Irvin T' Nelson Utah State University

1
Ethics in Accounting Does It Really Matter?
Irvin T. NelsonUtah State University
2
Ethics in Accounting Is it an Oxymoron?
Irvin T. NelsonUtah State University
3
Ethical Accountants?

• Are there such things as ethical
  accountants? My father is under the impression
  there are only two ethical accountants in the
  world one located in a small Appalachian hamlet
  who has since given up the profession to
  apiculture, and the other occupying a small
  corner office in New York, teetering on
  bankruptcy. Obviously you can imagine what a
  shock it was a year ago when I announced at the
  Sunday dinner table that I was changing my major
  to accounting. (I am still invited home, but only
  if I dont talk about business.)

4
Ethical Accountants?

• The sad thing is, my fathers views turned
  out to be near prophecy. Until the beginning of
  this semester, I held accounting related jobs for
  the last three and a half years. In the course of
  my employment I saw and even participated in
  activities I deemed unethical. These activities
  ranged from falsifying payroll records to padding
  invoices. More than once, I went to my superior
  and aired my disapproval but coming from a
  junior bookkeeper, I was ignored

5
Ethical Accountants?

• I also saw a CPA firm not only turn a blind
  eye to such practices, but actively put their
  signatures on an income statement in which the
  net income was understated to lessen the amount
  of dividends paid to non-participating partners.
  My reaction to all of this? Well, to be an
  ethical accountant means to not be an accountant
  at all.
• --Brian C. McBride, USU
  Senior

6
What is the purpose of accounting?

• To provide useful information

7
What are the desired characteristics of
information?

• Timeliness
• Understandability
• Reliability
• Truthfulness

8
What is truth?

• Fair
• Not misleading
• Unbiased
• Not predisposed in a particular direction
• Representational faithfulness
• Conveys an accurate impression of the underlying
  reality

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What is Truth?

• Oh say, what is truth? Tis the fairest gem that
  the riches of worlds can produce Tis an aim for
  the noblest desire. John Jaques

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What is Truth?

• Truth is knowledge of things as they are, and as
  they were, and as they are to come. Joseph
  Smith, Jr.

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What is Truth?

• Truth is a correspondence between what we think
  and what is real. -- Plato

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What is Truth?

• To tell the truth, rightly understood, is not
  just to state the facts, but to convey a true
  impression. Robert Lewis Stevenson

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Forms of Untruth

• Saying something that is not so
• Overstatement/exaggeration
• Understatement
• Withholding relevant information
• What do these have in common?
• They all fail to convey a true impression

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How Important Is Truth?

• The truth shall make you free. Jesus of
  Nazareth

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What is the relationship between truth and
accountants?

• What has been the function of the accounting
  profession in society?
• Historically, it has been looked upon as the
  watchdog of business, the trustworthy
  guardians of truth.
• The public perceived that the integrity and
  independence of accountants was beyond reproach,
  beyond question.

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What happens in the absence of truth?

• Stock market crash of 1929
• Led to the Great Depression
• Audit failures in the 1980s
• Enron, World Com, etc.
• Damaging public confidence in capital markets
• Cost to the economy is not measurable but may be
  larger than 9/11 and Iraq combined

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What are the implications to the accounting
profession?

• When a societal institution fails to fill the
  function expected or demanded by society, it is
  done for. Thomas D. Hubbard
• Hence, the accounting profession is rightly
  concerned over its tarnished reputation.

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What Stands In the Way of Truth?

• Greed
• Gaming Mentality
• Shifting of responsibility
• Incorrect conception of business

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What Stands In the Way of Truth?

