Harvard Case - Arthur Andersen LLP
"Arthur Andersen LLP" Harvard business case study is written by David F. Hawkins, Jacob Cohen. It deals with the challenges in the field of Accounting. The case study is 17 page(s) long and it was first published on : Feb 13, 2003
At Fern Fort University, we recommend a multi-faceted approach to address the systemic issues that led to the downfall of Arthur Andersen LLP. This approach focuses on restoring trust in the accounting profession, strengthening internal controls, and fostering a culture of ethical conduct.
2. Background
The Arthur Andersen case study revolves around the firm's involvement in the Enron scandal. Andersen, one of the 'Big Five' accounting firms, provided auditing services to Enron, a company known for its complex financial structures and aggressive accounting practices. When Enron's accounting irregularities came to light, Andersen was accused of knowingly overlooking these issues and participating in a cover-up. This ultimately led to the firm's indictment, conviction, and subsequent dissolution in 2002.
The main protagonists in this case are Arthur Andersen LLP, Enron Corporation, and the Securities and Exchange Commission (SEC).
3. Analysis of the Case Study
Strategic Framework: The case can be analyzed through the lens of corporate governance and risk management.
Corporate Governance:
- Board of Directors: The Andersen board failed to adequately oversee the firm's audit practices and lacked sufficient independence from the company's management.
- Internal Controls: The firm's internal control systems were weak, allowing for the manipulation of financial statements and the concealment of accounting irregularities.
- Ethical Culture: A culture of 'looking the other way' and prioritizing client relationships over ethical conduct permeated the firm.
Risk Management:
- Auditing Risk: Andersen failed to adequately assess and manage the risks associated with auditing Enron's complex financial transactions.
- Reputation Risk: The firm did not prioritize protecting its reputation and allowed its association with Enron to tarnish its image.
- Legal Risk: Andersen's actions in the Enron scandal exposed the firm to significant legal and regulatory risks.
Financial Analysis:
- Financial Statement Analysis: The case highlights the importance of thorough financial statement analysis to identify potential accounting irregularities.
- Ratio Analysis: Key financial ratios, such as profitability ratios and liquidity ratios, could have been used to raise red flags about Enron's financial health.
- Earnings Management: The case demonstrates the dangers of earnings management, where companies manipulate their financial statements to achieve desired earnings targets.
4. Recommendations
1. Strengthen Corporate Governance:
- Independent Board: Establish a truly independent board of directors with strong financial expertise and a commitment to ethical conduct.
- Enhanced Oversight: Implement robust oversight mechanisms for audit practices, including regular reviews and independent audits of the audit process.
- Clear Ethical Guidelines: Develop and enforce clear ethical guidelines for all employees, including a strong whistleblower protection policy.
2. Improve Risk Management:
- Risk Assessment: Implement a comprehensive risk assessment process to identify and evaluate potential risks associated with auditing clients.
- Internal Controls: Strengthen internal controls to prevent fraud and ensure the accuracy of financial reporting.
- Independent Audits: Conduct regular independent audits of the firm's internal controls and financial statements.
3. Foster a Culture of Ethics:
- Ethical Training: Provide mandatory ethical training to all employees, emphasizing the importance of integrity and professional judgment.
- Code of Conduct: Develop and enforce a strict code of conduct that clearly outlines ethical expectations and consequences for violations.
- Whistleblower Protection: Create a safe and confidential environment for employees to report ethical concerns without fear of retaliation.
5. Basis of Recommendations
These recommendations are based on the following considerations:
- Core Competencies and Consistency with Mission: The recommendations are aligned with the core competencies of accounting firms, such as auditing, financial reporting, and ethical conduct.
- External Customers and Internal Clients: The recommendations aim to restore trust with external customers (investors, regulators) and internal clients (employees).
- Competitors: The recommendations aim to position the firm as a leader in ethical conduct and risk management, setting a new standard for the industry.
- Attractiveness ' Quantitative Measures: The recommendations are expected to improve the firm's financial performance by reducing legal and reputational risks, attracting high-quality clients, and enhancing employee morale.
Assumptions:
- The recommendations assume a commitment to ethical conduct and a willingness to invest in resources to implement the proposed changes.
- The recommendations also assume a supportive regulatory environment that encourages ethical practices and strong corporate governance.
6. Conclusion
The collapse of Arthur Andersen LLP serves as a stark reminder of the importance of ethical conduct, strong corporate governance, and effective risk management in the accounting profession. By implementing the recommended changes, accounting firms can restore public trust, enhance their reputation, and ensure the integrity of financial reporting.
7. Discussion
Alternatives:
- Merging with another firm: This could have provided access to resources and expertise, but it might have diluted the firm's culture and identity.
- Focusing on niche markets: This could have allowed the firm to specialize in areas with lower risk, but it might have limited growth opportunities.
Risks and Key Assumptions:
- Implementation Challenges: Implementing the recommendations requires significant resources and commitment from all levels of the organization.
- Cultural Resistance: There may be resistance to change from employees who are accustomed to the existing culture.
- Regulatory Changes: The regulatory environment may change, requiring further adjustments to the firm's practices.
8. Next Steps
Timeline with Key Milestones:
- Year 1: Develop and implement a comprehensive ethics program, including training and a code of conduct.
- Year 2: Strengthen internal controls and risk management processes.
- Year 3: Conduct independent audits of the firm's practices and financial statements.
- Ongoing: Continuously monitor and evaluate the effectiveness of the implemented changes and adjust as needed.
By taking these steps, accounting firms can learn from the mistakes of Arthur Andersen and build a more ethical and sustainable future for the profession.
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Case Description
This case highlights the history of Arthur Andersen and the collapse of the firm following the Enron Corp. audit and the Department of Justice obstruction of justice conviction.
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