Fraud Examination Enron Paper

September 7, 2017 Management

1. Define the problem(s) Enron failed to record some of its transactions. Arthur Andersen did not allow the LJM financial statement to stay unconsolidated. 2. Analyze the situation – again, take a “lessons learned” approach. You might use the following questions as guides: A. What important internal controls were ignored when LJM1 was created? LJM1 ignored some of Enron’s entries in the books that were missing. Outsiders owned less than 3% of the Special Purpose Entities equities. There was an error made by Arthur Andersen to let LJM’s financial statement to remain unconsolidated.

If the financial statements had been consolidated, some of the errors could have been found. They may have even had some time to correct these errors before that had gotten so far out of control. There was not governing controls in place and fraudulent activities were unlimited. Andrew Fastow created LJM1 to handle investments with Rhythms NetConnections, high-speed Internet service provider. The stock that they bought at $10 million was worth $300 million after a year. Enron tried to sell the stocks to an investor, in case the stock price dropped.

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They could not find an investor to purchase the stock at the put option because of the risks that was involved. B. How might Enron’s harsh Performance Review Committee (PRC) have aided company executives in committing the fraud? Enron’s harsh Performance Review Committee (PRC) have aided company executives in committing the fraud because the high turn over may have caused them to seek revenge. All of the Enron employees were rated on a scale of 1-5. The employees that are at bottom of the scale were terminated and replaced.

The employee may have known that they did not do so well and would ne rated as the lowest score on the scale. They may have stopped putting as much effort into the work because they knew beforehand that they were going to be released. They may have felt as though they needed to get the rewards that were well deserved, according to what they had worked hard to accomplish. Since the employees were rank and yanked every six months, the competition between them was brutal. The employees did what they had to do to stay in the running even if it was illegal.

C. The fraud at Enron is one of many major financial statement frauds that occurred in recent years (Qwest, Global Crossing, WorldCom, etc. ). What are some factors that could explain why the falsifying of financial statements is occurring so frequently? The falsifying of financial statements occurred so frequently because they were so much pressure for the employees to succeed. The turn over at Enron was so high. The employees were kind of desperate to keep their jobs. All of the employees were forced to compete against each other.

The pressure was there for employees to make sure that their peers did not out do them in all aspects. It is hard for the employees to stay honest as they are working under those kinds of pressure. They had all the opportunities to hide all negative debts and poor investments. D. Suppose you are a certified fraud examiner but enjoys investing in the stock market as an additional source of income. Upon doing research of Enron’s stock, you notice that although its stock has a history of strong growth and a seemingly promising future, Enron’s financial reports are unclear and, frankly, confusing.

In fact, you can’t even explain how Enron is making money. Could this lack of clarity in its financial reporting serve as a red flag in alerting you to the possibility of fraud at Enron? Why or why not? I believe that the lack of clarity in Enron’s financial reporting served as a red flag that should have alerted anyone in the company to the possibility of fraud. Enron’s recurrence of negative cash flows from their daily operations should have caused the Auditor to investigate to find out the origin of the problem that caused the negative numbers.

Enron was growing quick and steady as the emerged from nothing. Fortune named Enron as “America’s Most Innovative Company” for six consecutive years. Enron’s management would often have to justify their inappropriate account for their funding. 3. Present solutions – here are a couple of guideline questions: A. How could the auditors, in this case, Arthur Andersen, have performed their audits and not caught the Enron fraud? Arthur Andersen was able to perform Enron’s audit and not caught the audit fraud because he was connected to Enron.

He was not independent enough. There were transactions that were not recorded in their books. These actions caused Enron to become vulnerable to fraud. The internal audit committee and the senior management should not have a personal relationship. It is hard for the Auditor to do any type of auditing if they have a relationship that is not independent because their advise to the senior management will be susceptible to biasness. Enron did not get a fair audit because of this close relationship with the Auditor.

Is it possible for a financial statement auditor to form a GAAS-compliant audit and not catch major financial statement fraud? Has GAAS auditing changed enough since Enron to guarantee that all frauds are caught? Auditors, according to GAAS, are to remain independent in both fact and appearance. Meaning that even if an auditor appears to have a connection with their client, even though they may not have, they should drop the audit immediately. Anderson took a very active role in Enron’s business through both auditing and consulting. This should have been enough to make anyone question Anderson’s independence.

They did not execute their duties independently because of the amount of revenue that Enron was providing them, not only in audit fees, but also in consulting fees. B. What other solutions have been, or might be implemented to detect and/or prevent a future “Enron type” scenario? Another solution that could have been implemented to detect and/or prevent a future “Enron types” scenario is to have the auditors changed twice year or once a quarter. If the Auditors are switched out, they do not have enough time to develop a personal relationship with the senior management.

The company can implement certain training for the Auditors, as well as their employees, every quarter or every six months to keep them sharp and well aware of what is going on in their surroundings. If the trainings are implemented, the company will cover themselves to a certain extent. Most of the time the employee or the audit can’t say that they did not know or were not updated with the current procedures. References: http://faculty. mckendree. edu/scholars/2004/stinson. htm Case Study 2 – Enron and Arthur Andersen


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