Case 4.4 Waste Management

untamed focusing, Inc. absquatulate guidance, Inc. , incorporated in 1968, had become a leader in the patience of waste way services ranging from industrial operations to curbside collection. This association had become synonymous with m any(prenominal)(prenominal) contrasting kinds of government services that allowed for the community to grow and grow with a solid rear over the course of twenty-eight twelvemonths. Finally in 1996, the company aim total as pecks of roughly $20 billion with realize income close to $cc million. However, even with this growth and solid base, the company was feeling competitive pres genuines and crystallize income was on the decline.E unquestionablelyone from local to national collection companies were now charging less to the customer and this was taking a major toll on the gross margins and net income of glom focal point. With a rest sheet that was heavily based on equipment and land louse up perplexity was beginning to see tha t the only port to keep the company growing was to aim depreciation and keep open mien on manipulation to lower the direct hits of these sp depotings. Now that the thins were becoming large rich to nonice, the SEC began stepping in to investigate the operations, assets and story system method actings that were be employ.Due to this, the company issued a release saying they would be am termination and restating original periods of their reporting and issuing new-made form 10-Ks and 10-Qs. Once the restatement occur flushed and a $3. 5 billion dollar outrage was found the companys haywire accounting processes were finally exposed. This resulted in net losses for the company as well as debt and uprightness ratings dropping precipitously. The SEC now launched a formal investigation into the accounting processes and found many misstatements from avoiding depreciation to improper capitalization and failure to hang to proper liabilities. some techniques were employ and the end result was that many of the solicitude police squads members were named as defendants in this case as it was seen that they were the ones who were primarily answerable for(p) for the execution of this baloney. Through the investigation, it was found that Arthur Andersen helped to keep the imposter going by non demanding that PAJEs be undertaken to purify errors. Instead, Arthur Andersen, who viewed Waste Management as their ornament node, entered into an savvy with Waste Mangement to fix these errors in coming years.This constituted an agreement to cover up wile and Andersen was then sued for civil fraud by the SEC that carried a heavy price. The company stock(a) plunged and Arthur Andersens partners were fined and criminalise from the shadowvassing of public companies for up to five years. This overall lack of internal direct and covetousness in the company ultimately led to a wrecking for many partners and managing members at twain Andersen and Waste Ma nagement. Case Questions 1) Three conditions atomic human body 18 often place when fraud exists.First, steering or employees restrain an inducing or are under jam, which provides them a reason to commit the fraud act. Second, bunch exist for example, absent or ineffective internal controls or the susceptibility for counsel to override controls that provide an opportunity for the fraud to be perpetrated. Third, those involved are able to rationalize the fraud as being consistent with their individualal code of morals. Some individuals possess an attitude, character, or set of ethical determine that allows them to knowingly commit a dishonest act.Using hindsight, break factors present at Waste Management that are indicative of apiece of the three fraud conditions incentives, opportunities, and attitudes. Incentive Management teams of publicly traded companies are ever under enormous pressure from shareholders to meet and exceed earnings expectations. Many sharehol ders view year over year growth, and f plainnce vs. earnings as a sign of health of the company theyve invested in. The pressure on management teams is compounded when poor results could easily spell the end of an decision makers tenure with the company.In the case of Waste Management during the 1990s, founder & chief administrator moroseicer dean Buntrock created and nurtured an entire culture of fraud. While Waste Management related to pull in false total to the public, Buntrock commitd company money to make likeable contributions and present himself as a decent, ethical individual (Securities and Ex adjustment focusing 2002). He received large amounts of money period he perpetrated the fraud, and his executive team was incentivized for their role as well. Opportunity At the time the fraud existed, internal controls were almost non-existent.The management team employed a number of improper accounting practices that did non comply with GAAP. As stated earlier, CEO De an Buntrock not only allowed internal controls to be bypassed, he back up them to be ignored and shaped accounting policy with the sole enjoyment of making the targeted earnings meter every year. The auditing firm, Arthur Andersen, LLP, was also sh suffer to digest complicity. The partners at Andersen knew that the companys policies were not compliant so they provided Waste Management with proposed adjusting entries to their books.Waste Management refused to make the adjustments so Andersen had Waste Management sign off on a list of 32 steps the company must(prenominal) do to change its practices. The document legally constituted an agreement among the devil parties and understandably shows that Andersen was aware of fraud that Waste Management had covered up in the past. Further to a greater extent than, Andersen did not stand up to the company and continued to issue unqualified