Regulatory Ethics

1. Regulatory Ethics ACCT430 By Bruce Toews, CPA/MBA Assoc. Professor, Walla Walla University

2. Andersen’s Irony It took Andersen 90 years to build up a great reputation. It took less than 90 days (after being indicted) for that reputation to be fully destroyed.

3. What was Andersen’s product?

4. REPORT OF INDEPENDENT PUBLIC ACCOUNTANTSTo the Shareholders and Board of Directors of Enron Corp.: We have audited the accompanying consolidated balance sheet ofEnron Corp. (an Oregon corporation) and subsidiaries as ofDecember 31, 2000 and 1999, and the related consolidatedstatements of income, comprehensive income, cash flows andchanges in shareholders' equity for each of the three years inthe period ended December 31, 2000. These financial statementsare the responsibility of Enron Corp.'s management. Ourresponsibility is to express an opinion on these financialstatements based on our audits. We conducted our audits in accordance with auditing standardsgenerally accepted in the United States. Those standards requirethat we plan and perform the audit to obtain reasonable assuranceabout whether the financial statements are free of materialmisstatement. An audit includes examining, on a test basis,evidence supporting the amounts and disclosures in the financialstatements. An audit also includes assessing the accountingprinciples used and significant estimates made by management, aswell as evaluating the overall financial statement presentation.We believe that our audits provide a reasonable basis for ouropinion. In our opinion, the financial statements referred to abovepresent fairly, in all material respects, the financial positionof Enron Corp. and subsidiaries as of December 31, 2000 and 1999,and the results of their operations, cash flows and changes inshareholders' equity for each of the three years in the periodended December 31, 2000, in conformity with accounting principlesgenerally accepted in the United States. As discussed in Note 18 to the consolidated financialstatements, Enron Corp. and subsidiaries changed its method ofaccounting for costs of start-up activities and its method ofaccounting for certain contracts involved in energy trading andrisk management activities in the first quarter of 1999. Arthur Andersen LLPHouston, TexasFebruary 23, 2001 Andersen’s Audit Opinion on Enron’s Financials In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Enron Corp. and subsidiaries as of December 31, 2000 and 1999, and the results of their operations, cash flows and changes in shareholders' equity for each of the three years in the period ended December 31, 2000, in conformity with accounting principles generally accepted in the United States.

5. Actually, it turns out that it was all a case of bad ethics.

6. Professional Skepticism Who are GCAS’s clients? GCASAuditor ? ? ? Information Church Organizations Church Constituency & Other Stakeholders

7. Introduction • Ethical behavior and the mission of GCAS • Example of difficult nature of ethical choices • The budget for PP&E is 6 hours. You’ve already worked 6 hours and have a long ways to go. Should you: • Stop working on PP&E and move on to the next audit program • Work late into the night but only report 6 hours • Report actual time worked (12 hours)

8. Ethics Standard Setters • Country/Region Specific: e.g. in the U.S., they include AICPA, IIA, and gov’t agencies (e.g. GAO, SEC, PCAOB, state boards, etc.) • International: International Federation of Accountants (IFAC) and its International Ethics Standards Board for Accountants (IESBA Code) • Organization Specific: GCAS Quality Control Document (included on the flash drive).

9. AICPA Code • Code first established in 1917 (1 page) • Now it is 388 pages and counting! • Codification and convergence • International ethics code is similar to the AICPA, but more principles-based

12. AICPA Code • Code first established in 1917 (1 page) • Now it is 388 pages and counting! • Codification and convergence • International ethics code is similar to the AICPA, but more principles-based

13. AICPA Code • Code first established in 1917 (1 page) • Now it is 385 pages and counting! • Codification and convergence • International ethics code is similar to the AICPA, but more principles-based

14. AICPA Codification & Convergence Codification: an online, searchable AICPA Code of Professional Ethics, which will replace paper publications • To be finalized in 2013 and go live in Jan/2014 Convergence: goal is to harmonize the AICPA Code with international ethics standards • Reorganize AICPA Code around a conceptual framework, similar to international standards for accountants • No target date for completion – process is ongoing.

