Development Of Audtiting

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Recommended: Auditing scandals of Enron and Arthur Andersen

DEVELOPMENT OF AUDITING

In recent years the integrity of the auditing profession has been called into question, especially in the case of auditor independence. Perhaps the most spectacular of these was the Enron-Andersen scandal which saw the collapse of auditing giant Arthur Andersen and sent tremors throughout the auditing industry.

In 2001, Andersen was the fifth largest auditing firm in the world and had a reputation for outstanding auditing integrity based on a history of some 100 years in business. In contrast by the end of 2002 it had all but disappeared from the auditing radar. There were definite red flags being raised in regards to the standard of the audits being conducted at Andersen; the company was involved in lawsuits relating to two other clients, Waste Management and Sunbeam in 2001. Andersen was also in charge of the audit for WorldCom which was another major scandal that raised questions on auditor independence.

It was however Andersen’s relationship with Enron, in particular their actions in shredding documents and deleting of emails in the thousands including documentation relating to the Enron engagement prior to the US Securities and Exchange Commission (SEC) investigation into Enron, that was to be its downfall. The industry could not allow such a blatant disregard of auditor independence to go unpunished and Andersen was barred from conducting and reporting on SEC-registered companies, thereby ending its auditing practice. (Soltani, 2007, pp. 556-562)

Whereas the Enron/Andersen scandal related to definitive action taken by Andersen in conspiring with Enron a later scandal involving HealthSouth Corporation and Ernst & Young raised other problems with auditor independence. Again issues arose with auditor independence this time when taking a risk based approach to auditing. HealthSouth’s fraudulent activity was conducted in the area of contractual adjustments, and while Ernst & Young conducted “analytical type procedures” in this area, HealthSouth management knew that the auditors did not look at increases of less than $5,000 and therefore kept the balance-sheet entries below this level. That Ernst & Young acknowledges that they were aware management knew of this criterion and didn’t adjust their procedures accordingly raised questions regarding the integrity of the audit. Further when planning the audit, Ernst & Young meet with the companies executives and took them at their word when they stated they were not aware of any instances of fraud. In their planning papers it was stated that the HealthSouth system for generating financial information was reliable and its executives were ethical.

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