audit smells. Andersen was motivated by greed, as they billed Waste Management over $25M in seve n years.Additionally, until 1997, Waste Management had never pick outd a CFO or CAO that had not moulded for Andersen in the past. During the 1990s when the fraud occurred, 14 designer Andersen employees worked for Waste Management, many in find positions. The circumstances existed so that an outsider, who could wind up being a whistleblower, seemed to not be allowed into the inner circle where the fraud was happening. Waste Management could be ensured by the high fees it was paying Andersen that the company would have a steady stream of potential finance/accounting employees who understood the fraud and how to continue to perpetrate it.Attitude Ones attitude and ethical beliefs shape how they perform under circumstances in life. The two main reasons why tribe choose to act unethically, like in the Waste Management case, are that their standards are different than society as a whole, or the person chooses to act in a selfish manner (Securities and Exchange fit 2002). Greed, praise and recognition can all be motivating factors for soulfulness to behave unethically. Waste Managements Dean Buntrock possessed a set of ethics (or lack on that pointof) that allowed him to commit fraud.He was clearly motivated by greed, was selfish, and had no issues with defrauding investors. He acquired almost $17M in personal wealth while investors lost billions of dollars of value in their shares of Waste Management. He also perhaps rationalized his behavior. He may have calculated that his odds of being spy were very low since he knew that the hearers at Arthur Andersen would issue an unqualified audit opinion regardless of how creative he got with his accounting fraud. The listeners also clearly acted unethically in their transactions with Waste Management.Even though they were aware that fraud was occurring, as stated above, they continued to issue unqualified audit opinion and bend to the will of Waste Management executives. The auditors never stood up to the c ompany, most likely out of fear of losing a client that paid them almost $25M a year in fees. Additionally, Waste Management had a transit record of hiring Andersen auditors into high level position, so they were acting out of greed as well. 2) Review Waste Managements Consolidated match Sheet as of December 31, 1996.Identify accounts whose balances were likely based on square management estimation techniques. thread the reasons why looks were required for to each one of the accounts identified. Waste Management had several fixed/long-term asset accounts whose balances were based on estimation techniques. On the December 31, 1996 balance sheet, the Vehicles and equipment account is grossly overstated. The company avoided depreciation expenses on their garbage transports by both assigning unwarranted and inflated salvage values and extending their useful lives (Arens 2011).In other words, company management inflated their vehicles and equipment account through estimation. Wit h regards to the Land disposal sites account, Waste Management also assigned random salvage values for many assets that had no salvage values at all. Estimates are required because there is no way to determine exactly what the resell value of a truck is 10 years from now. The accounting team must use their beaver judgment to estimate values based on past and present data.The realm of value estimation is a significant gray area for controls where fraud can be committed. To that end, accumulated depreciation is another account that is grossly understated on the December 31, 1996 balance sheet. Accountants must estimate depreciation values based on a particular method of depreciation, but they can lessen the effect of depreciation on the balance sheet by artificially increasing the salvage value of assets and/or by lengthening the estimated useful life of an asset.Again, estimates are required because an accountants assumption is necessary to determine the expected values because of the impossibleness of predicting what will happen in the future. 3. Describe why accounts involving significant management estimation are generally viewed as inherently raging. a. When dealing with management estimations, many different factors always come into play which are not always easily understandable. Management has the ability to use many different models, industry standards, and internally developed methods in company to in good run or improperly state the item under estimation.For this reason, auditors must always have some kind of backup to show both consistency and a clear line of numbers, methods and evaluations in order to arrive at an ending number of estimation. However, as easy as this may be to say, in the presence of fraud, numbers can be manipulated and tweaked to arrive at trustworthy assumptions that can give the appearance of consistency while still not having a proper base. Along with this, auditors, while well versed and agreement of industries, do not have the time nor the knowledge to properly appreciate every single factor that may be used in the valuation of management estimates.Management estimation techniques vary far and wide and when dealing with a client that uses techniques not akin to the industry, it can be very hard to truly feel comfortable almost the numbers used and the valuations presented. 