Levitt Appeals to Traditional CPA Values in New Auditor Rules

By: Rick Telberg

June 30, 2000 (SmartPros) ? The proposed independence rules from the Securities and Exchange Commission are less radical than the Big Five might have you believe.

The Big Five and elements of the American Institute of CPAs assert that SEC Chairman Arthur Levitt’s plan would force the breakup of the world’s largest accounting firms. But in fact the guidelines closely track traditional values and existing rules within the profession. Levitt’s proposal is not much more than a strong reminder.

Look at parts of the most controversial section, non-audit services, verbatim:

“Bookkeeping or other services related to the audit client’s accounting records or financial statements. When an accounting firm provides bookkeeping services for an audit client, the auditor auditing the client’s financial information may be auditing his or her accounting firm’s work.

“Financial information systems design and implementation. Designing and implementing a hardware or software system used to generate information that is significant to the audit client’s financial statements may create a mutual interest between the client and the accountant in the success of that system, supplant a fundamental business function, or result in the accountant auditing his or her own work.

“Appraisal or valuation services, fairness opinions, or contribution-in-kind reports where there is a reasonable likelihood that the accountant will audit the results. Valuing assets and liabilities or opining on the adequacy of consideration in a transaction may create a situation where the auditor reviews his or her own work, including key assumptions or variables that underlie an entry in the financial statements.

“Actuarial services. Providing any advisory services involving the determination of policy reserves and related accounts, unless the audit client uses its own actuaries or third party actuaries to provide management with the primary actuarial capabilities, may affect amounts reflected in an audit client’s financial statements and may result in an accountant auditing his or her own work.

“Internal audit outsourcing. Companies sometimes “outsource” internal audit functions by contracting with an outside source to perform all or part of their audits of internal controls. Since the external auditor generally will rely, at least to some extent, on the internal control system when conducting the audit of the financial statements, the auditor would be relying on a system he or she helped to establish and maintain. There also may well be a mutuality of interest where management and external auditor may become partners in creating an internal control system and share the risk of loss if that system proves to be deficient. This proposal does not include nonrecurring evaluations of discrete items or programs that are not in substance the outsourcing of the internal audit function. It also does not include operational internal audits unrelated to the internal accounting controls, financial systems, or financial statements.

“Management functions. When the accountant acts, temporarily or permanently, as a director, officer, or employee of an audit client, or an affiliate of the audit client, or performs any decision making, supervisory, or ongoing monitoring functions, the accountant becomes part of the very entity he or she is auditing.

“Human resources. Recruiting, advising clients about organizational structure, developing employee evaluation program, or conducting testing of employees may create a mutuality of interest with the audit client in the success of the employees the auditor selected, tested or evaluated.

“Broker-dealer, investment adviser, or investment banking services. Serving as a broker-dealer, promoter, underwriter, investment adviser, or analyst of an audit client’s securities will create a mutuality of interest with the audit client in enhancing the value of the securities portfolio. In addition, providing advice and recommendation in this realm often places the auditor in the position of promoting the client’s securities.

“Legal services. A lawyer’s core professional obligation is to advance clients’ interests. This fundamental obligation is incompatible with the independence required of an auditor.

“Expert services. An accountant who renders or supports expert opinions in legal, administrative, or regulatory filings or proceedings creates, at the very least, the appearance that the accountant acts as an advocate.”

If there’s an auditing firm that can’t live with the gist of these rules, maybe it’s not really an auditing firm.

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Posted on June 30, 2000
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Software Companies Want Your Accounting Data on the Web

By: Rick Telberg

June 27, 2000 (SmartPros) ? With the heavyweights moving into the remotely hosted software business, it’s only a matter of time before it takes hold. And the time is fast approaching.

Using a so-called applications service provider, independent or corporate accountants can supposedly get all the benefits of the latest software, without the headaches of networking, upgrades or maintenance. Some packages are being pitched for as little as $4.95 a month. And the big boys are climbing into the market.

Computer Associates’ Accpac, for instance, has just launched Accpac Online, which it bills as “the e-business resource center for small and medium-sized enterprises.” Accpac Online will host Accpac accounting and, jumping on Bill Gates’ bandwagon, Microsoft Office 2000.

