. Exhibit 2.3 in your textbook provides a summary of important cases of fraudulent financial reporting over the past 20 years.How has Sarbanes--Oxley affected the incidence, or frequency, of fraud?Choose a case from the Exhibit and compare the fraudulent actions to the five components of the COSO framework.
Company Nature of the Fraud Olympus (2011) Olympus is a large multinational manufacturer involved in the medical, life science, industrial, and imaging industries. Its top-level executives and boards: Concealed large losses related to securities investments for over two decades . Switched audit firms during the period because company management clashed with their external auditor over accounting issues . Committed fraud, which was eventually revealed when the company's president was fired after discovering and objecting to accounting irregularities Longtop Financial Longtop Financial Technologies was the first Chinese software company to be listed on the New York Stock Technologies (2011) Exchange (NYSE) and was the leading software development provider in the financial services industry in that country. This fraud highlighted the risks that investors face when investing their money in Chinese companies with weak corporate governance. The company: . Exaggerated profit margins by shifting staffing expenses to another entity . Recorded fake cash to cover up fake revenue that had been previously recognized Threatened the audit firm personnel and tried to physically retain the audit firm's workpapers when the auditors uncovered the fraud Peregrine Financial Group (2012) Peregrine Financial Group was a financial futures firm whose founder and sole shareholder, Russell Wasendorf, embezzled over $200 million during a 20-year period. Wasendorf concealed the fraud by: . Assuming complete and sole control over the bank statements . Forging the bank statements when they were reviewed by the firm's auditor Just before the fraud was discovered, the futures industry transitioned to an electronic confirmation system or bank statements that enabled the auditor to view the true bank statements. Knowing that the fraud would be uncovered in a few days, Wasendorf unsuccessfully attempted suicide and was ultimately sent to prison. Sino-Forest Corpora- Sino-Forest Corporation is a China-based company in the timber production and wood-fiber industry. The tion (2012 company's top-level management orchestrated a financial reporting fraud and personally benefited by engaging in lucrative transactions between Sino-Forest and other companies that were secretly controlled by top-level management of Sino-Forest. The fraudulent actions perpetrated by management included: . Significantly overstating the valuation of timber assets . Making false public statements about the company's performance in order to manipulate stock price . Convincing suppliers and intermediaries in timber products transactions to hinder the investigation into the fraud Diamond Foods, Inc. Diamond Foods, Inc. is a large producer of snack food and culinary nut products. Walnuts are one of the (2014) company's primary raw materials. During 2010, the price of walnuts rose dramatically, which threatened to reduce the company's net income. The company's CFO, Steven Neil, orchestrated a fraudulent financial reporting scheme that involved the following activities and outcomes: . He instructed accounting personnel to delay recording the cost of walnuts acquired during 2010, thereby overstating earnings by $10.5 million. He again instructed accounting personnel to delay recording the cost of walnuts acquired during 2011, this time overstating earnings by $23.6 million. As a result, the company exceeded analyst earnings targets, leading to increases in the company's stock price to over $90 per share. The company raised $181 million in a stock offering when the share price was artificially high. . Once the fraud was revealed, the stock price fell to just $17 per share, representing a market capitalization loss of about $1.7 billion. Wells Fargo (2016) Wells Fargo is a large and well-known federal savings bank, worth about $250 billion. Top management was not implicated. Rather, bank employees created phony PIN numbers and fake email addresses to enroll customers in online banking services. Employees created more than 1.5 million deposit accounts. Here is how it worked . Employees moved funds from existing customer accounts into new accounts that they did not know about. Because the money was no longer in their existing accounts, they were charged for insufficient funds or overdraft fees. Employees also submitted applications for over 565,000 credit card accounts without customers' knowledge or consent. To fully appreciate the extent of the fraud, about 14,000 of those credit cards incurred $400,000 in annual fees, interest charges, and overdraft fees. The employees' motivation was greed. They used the fake accounts to boost their sales figures and bonuses. Wells Fargo had to pay fines of $185 million, along with refunding $5 million to customers.rol as 's 2013 Internal :ramemrk 1ponents of Internal Control Defined Just as a U.S. company might refer to generally accepted accounting principles (GM?) as a framework for determining whether its nancial statements are fairly presented, companies need to refer to a framework of internal control when assess- ing the effectiveness of internal control over financial reporting. The most widely used framework in the United States and around the world is the Internal Control Integmted Framework published by the Committee of Sponsoring Organizations of the Treadway Commission (C050). The sponsoring organizations first came together in the 19805 to address the increasing fraudulent financial reporting that was occurring at that time. C050 released the original Internal ControlIntegrated Framework in 1992. The frame- work gained widespread acceptance following the financial failures of the early 20005. In 2013, C050 updated, enhanced, and clarified the framework. Today, the 0030 Internal Control-lntag rated Framework (often referred to simply as 3 0 Internal Control Over Financial Reporting: Responsibilities of Management and the External Auditor \"COSO\") assists management and others in developing, implementing, and main- taining an effective system of internal control. C080 denes internal control as: a process, effected by an entity's board of directors, management, and other personnel, designed to provide reasonable assurance regarding the achievement of objectives relating to operations, reporting, and compliance. Important elements of the definition recognize that internal control is: A process consisting of ongoing tasks and activities. Effected by people and is not just about policy manuals, systems, and forms. People at every level of the organization, ranging from shipping clerks to the internal auditor to the chief financial officer (CFO), chief executive officer (CEO), and the board of directors, impact internal control. Able to provide reasonable assurance, but not absolute assurance, regard- ing the achievement of objectives. Limitations of internal control preclude absolute assurance. These limitations include faulty human judgment, break- downs because of mistakes, circumventing controls by collusion of multiple people, and management ability to override controls. Geared toward the achievement of multiple objectives. The definition high- lights that internal control provides reasonable assurance regarding three categories of objectives. However, the external auditor is primarily inter- ested in the objective related to the reliability of financial reporting. For further details, see https://en.wilzipedia.org/wiki/Committee_of_ Sponsoring_0rganizations_of_tlre_Treadway_Commission COSO identifies five components of internal control that support an organiza- tion in achieving its objectives. These components, shown in Exhibit 3 .1, include: 1. 5. Control Environment is the set of standards, processes, and structures that provides the basis for carrying out internal control across the organi- zation. It includes the tone at the top regarding the importance of internal control and the expected standards of conduct. The control environment has a pervasive impact on the overall system of internal control. . Risk Assessment involves the process for identifying and assessing the risks that may affect an organization from achieving its objectives. . Control Activities are the actions that have been established by policies and procedures. They help ensure that management's directives regarding internal control are carried out. Information and Communication recognizes that information is neces- sary for an organization to carry out its internal control responsibilities. Information can come from internal and external sources. Communica- tion is the process of providing, sharing, and obtaining necessary informa- tion. Information and communication help all relevant parties understand internal control responsibilities and how internal controls are related to achieving objectives. Monitoring is necessary to determine whether the controls, including all five components, are present and continuing to function effectively
