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ENRON: Aftermath'Lessons Learned

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... annual information with disclosure of material information on a real-time basis; ... New regulatory structure is almost assured. Only question is how far it goes. ... – PowerPoint PPT presentation

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Title: ENRON: Aftermath'Lessons Learned


1
ENRON Aftermath.Lessons Learned
  • AICPA
  • Alan Anderson
  • Senior Vice President

2
In a Way its Simple In a Way its Not.
  • Tone at the Top
  • Corporate Greed
  • Individual Greed
  • Market Euphoria
  • Corporate Arrogance
  • High Risk Deals

3
In the Beginning.
  • 1985 Deregulation
  • Houston Natural Gas and InterNorth merger
  • Massive Debt coupled with loss of exclusive use
    of pipelines
  • Gas Bank

4
Corporate Culture
  • Best and the Brightest
  • RICE Respect, Integrity, Communication,
    Excellence
  • PRC Performance Review Committee
  • Profits, Profits, Profits..
  • Enron Capital and Trade Recources
  • Enron Online (EOL)

5
Business Model
  • Enron Finance Corp.
  • Enron Capital and Trade Resources
  • Enron Online (EOL)
  • Became a model for the industry
  • Competition Increased

6
Financial Reporting Model
  • Mark to Market Accounting
  • Swaps
  • Related Party Transactions
  • SPEs (Special Purpose Entities)
  • Obscure Disclosures
  • Others????

7
Potential Red Flags
  • unduly aggressive earnings targets
  • management bonus compensation based on those
    targets
  • excessive interest by management in maintaining
    stock price or earnings trend through the use of
    unusually aggressive accounting practices
  • Unduly aggressive financial targets and
    expectations for operating personnel
  • .

8
Potential Red Flags (continued)
  • inability to generate sufficient cash flow from
    operations while reporting earnings and earnings
    growth
  • assets, liabilities, revenues, or expenses based
    on significant estimates that involve unusually
    subjective judgments such asreliability of
    financial instruments and
  • significant related-party transactions.

9
Where were .
  • Management
  • Board of Directors and Audit Committee
  • External Auditors
  • Market Makers (Analysts)
  • Regulators (SEC, AICPA, others)

-That is what everyone is asking
10
SEC Initial Response Dec 11,2001
  • A system of current disclosures, supplementing
    and updating quarterly and annual information
    with disclosure of material information on a
    real-time basis
  • Public company disclosure of significant current
    trend and evaluative data, in addition to
    historical information
  • Identification of most critical accounting
    principles by all public companies
  • More timely and responsive accounting standard
    setting on the part of the private sector

11
SEC Initial Response Dec 11,2001
  • An environment of cooperation between the SEC and
    registrants that encourages public companies and
    their auditors to seek advice on disclosure
    issues in advance
  • An effective and transparent system of
    self-regulation for the accounting profession,
    subject to SECs rigorous, but non-duplicative,
    oversight and
  • More pro-active oversight by audit committees who
    understand financial accounting principles as
    well as how they are applied.

12
Meaningful Reform will it
  • 1. Help investors make informed investment
    decisions?
  • 2. Enhance audit quality and the quality of
    financial reporting?
  • 3.Help restore confidence in the capital markets,
    our nations financial
    reporting system, and the accounting profession?
  • 4. Be good for Americas financial markets and
    economic growth?

13
Wide Range of Proposed Reforms
  • Federal State Legislative Proposals
  • SEC Chairman President Bush Proposals
  • AICPAs Main Views and Concerns
  • Volckers Reform Proposals for Andersen
  • Former POB Chair Bowshers Proposal
  • Several States NY, Mn, Fla. Ca. and others

14
Legislative Activity - U.S. Senate
  • Highest level of activity in 25 years
  • Senate Banking Committee in Lead
  • Hearings on Enron debacle in March/April
  • Many pending proposals being floated
  • Legislation likely in April/May
  • Many very important issues in play

15
Legislative Activity - U.S. House
  • Financial Services Committee in Lead
  • Oxley/Baker Bill likely vehicle
  • Prohibit IA/IT services consistent with original
    SEC Chairman Levitts proposal
  • Dingell introduced his own bill
  • New regulatory structure is almost assured
  • Only question is how far it goes.

