Accounting scandals, or corporate accounting scandals, are political and business scandals which arise with the disclosure of misdeeds by trusted executives of large public corporations. Such misdeeds typically involve complex methods for misusing or misdirecting funds, overstating revenues, understating expenses, overstating the value of corporate assets or underreporting the existence of liabilities, sometimes with the cooperation of officials in other corporations or affiliates.
In public companies, this type of "creative accounting" can amount to fraud and investigations are typically launched by government oversight agencies, such as the Securities and Exchange Commission (SEC) in the United States.
Scandals are often only the 'tip of the iceberg'. They represent the visible catastrophic failures. Note that much abuse can be completely legal or quasi legal.
It is fairly easy for a top executive to reduce the price of his/her company's stock - due to information asymmetry. The executive can accelerate accounting of expected expenses, delay accounting of expected revenue, engage in off balance sheet transactions to make the company's profitability appear temporarily poorer, or simply promote and report severely conservative (eg. pessimistic) estimates of future earnings. Such seemingly adverse earnings news will be likely to (at least temporarily) reduce share price. (This is again due to information asymmetries since it is more common for top executives to do everything they can to window dress their company's earnings forecasts). There are typically very few legal risks to being 'too conservative' in one's accounting and earnings estimates.
A reduced share price makes a company an easier takeover target. When the company gets bought out (or taken private) - at a dramatically lower price - the takeover artist gains a windfall from the former top executive's actions to surreptitiously reduce share price. This can represent tens of billions of dollars (questionably) transferred from previous shareholders to the takeover artist. The former top executive is then rewarded with a golden handshake for presiding over the firesale that can sometimes be in the hundreds of millions of dollars for one or two years of work. (This is nevertheless an excellent bargain for the takeover artist, who will tend to benefit from developing a reputation of being very generous to parting top executives).
Similar issues occur when a publicly held asset or non-profit organization undergoes privatization. Top executives often reap tremendous monetary benefits when a government owned or non-profit entity is sold to private hands. Just as in the example above, they can facilitate this process by making the entity appear to be in financial crisis - this reduces the sale price (to the profit of the purchaser), and makes non-profits and governments more likely to sell. Ironically, it can also contribute to a public perception that private entities are more efficiently run reinforcing the political will to sell off public assets. Again, due to asymmetric information, policy makers and the general public see a government owned firm that was a financial 'disaster' - miraculously turned around by the private sector (and typically resold) within a few years.
Notable accounting scandals
The Enron scandal turned in the indictment and criminal conviction of the Big Five auditor Arthur Andersen on June 15, 2002. Although the conviction was overturned on May 31, 2005 by the Supreme Court of the United States, the firm ceased performing audits and is currently unwinding its business operations.
On July 9, 2002 George W. Bush gave a speech about recent accounting scandals that have been uncovered. In spite of its stern tone, the speech did not focus on establishing new policy, but instead focused on actually enforcing current laws, which include holding CEOs and directors personally responsible for accountancy fraud.
These scandals reignited the debate over the relative merits of US GAAP, which takes a "rules-based" approach to accounting, versus International Accounting Standards and UK GAAP, which takes a "principles-based" approach. The Financial Accounting Standards Board announced that it intends to introduce more principles-based standards. More radical means of accounting reform have been proposed, but so far have very little support. The debate itself, however, overlooks the difficulties of classifying any system of knowledge, including accounting, as rules-based or principles-based.
On a lighter note, the 2002 Ig Nobel Prize in Economics went to the CEOs of those companies involved in the corporate accounting scandals of that year for "adapting the mathematical concept of imaginary numbers for use in the business world".
In 2003, Nortel made a big contribution to this list of scandals by incorrectly reporting a one cent per share earnings directly after their massive layoff period. They used this money to pay the top 43 managers of the company. The SEC and the Ontario securities commission eventually settled civil action with Nortel. However, a separate civil action will be taken up against top Nortel executives including Dunn, Beatty, Gollogly, Pahapill and Hamilton. These proceedings have been postponed pending criminal proceedings in Canada.
In 2005, after a scandal on insurance and mutual funds the year before, AIG is under investigation for accounting fraud. The company already lost over 45 billion US dollars worth of market capitalisation because of the scandal. This was the fastest decrease since the WorldCom and Enron scandals. Investigations also discovered over a billion US dollars worth of errors in accounting transactions. Future outcome for the company is still pending.
