12.5 Challenges Facing the Accounting Profession

Had you visited St. Charles, Illinois (about fifty miles southwest of Chicago), back in 2001, you would have noticed an impressive training and conference center owned by Arthur Andersen (then one of the so-called “Big 5” public accounting firms). Had you gone in, you could have toured a room dedicated to the history of Arthur Andersen, a proud firm with eighty-nine years of corporate history. You’d have learned how a company started by a young accounting professor from Chicago grew into one of the world’s largest public accounting firms, with twenty-eight thousand employees and annual revenues of over $4 billion.

Had your travels taken you to Houston, Texas, you might have passed a glass-fronted high rise with a tilted E designating the home of one of the country’s largest energy-trading companies—Enron. Though its history was short, its accomplishments were already impressive. In the mid-1980s, Enron had begun transforming itself from a relatively small natural-gas-pipeline company to a diversified energy business that was the darling of Wall Street. During the second half of the 1990s, it was constantly mentioned among the most innovative companies in the United States. By early 2001, it was the seventh-largest company in America, with revenues of over $100 billion. Under the management of founder and CEO Ken Lay, President Jeffrey Skilling, and CFO Andrew Fastow, Enron’s stock price skyrocketed. Unfortunately, the company’s performance on the stock market was due to management’s practice of making it look financially better off than it was, primarily by overstating income and hiding liabilities.

In summer 2001, the financial practices of these two giant corporations—Enron and Arthur Andersen—would come together to bring about permanent changes to the accounting profession.Much of the discussion in this section is adapted from Mike Brewster, Unaccountable: How the Accounting Profession Forfeited a Public Trust (Hoboken, NJ: John Wiley & Sons, 2003). Volumes have been written about what went wrong, but it can be boiled down to this: Enron executives behaved unethically and Andersen auditors looked the other way. Instead of exercising its role as public watchdog, Andersen was watching its own pocketbook. The accounting firm protected its own revenues from lucrative consulting contracts with its client instead of protecting the client’s stakeholders. Andersen not only shirked its fiduciary responsibilities as a public auditor but also was willing to cover up evidence of its own inappropriate actions and those of its client.

What had taken years to build took only a few months to destroy. Within a relatively short time, Enron went from apparent prosperity to bankruptcy and Andersen from renowned accounting firm to butt of David Letterman jokes. All its twenty-eight thousand employees and partners, the vast majority of whom had no involvement in the Enron mess, lost their jobs. Moreover, the accounting profession lost the trust of the public, which perceived auditors as typically corrupt, incompetent, or both. An accounting firm’s stamp of approval on financial statements (which should have provided assurance to investors and other stakeholders) was viewed skeptically.

From these problems and public embarrassments, however, came some corrections to the professional course—or at least a plan to make things better in the future. Most people, including accountants, were convinced that the profession was broken and needed to be fixed. Congress passed the Sarbanes-Oxley Act, which severely restricts the ability of accountants to serve the same clients as both auditors and consultants. The Public Company Accounting Oversight Board was set up to take over from its members the task of regulating the profession. To underscore management responsibility for a firm’s financial statements and accounting records, new regulations require CEOs and CFOs to sign statements attesting to their accuracy. Finally, auditors have to be more vigorous in detecting and reporting fraudulent activities.

So, will things get better? The raft of scandals of which the Enron debacle was perhaps the most notorious was not solely the fault of the auditors. Granted, they were supposed to be looking for managerial fraud, and clearly they were performing this job with a good deal less than due diligence. Under new guidelines, auditors must perform the fraud-detection responsibilities on which stakeholders and the public depend. But as a big part of the problem, management also has to be part of the solution. Needless to say, managers must display more integrity in reporting on the financial conditions of the companies for which they’re responsible. Members of the accounting profession hope that as a broad range of new regulations and other guidelines are put into action, the profession (along with corporate America) will slowly regain some of the public trust that’s been squandered in the last decade.