15. AICPA Code • Code first established in 1917 (1 page) • Now it is 385 pages and counting! • Codification and convergence • International ethics code is similar to the AICPA, but more principles-based

16. Principles-based Application (rules)-based

17. International Ethics • International Federation of Accountants (IFAC)Intern. Ethics Standards Board for Accountants (IESBA Code) • Similar to AICPA Code, but different approach. • Provides a conceptual framework (rather than rules) applied on a case-by-case basis. • The framework draws a few clear lines (e.g. prohibits direct financial interest). • Differences from AICPA Code: addresses long association of senior auditors with client (partner rotation), enhanced independence for public interest entities, acceptance/ continuance of client engagements, second audit opinions, and holding client assets.

18. AICPA Code Structure

19. Principles ARTICLES • Responsibilities: Exercise sensitive professional and moral judgment • The Public Interest: Honor the public trust and demonstrate professionalism. • Integrity: Perform duties with the highest sense of integrity. • Objectivity and Independence: Free of conflicts of interest and be independent in fact and appearance. • Due Care: Follow all standards and strive for competence and quality. • Scope and Nature of Services: Observe the AICPA Code in nature and scope of services.

20. Rules Rule 101: IndependenceRule 102: Integrity and ObjectivityRule 201: General StandardsRule 202: Compliance with StandardsRule 203: Accounting PrinciplesRule 301: Confidential Client InformationRule 302: Contingent FeesRule 501: Acts DiscreditableRule 502: Advertising & Other Forms of SolicitationRule 503: Commissions and Referral FeesRule 505: Form of Organization and name

21. Integrated Example Question: Can a university accounting professor, who operates a CPA practice on the side, audit the student association’s books? • Principle (Article IV): Maintain objectivity and be free of conflicts of interest. • Rule 101: Be independent in professional services. . . • Interpretation of Rule 101(C)(1): Independence is impaired if . . . auditor was client employee. • Ethics Rulings #48: University faculty cannot be independent of their student association, which is part of the university that employs them.

22. Rules Rule 101: IndependenceRule 102: Integrity and ObjectivityRule 201: General StandardsRule 202: Compliance with StandardsRule 203: Accounting PrinciplesRule 301: Confidential Client InformationRule 302: Contingent FeesRule 501: Acts DiscreditableRule 502: Advertising & Other Forms of SolicitationRule 503: Commissions and Referral FeesRule 505: Form of Organization and name

23. Rule 101 – Independence “A member in public practice shall be independent in the performance of professional services as required by standards promulgated by bodies designated by Council.” General idea: Auditors may not independent if they, or their family members, have a financial, employment, or other close connection with the client.

24. Rule 101 – Independence “The greatest threat to auditor independence is that auditors are asked to bite the hand that feeds them.” – Bruce Toews

25. Ultimately, independence is an attitude

26. Rule 101 – Independence Required: Independence in appearance as well as fact AICPA Conceptual Framework: when the Code does not address a certain situation, auditors must apply the conceptual framework, which is a risk-based approach for analyzing independence. Example: An auditor is close friends with an audit client’s controller. The Code says nothing about friendship. But the Conceptual Frameworks asks this question: Would friendship with client personnel be perceived by an informed 3rd party to compromise auditor independence? If so, then independence is impaired.

27. Rule 101: Applicable Services Independence rules apply to attestation services Client asserts -> Auditors test, attest, and report Attestation engagements under SASs and SSAEs • Financial statement audits and reviews • Engagements that attest to: compliance with laws/regs, prospective financials, internal controls, WebTrust, SysTrust services, etc. • Other agreed-upon procedures and services under SSAEs

28. Rule 101: Applicable Services • Independence rules do NOT apply to non-attest services (assuming no decisions are made for clients) • Examples of non-attest services include compilations, consulting, tax, bookkeeping, eldercare, etc.

29. Quiz over Applicable Services Determine which of the following accountants must be independent of the client. • Robyn completed the income tax return of a large corporate client.

30. Quiz over Applicable Services Determine which of the following accountants must be independent of the client. • Accountants examined assertions made by Advanced Micro Devices (AMD) about the performance of a new microchip processor and issued a report.

31. Quiz over Applicable Services Determine which of the following accountants must be independent of the client. • Maurine contracted to provide assurance about the reliability and processing integrity of a client’s information system and issued a report.

32. Quiz over Applicable Services Determine which of the following accountants must be independent of the client. • Jeremy was hired by a family to help manage the finances of an elderly parent.

33. Quiz over Applicable Services (cont.) Determine which of the following accountants must be independent of the client. • Accountants attested to the validity of the 2000 Bush vs. Gore votes in Florida and issued a report.

34. Quiz over Applicable Services (cont.) Determine which of the following accountants must be independent of the client. • Paul provided IT advice to a client selecting new software.

