Personal vs. business morality

[CPA2]

Enron and Financial Statements

Kmart, Global Crossing, and Enron filed for bankruptcy in 2001. Enron’s list of creditors is fifty-four pages long and most creditors will never see a penny (Weiss, 2002). Enron’s stock price went from $90 to 26 cents and over $66 billion in capital went up in smoke; 58,920 investors were wiped out (Weiss, 2002). Additionally, Kmart and Global Crossing’s bankruptcies devastated the earnings of hundreds of suppliers and savings of thousands of investors.

Kmart, Global Crossing and Enron all have one thing in common; they used murky and overly complex accounting. Some may even use the word fraud, but that word is rarely used in polite conversation. “Even the official pronouncements avoid the term, using instead expressions such as material misstatements, irregularities, misappropriation of assets, defalcations and misrepresentations (Journal of Accountancy, 1996).”

References
American Institute of Certified Public Accountants, Inc., (1996). Management accounting: how to spot fraud. Journal of Accountancy, 85.
Weiss, M. (2002, February). 2,467 listed companies suspect of cooking books! 8 corporate earnings killers about to smash Wall Street! Safe Money Report.

 

[royal_archer]

I have a difficult time getting a handle on the concept of ethics. I have an even more difficult time trying to understand how to effectively and efficiently enforce the concept. Let me give an example.

A balance sheet is a financial picture. It is a photo of your stuff and claims on your stuff. Business will do everything they can to make their financial photograph (balance sheet) look as good as possible. This is not how the business looks at all. Is business acting ethically? How are you going to force business to act “ethically?”

You can’t force an entity to act ethically. you can only force them to follow rules. However if a company is very liberal with how they proclaim their financial situation it may fool people for a quarter or two but eventually the long term performance will be exposed and people will see the entity for what it is. Then they should boycott, avoid, shun, etc. those individuals and groups that they feel are less ethical.

At the same time you have to reward those entities that do go above and beyond to do the right thing even if it is not to their advantage. For instance if a major corporation found that an employee (acting on their own) does something unethical or illegal. Some corporations will cover it up and others will turn over the employee and evidence to the authorities and forfeit any contracts the employee was involved in. Unfortunately our society hammers companies who clean up their own houses and kick out the garbage. While giving those companies who cover up their indescresions a free pass.

 

[royal_archer]

Enron and Financial Statements

Kmart, Global Crossing, and Enron filed for bankruptcy in 2001. Enron’s list of creditors is fifty-four pages long and most creditors will never see a penny (Weiss, 2002). Enron’s stock price went from $90 to 26 cents and over $66 billion in capital went up in smoke; 58,920 investors were wiped out (Weiss, 2002). Additionally, Kmart and Global Crossing’s bankruptcies devastated the earnings of hundreds of suppliers and savings of thousands of investors.

Kmart, Global Crossing and Enron all have one thing in common; they used murky and overly complex accounting. Some may even use the word fraud, but that word is rarely used in polite conversation. “Even the official pronouncements avoid the term, using instead expressions such as material misstatements, irregularities, misappropriation of assets, defalcations and misrepresentations (Journal of Accountancy, 1996).”

References
American Institute of Certified Public Accountants, Inc., (1996). Management accounting: how to spot fraud. Journal of Accountancy, 85.
Weiss, M. (2002, February). 2,467 listed companies suspect of cooking books! 8 corporate earnings killers about to smash Wall Street! Safe Money Report.

I suspect you have three things going on here. 1 deliberate factual errors where people blatantly lied which is a legal issue. 2. creative accounting where they told the truth but spun it in an unreasonably positive light which is an ethics issue and is something that should reflect on the reputations of those companies and their employees. 3. lack of owner oversight. For instance most Americans have 401ks and that money goes into some ambiguous fund and for the most part we have no idea what we are buying with that money.

And to be honnest the financial aspect tend to overshadow the safety aspects. Look at what Dupont is getting away with by pedling poisons as safe products.

 

[CPA2]

“Plenty of Opportunity to Fool Around”

The primary problem in accounting is the rules. Rules allow CEOs to juggle and manipulate the books. The SEC had this to say about the “shades of gray” associated with rules-based accounting: “Excessively detailed accounting standards not only constitute a guideline to fraud, but a ready-made set of defenses, providing management and accountants with the colorable claim that they followed the rules, even while they may have intended to mislead.” FASB 52 is an example.

FASB 52 tells companies how to convert foreign currencies into dollars. However, it is basically a management call. FASB 52 allows management to choose the “functional currency” for each foreign subsidiary. If a company chooses a foreign currency as its functional currency, gains and losses from currency conversions go into shareholders’ equity.

The fall of the dollar against most foreign currencies had a major effect on many international companies. The equity of IBM, Exxon and Ford’s increased. However, Texaco, Hewlett-Packard and Chrysler’s equity did not change. If all the companies had foreign operations, why was there an increase in equity only for IBM Exxon and Ford? The answer is that IBM, Exxon and Ford chose a foreign currency as their functional currency. Foreign currencies rose against the dollar, and when those foreign currencies were translated to American dollars, IBM, Exxon and Ford added those gains to their equity.

FASB 52 is murky. For example, Pan Am took a charge against income because it had a large of amount of debt denominated in yen. When the yen increased in value against the dollar, Pan Am’s debt increased. Oppenheimer’s Weinger says that you are not alone if you are confused!

Weinger says that FASB 52 is a great improvement over FASB 8. Under FASB 8 currency gains and losses went into net income. FASB 52 avoids the wild gyrations in net income. However, no one is happy with FASB 52, but that is okay because everyone is equally unhappy.

 

[CPA2]

Questionable accounting practices are many and varied. However, all the gimmicks and shenanigans have one thing in common; they are meant to make a company’s financial statements look better than they actually are. Assets are either goosed up, or expenses are omitted. Unfortunately, many of the accounting gimmicks are “perfectly legal” under GAAP.

Despite all the talk of ethics and the Enron debacle, I do not see much change in the accounting rules. It is business as usual. There is no clear separation between consulting and auditing. Stock options to executives are not an expense. Nothing has changed.

By the way, I know how Enron hired their accountants. Enron asked the interviewee what 1 + 1 was. If the interviewee answered two, Enron did not hire the accountant. Enron only hired the accountants who answered, “Whatever you want 1 + 1 to be.” Enron wanted creative accountants.