- Corporate abuse
- Corporate scandal
- Creative accounting
- Dotcom bubble
- Forensic accounting
- Financial crisis of 2007-2010
- Philosophy of accounting
- Sarbanes-Oxley Act
- Savings and loan crisis
- Securities fraud
- Vivien v. Worldcom
- White-collar crime
- Accounting ethics
- Notable Scams in India
- Owen, J. Sleight of Hand : The $25 million Nugan Hand Bank Scandal; Balmain, Sydney, Australia: Colporteur Press, 1983. ISBN 0-86399-023-1
- Minkow, Barry, Clean Sweep:The Inside Story of the Zzzz Best Scam... One of Wall Street's Biggest Frauds, ISBN 0-7852-7916-4
- Reece, Damian (January 13, 2004). "Deloitte's John Connolly faces call to resign over Barlow Clowes link". The Independent (London). http://www.independent.co.uk/news/business/news/deloittes-john-connolly-faces-call-to-resign-over-barlow-clowes-link-572880.html. Retrieved April 23, 2010.
- "Fraud Is Cited at Miniscribe". AP (New York Times). 1989-09-13. http://query.nytimes.com/gst/fullpage.html?res=950DE3DE1130F930A2575AC0A96F948260. Retrieved 2007-10-12.
- Cases in Corporate Governance by Robert Wearing, Pages 41 to 53
- Cellan-Jones, Rory (2005-11-02). "The end of an epic". BBC News Online (BBC). http://news.bbc.co.uk/1/hi/business/4401210.stm. Retrieved 2007-09-28.
- FRONTLINE: how to Steal $500 Million
- A financial history of modern U.S. corporate scandals, p. 228
- "Inside Informix's Demise". Revrec. http://www.revenuerecognition.com/content/experts/8976.asp.
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- "Waste Management settles". CNN. November 7, 2001. http://money.cnn.com/2001/11/07/news/waste_mgt/index.htm.
- "Ex-CA chief Kumar pleads guilty". CNN. April 24, 2006. http://money.cnn.com/2006/04/24/technology/kumar/index.htm.
- "One.Tel auditor was linked to Packer". The Sydney Morning Herald. October 26, 2005. http://www.smh.com.au/news/business/onetel-auditor-was-linked-to-packer/2005/10/25/1130239522655.html.
- Robert Bryce, Pipe Dreams: Greed, Ego, and the Death of Enron (PublicAffairs, 2002) ISBN 1-58648-138-X
- "Today In Business". The New York Times. January 6, 2007. http://query.nytimes.com/gst/fullpage.html?res=9D05E4D61430F935A35752C0A9619C8B63. Retrieved April 23, 2010.
- Ex-ImClone boss admits fraud
- SEC Charges KMart's Former CEO and CFO With Financial Fraud
- Khan, Kim (May 21, 2002). "Merrill settles charges". CNN. http://money.cnn.com/2002/05/21/news/companies/merrill/.
- SEC Settles With Ex-Andersen Partner In Sunbeam Probe
- Starkman, Dean (November 29, 2005). "Ahold Settles Lawsuit for $1.1 Billion". The Washington Post. http://www.washingtonpost.com/wp-dyn/content/article/2005/11/28/AR2005112800144.html. Retrieved April 23, 2010.
- "Italian dairy boss gets 10 years". BBC News. December 18, 2008. http://news.bbc.co.uk/2/hi/business/7790803.stm. Retrieved April 23, 2010.
- "Wall Street legend Bernard Madoff arrested over '$50 billion Ponzi scheme'". Times Online (London: Times Newspapers Ltd). December 12, 2008. http://www.timesonline.co.uk/tol/news/world/us_and_americas/article5331997.ece. Retrieved December 13, 2008.
- Efrati, Amir (March 19, 2009). "Accountant Arrested for Sham Audits". The Wall Street Journal. http://online.wsj.com/article/SB123738779664971505.html.
- Sharrock, David (December 20, 2008). "Anglo Irish Bank bosses quit after hiding loans of 87m". The Times (London). http://business.timesonline.co.uk/tol/business/industry_sectors/banking_and_finance/article5372566.ece. Retrieved April 23, 2010.
- "Satyam scandal rattles confidence in accounting Big Four". Reuters. January 8, 2009. http://in.reuters.com/article/companyNews/idINHKG30879120090108.
- U.S. Securities and Exchange Commission website
- U.S. President Bush's speech, 2002-07-09 NPR report (audio recording)
- "Why didn't our auditors find the fraud?", Wisconsin Law Journal, January 25, 2006
- John R. Emshwiller and Rebecca Smith, 24 Days: How Two Wall Street Journal Reporters Uncovered the Lies that Destroyed Faith in Corporate America or Infectious Greed, HarperInformation, 2003, ISBN 0-06-052073-6
- Lawrence A. Cunningham, The Sarbanes-Oxley Yawn: Heavy Rhetoric, Light Reform (And It Might Just Work)
- Zabihollah Rezaee, Financial Statement Fraud: Prevention and Detection, Wiley 2002.