Meanwhile, upstart Intacct Corp. is rolling out its “professional-strength Web-based accounting service.” The company says its service “is designed for companies that need more than an entry-level PC-based accounting package but want an alternative to complex, IT-intensive client/server solutions.” Like others in the category, Intacct is a subscription-based accounting service operated entirely over the Internet, which gives users access “anytime and anywhere” via a browser. In a public relations coup for a start-up, Intacct also unveiled a deal with Deloitte & Touche to “co-develop the industry’s first Web-based auditing tool that integrates with clients’ accounting workflow.”

Intacct’s core services are available at a subscription price of $49.95 per month, which includes access for two users and 10 megabytes of storage. Meanwhile, for just $4.95 a month, NetLedger will give you scaled-down general ledger software.

The company, operated by former Intuit and Peachtree talent, has just closed on $20 million in new financing, led by StarVest Partners and including NetLedger chairman Larry Ellison, Oracle founder and chairman. NetLedger said it plans to use the capital to “expand marketing efforts to accelerate customer acquisition,” broaden NetLedger distribution channels via strategic alliances, and continue developing its technology and services.

In the Web world, Great Plains is starting to look like a grand old dame of the business. But not to be outdone, the company has acquired PurchasingCenter.com, an “e-marketplace” of 150,000 maintenance, repair and operating supply items. Great Plains reseller The Taylor Group created it.

And there’s no doubt that Intuit will jump into the fray with a Web version of QuickBooks any day now. “Stayed tuned,” one executive has said. QuickBooks’ main rival Peachtree became available in an ASP version earlier this year.

Watch for movement, as well, in the tax arena. CCH is rolling out ProSystem Fx for beta testing next tax season with a general release later in the year. It will go head-to-head with GoSystem R/S from RIA Group.

The ASP model will be slow to catch on at first among accountants. Accountants have understandable reservations about security, round-the-clock accessibility, and any software version that starts with the number one.

But the application service provider industry is expected to reach $9.7 billion in annual revenues by 2004, up from $1 billion last year, according to Kennedy Information Research Group, and accountants won’t be left behind.

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Posted on June 27, 2000
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Accountants Blaze the Trail in a Networked World

By: Rick Telberg

June 26, 2000 (SmartPros) ? Gather a few top accountants around a table and let them talk.

Common themes will emerge again and again.
– Finding and keeping good staff;
– The exploding demands for new skills and knowledge;
– Operating with tighter budgets and in less time; and
– Anticipating and meeting the needs of stakeholders and clients.

Listen to the tale about a mid-sized manufacturer in Oregon. The company’s chief financial officer has invited his long-trusted local CPA to help review proposals from a national CPA firm bidding for a chance to consult on the construction of a new factory.

The national CPA firm is pitching a service that combines engineering skills with tax-planning expertise. To get the maximum tax breaks, the firm will send in its own engineers and architects to rework the manufacturer’s blueprints to reduce to the bare essentials the pieces of machinery installed permanently. The maneuver reduces the line on the capital budget, increases expendables and so maximizes tax write-offs. It’s a brilliant strategy, even the local CPA must admit between gritted teeth.

The manufacturer saves $300,000. The national firm walks off with $100,000 of the savings. The local CPA walks away with a new resolve to find a way to give his clients similar services himself.

But both the manufacturer and the local CPA firm shared the same problem that day. The issues facing the independent practicing accountant are, in fact, little different from the pressures facing the corporate management accountant.

The world’s economic, technological and social forces are converging on the business professional to require faster decision-making, broader knowledge, and more business savvy than ever before.

Accountants, however, are at the forefront of solving their business problems together. In the newly networked world of the diversified business professional, accountants are showing the way.

Financial executives are developing a vast array of options for themselves among service providers. And they aren’t shy about asking one to review another. In response, financial advisors are building a wide range of contacts. And they’re increasingly aggressive about reaching out to non-CPA professionals and providers.

As the new world of multi-disciplinary professions approaches, accountants are emerging as the natural trailblazers.

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Posted on June 26, 2000
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It Would Have Taken Only One Good Accountant to Blow the Whistle at CUC

By: Rick Telberg

June 23, 2000 (SmartPros) ? The biggest and longest-running accounting scandal in history may have started and gone undetected for more than 14 years because the accountants thought that it was their job to cook the books.

In Newark, N.J., last week, three former financial executives at the franchising giant Cendant Corp., which also owns the Jackson Hewitt chain of tax shops, pleaded guilty to inflating revenues in a scam that cost investors $19 billion, involved more than $500 million in phony profits in just the last three years of the scam, and led to a $335 million settlement by Ernst & Young and record-breaking $2.38-billion settlement by Cendant with shareholders.

