors helped these activities by not reporting what they knew to regulators. (Markham, 2005, pp. 234 -- 243)

In response to these issues, there have been new laws enacted to improve the independence of auditors (i.e. The Sarbanes-Oxley Act). This increased the authority over actuaries through the creation of the Public Company Accounting Oversight Board (PCOB). Moreover, there were specific guidelines that were imposed to ensure greater accountability to include: expanding the power of auditing committees, frequent partner rotations and registration with the PCOB. The combination of these factors has helped to improve the ability of auditors to maintain a certain degree of independence. (Keuppers, 2010)

The Challenges that Auditors will be Facing in the Future

The biggest ethical challenges all auditors will face is becoming too close with clients. This is problematic, because during the course of conducting an audit; actuaries will work with individuals from: accounting, compliance and the legal departments inside the firm. Over the course of time, this can lead to auditors becoming more susceptible to the influences of executives. In these kinds of situations, they can gently push these individuals to look the other way on minor oversights. The fact that they allowed this to go by, means that unscrupulous executives could use this as a tool to blackmail the auditor. As they can claim that this person is knowingly violating their fiduciary and legal responsibilities. Once this takes place, is when executives can bring these individuals into the fraud and use any kind of information for buying their silence. (Keuppers, 2010)

This is troubling because, it could have an impact on their ability to report a host of illegal activities. Over the course of time, this can allow many different kinds of fraud to occur (making the overall scope of the scam larger). Once these transactions have been discovered is when the auditor and their firm could be subject to criminal or civil litigation. This is creating a conflict between: the status of the auditor and executives inside the firm. It is at this point that investors will lose confidence in the information that is provided and the statements that are made by managers. (Keuppers, 2010)

A recent example of this occurred with the Ponzi scheme involving Bernie Madoff. For nearly 20 years, he was able to quietly swindle $65 billion dollars out of investors, charities, mutual funds and celebrities. This occurred without Madoff ever investing the money into the public markets (like he had claimed). Instead, any new funds that were being received, was paid out existing investors (in an effort to keep the con going). Once the economy began to slow in 2008, is when Madoff was running out of funds. This is when he disclosed to his sons that the entire investment firm was nothing more than a fraud. (Sarna, 2010, pp. 257 -- 269)

What allowed this to continue for so long is the independent auditor was directly working with Madoff. Evidence of this can be seen with the fact that the company had a three person accounting firm advising them (i.e. Friehling & Horowitz). In the 15 years that they were serving as Madoff's independent auditor, they never once conducted an actual audit. Instead, the reported to the American Institute of Certified Public Accountants (the board that sets accounting standards for privately held U.S. companies) that the firm was not involved in these activities. This is despite the fact that they were supposed to be conducting some kind of regular investigation into the financial activities of Bernard Madoff Securities. (Sarna, 2010, pp. 257 -- 269)

The fact that they never reported conducting an audit is a sign that this firm was a part of the fraud itself. The way that this occurred is executives would certify that the actual information being provided to regulators was correct. Yet, in reality no one had looked at any of the activities or books of the company. This allowed the overall scope of the fraud to increase in size. As Bernard Madoff, was able to present himself in the image of stock market guru (who was actually defrauding thousands clients). (Sarna, 2010, pp. 257 -- 269)

The way an auditor would be truly independent is to not allow these kinds of relationships to become anything more than professional. In the event that there is some kind of oversight discovered (on the part of the actuary), they should admit their mistake and move on. This will make it difficult for executives to claim that this person is helping to cover up illegal activities. Furthermore, if an individual is approached about doing something unethical, they should report their findings to their supervisors and regulators. If this kind of an approach is taken, it will ensure that the auditor is not susceptible to blackmail and that there are certain professional standards maintained at all times. (Keuppers, 2010)

A second ethical issue that many auditors will face… READ MORE

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