A Reader’s Solution to Enron-Type Frauds

The environment that permitted the recent Enron Corp. fraud has existed since accounting began, and the answer to prevent such frauds has been around for many decades.

There always will be managers of corporations willing to commit fraud or “manage earnings” either for their own enrichment or to keep their jobs. It is the role of the CPA (since the Securities Act of 1933) to independently audit those books. The breakdown of this process occurs when CPAs maintain continuous relationships with client firms for many decades and believe they cannot afford to withdraw from an account in instances where the managers do not follow generally accepted accounting principles.

The long-known answer is mandatory rotation of CPA firms, probably every three years. Congress has proposed it on several occasions. Each time it has been defeated, as it probably will be again this time, by the massive lobbying of corporations and the CPA profession. Who believes Andersen would have approved of the Enron financial statements if they had known they would not be back the following year due to mandatory rotation?

Unfortunately, there are few people, and none with power and money, to lobby for this proposal. There is lobbying only on one side. The irony is that if the CPA profession agreed to mandatory rotation it would benefit financially in the long run. The same Fortune 500 companies still would rotate among the same large firms, and the transition costs of rotation actually would raise the aggregate fees for the CPAs. Of course, the real beneficiary would be American capitalism, which finally would have the truly independent auditing profession foreseen by the authors of the Securities Act of 1933.

Richard J. Waksman, CPA
Pleasantville, New York