Star Technologies

1
Star Technologies
2
Key Facts

• In 1980s, Star Technologies had several operating
  problems
• Rapid product (computer) obsolescence
• Need to incur heavy RD expenditures
• 1989 audit many contentious audit issues with
  client
• Engagement partner, Childers, and audit manager,
  Argy, repeatedly clashed
• Partner sided with client in several instances

3
Key Facts (con.)

• Manager was reluctant to sign off on final audit
  summary
• Ultimately acquiesced, fearing promotion
  repercussions
• Anonymous letter in January 1990 questions 1999
  audit as an audit failure
• National office initially deemed allegation
  unfounded
• An executive partner in Washington D.C. office
  pursued matter
• Discussed matters with Argy
• Concluded 1989 audit report should be withdrawn
  (an Au 561 situation)

4
RD Expenditures Disagreement

• Advance of nearly 900,000 made to Culler
  Associates in 1989 classified as note receivable
  due in 10 years
• Reviewing partner concluded should have been
  classified as RD
• Culler fundamentally unable to repay
• No other sources of revenue
• Negative net worth
• Star was its only customer
• Substance was that Star would likely not get its
  money back

5
Inventory Obsolescence Reserve Disagreement

• Argy thought obsolete computers with net book
  value of 2 million should have been written down
  to 500,000
• Childers agreed to an arbitrary reserve increase
  of 350,000
• Client had no documented basis or rationale
  therefore

6
Reserve for Bad Debts Disagreement

• Argy felt two large receivables totaling
  1,062,000 appeared uncollectible
• Proposed increasing allowance for bad debts by
  400,000 to write off receivables
• Partner allowed reserve increase of only 65,000,
  without sufficient evidence

7
Mystery Assets Disagreement

• An Assets in Process Account Discovered in
  1989
• No supporting invoices or documentation for
  400,000 account balance
• No physical assets existed
• Should have been fully depreciated by 1989 in any
  event, based on client five-year depreciation
  policy for such assets
• Partner accepted client CFOs offer to depreciate
  100,000
• Remaining 300,000 left on books!

8
Notes Payable Classification Disagreement

• 5,800,000 bank loan 7 debt covenants violated
  causing potential default
• Senior felt should be reclassed as current
  liability
• Audit partner allowed long-term classification,
  though bank would only confirm that covenant
  violations would be waived for five months!
• Cash and equivalents plus accounts receivable
  were only 6,444,000!
• Thus serious going concern issues, but clean
  opinion issued!

9
Aftermath

• 1989 financial statements reissued, as per Au 561
• Loss restated from 4.4 million to 7.4 million
• Argy received 18 months suspension from
  practicing before SEC
• SEC criticizes Argy for allowing desire to be
  promoted to cloud professional judgment (Au
  311.14 relevant)
• Childers received a five-year suspension