16
Proposals of SEC Chairman Pitt
  • New body dominated by public members
  • New disciplinary mechanism
  • SEC handles law violations itself
  • Regulatory Body pursues ethical and/or competence
    standards cases complaints
  • Quicker disciplinary proceedings
  • Body publicizes results and imposes fines

17
Reengineer Peer Review Approach
  • Replace triennial firm-on-firm peer review
  • More frequent monitoring of audit quality
  • Use permanent Quality Control staff
  • Body composed of knowledgeable people
    unaffiliated with any accounting firms
  • Staff deployed and overseen by new publicly
    dominated body and its staff
  • Limited to Auditors of Public Companies

18
Other Components of Pitt Proposals
  • Will ban IT and internal audit services
  • But says if Congressional proposals to restrict
    more services go thru, we will have far worse
    quality audits than we have today
  • Aggressive enforcement- CEOs Auditors
  • Improvements on financial disclosures
  • Timely reporting of events, stock sales, etc.

19
President Bushs Key Proposals
  • Tougher oversight of auditors
  • CEOs sign off on full honest disclosures
  • Take away bonuses stock gains for executives
    when reporting is inaccurate
  • Wants SEC to set scope limits vs.Congress
  • Audit committees decide on non-audit work
  • Rejects tort reform, expensing stock options

20
FASB to be more responsive
  • Board size being reduced, speed increased
  • Fast track project to deal with SPEs
  • Also dealing with guarantees of debt and
    determining fair value on forward contracts
  • Move toward more focus on principles
  • Accounting details for IASB, not IFAC
  • But clear support for working with IASB

21
AICPA Input and Views
  • Testifying in Congressional hearings
  • Providing constructive input
  • Zero tolerance for violation of rules or laws
  • Urging all to be wary of simplistic solutions
    which can lead to unintended consequences
  • Working to limit cascade effect

22
New Public Regulatory Organization
  • Radical change from last 25 years
  • Move from Public Oversight to Public
    Participation
  • New robust private sector regulatory body
  • Independent of the accounting profession
  • Structured with SEC oversight to handle
  • Professional discipline and quality review
  • Eventually auditor independence issues

23
Roles of the New Regulatory Body
  • Perform quality reviews of audit firms
  • Enforce compliance with professional stds
  • Discipline for violations of prof stds
  • Establish rules deemed necessary for such reviews
    and enforcement
  • Later influence new independence standards and
    other standards (eg. audit standards)

24
Important Process Issues
  • Regulatory Body serves as disciplinary and
    quality review board, not standards setter
  • Ability to move quickly, keep information
    confidential, and take remedial actions
  • Able to compel production of documents and
    protect documents reviewed from discovery or
    admissibility in civil litigation

25
Non-Audit Services
  • Some are necessary part of modern audit
  • OMalley Panel - some improve quality
  • Audit quality dependent on auditor quality
  • AICPA urges caution, impacts
  • Audit Quality
  • Future Staff
  • New restrictions should not impede audit quality
    or the quality of financial reporting

26
Restrictions - Non-audit services
  • Agree to restrict IT and Internal Audit
  • Oppose ban on all non-audit services
  • Many unintended consequences
  • Onerous to smaller companies - costly
  • Ripple effect to non public companies
  • Overrides informed and reasoned decision-making
    by audit committees

27
Risk of Creating Audit Only Firms
  • Threat is the risk to audit quality
  • Skills/expertise outpaced by changes in business
    practices and financial transactions
  • Less knowledge of client businesses
  • Will lead to loss of necessary expertise
  • Eventually, scale and other factors will lead to
    audit quality deterioration

28
Corporate Governance
  • Public reporting of audit committee charter
  • Audit committees should hire/fire auditors
  • And evaluate relationships and services of the
    audit firm for conflicts
  • Harmful to cast a dark cloud over all services
    outside the statutory audit
  • Rely on knowledgeable members to decide

29
Mandated Auditor Rotation
  • Audit firm rotation has been proposed
  • Most believe the costs outweigh the benefits
  • Does not pass public interest test
  • Would create significant proposal frenzy
  • Rotation of team members seems adequate
  • Loss of knowledge of company hurts a lot

30
Tort reform ideas
  • Reasoned law critical to integrity of markets
  • 1995 law enacted to deal with abuses
  • Liabilities are still an enormous deterrent
  • Securities class actions cases are on the rise
  • Average settlements are also way up
  • Profession opposes reform of current law
  • Concerns about liability are global

31
Employment Restrictions
  • There are many safeguards required today
  • Some legislators propose more restrictions
  • Like one or two year cooling-off period
  • Many sound easy, but are hard to effect
  • They can severely limit eligible audit firms
  • Putting limits on individual careers and client
    recruiting efforts are hard to legislate

32
Financial Reporting Reforms
  • Improved disclosures plain English
  • More timely reporting to investors
  • Client reporting on their internal controls
  • Auditor assurance on internal controls
  • Increased resources for the SEC to oversee
    financial reporting disclosures

