Waste Management Case Analysis
1 . Based on the fraud triangle, there are several factors present at Waste Management that are indicative of each of the three fraud conditions. Incentives: from the case, the SEC staff claimed that the top Waste Management officers’ fraudulent conduct was driven by greed and a desire to retain their corporate positions and status in the business and social communities. Their bonuses, retirement benefits and stock options closely correlate with the performance of the company. If the company meets predetermined earnings targets, those top managements will earn a lot from profit sharing.
Furthermore, aside from money, those people can maintain their high social status by constantly using those ill-gotten gains to contribute to charitable affairs, which will give them a lot of respect and power. Opportunities: during the 1990s, approximately 14 employees who play either key financial or accounting positions are former employees of the company’s long-time auditor, Arthur Andersen. This management structure gave Waste Management a great opportunity to manipulate their financial performance because we can infer that Waste Management maintained a good relationship with its auditor.
Attitudes/Rationalization: it was a time when Waste Management was encountering intense competition. The competition came from various sources in all phase of its waste management and related operations. Although the management of Waste Management noted that the pricing, quality, and reliability of services and the type of equipment utilized are key elements to compete in the industry. Those improvements usually take time to accomplish. In contrast, deferring several expenses and manipulating earnings are shortcuts to improve their financial performance.
In addition, the management believes that the future performance will ffset the extra earnings they currently adjusted so that nobody will even notice. In other word, the company adopted the wrong way to improve its performance and justify their action by fraudulently believed that meeting the target earning is the most important no matter which approach to use. 2. Based appendix on the AU Section 342, examples of accounting estimates, compared to Waste Management’s Consolidated Balance Sheet, we can find several items were based on management estimations.
Assets Cost+estimated earnings in excess of billings: this amount depends on the outcome of future event thus is uncertain. Accumulated depreciation of property & equipment: the salvage value of property affect depreciation expense. Furthermore, different depreciation methods adopted also result in different amount. Liabilities Current portion of LTD: this amount comes from the amount due within the current year of the present value of long-term debt.
To calculate the long-term debt, the discount rate is assumed based on the relative risk of the company compared to correspondent US treasury securities. However, the interest rate in the future is uncertain thus the present value of long-term debt is arbitrary. Unearned revenue: the company cannot sure that their future service will be actually rendered thus is uncertain. Long-term debt and put options: the present values of financial instruments are always based on future discount rate as mentioned above thus is subjective and uncertain. 3.
Accounts involving significant management estimation mean that the balances of these accounts are based on subjective as well as objective factors such as management’s knowledge or experience about past and current events and its assumptions about conditions it expects to exist and course of action it expects to ake. If management does not maintain high ethical standard or is simply too careless to make the right estimation, the numbers shown on the financial statement cannot reflect the true value of the company and will mislead current and potential investors.
Since investors are not sure whether management has sufficient knowledge and experience to make the right estimations and the criterions of these estimations are somewhat ambiguous, those accounts are comparatively more risky. 4. Based on the AU Section 342. 04, the auditor is responsible for evaluation the easonableness of accounting estimates made by management in the context of the financial statements taken as a whole. The auditors should consider, with an attitude of professional skepticism, both the subjective and objective factors of the estimates.
Also, based on article . 07, the auditor’s responsibilities when evaluating accounting estimates is to obtain sufficient appropriate audit evidence to provide reasonable assurance that a. All accounting estimates that could be material to the financial statements have been developed. b. Those accounting estimates are reasonable in the circumstances. c. The accounting estimates are presented in conformity with applicable accounting principles and are properly disclosed. techniques commonly used by auditors are shown as follows: a.
Review and test the process used by management to develop the estimate. b. Develop and independent expectation of the estimate to corroborate the reasonableness of management’s estimate. c. Review subsequent events or transactions occurring prior to the date of the auditor’s report. 5. To evaluate the reasonableness of estimate of salvage values and useful lives for property and equipment, Arthur Anderson should follow the procedures mentioned n the previous questions as follows. a. Review and test management’s process by using the procedures in article . 1 steps (a) through (i) to determine if the supporting data and factors are sufficient and consistent to sustain the management’s estimation as well as comparable to industry level. b. Use other alternatives to develop the estimation and compare the result to the original estimation. c. Review subsequent events or transactions to confirm the credibility of the previous estimation. 6. For those officers who previously served Arthur Anderson, they may implicitly or xplicitly force the auditor to accept their adjustment of Waste Management’s financial report.
Since they worked for Anderson, they know every detail of auditing procedures performed by the auditor and thus may use their relationship to influence the Judgments of auditors. Furthermore, if there is an conflict of interest between those officers and the company, they may chose the ways which are beneficial to themselves. To avoid this kind of fraud, the Sarbanes-Oxley Act of 2002 Section 206 clearly identified what a company should do when potential conflict of interest may occur.
Based on the article, it shall be unlawful for registered 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 any capacity in the audit of that issuer during the I-year period preceding the date of the initiation of the audit.
Therefore, the article tells us that Waste Management can still employ hose personnel coming from Arthur Anderson but should not allow them to involve in the auditing process within one year restriction. for Anderson and during that time there is no such law like Sarbanes-Oxley Act to prevent those people from participating in auditing process, it was very difficult for Anderson to clear-cut the relationship with those former workers and work independently.
Furthermore, Anderson not only did audit but also provide consulting service for Waste Management. In other words, on one hand, Anderson audit Waste Management’s financial and negotiate for the correction of errors. On the other hand, Anderson’s consulting service may provide several recommendations about how to manipulate their financial performance to externally improve its profitability.
This is also one of the most important issues of the introduction of Sarbanes-Oxley Act, which force the consulting service under an accounting firm to be separated as a single business entity. In addition, the extra bonuses are also important reasons for Anderson to accept and help to hide those errors. This situation is slightly relieved because the new regulation puts into practice. However, any accounting firms should avoid auditing for companies which may have conflict of interest and do their work independently.
Also, managements of accounting firms should periodically examine their audit works done by their auditors and constantly tell their employees to do their Jobs with integrity and professional ethics. Most important of all, managements should discipline themselves to follow the audit standards and no reconcile with any improper requests from their clients. Only when the top management do their work with integrity will the other workers follow.