• The very conception of the corporation as a
  legal fiction defined in terms of obligations
  to its stockholders implies that corporations are
  not moral or morally responsible agencies.
  Robert C. Solomon

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Something Has Gone Wrong

• Trust is the accountants stock in trade.
  Thats all we have to sell.
• Richard L. Ratliff
• Gallop Surveys
• Before Enron, accountants ranked a step above
  clergy in public trust
• After Enron, accountants ranked a step below used
  car salesmen in trust

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Something Has Gone Wrong

• My heart breaks, and I'm embarrassed for our
  sport right now.
• NBC commentator Sandra Bezic, a five-time
  Canadian national pairs champion and
  choreographer of many gold medalists, after the
  Canadian pairs skating team of Sale and Pelletier
  lost the gold medal in the 2002 Salt Lake City
  Winter Olympics due to crooked judges, after
  clearly having won the competition based on
  skating merit

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Something Has Gone Wrong

• My heart breaks, and I'm embarrassed for our
  profession right now.
• Irv Nelson, after hearing Arthur Andersen
  partners defend their audit of Enron by saying
  they didnt do anything wrong because they
  followed GAAP

23
Something Has Gone Wrong

• ... certain occurrences (this year) deeply
  trouble me.... in my esteemed profession of
  accounting. It has taken a big hit in what I
  thought were the very roots of this
  profession--integrity. Now we find that some of
  the most highly respected accounting firms have
  violated their dedicated trust. These firms have
  caused the reputation of this once-honored
  profession to be in question. They have bowed to
  corporate greed and have issued audit statements
  that have been found to be misleading and
  outright dishonest

24
Something Has Gone Wrong

• Imagine having to create a public
  "accountability board" to see that the integrity
  of the accounting profession is being upheld. The
  purpose of this board would be to address
  accountants' ethical lapses or competency
  deficiencies. U.S. Securities and Exchange
  Commission chair Harvey L. Pitt has declared
  This model . . . sends a loud and clear message
  that the era of self-regulation of the accounting
  profession is over.

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Something Has Gone Wrong

• Furthermore, Mr. Pitt went on to imply that
  the auditing standards are not a problem rather,
  the problem lies with compliance and execution
  according to the standards of this profession.
  For years the profession has signed statements
  that the audit report represents fairly and
  accurately the information contained therein. Now
  the validity of that statement has to be clearly
  questioned because men have violated the
  standards of integrity that are so vital to
  public confidence in the credibility of the audit

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Something Has Gone Wrong

• What a sad, sad commentary on the integrity
  of those we depend on for reliable information
  regarding the businesses of our nation.
  Unfortunately it is just a symptom of what is
  going on. People have become so possessed with
  the desire to achieve worldly recognition, power,
  and wealth that they have lost their sense of
  what is right. They have violated the standards
  that must be upheld for the sake of our nation or
  any other nation.
• L. Tom Perry

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Something Has Gone Wrong

• When former SEC chairman Aurthur Levitt
  testified before the Senate Hearing on the
  Collapse of Enron (January 24, 2002) he decried
  the culture of gamesmanship in which the
  objective is not to ensure the reality of the
  numbers but rather to try to get away with as
  much as possible.

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Management Accounting Examples

• Manipulating Earnings
• Smoothing
• Playing with bad debt reserves, asset lives,
  inventory adjustments, timing of write offs
• Playing with timing of revenues
• Hiding Debt
• Leases
• Special Purpose Entities

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Auditing Examples

• Allowing clients to get away with accounting
  treatments the purpose of which is to lie /
  distort / manipulate
• Holding GAAP as the ultimate standard, instead of
  truth
• Failing to follow substance over form
• Advising clients how to structure transactions so
  as to get around the rules

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Whats the Solution?

• Tighten the rules?
• Loosen the rules (principles-based rules)?
• Integrity?
• PR Campaign?

