Accounting Regulations, Research Paper Example

Accounting is a profession that should be treated discreetly and with a high level of integrity. The accounting profession is an embodied body of auditing, financial analysis, financial reporting, cost accounting, and quantitive techniques among others. All these aspects of the accounting profession should be carried out according to set laws and regulations. When the general accepted accounting principles (GAAP)[1] are not applied in executing the accounting profession, fraud, omission and commission mistakes, in appropriate information will be detected.

According to a forum carried out between International Organization for Standardization and International Accreditation in 2006, the ISO 9001 Auditing Practices Group Guidance on, Auditor Code of Conduct and ethics insisted that for any corporation to receive and credentials or ISO, certification, it was mandatory for it to abide by auditors code of conduct and ethics. Auditors and accountants in general are supposed to act with the interest of the organization and its clientele to prevent any form of fraud or deceit from taking place. “It is important that the auditor keep a close eye on the information provided by the auditee in the quality manual or documentation where the auditee has defined the interaction of processes” (ISO 9001). All the information relayed should be investigated thoroughly before presenting it as true according to the subject of analysis. The general terms in the code of auditors code of conduct are stated under the general statement, code of ethics which comprises of general issues, an auditors relationship to the general public, relationship to peer, organization, clients, and the auditor’s employer and so on (ISO, 2009)

There have been several occasions that accountants and auditors have disobeyed the code of conduct and ethics, or neglected small issues that later resulted in huge financial scandals. A given number of accountants can carry out accounting mistakes without their knowledge whereas others are usually out to defraud the clients of money. A prime example of financial fraud due to an accountant negligence occurred recently in the Bernard Madoff Auditing Firm.

A Ponzi scheme is one that defrauds the members or investors by paying off their dues through money derived from other sources or from separate members from the same investment scheme. Businesses that operate such schemes usually pay off their dents on time and consistently so that it can attract more customers and keeps the business going. The company vigorously sells off its services through classified advertisements to attract large numbers of investors to its business. Ponzi schemes are destined to collapse after a calculated period of time because there are no forms of investment that are undertaken to maintain the working capital [2]of the company. In most cases they are usually indicated by authorities, but after they have fraudulently collected money from their perceived investors of a considerable number of people. They usually have dependent or non existence auditors whose investigation favor the company and cannot be relied upon by the public or investors.

There are several instances where the Securities and Exchange Commission (SEC) alongside the Federal Government has failed to prevent such huge scandals from taking place. These accounting regulating bodies are good for carrying out prosecution after a substantial amount of money has been stolen from innocent and hard working citizens. Unfortunately some auditing firms do not abide by the auditing code of conduct and professional ethics partnered with fraudulent individuals to fraud investors of their money through the use of false represents information to the authorities and the public.

Bernard Madoff’s broker dealer firm. Bernard Madoff founder of Bernard L. Madoff Investment Securities LLC (BMIS) was a former financier and non-chairman of the NASDAQ stock exchange. BMIS had operated since 1960. BMIS operated on false statements sent to investors of BMIS and had never undergone investigation by federal authorities until December 2008. Madoff had blind folded thousands of investors who had been stacking money in his firm for the last 17 years without notice that anyone was being scammed. Madoff had managed to fool thousands of professionals. His firm lost an estimate $50 billion of investor’s money.

The firm, despite being one of the largest insurance firms in the United State of America, did not have an independent auditor but a three manned auditing firm that supposed to be legally carrying out its services as set by law.  Having the main partner, an accountant and a secretary, the firm’s physical location could not be easily spotted; it was operating underground and falsely rubber stamping Madoff’s tax returns and books of accounts that were fraudulent. From information given to the auditing firm director, the director had credited his account with $5.5 million from Madoff’s account. Why would this occur if the auditing firm was indeed an independent one?

For the last 25-30 years, some accountants and accounting firms have lost their thrust through engaging in fraudulent cases at the expense of their customers and professional ethics.

The Securities and Exchange Commission has so far charges Madoff’s auditing firm for representing false information to the public and authorities, alleging that they had carried out authenticated audits but they indeed had not. The complaint has been placed in Federal Court of Manhattan and is still under investigation.

David Friehling is the main suspect in this account; David and his firm, Friehling & Horowitz, CPAs, P.C. (F&H) have been giving false information of audited accounts of BMIS. U.S. attorney Lev Dessin stated “Although Mr. Friehling is not charged with knowledge of the Madoff Ponzi scheme, he is charged with deceiving investors by falsely certifying that he had audited the financial statements of Mr. Madoff’s business,” David’s firm worked along with Madoff implementing a Ponzi scheme that saw investors lose up to $65 billion of their hard earned money. David’s firm enabled the Ponzi scheme in representing false information just abiding to by Generally Accepted Auditing Standards (GAAP) in pretence that the firm was an independent one from the fraudulent firm (U.S. SEC, 2009).