33
Modernizing Business Reporting
  • Unreported intangibles and discussion of risk
  • Off balance sheet activity
  • Non-financial performance indicators
  • Forward-looking information
  • Enterprise opportunity and risk
  • More Timely reporting (movement toward continuous
    disclosure)

34
Broader Perspective Needs
  • Broader bandwidth of info for investors, a
    recommendation long advocated by AICPA
  • New distribution channels that recognize the
    ubiquity of the Internet communication
  • Increased financial reporting frequency, and
    ultimately online, real-time reporting

35
Volcker Proposals for Andersen
  • Volcker wants Andersen rehabilitated and serving
    as the gold standard for auditing
  • Really wants to reform a resisting industry
  • This creates concerns for AICPA Big 4
  • Split of audit and consulting businesses
  • Separate partnerships no profit-sharing
  • Much broader restrictions of services

36
Other Controversial Volcker Ideas
  • Proposed new restrictions on services
  • Aggressive tax planning services
  • Presumably includes creating tax shelters
  • Legal services and some advocacy roles
  • Tax accounting services for executives
  • Also favors cooling off period for partners
    joining clients, and 5 year partner rotation

37
POB Reverses Long-standing Views
  • Public Oversight Board quits/terminates
  • POB Chairman testified March 19
  • Highly critical of profession
  • Propose unrealistic measures
  • Far in excess of Pitt and Bush Proposals
  • Favors big legislative solutions

38
A Very Political Process
  • Congress is more involved than ever before
  • Issues are red hot and elections coming up
  • High risk of harsh legislative solutions
  • Profession working with legislators
  • Trade-offs in SEC vs. legislative solutions
  • Very hard to forecast the end results

39
Recap of Key Issues in Play
  • Scope of service/independence restrictions
  • Considering perception versus reality
  • Audit committee judgment or bright lines
  • Audit firm or partner rotation proposals
  • Firm rotation mandates create concerns
  • Appropriate limits on rotation of people

40
Other Key Issues in Play
  • Revolving door/ hiring audit firm people
  • Peer review/ new quality assurance
  • New regulatory structure for profession
  • New disciplinary structure protections
  • Auditor/audit committee relationship
  • Corporate governance reforms

41
Other Key Issues in Play
  • Accounting standards
  • Process timeliness improvements
  • Depth and coverage of standards
  • Auditing standards
  • Responsibility for fraud detection
  • Fraud reporting reqts and standards

42
Other Reform Issues in Play
  • Who pays for audits
  • SEC/FASB/Regulatory Body funding
  • Tort reform
  • Deductibility of stock options
  • Tax shelter changes
  • Pension and 401-K reforms

43
Remember There will always be Strains on the
System of Checks and Balances
  • Management
  • Boards of Directors and its Committees
  • Independent Auditors
  • Security Analysists
  • Regulators (SEC, FASB and others)

44
Foundation for the Future
  • Must work to protect the public interest under
    the current reporting models
  • Must work to develop approaches and programs to
    respond to marketplace demands for assurance
    under New Economic models

45
Convergence
  • Blurring of Boundaries between
  • Auditing of Financial Statements
  • Assurance
  • Attestation on Financial and non-financial items
  • Need for on-line real time assurance

46
What it takes to get Real Time Assurance.
  • Reliable systems
  • a common method of disseminating information on
    the internet
  • reporting on subsets of financial data as well
    as non financial data, industry specific rather
    than one size fits all, common global approach
  • corporate accountability including management
    integrity, solid enterprise risk management
  • Understandable disclosures including the ability
    to drill down into expanded discussion if the
    user desires to do so

47
AICPA Initiatives
  • Reliable Systems
  • Method of Disseminating Information
  • Financial Data and Non Financial Data
  • Trust Family (Systrust)
  • XBRL
  • VMRC
  • Performance View

48
AICPA Initiatives
  • Corporate Accountability
  • Understandable disclosures
  • Trust Family (Webtrust)COSO ERM ProjectASB
    Fraud StandardEnvironmental ReportingAudit
    Committee Rules
  • FASB ProjectsVMRCSEC Plain English Plan

49
Recap
  • Uncertainty where Enron debacle will end
  • Profession needs to play leadership role
  • Avoid overreaction simplistic solutions
  • Consider unintended consequences
  • Focus on the public interest in all we do

50
In Summary
  • We must work to build a foundation for the future
    to continue to protect the public
  • We must be responsive to marketplace changes as
    our audit model will continue to decline in
    relevance
  • We should work together Globally whenever
    possible
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