HONEST AND INDEPENDENT AUDITORS
The first decade of the 21st century was marred with financial scandals. These scandals led to a worldwide financial crisis and the collapse of some economies. The events brought into focus the importance of the external auditors and their independence. After all, it is upon auditors’ recommendations that financial decisions are made. As can be seen in recent economic events, the recommendations of the external auditors would have profound impact not only on investors or stockholders but also on entire economies. The importance of auditor independence cannot be underestimated. Unfortunately, it is being brought to light precisely because of its lack and the failures of some industries and economies.
Fortunately, the UK has not been affected in the way other countries had been. There did not seem to be any company in the UK that had suffered the same scandals as the US companies had. The impact of the crisis on the UK would be more of a slowdown as a result of the general decline in the world economy.
While the UK may have been spared from the world financial crisis in the way other European countries had been affected, it should learn lessons from the crisis especially with regard to how strictly the independence of auditors should be followed.
Importance of Independence
The International Organization of Social Securities (IOSC) most succinctly explains the important role independent accountants play in the financial world. External auditors provide credibility to the company’s financial performance reports. At the same time, they are able to help the companies to check and protect themselves from financial trouble. They provide stakeholders and the public in general with confidence to make sound judgments and thus take appropriate investment actions. In short, the independence of auditors ensure the public of the truth.
Aside from defining the importance of auditor independence, the IOSC also identifies the leading causes of practitioners’ loss of independence are the following: self-interest; self-review; advocacy; familiarity; and intimidation .
The world financial crisis highlighted the importance of auditor independence. Rather, the crisis highlighted the lack of independence and honesty. The crisis brought into focus what may be wrong with the practice.
Because of freer trade and globalization, actions of external auditors could affect the whole world as it did in the last decade. Financial and government institutions around the world invest in some of the biggest and most ‘reputable’ financial companies worldwide. Thus, any failure among these companies could lead to financial troubles elsewhere in the world.
Scandals
There did not seem to be any major accounting or financial scandals in the UK but a series of financial scandals in the US in the past decade shocked the world and later triggered a worldwide economic crisis. Few had imagined that individual companies could affect the entire world so severely. Among the corporations, four US companies are most prominent: the American Insurance Group (AIG), Enron, Lehmann Brothers and WorldCom.
In the early 2000s, the Enron and WorldCom collapsed as a result the loss of investor confidence. The two companies in connivance with their external auditors were found to be tampering with their financial data to show better performance. They were undervaluing their costs by hiding these in dummy companies and reflecting bigger profits than they actually earned. Their actions were not a result of ineptitude but rather of deliberate and planned action. The auditing firm Arthur Anderson was involved in both scandals. The collapse of the two companies mainly affected investors in the US.
Later in the decade, the succession of financial failures led to a worldwide crisis because some of the companies involved were managing investments of foreign countries. Lehman Brothers and AIG were the lead players in this crisis. Lehman Brothers made several failed investments but claimed to have billions of assets that no longer existed . The company could have been a victim itself of accounting malpractices in the companies the invested in. Meanwhile, AIG was suspected of booking loans as incomes and manipulation of stock prices, among other issues . These two companies were so huge that the entire economy of the US (and the whole world). The US government had to bail out AIG to prevent the total collapse of the US financial industry.
These events should not have taken place under the watchful eye of independent auditors. Unfortunately, in some of the cases, the external auditors had been corrupted and had connived with the erring companies,
Ethics
Lost in most analyses of what had happened is the matter of ethics. The discussion of the issue seems to have been pushed on the side and remain in the realm of educational case studies and opinion writers. Ethics—or rather lack of it—is the root of all the problems and scandals that shook the world.
The irony of things is that some the manipulation of accounting information is done to improve not only a company’s profits but also its reputation. A consistently profitable company enjoys a public perception of good governance. This in turn would increase the company’s stock value. It is a virtuous cycle—turned vicious after the discovery of wrongdoing. This is well illustrated in the Enron case
Company executives, investors and even auditors benefit from unethical practices without actually stealing. They can earn more when the stock market value of the company rises. Ironically, the may have a veneer of good reputation as a result. The good stock performance of the company can impress and lead to continued support of the public. The executives may even take pride in their accomplishments. The perceived cost of their unethical actions may be much less than the rewards of breaching legal limitations. The threat of going to jail does not deter the practitioners. Profit losses and poor corporate performance with the corresponding loss of reputation for the executives are much greater costs.
Independent auditors should have been able to help avert this problem. Unfortunately, as with the case of Enron, the auditors—Arthur Andersen group, reputable as they are—connived with the company. It took a whistleblower to shed light on the illicit activities. And the whistleblower was a company insider and not someone from the independent auditing company that should have seen the data manipulation in the first place. The same thing may be observed in the case of WorldCom that curiously involved Arthur Andersen again. Enron was able to get away with crime for years because its independent auditors helped them instead of stopping them. The same may be said of WorldCom.
Auditors and employees are ‘forced’ to do unethical things to protect the company’s interests and in the end their own. These practices may have been instigated by a few individuals, mainly leaders or officers of the organization that eventually got institutionalized and led to the corruption of the company’s value system.
In the end, people simply forgot that there is a greater good for the greater number of people. Profits are not meant to merely enrich a few people. They should benefit the whole society. Independent auditors are there precisely to guard against any wrongdoing of a company and not to be a company’s marketing arm or window-dresser. Greed had become the driving force for people to perform well as measured in terms of profitability.
Conclusion
The need for independent auditors or accountants cannot be overemphasized. In spite of their existence, so many problems have occurred. These problems are very serious. They did not just affect a few people. They affected the whole world.
The trouble is not with the need for independent auditors. They already exist and there are many of them. Still, all these scandals have happened whole world suffers has suffered. The independent auditors connived with their clients in doing the wrong things. They trumped the code of ethics that they trumpet and are supposed to uphold. As long as some people’s greed remains unmitigated, the scandals and their corresponding consequences and problems will continue to arise. Genuine independence, honesty and principled adherence to ethical codes is needed and not just a simply independent—meaning outsider—auditor. Along with independence, practitioners must have ethics.
The UK seems to have escaped many of the problems confronting many countries in the world. This does not mean however that it should keep its guard down.The way the independence of auditors has been practiced in the UK had been better than in the US and other countries. Still, it could learn many lessons from the economic crisis.
References
Brady, D. & Vickers, M., 2005. AIG: What Went Wrong?. Bloomberg BusinessWeek, 10 Apr.
Duffy, M., 2002. By the Sign of the Crooked E. Time, 19 Jan.
IOSC, 2012. Principles of Auditor Independence and the Role of Corporate Governance in Monitoring an Auditor’s Independence, s.l.: International Organization of Securities Commissions.
Keller, B., 2002. Enron for Dummies. The New York Times, 28 Jan.
Leach, A., 2012. ow the Financial Crisis Will Continue to Affect the UK Economy. Business Voice, 17 Sep.
PriceWaterhouseCoopers, 2009. Lehman Brothers’ Bankruptcy: Lessons Learned for the Survivors, Delaware: PriceWaterhouseCoopers LLP.
Romero, S. & Atlas, R. D., 2002. Worldcom's Collapse: The Overview: Worldcom Files for Bankruptcy; Largest US Case. The New York Times, 22 Jul.