35. Quiz over Applicable Services (cont.) Determine which of the following accountants must be independent of the client. • Mark issued a report on an organization’s compliance with corporate policies.

36. Quiz over Applicable Services (cont.) Determine which of the following accountants must be independent of the client. • Accountants were engaged by a supermarket chain to attest that it offers the lowest overall prices in the city.

37. Quiz over Applicable Services (cont.) Determine which of the following accountants must be independent of the client. • Dan compiled the financials of a small business in accordance with GAAP.

38. Quiz over Applicable Services (cont.) Determine which of the following accountants must be independent of the client. • Accountants issued a report on the validity of Academy Award Oscar ballot results.

39. Rule 101 – Covered Members A covered member is any one of the following: • Professionals who personally work on the attest engagement, including partners who review the work, and tax accountants who compute the tax provision. Does not apply to external specialists (e.g. appraisers), or to those who perform routine clerical duties (e.g. word processing).

40. Rule 101 – Covered Members A covered member is any one of the following: • Any partner working in the office of the lead partner in charge of the attest engagement. • Any partner or manager who provides more than 10 hours of non-attest services to the attest client within any fiscal year.

41. Rule 101 – Covered Members (cont.) A covered member is any one of the following: • Anyone able to influence the attest engagement, including: • those who supervise quality control over the lead partner • those who can influence the lead partner’s pay • those who serve as expert consultants to the engagement team • The accounting firm and its employee benefit plan. • Any entity controlled by one or more of the above.

42. Rule 101 – Covered Members (cont.) Networked Firms: When two or more firms are closely connected, all the independence rules for one firm apply to the other(s). See Interpretation 101-17 for more details.

43. Quiz over Covered Members The Seattle office of Young & Ernest, CPAs, performs the audit of MacroSoft, a nonpublic computer software company. Young & Ernest also has offices in New York, Chicago, and Los Angeles. Which of the following are covered members? • Tom, a staff auditor in the L.A. office, does not work on the MacroSoft audit.

44. Quiz over Covered Members The Seattle office of Young & Ernest, CPAs, performs the audit of MacroSoft, a nonpublic computer software company. Young & Ernest also has offices in New York, Chicago, and Los Angeles. Which of the following are covered members? • Mary, a partner in the Chicago office, performs a second-partner cold review of the MacroSoft audit.

45. Quiz over Covered Members The Seattle office of Young & Ernest, CPAs, performs the audit of MacroSoft, a nonpublic computer software company. Young & Ernest also has offices in New York, Chicago, and Los Angeles. Which of the following are covered members? • Bill, a tax partner in the Seattle office, has nothing to do with the MacroSoft audit.

46. Quiz over Covered Members The Seattle office of Young & Ernest, CPAs, performs the audit of MacroSoft, a nonpublic computer software company. Young & Ernest also has offices in New York, Chicago, and Los Angeles. Which of the following are covered members? • Arthur, a clerical worker in the Seattle office, binds and files the audit working papers.

47. Quiz over Covered Members The Seattle office of Young & Ernest, CPAs, performs the audit of MacroSoft, a nonpublic computer software company. Young & Ernest also has offices in New York, Chicago, and Los Angeles. Which of the following are covered members? • Ken is a partner in New York whose only association with the MacroSoft audit is to provide expert advice on software revenue recognition.

48. Quiz over Covered Members (cont.) The Seattle office of Young & Ernest, CPAs, performs the audit of MacroSoft, a nonpublic computer software company. Young & Ernest also has offices in New York, Chicago, and Los Angeles. Which of the following are covered members? • Tracy, an e-business consulting manager in the Chicago office, provides more than dozen hours a year of consulting services for MacroSoft.

49. Quiz over Covered Members (cont.) The Seattle office of Young & Ernest, CPAs, performs the audit of MacroSoft, a nonpublic computer software company. Young & Ernest also has offices in New York, Chicago, and Los Angeles. Which of the following are covered members? • Crystal, the overall managing partner for Young & Ernest, approves the annual bonus for each partner in the firm.

50. Quiz over Covered Members (cont.) The Seattle office of Young & Ernest, CPAs, performs the audit of MacroSoft, a nonpublic computer software company. Young & Ernest also has offices in New York, Chicago, and Los Angeles. Which of the following are covered members? • Frank, a tax accountant in the Seattle office, prepares the tax return of MacroSoft and estimated its future tax liability.