An article published in The Wall StreetJournal (October 21, 1992) entitled “Polluted Numbers: Audit Report Shows How Far Chambers Would Go For Profits” describes how Chambers Development Co., a large waste-disposal firm, used inappropriate accounting methods to “report strong profits while actually losing money.” From 1985 to 1992 the company overstated profits by a total of $362 million . . . “by grossly understating expenses [via capitalizing the costs of waste disposal improperly] and, in the process, violating generally accepted account¬ ing principles . . . The company also admitted capitalizing, as intangible assets, $43 million of internal costs relating to the acquisition of other companies, $65 million of interest cost that should have been expensed, and $27 million in start-up costs for new business and trash haul¬ ing routes . . . Chambers put off recognizing $362 million in costs that other companies typi¬ cally acknowledge as expenses.” REQUIRED:

a. Explain how Chambers’ accounting methods enabled it to grossly overstate it profits. Chapter 5 The Mechanics of Financial Accounting 255 C5-6 (Watch cash flow)

b. The article further notes that in March of 1992 “the company disclosed it was abandoning its unorthodox accounting methods and taking a $27 million after-tax charge for 1991. Chambers’ stock plummeted. In one day, the stockholdings of [the majority owners] lost $493 million in value.” Explain how a $27 million charge could reduce the company’s value by as much as $493 million.

c. The accounting fraud at Chambers was not uncovered until 1991 when Grant Thornton, the company’s external auditors, brought in a fresh team of auditors. The previous Grant Thornton auditors were recently hired by Chambers into top-level finance and accounting positions. An accounting professor at the University of Pittsburgh reacted to this situation by commenting: “If you’re simultaneously auditing a company and looking for a job at that company, you may be less aggressive.” Explain what the professor means.