Columns:: What went wrong: Accounting expert discusses accountability issues at Enron, Arthur Andersen

since 12/15/98

Columns::February 18, 2002

Senior VP Costello will step down March 1
State legislator will give Black History Month lecture
International symposium examines change in Europe
The British are coming: Oxford Union to debate team of UGA students
Holiday schedule remains unchanged
Public relations work wins awards
Taking the initiative
Campus Closeup
Kudos
Administrative changes
Bug’s-eye view
Under construction

Campus News

What went wrong
Accounting expert discusses accountability issues at Enron, Arthur Andersen

By Beth Roberts
beth@uga.edu

Dennis Beresford was a key player in the process of establishing accounting standards for 10 years as chairman of the

Dennise Beresford

Financial Accounting Standards Board. He left the FASB in 1997 to join the accounting faculty in UGA’s Terry College of Business. He recently shared his expertise about Enron and Arthur Andersen with Columns.

Columns: Let’s begin with a quick review of what went wrong at Enron.

Beresford: This is a major accounting bust--that’s one way of putting it--that appears to have caused a very significant and rapid decline in the market’s perception of Enron.
There have been some people who’ve said that Enron was basically a solid company and if they had not had these accounting missteps they would have been able to continue on doing their business.
But a large part of their business was trading very sophisticated contracts. Once their credibility and integrity were challenged, then nobody wanted to do business with them.

Columns: So the problem may have been not so much what Enron was doing as how they reported it?

Beresford: Well . . . the whole story is yet to be written, and I think few people know how economically viable their trading activity was. They were creating some new markets--in energy trading, for example--that some people suggested were a valuable contribution to the marketplace, in the sense of letting companies hedge certain risks.
The first thing that went wrong: from early 2001 through the summer and fall their stock price had gone down a fair amount. And then, they reported that they were going to have to make a billion-dollar adjustment to their balance sheet--not to their income but to their balance sheet. Analysts said, why didn’t you tell us--and they said, it really isn’t that important, it doesn’t affect net income. A lot of analysts didn’t think that was a very good explanation and they started raising more questions. Then, just a couple of weeks later, they announced they were going to have to restate their financial statements for four years--’97 through 2000--and make significant adjustments downward in their net income. They still would report profits, but reduced by quite a bit.
That was the straw that broke the camel’s back. The camel’s back was getting a little weak anyway, with concerns about their operations and then the adjustment that people felt they’d tried to sweep under the rug. At that point they lost their credibility in the marketplace.

Columns: Does that lack of confidence now extend to Arthur Andersen, as Enron’s auditors?

Beresford: Having to restate financial statements is a major issue. When a client makes an error, obviously, the accounting firm is exposed--why didn’t the accounting firm catch this? Andersen said explicitly, fairly early on, the client didn’t tell them certain key information.
Auditors don’t have the principal responsibility for financial reporting--the corporation does. But auditors are expected to do a reasonable job, and for something as a dramatic as this it’s hard for most people to understand why they didn’t catch it. One answer has been that perhaps Andersen was too close to the client.
Andersen was doing a lot of non-audit work for the Enron. In the latest fiscal year their audit fee was $25 million. But they also did $27 million worth of non-audit work--consulting and a variety of different services.

Columns: And that’s permissible?

Beresford: Yes--but at the end of January, all of the big firms--including Andersen--said that they will no longer do certain of these consulting assignments for their audit clients, which I think, frankly, is a good step.
Another thing is that a large number of the senior financial executives at Enron are former Andersen employees. I’ve even heard that some of the Andersen people were wearing Enron-logo shirts around the office.
So there are those who suggest that the reason that this didn’t get caught was because Andersen’s position was compromised. Either Andersen was providing too much in the way of non-audit services that they didn’t want to lose, or they weren’t challenging each other because of the revolving door between Andersen and Enron.
The whole situation is a kind of poster child for all of the things that have been criticized about corporate financial reporting and auditor-client relationships over the last several years. The SEC, for example, spent a great deal of time back in 2000 trying to revise the auditor independence rules, and they proposed that certain of these consulting arrangements ought not to be provided by the audit firm because it’s too close to auditing your own work. And the accounting firms fought the SEC off, with the help of their friends in Congress. Now, because of Enron, they will give it up voluntarily.

Columns: What changes do you foresee in accounting practices?

Beresford: Almost certainly there will be a lot of changes in accounting and auditing, the first of which obviously was the cutting out of some of these services. Some of this will come voluntarily, which I think is great. Some of it will be through private-sector initiatives like the American Institute of CPAs or my former organization, the Financial Accounting Standards Board. Some of it will be the SEC.
Some of it, unfortunately, is likely to come from Congress, and that may be the worst of all worlds. I’m scheduled to testify to the Senate Banking Committee on the 26th of February, and one of my principal messages is that Congress needs to stay out of the nitty-gritty rule-making process. It’s fine for Congress to oversee the operation, but it ought to be up to the private sector to fix itself as much as possible. When Congress gets involved, there are often unintended consequences. Most of these are technical accounting arguments that the people in Congress can’t evaluate.

Columns: It’s a confusing tragedy.

Beresford: Andersen now has fired one audit partner and suspended some others, and a lot of people have lost money. This is a human tragedy at a lot of different levels. Certainly somebody who has lost their entire retirement savings, you have to feel awful for them.
But there’s always another side of a story. I’ve heard people say, “I lost my million-dollar retirement account.” But there aren’t very many people who have million-dollar retirement accounts--and the reason it was so high is because it was all invested in Enron stock that went up like a rocket. Whether that person had any appreciation for it or not, they were basically taking a very risky position.

Columns: High risk can mean high rewards or high loss.

Beresford: Exactly. They had the choice to buy or not buy and to sell or not sell. For the audit partners: essentially their professional life is over. They’re going to be spending the next 10 years testifying and working with the lawyers. But they were the ones who made those decisions.

UGA Today supports QuickTime, Flash, RealPlayer and Acrobat Reader (PDF files).
Download information about these plug-ins.
Affiliate icons for UGA Today

COLUMNS ] UGA Today ] Subscribe ] News Bureau ]
Office of Public Affairs Directory ] Photo Services ]
Broadcast, Video & Photography ] Master Calendar]
Columns ] Georgia Magazine ]Visitors Center ]
UGA Home ] Alumni ] Admissions ] UGA Directories ]
Sports ] Weather ] Search UGA sites ]

Columns is produced by the UGA News Service, a unit of UGA Public Affairs.
Beth Roberts: Columns editor, Juliett Dinkins: Columns managing editor,
Janet Beckley: Columns art director. Peter Frey: Columns photo editor

Questions or comments should be directed to columns@uga.edu