# Presentation: 494333

## Ethics in the Post-Enron Era

- John M. Thornton
- Washington State University:
- Tri-Cities

## Enron: Who is to blame? 

- Management?
- Auditors?
- The SEC?
- Financial Analysts?
- You?
- Identify the strongest criticism and best defense for each group’s culpability.

## Where did you get your ethics?

- Automous v. Heteromous Reasoning
- The Hastings Report
- Intolerance
- Indoctrination
- Codes of Conduct
- Write your own

## Codes of Conduct

- AICPA
- Integrity
- Objectivity
- Independence
- Due care

- IMA
- Competence
- Confidentiality
- Integrity
- Objectivity

- _Bottom line_: Codes clarify required standards of behavior

## Why does auditor independence matter?

- Independence - Objectivity - Reliability
- “...independence in appearance and fact...”
- Independence from what?
- Independence from whom?
- Audit Quality = 								f(independence, competence)
- The surgeon dilemma

## Quality Financial Reporting

- Incomplete information creates uncertainty
- Uncertainty creates risk
- Risk creates demand for a higher rate of return (i.e., cost of capital)
- Higher cost of capital leads to lower security prices, and friction in capital markets.

## Why does auditor independence matter?

- Independence - Objectivity - Reliability
- “...independence in appearance and fact...”
- Independence from what?
- Independence from whom?
- Audit Quality = 								f(independence, competence)
- The surgeon dilemma

## The History of Independence

- Stock market crash
- Changing demographics of CPA firms
- The SEC’s Proposed Rule
- The Independence Hearings
- The SEC’s Final Rule
- The Final Rule’s Replacement

## Sarbanes-Oxley Act: Banned Non-Audit Services

- bookkeeping/record-keeping for financial statements
**financial info systems and design**
- appraisal or valuation services
- actuarial services

**internal audit outsourcing**
- management functions or human resources
- broker, investment advisor/banking
- legal and expert services
- other

## Sarbanes-Oxley Act

- Lead audit partner rotation
- Auditor reports to audit committee
- 1 year restriction on hiring auditor to as top management
- Independent public company audit committees

- CEO/CFO must certify financial statements
- CEO/CFO reimburse if restatement
- Off-balance-sheet disclosure
- Mgt. assessment of internal controls

## Sarbanes-Oxley Act

- Issuers must adopt a Code of Ethics for financial officers
- Real-time disclosure of material changes in financial condition
- Securities analysts must adopt conflict of interest rules

- SEC may bar any person from practicing before the SEC if the person does not possess the requisite qualifications to represent others, lacks character or integrity, or has willfully violated securities law.

## Title VIII: Corporate and Criminal Fraud Accountability Act

- Felony to “knowingly” destroy/create  documents to impede federal investigation
- Auditors must keep working papers longer
- longer statute of limitations

- Extended “whistleblower protection”
- Securities fraud has penalty up to 10 years imprisonment

## Title IX: White Collar Crime Penalty Enhancements

- Mail/wire fraud doubled to 10 years
- Creates crime for tampering with a record or impeding official proceedings
- SEC may prohibit former securities fraud  convicts from office

- Financial statements filed with SEC must be certified by CEO and CFO to present fairly the operations and financial condition of the issuer. Maximum penalties include 20 years/$5m

## Practical Ethics: The “Sunshine Test” 

- Theory of the Potentially Harmed
- Hanging chads and self-serving bias
- Hindsight bias and conservatism