Case 4.21 Arthur Anderson: a Fallen Giant

1. With regard to the destruction of the documents, was there adifference between what was legally obstruction of justice and whatwas ethical in terms of understanding what was happening at Enron?When the U.S. Supreme Court reversed the Andersen decision, theWall Street Journal noted that the Andersen case was a bad legalcase and a poor prosecutorial decision on the part of the Bushadministration. Why do you think the prosecutors took the caseforward? What changes under SOX would make the case easier topursue today?

2. David Duncan was active in his church, a father of threeyoung daughters, and a respected alumnus of Texas A&M. Mr.Duncan’s pastor talked with the New York Times following Enron’scollapse and Duncan’s indictment, and discussed with the reporterwhat a truly decent human being Duncan was. What can we learn aboutthe nature of   those who commit these missteps? What canyou add to your credo as a result of Duncan’s experience? Was themultimillion-dollar compensation he received a factor in hisdecision-making processes? Can you develop a decision tree onDuncan’s thought processes from the time of the first SPE until theshredding? Using the models you learned in Units 1 and 2, what canyou see that he missed in his analysis?

3. In 2000, a full two years before WorldCom’s collapse, StevenBrabbs, WorldCom’s director of international finance and control,who was based in London, raised objections when he discovered afterhe had completed his division’s books for the year that $33.6million in line costs had been dropped from his books through ajournal entry. He was told that the changes were made pursuant toorders from CFO Scott Sullivan. He next suggested that thetreatment be cleared with Arthur Andersen. When there was noresponse to his suggestion that the external auditor be consulted,Mr. Brabbs again raised his bjections in a meeting with internalfinancial executives a few months later. Following the meeting, Mr.Brabbs was chastised by WorldCom’s controller for raising the issueagain. The following quarter, Mr. Brabbs received orders fromWorldCom headquarters to make another similar change, but to do soat his level rather than having it done from corporate headquartersvia journal entry. Unwilling to have the entries generate from hisdivision, he created another entity and transferred the costs toit. He voiced his concerns again and was told that there was nochoice because the accounting was a“Scott Sullivan directive.” Mr.Brabbs also had a meeting with Arthur Andersen auditors to discusshis concerns. Following the meeting he received e-mail fromWorldCom’s controller, David Myers, which directed that Mr. Brabbswas“not [to] have any more meetings with AA for any reason.” WhenWorldCom’s internal audit staff began to raise questions about thereserves and the capitalization of ordinary expenses, they wereprohibited from doing further work and, for the most part, workednights and weekends to untangle the accounting nightmare they hadfirst discovered with a simple question about receipts forsome   capitalized expenses. CFO Scott Sullivan asked theaudit staff to wait at least another quarter before continuing withtheir investigation. Andersen auditors reported any internal auditinquiries to Sullivan and did not follow through on questions andconcerns raised. What controls were missing? Why the reportinglines to Sullivan?

4. One of the tragic ironies to emerge from the collapse ofArthur Andersen, following its audit work for Sunbeam, WorldCom,and Enron, was that it had survived the 1980s savings-and-loanscandals unscathed. In Final Accounting: Ambition, Greed and theFall of Arthur Andersen, the following poignant descriptionappears: “The savings and-loan crisis, when it came, ensnaredalmost every one of the Big 8. But Arthur Andersen skated awayvirtually clean, because it had made the decision, years earlier[,]to resign all of its clients in the industry. S&Ls for yearshad taken advantage of a loophole that allowed them to boostearnings by recording the value of deferred taxes. Arthur Andersenaccountants thought the rule was misleading and tried to convincetheir clients to change their accounting. When they refused,Andersen did what it felt it had to: It resigned all of itsaccounts rather than stand behind accounting that it felt to bewrong.” What takes a company from the gold standard to indictmentand conviction?