The three executives held top posts at CUC International of Stamford, Conn., which merged with HFS Inc. of Parsippany, N.J., to create New York-based Cendant in December 1997. In court last week, they said they were just doing their jobs. “It was a culture that had been developed over a period of years. It was ingrained in us by our superiors,” said CUC’s former chief financial officer Cosmo Corigliano, who joined the company in 1983 when he was 23 years old from the company’s auditing firm, then Ernst & Whinney. “The activities had started about then,” Corigliano said. “It was my job and everybody was encouraging me.”

“Don’t we call that ‘cooking the books?’” U.S. District Judge William H. Walls asked Casper Sabatino, a CUC accountant. “Yes, sir,” Sabatino replied. “Honestly, your honor, I thought I was doing my job.”

Also pleading guilty was Anne Pember, CUC’s former controller. They each face five years in jail.

With the guilty pleas, Cendant is amending its malpractice suit against Ernst & Young, alleging that the accounting firm’s involvement must have gone deeper and lasted longer than at first suspected. Cendant said the fraud “could not have occurred without the gross negligence, if not more, of CUC’s auditors.”

A post-mortem by Arthur Andersen after the scandal broke described one meeting, for instance, in which Ernst auditors failed to get an explanation or documentation for $25 million in profits. The auditors decided it was immaterial, and moved on. Also, Ernst let CUC officials know which subsidiaries would be audited, so they could hide the most obvious frauds beforehand.

Ernst, of course, says the firm was played for a mark as much as the investors were. Maybe.

But one thing is certain: It took a lot of accountants, both inside the company and out, to run the fraud and clear the financials. Any one of them could have been a hero just by doing his or her real job.

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Posted on June 23, 2000
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CPAs Get a Reminder on How to Be an Auditor

By: Rick Telberg

June 22, 2000 (SmartPros) ? Few accountants are even vaguely aware that the Public Oversight Board exists. If you haven’t heard much about it, don’t be embarrassed. The POB has never done much of note.

The POB is charged with examining the effectiveness of auditing and financial reporting at public companies. But to CPAs with consciences, the POB has long been a blot on the profession.

Last week, in the first signs that the POB may no longer be a captive of the Big Five and the American Institute of CPAs, a POB panel — created at the behest of Securities and Exchange Commission Chairman Arthur Levitt — conceded that Corporate America’s penchant for so-called earnings management had gone too far. The panel said a “trickle” could easily become a “waterfall.” And the panel called on auditors to toughen up their audits.

The POB Panel on Audit Effectiveness says in its draft report that auditors should probe behind the numbers provided by management in “every” audit to increase the chances of catching financial statement fraud.

As if reading from Montgomery’s textbook, the panel said an audit should include “a forensic-type fieldwork phase,” in which auditors “presume the possibility of management dishonesty” and actively search for spots where the company might be vulnerable to fraud if management wanted to perpetrate it. And yet, the panel agreed that a routine audit should provide only “reasonable, not absolute, assurance” that the financial statements are sound.

The POB said it was “concerned that the auditing profession has not kept pace with a rapidly changing environment and that the profession needs to address vigorously the issue of fraudulent financial reporting, including fraud in the form of illegitimate earnings management.”

But the panel split over the question of whether accounting firms should be banned from providing consulting services to audit clients. At most, they recommended that the corporate audit committee approve non-audit work by the auditing firm. But they couldn’t agree on the threshold needed to trigger the review.

For its part, the AICPA noted that the report found audit practices “fundamentally sound,” but it promised to work with the panel and the SEC on improvements. It cautioned, however, that some of the recommendations might prove costly.

The panel urged firms to set a tone for employees to remain objective and skeptical. It took pains to remind CPAs of something they cannot be reminded of often enough: They are accountable to the public.

It’s a pity that some CPAs need reminding.

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Posted on June 22, 2000
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Who Cares About Accounting Standards? Ask the Europeans

By Rick Telberg

June 21, 2000 (SmartPros) ? It may seem far away, but the European Commission has unveiled an ambitious plan to mandate that companies throughout Europe follow a common set of accounting standards.

Slated to take effect in the European Union by 2005, the Brussels-based commission said ‘urgent’ changes were needed to allow the development of a single European securities market. The proposal must yet get approval by a majority of EU countries and the European Parliament.

