Question

research a recent accounting scandal within the last five (5) years where the SEC accused public companies of accounting irregularities.
Write a three to four (3-4) page paper in which you:

Analyze the audit report that the CPA firm issued. Ascertain the legal liability to third parties who relied on financial statements under both common and federal securities laws. Justify your response.

Speculate on which statement of generally acceptable auditing standards (GAAS) that the company violated in performing the audit.

Compare the responsibility of both management and the auditor for financial reporting, and give your opinion as to which party should have the greater burden. Defend your position.

Analyze the sanctions available under SOX, and recommend the key action(s) that the PCAOB should take in order to hold management or the audit firm accountable for the accounting irregularities. Provide a rationale for your response.

Use at least two (2) quality academic resources in this assignment.

Answer 1

Case of Computer Sciences Corporation (CSC)- This is the case of CSC accounting irregularities which came into picture in June, 2015. The whole case is reiterated below-

CSC was charged with following wrong accounting practices in terms of revenue recognition. The SEC alleged that CSC’s accounting and disclosure fraud began after the company learned it would lose money on the NHS contract because it was unable to meet certain deadlines. To avoid the large hit to its earnings that CSC was required to record, Sutcliffe allegedly added items to CSC’s accounting models that artificially increased its profits but had no basis in reality. CSC, with Laphen’s approval, then continued to avoid the financial impact of its delays by basing its models on contract amendments it was proposing to the NHS rather than the actual contract. In reality, NHS officials repeatedly rejected CSC’s requests that the NHS pay the company higher prices for less work. By basing its models on the flailing proposals, CSC artificially avoided recording significant reductions in its earnings in 2010 and 2011.

The SEC’s investigation found that CEO Michael Laphen and CFO Michael Mancuso repeatedly failed to comply with multiple rules requiring them to disclose these issues to investors, and they made public statements about the NHS contract that misled investors about CSC’s performance. Mancuso also concealed from investors a prepayment arrangement that allowed CSC to meet its cash flow targets by effectively borrowing large sums of money from the NHS at a high interest rate. Mancuso merely told investors that CSC was hitting its targets “the old fashioned hard way.” In addition to the accounting and disclosure violations involving the NHS contract, the SEC’s investigation found that CSC and finance executives in Australia and Denmark fraudulently manipulated the financial results of the company’s businesses in those regions.

The SEC alleges that Parker, who served as controller in Australia, along with regional CFO Wayne Banks overstated the company’s earnings by using “cookie jar” reserves and failing to record expenses as required. They overstated CSC’s operating results by more than 5 percent in the first quarter of fiscal year 2009 and allowed the company to meet analysts’ earnings targets during that period. Banks agreed to settle the charges and pay disgorgement of $10,990 with prejudgment interest of $2,400, plus accept an officer-and-director bar of at least four years as well as a bar from practicing as an accountant on behalf of SEC-regulated entities for at least four years. The SEC’s case continues against Parker.

The SEC filed complaints in federal court in Manhattan against former CSC finance executives Robert Sutcliffe, Edward Parker, and Chris Edwards, who are contesting the charges against them. Sutcliffe was CSC’s finance director for its multi-billion dollar contract with the United Kingdom’s National Health Service (NHS).

Audit report

The auditor's report in this case was unqualified. The auditor's report was based on Management representation letter which clearly stated that the "the Company’s [accounting model] on the NHS contract used to prepare the third quarter 2011 financial statements represents the best estimate of the probable contract value.” Hence there was no problem per se looking at the auditor's report

Legal Liabilities of Executives and Auditors- In this case the executives involved in the case are liable under provisions of SEC. CSC agreed to pay a $190 million penalty to settle the charges, and five of the eight charged executives agreed to settlements. Former CEO Michael Laphen agreed to return to CSC more than $3.7 million in compensation under the clawback provision of the Sarbanes-Oxley Act and pay a $750,000 penalty. Former CFO Michael Mancuso agreed to return $369,100 in compensation and pay a $175,000 penalty.

The auditor's were not held liable in this case since they applied best auditing practice to comment on financials and relied on Management's representation letter.

Voilation of GAAS- Revenue recognition - The company here voilated the standard f revenue recognition which clearly says revenue should be recognised only when it is realised or realizable and earned. Here NHS refused to relax for delays, yet CSC recognised the revenue.

Responsibility of Management and Auditors- In this case Management is fully responsible since it is the ultimate responsibilty of the management to maintain proper financial records and following accounting principles. Moreover they deliberately issued wrong management representation to auditors.

The auditor's were not responsible in this case since they applied best auditing practice to comment on financials and relied on Management's representation letter.

Sanction available under SOX- As earlier stated the company was directed to pay penalty, moreover the executives were charged compensation under the clawback provision of the Sarbanes-Oxley Act.

Academic resources- SEC press release and Harvard law school forum on financial reporting.