31
Big Four Publications

• Opening a conversation
• Showcases our people of integrity
• Exceptional people, unimpeachable values
• Building public trust
• Individuals of integrity do the right thing, not
  what is expedient, not whats permissible, but
  the right thing. You cant compromise the right
  thing. You cant play around the edges. PWC
  2002 annual report

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Big Four Publications

• The cornerstones of our profession and our firm
  are our professional competence and our
  integrity.
• Instilling professional values
• No client is too big for us to say no.
• Maintaining Your Trust, Feb 2002, Ernst Young

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Other Publications

• Stand UP and DO the Right Thing
• It takes courage. Each day, each of us struggle
  to make the little decisions that forge our
  overall character and integrity.
• If you want to make a difference, start by
  recommitting yourself to the core values of the
  profession.
• UACPA

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Independence

• Proposed AICPA standards for Independence
• Essentially the same rules the SEC proposed
  several years ago that the AICPA successfully
  lobbied so hard to defeat

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Big Four Web Sites

• Building Public Trust A New Vision of
  Integrity (PWC)
• Code of Conduct The Way We Do Business (PWC)
• Doing the Right Thing (EY)
• Financial Reporting Rebuilding Trust, Restoring
  Confidence (EY)

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Whats the Solution?

• I dont see nearly as much coming from the
  management accounting community
• Why?

37
What are Ethics?

• Perhaps one of the problems is that we have a
  flawed conception of ethics.
• Some view ethics as adherence to a set of rules
  (code of ethics)
• Like the rules of a game (gaming ethics)
• If its not against the rules, its OK
• Others view ethics as flexible whats right for
  some might not be right for others

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Models of Ethics

• Utilitarian Approach (Relativism)
• There is no such thing as right and wrong it all
  depends on the situation
• There is no such thing as truth it all depends
  on your point of view
• List the stakeholders, consider their competing
  claims
• Objective the most good for the most people

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IMA Code of Ethics

• Ethics, in its broader sense, deals with human
  conduct in relation to what is morally good and
  bad, right and wrong.
• To determine whether a decision is good or bad,
  the decision-maker must compare his/her options
  with some standard of perfection.

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IMA Code of Ethics

• This standard of perfection is not a statement
  of static position but requires the
  decision-maker to assess the situation and the
  values of the parties affected by the decision.
• The decision-maker must then estimate the
  outcome of the decision and be responsible for
  its results.

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Models of Ethics

• Principles-based Approach
• Virtue Ethics Aristotle
• There is such a thing as right and wrong
• Our duty is to figure out whats right and do it
  because its right (not because of an analysis of
  the relative social good of various choices)
• Objective live a life of virtue and integrity

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IMA Code of Ethics

• Integrity
• Communicate unfavorable as well as favorable
  information...
• Refrain from engaging in or supporting any
  activity that would discredit the profession.
• Objectivity
• Communicate information fairly and objectively.
• Disclose fully all relevant information that
  could reasonably be expected to influence an
  intended users understanding...

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Definitions

• Principles
• Values
• Pseudo-values
• Ethical Behavior
• Integrity

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Principles

• Universal truths
• What IS right and wrong
• Exist independent of any person or group
• Do not vary between cultures, time periods

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Can We Agree on Universal Principles?

• Dr. James W. Brackner proposed 10 values that
  seem to be universal across all cultures
• Honesty
• Integrity
• Promise-keeping
• Fidelity
• Fairness

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Can We Agree on Universal Principles?

• Caring for Others
• Respect for Others
• Responsible Citizenship
• Pursuit of Excellence
• Accountability
• May these be considered examples of correct
  principles?

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Principles

• People cannot see principles perfectly
• We view principles through the lens of our
  experiences
• Colored and distorted to some degree
• Thus, we dont live our lives on principles we
  have to translate them into VALUES

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Values
Life Experiences
Principles
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Values

• How each person decides what he/she THINKS is
  right and wrong
• Core beliefs upon which we live our lives
• Do vary between individuals and cultures
• Because each persons lens is different
• May or may not be based on correct principles
• Making choices in accordance with values leads to
  healthy self-esteem

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What Is Ethical Behavior?

• To be ethical, a choice must be in accordance
  with ones values, AND
• Those values must be based upon correct
  principles
• Neither is sufficient both are necessary

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What Is Ethical Behavior?