The Commission says widely varying and conflicting rules cause companies reporting even in the same country and even on the same stock exchange to use different accounting standards. The EC wants companies to follow the International Accounting Standards Committee, a body set up by the accounting profession in 1973 to devise a set of global rules. The EC holds 6,700 public companies, but only 275 currently follow international standards.

“Today Europe has a single currency but not an integrated financial market,” said Frits Bolkestein, the European Union commissioner for a single market, said. “Unless the European Union moves rapidly it risks losing the benefits of the euro and will be unable to keep up with change in global markets.”

The move goes a long way to protecting European capital markets at a time when the United States markets are fighting fiercely for listings and offshore and virtual global markets are fast developing in the digital ether.

“The stock market capitalization of EU member states is about half that of the US,” Bolkestein noted. “Less than 0.2 per cent of life assurance in the EU is traded cross border. Europe’s private savings — 20 per cent of gross domestic product — are not invested efficiently. Furthermore, there are still big differences in the cost of financial products between member states. So far it is the U.S. that is reaping the benefits of market consolidation.”

But the EC plan is flawed in at least one respect because it sets up a two-tier “endorsement mechanism,” or supervisory agency of politicians and administrators. In effect, the system adds friction to the work of the IASC. The reluctance to give way to the IASC follows a major victory by the IASC to reform itself in the mold of the United States’ Financial Accounting Standards Board. This could, in effect, give the Commission a veto on politically contentious IASC standards.

Perhaps the EC was bowing to the political realities of often-factional constituent countries, some of which have a long way to go to bring their financial reporting and commercial practices to the level of transparency taken for granted by U.S. accountants.

Eventually, the world will bow to a single standard. And if history and the American experience of standards setting is guide, the global standard will be based on the fullest, fairest and quickest disclosure possible. The fact is, the markets will demand no less.

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Posted on June 21, 2000
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Political Battle Between Lawyers and CPAs Exposes Secrets of the UAA

By Rick Telberg

June 20, 2000 (SmartPros) ? In the national battle to get the Uniform Accountancy passed in all 54 jurisdictions, New York state had been looking as if it would become an important and bloody battleground. But a colossal misstep by the Big Five over the issue of combining law and accountancy practices has set back the UAA juggernaut.

Drafted and promoted by the American Institute of CPAs and the National Association of State Boards of Accountancy, the Uniform Accountancy Act is their model law to liberalize regulation of CPAs. It contains provisions to allow CPAs to practice across state lines. But it is controversial because it would also reduce experience requirements for non-auditor CPAs, allow non-CPA ownership of firms and mandate a fifth year of college for CPA candidates.

In New York, the National Coalition of CPA Practitioners, a grassroots group of traditional local CPA firms, was mobilizing strongly against the UAA. They were seeking to show Albany legislators that the CPA profession remained divided by the UAA. The National Society of Accountants, a group which includes non-CPAs, was also objecting to the UAA, claiming it locked out non-CPA accountants from important write-up work and reduced consumer choices.

With the opposition forming, New York was becoming a closely watched battleground. The UAA, after all, has been passed by more than 40 states.

But then opposition formed from an unexpected source: the lawyers. The state bar association, itself driven by the prospect of so-called multi-disciplinary practices which combine legal services with other practices, sought to include in the preamble to the UAA a clause which stated that the accountancy bill was to be read as limited to accountancy.

The Big Five’s lobby, the Washington, D.C.-based Accountants Coalition, balked. They forced the withdrawal of the UAA rather than have it read as narrowly as the lawyers wanted.

It was a stunning reversal. Supporters of the UAA were left speechless. “I can’t believe they did that,” said one. And they were left wondering whether there’s actually more in the UAA as drafted than they’ve deciphered to date.

The jockeying suggests that the UAA opens a secret door to allowing MDP’s. It could take a team of good lawyers to figure it out. Come to think of it, maybe they have.

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Posted on June 20, 2000
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SEC Blinks; Big 5 Walk on Independence

By Rick Telberg

June 19, 2000 (SmartPros) ? So the Big Five have agreed to report past violations of independence rules in exchange for amnesty from the Securities and Exchange Commission. It is, essentially, a plea bargain.

SEC Chairman Arthur Levitt apparently found it impossible to effectively prosecute the Big Five for blatant and rampant abuses of the independence rules, so he took what he thought he could get — the promise of full confessions.