4. Review Auditing Standards (AU) portion 342, Auditing fib Estimates, and describe the auditors responsibilities for examining management-generated estimates. Also, AU character 342 provides guidance to assist auditors in examining estimates. Describe the techniques commonly used by auditors to evaluate the commonsensibleness of managements estimates. b.According to the PCAOB, an auditor is prudent for considering all of the sheathive and objective factors that go into the management estimates. The auditor must obtain sufficient evidence to reasonable agree that i. All estimates that could be material to the notes ha ve been developed ii. They are reasonable given the circumstances iii. The estimates are presented in conformity with applicable accounting principles and are properly disclosed (PCAOB US 1989). There are, of course, a plethora of guidelines offered to the auditors relating to this inherently put on the liney field of auditing management estimates.However, these guidelines not only help to evaluate the actual estimates and their uses, but also help to look into the reasonability of the estimates and the need for them. In order to assess the reasonability of an estimate an auditor must have the information from forward years present and available so as to equality both the inputs and the outputs of all the estimates (PCAOB US 1989). This allows for the auditor to see if there are any divergences or deviations from the usual historical outputs of the estimates.This also can give the auditor the ability to see what inputs are able to be manipulated or subject to potential bias. This insight can prove very necessary when so many numbers and formulas are involved. Along with evaluating the historical inputs/outputs and the processes used, the auditor should have their own view on the estimates so as to agree upon the use of the estimate. In order to truly have ones own view, the past is of course necessary but the future transactions and events can help to further enhance the reasonability of the estimate (or malign the use of it, if such(prenominal) be the case).These subsequent events can help an auditor to decide if there should be other key factors used or if changes in the moving in and industry should become significant in the assumptions. The last idea, and offering, by these auditing standards is to hire a specialist (PCAOB US 1989). Of course this is something should be make if, later(prenominal) review, the auditor determines that they need further expertise or analysis on the assumptions. At times, an industry can be some complex and calculations so convoluted that an auditor has no choice but to hire an industry professional to liaise with regarding the factors and computations. . The Waste Management fraud primarily revolve around on inappropriate estimates of salvage values and useful lives for property and equipment. Describe techniques Andersen auditors could have used to assess the reasonableness of those estimates used to create Waste Managements financial statements. Arthur Andersen auditors failed miserably on the audit review article of waste management from 1992-1997. The auditors failed to realize the inappropriate salvage estimates and depreciation values of Waste Managements Equipment.The first thing the auditors should have done was to check the accuracy of the estimates. The auditors should have checked every year in order to make sure the estimates were accurate. By checking the accuracy of the estimates Andersen Auditors would have seen in 1996 that Waste Management changed the salvage values of their equ ipment. Waste Management was allowed to change the salvage value, but the auditors should have made sure that it was a reasonable change, which is it was not. Next, the auditors would have been able to check these estimates on industry and political standards.By checking against the governmental and industry standards the auditors would have once again been able to see that the salvage value was unreasonable. Another technique Andersen could have used was to get an nonparasitic estimate. By getting an autonomous estimate the auditors would have been able to compare the independent estimate to the salvage value that Waste Management was takeing to their equipment. These numbers would have been able to be compared and evaluated to each other in order to figure out the proper salvage amount to use. The auditor is responsible for checking these numbers and they did not do their job.Also, the auditors could have done some more research on the items being salvaged and applied the fair value to each one of the items. This way the auditors would be able to back up these different estimates when comparing them to the estimates given by Waste Management. Andersen should have also seen red flags when these new salvage numbers were given. They were not historically accurate and were all off from prior years. Part of the reason Andersen did not do anything was imputable to source Andersen auditors working for Waste Management. Andersen needfully to be independent and they were not.By not being independent from Waste Management it caused them to overlook an estimate that caused stock holders to lose billions of dollars. 6. Several of the Waste Management accounting personnel were at once employed by the companys auditor, Arthur Andersen. What are the risks associated with allowing former auditors to work for a client in key accounting positions? Research Section 206 of the Sarbanes? Oxley impress of 2002 and provide a brief summary of the restrictions related to the ability of a public company to hire accounting personnel who were one time employed by the companys audit firm.As stated in the case several of Waste Management accounting personnel use to work for Arthur Andersen as an auditors. This led to many problems for both companies. The auditor needs to remain independent because of two main reasons. One is to make sure the audit is done unbiased and to make sure the client is unable(p) to trick the auditor. If the client knows what the auditor is looking for than they can manipulate the numbers in order to trick the auditor from catching these manipulations. The