• It is incumbent upon each person, as well as each
  societal group, to honestly examine its values to
  determine whether they are based on correct
  principles
• Osma Bin Laden
• Examples from American culture
• Whistleblowing
• Blind loyalty

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What Is Ethical Behavior?

• "What ought to be?"
• The choice that is more right, more good, and
  more just than the others

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What Is Ethical Behavior?

• Rather than questioning if a certain course of
  action is really wrong, perhaps one should ask if
  it is completely right.
• Brooke Hill, USU freshman

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What Is Integrity?

• When a person consistently makes ethical choices
  across a wide range of situations, over a
  lifetime, that person has integrity.

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Everyone must answer the following question

• What is my highest aspiration?
• Wealth
• Power
• Knowledge
• Popularity/fame
• Integrity

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• Be on guard if integrity is secondary to any of
  the alternatives, it will be sacrificed in
  situations in which a choice must be made. Such
  situations inevitably occur in every persons
  life.
• -- Dr. L. Murphy Smith, in testimony to U.S.
  House of Representatives Subcommittee on
  Commerce, Trade, and Consumer Protection hearing
  on accounting scandals, July 26, 2002

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Pseudo-Values

• Beliefs professed but not lived

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Enrons Values Statement, included in 2000 annual
report

• Excellence
• Communication
• Respect
• Integrity

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Conscience

• When values are not lived, cognitive dissonance
  results
• Two possible responses
• Elevate behavior to level of values, or
• Use thinking errors

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Thinking Errors

• Excuses we tell ourselves to make us feel better
  about our unethical behavior
• Examples
• Rationalization (its OK because)
• Justification (I deserve it)
• Minimization (its not so bad)
• Blame Shifting (its not my fault)
• Sincere delusion (its only this once)

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Look for the Thinking ErrorsPublic Accounting

• We followed GAAP.
• Enron didnt do anything illegal.
• If you want more transparency, you need to
  change the rules. Dont blame us.
• Those partnership documents are incredibly
  complex and 80 pages long.
• We couldnt force Enron to put it on the balance
  sheet because we cant break the rules.
• Our capital markets are the most efficient in
  the world.

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Look for the Thinking ErrorsManagement
Accounting

• We work for management. Our job is to make
  management look good.
• Our obligation is to our shareholders. Anything
  we do to make the stock price go up is ethical.
• Every good accountant knows where to find it.
• Youre not being a team player.
• Youve got to stop thinking like a CPA and start
  thinking like a management accountant.
• You WILL make this journal entry.

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Look for the Thinking Errors

• Ms. Vinson and Mr. Normand told their boss that
  the transfer wasn't good accounting. Mr. Yates
  replied that he wasn't happy about it either. But
  he said that Mr. Myers had assured him that it
  would never happen again and that he had agreed
  to go along. Finally, so did Ms. Vinson and Mr.
  Normand. They made the transfer.

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Look for the Thinking Errors

• Each quarter they found themselves in the same
  uncomfortable spot,and wound up making giant and
  fraudulent entries. In the Second quarter, they
  transferred 560 million to the capital accounts.
  In the third quarter it was 743 million, and in
  the fourth quarter it was 941 million

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Look for the Thinking Errors

• Ms. Vinson balked -- and then caved. Over the
  course of six quarters she continued to make the
  illegal entries to bolster WorldCom's profits at
  the request of her superiors. Each time she
  worried. Each time she hoped it was the last
  time. At the end of 18 months she had helped
  falsify at least 3.7 billion in profits.

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Look for the Thinking Errors

• As Ms. Vinson's experience at WorldCom shows,
  sometimes it's hard to tell right from wrong in
  the heat of a workplace battle. And when an
  employee's livelihood is on the line, it's tough
  to say no to a powerful boss.

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Look for the Thinking Errors

• After further thought, Ms. Vinson decided
  against quitting. She was the family's chief
  breadwinner, earning more than her husband's
  roughly 40,000 a year compensation. The Vinsons
  depended on her insurance. She was anxious about
  entering the job market as a middle-age worker.