Sounds like a great deal for the firms? But wait! As they say on late-night cable: There’s more! The SEC says it is willing to change the rules so that the most common offenses are legalized.

In fact, Levitt and Chief Accountant Lynn Turner have been scolding, chastising, and jawboning the accounting profession for almost two years about the quality (or lack thereof) of financial reporting. In all this time, none of the Big Five have been censured, fined, or even lightly slapped on the left wrist for any infraction. Not once has the SEC used its big stick: Kicking an audit and forcing an audit client to hire another firm to do it again. In fact, the CPA firms have generally done whatever they have wanted to do. KPMG, for instance, took a $1 billion equity investment from Cisco Systems. Ernst & Young sold off its technology consulting practice to Cap Gemini, but agreed to hold equity for five years and swap referrals.

According to the SEC, the Big Five will undertake a “voluntary look-back” (not, to be sure, an “audit”) to report violations of auditor independence rules for the nine months ended in March. In exchange, the SEC granted “a safe harbor” from enforcement, except when a firm itself or “senior persons” working on an audit own stock in an audit client.

The firms will be required to identify “any direct investment in securities of an SEC audit client, including securities held in a brokerage account or IRA; any prohibited loan, including a margin account loan, with an SEC audit client; and any employee-benefit-plan account holding securities of an SEC audit client (such as a 401k account), except if such account is held by or for the spouse or dependent of a firm partner or professional employee.”

“Firms would report violations identified during the reviews both to the commission’s staff and to the audit committee of the relevant issuer,” the SEC says. “Within 13 months of the commencement of the program, each firm would submit to the commission’s staff a report of the results of its review. Following receipt of the firms’ reports, the commission’s staff would publish a report.”

So, at most, the firms will suffer public embarrassment. But there’s no sign that’s been a concern of theirs in the past.

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Posted on June 19, 2000
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Death Knell or Opportunity? You Decide

By Rick Telberg

June 16, 2000 (SmartPros) ? The relationship between the practicing professional and the client is being redefined by the technologies of the information age. No longer is the bond built solely on professional services rendered. The name of the game is information. And the client can get it anytime, anywhere, from almost anyone. The respected professional may no longer be the client’s first choice.

Professionals must react in new ways to this new world order, according to Dan Sautner, chairman of the 300-unit chain of Padgett accounting shops based Athens, Ga. In an analysis he performed for the National Association of Tax Practitioners, Sautner has worked to define the passing fads that can be ignored and the real trends that can be ignored only at our peril.

“In the future,” he warns, “if a client has a question, your answer may already be too late. Information, to the customer, will be like a stream — constantly flowing. It will go past newsletters, returning phone calls and personal contact. When the client thinks of the issue, they will start researching. And you want your company to be the first stop.”

Every professional has been asked for answers beyond their domains. Accountants are asked legal questions. Lawyers get financial problems. Insurance agents face tax queries. No one can do it all alone. And yet, the client wants results.

“In the past, we all restricted ourselves primarily to the issues we are best acquainted with — namely taxes and accounting,” Sautner says. “In the customer’s mind, however, we are seen as a much larger source of information.”

The well-armed practitioner of the future, Sautner says, will require some additional expertise. “But, more importantly, it will require that we link ourselves with other professionals and include them in our community of services.”

This means that the parameters of the practitioner’s service offering will change. Sautner says “we are seeing a gradual shift from a defined service towards an undefined service.” The lines between tax, accounting, business strategy, legal planning, investment and insurance are blurring. As a result, “customers will expect us to have a wider range of answers and solutions to their problems, even if we are not directly involved in the delivery of the solutions.”

Because accountants cover more of the solutions than any other professional, they are “the cornerstone provider.” At the same time, more clients will be do-it-yourselfers, ferreting out their own ideas, doing their own research, and developing their own solutions. The effect will be to weed out the low-margin, high-maintenance clients. By the time these DIY’ers come to the practitioner, they will be ready for high-level, premium services. Or, as Sautner puts it, “They will pay as much for us to straighten out their records, as they will for us to do the records in the first place.”

“This change,” Sautner warns, “can be seen as the death knell for the profession as we know it, or an unbelievable opportunity.”

Many, like Sautner, see the opportunities, and find them eminently believable.

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Posted on June 16, 2000
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