main risk with this practice is fraud. This can take place by the auditor or the client.If the client use to work for the auditor, just like in this place, the client will know exactly how the audits are done and exactly what the auditor is looking for. This can cause a client to post fraudulent numbers to numerous documents. The client will be able to wrap these fraudulent num bers in to documents that the auditor will not look at. Also, the auditor can cook the books as well so to speak. The auditor cannot check all of the documents due to being friends with the client, due to some of the former auditors working for the client now.Also, the auditor can get a petty(a) lazy when it comes to doing the audit. What is meant by this is that the auditor might not do such a thorough job due to the fact that that a former auditor is doing the financial statements and they know exactly how to do them. According to the Sarbanes-Oxley Act of 2002 Section 206, the SEC has placed restrictions on former auditors working for a public company as accounting personnel. The division talks about conflict of interest in regards to this issue. SEC. 206. CONFLICTS OF INTEREST.Section 10A of the Securities Exchange Act of 1934 (15 U. S. C. 78j1), as revise by this Act, is amended by adding at the end the following (l) CONFLICTS OF INTEREST. It shall be unlawful for a register ed public accounting firm to perform for an issuer any audit service required by this title, if a chief executive officer, controller, chief financial officer, chief accounting officer, or any person serving in an equivalent position for the issuer, was employed by that registered independent public accounting firm and participated in H. R. 376331 ny capacity in the audit of that issuer during the 1-year period preceding the date of the initiation of the audit. (Sarbanes Oxley 2002). Basically, section 206 states, that any public accounting firm cannot hire a CEO, Controller, CFO, Chief Accounting Officer that was a formerly employed by the auditor that is performing the audit for that publically traded company. That is the only restriction that is placed by section 206. As you can see on this case there are many risks and problems that are involved when a public traded company has organise audit members on their staff. 7.Discuss possible reasons why the Andersen partners allegedl y allowed Waste Management executives to avoid recording the identified accounting errors. How could accounting firms ensure that auditors do not succumb to similar pressures on other audit engagements? Waste Management was a crown jewel client, and Arthur Andersen had been their auditor since before the company went public in 1971. Andersen and Waste Management had a long history of working together. Management officials at Waste Management were previous employees of Andersen and Anderson did not want to lose one of their most important clients.From 1991 to 1997, Anderson received $7. 5 million in audit fees and $11. 8 million in fees for tax, present work, regulatory issues, and consulting services. In addition, $6 million was billed to Waste Managements headquarters for non-audit fees. In order to please the client, and avoid losing them, certain fraudulent events occurred. Andersen advised Management to make Proposed Adjusting Journal Entries (PAJEs) to adjust expense and incom e accounts in the financial statements. Management failed to comply with Andersens advice and they entered into a deep agreement to write off the errors.The agreement Summary of Action Steps, contained incorrect accounting practices and listed 32 steps that the company must perform to correct the practices. It would allow Waste Management to cover up past frauds by committing future frauds. Andersen was hoping that this would benefit the company. However, the auditors did seem to ignore that refused to correct known accounting misstatements. Company auditors and management had personal relationships, so management was able to pressure auditors. Management knew what they were doing because they were former auditors.Forcing the changes in accounting practices could result in an end to Waste Management as a company and Andersen would lose that income. In order to avoid these situations, Sarbanes Oxley introduced Section 203 that helps with issues that a firm might face. Section 203 in cludes partner revolution, which forces the audit partner on the assignment to rotate after 5 years. However, the rule has an exception to partner rotation for firms with no more than five public company audit clients and fewer than ten partners. These rules apply as of the first day of a companys first fiscal year beginning after May 6, 2003, with time served as the lead and concur partners prior to May 6, 2003 being included in determining rotation periods (Alali Romero 2012). Audit firms can also give employee training on ethics so they are aware of company values. Bibliography Alali, F. , Romero, S. (2012). Auditor changes before, during, and post-section 203 of sarbanes-oxley act. Internal Auditing, 27(1), 25-30. Retrieved from http//bluehawk. monmouth. edu2048/? universal resource locator=/docview/1009737322? accountid=12532Arens, Elder, Beasley, Auditing And Assurance Services An Integrated Approach- 14th Edition. Chapter 4. Congress, United States. Sarbanes Oxley 2002. 20 02. fl1. findlaw. com/news. findlaw. com/cnn/ /sarbanesoxley072302. pdf (accessed March 2, 2013). PCAOB US. 1989. PCAOB AU Section 342 Auditing Accounting Estimates. PCAOB. Accessed March 2, 2013. http//pcaobus. org/Standards/Auditing/Pages/AU342. aspx. Securities and Exchange Commission, Waste Management Founder, phoebe bird Other Former Top Officers Sued for Massive Fraud, http//www. sec. gov/news/headlines/wastemgmt6. htm (March 2002).