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Look for the Thinking Errors

• They commiserated about how hard it would be to
  leave their jobs and probably Jackson, where it
  wasn't easy to find well-paying work.

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Look for the Thinking Errors

• Though Ms. Vinson still worried about the
  accounting issues, she began to rationalize her
  decision to comply with her bosses request.
  After all, Mr. Sullivan had been heralded as one
  of the top chief financial officers in the
  country. If he thought the transfer was all
  right, who was she to question it?

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Look for the Thinking Errors

• Today Ms. Vinson, 47 years old, is awaiting
  sentencing on conspiracy and securities-fraud
  charges. She has begun to prepare her 12-year-old
  daughter for the possibility that she will go to
  jail.

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Look for the Thinking Errors

• My first duty is to my son. Theres nothing I
  would not do for him.
• -- mother of a 5 year old child, explaining why
  she works as an exotic dancer
• Are accountants sometimes using similar thinking
  errors?

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To Whom is our First Duty?

• Employer?
• Profession?
• Society?
• Self?

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What Happened to the accounting staff at World
Com?

• The firm owns you
• Team player lose individual identity
• Culture Were here to help World Com succeed
• Desensitization from ignoring conscience
• Principles fell like dominoes
• Integrity fell first, knocking down others
• Truth, fairness, empathy then fell

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• We, as individuals, become the resultant sum
  of each ethical confrontational event as
  experienced from the beginning of our careers.
  Simply stated, if we have conditioned ourselves
  to blink at the small decision opportunities at
  the beginning of our careers, then we will
  precondition ourselves to also blink at the more
  important decision opportunities later.
• -- Roger M. Boisjoly, Morton Thiokol engineer
  who strongly argued against Space Shuttle
  Challenger launch at 29 degrees F, in the face of
  tremendous management pressure

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Implications

• Strength of financial markets
• Health (survival?) of accounting profession
• Bigger implications than these???

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Implications

• Before the American Republic, a common belief was
  that where there was liberty, anarchy would
  result because people are unable to govern
  themselves. Yet Americans were free and well
  behaved. How could this be?

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Implications

• The great English writer, G.K. Chesterson,
  observed that America was the only nation in the
  world founded on a creed. He said that creed was
  set forth with dogmatic and even theological
  lucidity in the Declaration of Independence.

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Declaration of Independence The second paragraph
of America's founding document states "We hold
these truths to be self-evident, that all men are
created equal, that they are endowed by their
Creator with certain unalienable rights, that
among these are life, liberty and the pursuit of
happiness."
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Implications

• A society teeters on the brink of disaster
  when its people lack moral character. No nation
  survives for long without citizens who share
  common values such as courage, devotion to duty,
  respect for other peoples lives and property,
  and a willingness to sacrifice personal interests
  for a greater cause. L. Murphy Smith

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A nation or a culture
cannot endure for long
unless
it is undergirded
by common values such

as valor, public
spiritedness, respect for

others and for the law It cannot stand unless it
is populated by people who will act on the
motives superior to their own immediate
interest." Chuck Colson, Against the Night
81
Can you make a difference?

• It all boils down to personal choices

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Be sure you are right, then go ahead. Davy
Crockett 1786-1836
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To sin by silence when they should protest makes
cowards of men. Abraham Lincoln
84

• Employees have both a right and a
  responsibility to become involved in attempting
  to correct any irresponsible or dishonest actions
  that senior management is promoting Roger M
  Boisjoly

85
Leadership is a potent combination of strategy
and character. But if you must be without one, be
without strategy. General H. Norman Schwarzkopf
86
The reputation of a thousand years may be
determined by the conduct of one
hour. Japanese proverb
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• Accountants should strive for behavior beyond the
  minimum level of acceptable conduct set forth in
  a code of ethics or a FASB pronouncement or a
  congressional mandate
• "A man should be upright not be kept upright."
  (Marcus Aurelius).

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President Lincoln said Honor is better than
honors.