In addition, the accounting firm claimed to be carrying out time to time audits and investigated the firms control measures like assessing the custody of assets, financial statements and found no discrepancies. The accountant’s reports were distributed to potential investors, SEC, and other regulatory bodies and the firm’s customers to assure that everything was in order. According to the reports represented by David Friehling, the company was insolvent and was making positive returns on investment from its activities. Contrary to this the firm had several liabilities amounting to tens of billions of dollars and unpaid premiums were considerably enormous. If he had presented the correct, authentic information and carried out real audits BMIS would be declared insolvent on the spot.

As mentioned, there were several instances where the SEC alongside the federal Government had failed to prevent such huge scandals from taking place. Two of which cases were the scams of Enron, and Worldcom. In response to these financial frauds the Sarbanes-Oxley Act of 2002 (SOX) was formed; under SOX the Public Company Oversight Board (PCAOB) was formed. The PCAOB serves a purpose of overseeing and protect investors of public companies. The PCAOB regulates auditors.

According to section 17 of the SOX act with amendment to section 17 of the Securities Exchange Act of 1934 brokage firms, as Madoff Securities were, are required to be audited by firms that are registered with the PCAOB. Helen M. Roybark, author of “Why Wasn’t Madoff’s Auditor Peer-Reviewed or inspected” discusses the SOX act and describes what it lacks as far as regulations.

The SEC alleges that Friehling knew that BMIS distributed the annual audit reports to Madoff customers and that the reports were filed with the SEC and other regulators (News reported by AccountingWeb). He had the knowledge of what was required of him serving as an auditor. David had reported to the American Institute of Certified Public Accountants (AICPA) in writing that he did not perform audits. F&H was a registered firm that was not peer-reviewed due to letters David had submitted to the AICPA claiming he does not conduct audits. This is the reason to why there was no inspection of F&H by the PCAOB.

He was able to keep his audit reports from being inspected and maybe even detected for false, misleading information. David had found his way around auditing laws and regulations. Had he been required for peer-review David would have provided authorities with insight on his failure to verify test of BMIS’s transactions, account balances, and assets. The AICPA summarizes section 102: Registration with the board of the SOX act stating “All public accounting firms that prepare of issue, or who participate in the preparation or issuance of, any audit report with the respect to an issuer, must be registered with the board”. A  CPA, David Friehling, had failed to examine his client’s, BMIS, bank account in which billions of dollars belonging BMIS clients.

David Friehling was charged of violating “Section 17(a) of the Securities Act, violated and aided and abetted violations of Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and aided and abetted violations of Sections 206(1) and 206(2) of the Advisers Act, Section 15(c) of the Exchange Act and Rule 10b-3 thereunder, and Section 17 of the Exchange Act and Rule 17a-5 thereunder. Among other things, the SEC’s complaint seeks financial penalties and a court order requiring both Friehling and F&H to disgorge their ill-gotten gains” (U.S SEC, 2009).

David Friehling is not the only accountant who had enabled Madoff’s $50 billion Ponzi scheme. Madoff had a number of feeder funds, Fairfield Greenwich, Maxam Absolute Return Fund LP are just two feeder funds involved with the Ponzi scheme. The list of Madoff’s victims is still growing as is the list of who may have been involved is being investigated.

The SEC’s role in business regulation is to regulate activity is a business in the stock market and to protect investors from loss of money due to the fault of a business. The SEC can order an audit of a business which may be suspected of unlawful practices. When a Ponzi scheme or other type of fraud occurs, whether it is falsifying statements, improper booking, or inflating revenues authorities have an obligation to prevent any further fraud from being committed and punish those involved in fraud accordingly. “It is the responsibility of the SEC to oversee the inspection of securities firms, brokers, investment advisers, and ratings agencies” (AICPA, 2009). The AICPA also states in reference to the SEC’s role “Oversee private regulatory organizations in the securities, accounting and auditing fields” (AICPA, 2009).

Investigating can be complex and not an easy task to perform when reviewing a large number of companies. The SEC has put a stop to many financial frauds, many but not all. The Madoff Ponzi scheme had been reported in five separate SEC submissions as an unregistered hedge fund operating a scheme.

Harry Markoplos is a whistleblower in the Madoff Ponzi scheme.  In an interview with Harry he is asked how long it had taken him to know something was wrong. He had responded “it took me five minutes to know it was a fraud; it took me another almost four hours of mathematical modeling to prove that it was a fraud”. Harry is a financial analyst and fraud investigator that was Madoff’s competitor in the industry during the year 2000 to 2004. The SEC now faces a full review of allegations made in the past regarding the Madoff case and why the allegations were not found credible that were reported to the SEC ordered by Chris COX who is the chairman of the SEC.

At this time information regarding regulatory bodies and federal government further actions towards the auditors’ code of conduct and ethics alongside accounting laws and regulations to prevent future fraud is unknown.  What is known by investors is how to sight and avoid a future Madoff.

[1] General Accepted Accounting Principles- A widely accepted set of rules, convention, standards, and procedure for reporting financial information, as established by the Financial Accounting Standards Board.

[2] Working Capital- Current assets minus current liabilities. Working capital measures how much in liquid assets a company has available to build its business.