Tuesday, May 31, 2005

Memo to Arthur Andersen - Oops, Sorry, We Didn't Mean It 

Too bad there's nobody there to get the memo. I rarely get worked up about the accounting profession, but I must admit I find this simply staggering. Arthur Andersen was one of the Big Six accounting firms, an employer of thousands of people providing services to hundreds of companies around the world. Its conviction, overturned today, spelled its demise. It is not hard to conclude today that Andersen was liquidated as a result of a combination of large, stupid investments made by the management and board of Enron, the greedy and probably fraudulent activity of a few senior managers at Enron, with the complicity of a few auditors at Andersen. For the entire firm to have been destroyed by a weak and reckless case, now proven to be so by the Supreme Court's decision, seems tragic, foolish, disorienting in its wicked and cavalier destruction of the lives of so many.

To find individuals culpable for bad behavior and punish them is sensible and proper. It is what allows our economic system, built on its foundation of trust, to thrive. To shut entire companies down by government fiat does the opposite -- it saps our system of its risk taking appetite and fosters paranoia. It reeks of Putin's Russia, not the American way.

I hope somebody notices.


By Blogger Dave Schuler, at Tue May 31, 09:20:00 PM:

Tigerhawk, much as I respect your opinion I think you've got a hold of the wrong end of the stick. It wasn't government fiat that closed AA's doors it was AA's customers. Like Caesar's wife large accounting firms must be above reproach.

And creatures of the government like big accounting firms are prudent to avoid running afoul of that government.  

By Blogger Dave Schuler, at Tue May 31, 09:21:00 PM:

Oh, sorry, I should have looked more closely. That's a cardinalpark post.  

By Blogger TigerHawk, at Tue May 31, 10:29:00 PM:

Indeed it was a Cardinalpark post, but I agree with it.

AA's customers deserted it because of the criminal prosecution. The fact of the criminal charges against the firm, as opposed to individual partners, was enough to destroy the firm because of the nature of its business. The government knew that it would "win," even if it lost the case, because it would destroy AA simply by bringing charges. The question is, was that responsible for the government to do, even if it was lawful within the bounds of prosecutorial discretion? I say it was not. That the prosecution's case did not survive SCOTUS review strengthens our side of the argument.  

By Blogger Cardinalpark, at Wed Jun 01, 09:05:00 AM:

Dave -- I can understand an absence of sympathy for AA. Partners of the firm were, with our without knowledge, complicit with fraudulent, criminal activities engineered by Enron management. But I can tell you as a former customer of AA's services, provided mostly by excellent, honorable people, I miss them. What used to be the Big 8, is now the Big 4 accounting Firms. And with the advent of Sarbanes Oxley, there is literally a shortage of institutional capacity for the myriad services AA and firms like it provide and companies need more than ever. Which gives the remaining Big 4 cartel-like power -- and I don't like that at all. That kind of market power is more corrupting than any single partner or partners at AA could ever be.

Furthermore, I don't like the Justice Department filing weak cases which ultimately bring down an entire firm, regardless of guilt. And that's what this case was -- death sentence by government fiat. AA was a firm which could have survived and recovered if the prosecution-types had focused on culpable individuals, rather than sinking an entire company. But the case itself, highly inflammatory at a moment of great anti-corporate passion, provoked a crisis of confidence which no service firm can survive.

Finally, I would offer an observation about what, in my opinion, doomed Enron, without exonerating anybody for bad acts. Enron was not bankrupted and liquidated as a result management fraud. Enron was bankrupted and destroyed by hideously poor investment decisions, governance and management in the context of a financial bubble. Fraud was a part of the goings-on there, but it did not doom Enron to liquidation. Complete destruction of capital via losses did, not theft. Ultimately, AA was punished for its perceived contribution to Enron's demise, which was attributed by clueless government lawyers exclusively to fraud. And it received a death sentence, without the benefit of due process. The best examples of corporations which were not similarly destroyed despite appropriate allegations of malfeasance were MCI, Tyco, AIG and Marsh Mac. To varying degrees, these companies all had significant individualized dirty laundry which one might argue involved some accounting complicity. Yet the firms survive, and no accountants have been sent down in flames. Why? The Justice types concluded that fraud sank Enron, that AA contributed to it, and therefore AA should be destroyed. Again, one man's opinion. I just think that's wrong. And it gets people focused on the wrong lessons from these debacles, which in turn is very dangerous. But that's a longer post.  

By Blogger Wave Maker, at Wed Jun 01, 11:54:00 AM:

"It 'is not inherently malign' to persuade someone to withhold documents from the government, but that is what the government asserted with respect to Andersen's conduct, Rehnquist wrote."

Was it the prosecution of the company that brought it down, or its complicity with Enron and becoming identified with the corporate culture that comports with the quote from Rehnquist above? Does any publicly-traded company want to have accountants who (innocently or not) destroy relevant documents in advance of the likely arrival of the SEC or FBI?

To the extent that DOJ's criminal pursuit of AA was the root cause of AA's downfall, I do agree with your comment --- but I got the distinct impression that the writing was on the wall, and AA began shedding its client base, well before the indictment of the company.  

By Blogger Cardinalpark, at Wed Jun 01, 12:53:00 PM:

Wave Maker and Dave both ask a good question...were customer defections what doomed AA, or its conviction, now overturned?

My response is of course a combination of conjecture and opinion, but here's my take. Certain clients did defect prior to conviction, though not that many. AA would have had to pursue a downsizing, it seems to me, to avoid sustaining substantial losses. However, in the wake of Sarbanes Oxley legislation, AA would have seen an increase in billings and reduced customer defections as other firms frankly could not take on new business. The accounting business is not very competitive anyway, much less so now. In the absence of an indictment, AA would not have suffered much in the way of customer losses. With the indictment, they were hurt, but by no means dead. Once convicted, they were toast. Customers could no longer stay with AA, they had to defect, because of the perceived implication for a client.

Relevant analogy? Drexel Burnham Lambert (junk bond scandal) versus Salomon Brothers (treasury scandal). The Feds shut down DBL in 1989 but chose to be restrained in its handling of the Salomon Brothers Bond scandal, sparing it and its senior leadership indictments. Perhaps they learned they did not want to repeat the trauma...same thing with Citigroup. Forced Sandy Weill retirement and a big fine, but did not trigger a crisis of confidence. But 28,000 employees of AA were rather unfortunate victims.  

By Anonymous Anonymous, at Wed Jun 01, 03:00:00 PM:

The Founding Fathers believed that the power to tax was the power to destroy. What do we all think of the power to prosecute without restraint? Is that the power to destroy? Publicy companies have every move highly scrutinized. Where is the accountability for the prosecutors? Who holds them accountable?

The Centrist  

By Blogger Wave Maker, at Wed Jun 01, 10:23:00 PM:

Whether or not Cardinalpark's assessment is correct (and let's say it is :) ), let's look at the fundamental trend created by Sarbox --

1. An increasingly careful selection of truly independent directors;
2. With an audit committee led by a highly qualified CPA with public-company experience,
3. More willing (or able) to make objective determinations that
4. Provide daily incentive to senior management to keep the financial management decisions of the oompany above reproach.

I am not comfortable with the Big 8 being reduced to the Big 4 either -- But I suggest that the transition underway bodes well for emergence of new major players in the public audit arena.  

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