Hercules managed to clean out the Augean stables in a single day. We could do with a Hercules to clean up today’s money-grubbing world – although he may need a little longer: FIFA sleaze; athletics doping scandals; Volkswagen’s emissions-test cheating; drug manufacturer’s bribery charges; leading banks charged with mis-selling, rule-bending and facilitating tax-dodging. How many customers would now declare faith in their bank to behave with integrity? Accounting and auditing? Our ceaseless efforts to reform governance appear not even to have dented the pervasive temptation to fudge figures. All the stifling business regulations, huge fines and longer prison terms have achieved precisely nothing to enhance reporting practices. The judgement of the sage in the first chapter of Ecclesiastes stands unchallenged: “That which is crooked cannot be made straight.”
First prize in crooked reporting must go to Toshiba not merely because of the scale (almost $2 billion of overstated profits) but also because the deception continued for nigh on seven years. It’s the old “corporate culture” problem: superiors set impossible targets and underlings take accounting short cuts to meet them – booking revenues too early and delaying the recording of costs.
Results “too embarrassing to announce”:
When, in 2009, the Chief Executive heard that the company was heading for a loss of $1.5 billion, he declared that this result is “so embarrassing that we cannot announce it!” His obliging subordinates did some doctoring and profits of $4 million were declared!
In some cases Tesco finished up having to make default payments to its suppliers!
A cynic might suggest that the style and scale of the aberration was sufficiently consistent year-on-year to satisfy Ernst & Young ShinNahon’s basic analytical tests! But audit tools should have developed in step with opportunities to deceive, and it is astounding that EYS’s procedures failed to alert them to a fraud so monumental that it nullified any value their work might have had over six successive reporting periods. The fraud was in fact laid bare by outside experts employing advanced digital forensic technology. Auditors’ euphemistic technical jargon is as revealing as it is alarming: although Toshiba’s Westinghouse project showed losses of $332 million the company insisted that the loss be limited to $225 million. The company prevailed, and the $107 million (equivalent to 25% of that quarter’s pre-tax profit) was simply classified in the audit records as an “uncorrected misstatement”. Obviously it was not considered material! Tesco’s misreporting practices had much in common with Toshiba’s. When senior employees recognised that sales targets pre-set by management were not going to be met, they went ahead and booked the contributions from suppliers that were conditional on achieving those targets – having meanwhile connived with suppliers to accept further incentives in the next period. Result? In some cases Tesco finished up having to make default payments to its suppliers!
When even the largest publicly traded companies foster a culture of such short-term focus it is incumbent on auditors (in this instance PwC) to anticipate some jiggery-pokery. In his brilliant analysis of the 1970s Equity Funding fraud, author Raymond Dirks made short shrift of the standard comment that routine audit procedures are not designed to detect fraud: “If routine audit procedures cannot detect 64,000 phoney insurance policies, $25 million in counterfeit bonds, and $100 million in missing assets, what is the purpose of audits?” Then there is Globo, the listed Greek mobile phone software company that collapsed last October amid allegations of falsified accounts. The SFO, City of London Police and the Financial Conduct Authority are all involved, and the Financial Reporting Council is investigating its auditor Grant Thornton. It appears that Globo’s revenue was based on fictitious sales invoices generated by shell companies created by Globo for that very purpose. So what’s new? The above is no more than a sidelong glance at the slippery world of accounting deception and audit ineptitude. Even KPMG’s audit of HBOS has resurfaced for scrutiny in the face of a massive new Bank of England report on the 2008 collapse following HBOS’s uncontrolled growth, its exposure to commercial real estate and low-quality lending – a story of massively inadequate bad-debt provisioning, all over again. Back to Ecclesiastes: “…and there is nothing new under the sun.”