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In 2015, the business press reported that Japan's Toshiba Corp. overstated its operating profit by 151.8 billion yen ($1.22 billion) over several years through accounting irregularities involving top management. This overstatement represents approximately one-third of Toshiba's pre-tax profits during the misstatement period. Toshiba had a corporate culture in ,vhich one could not go against the wishes of superiors. An investigation report noted that when top management presented 'challenges', di vision presidents, line managers and employees below them continually carried out inappropriate accounting practices to meet targets in line ,vith the ,vishes of their superiors. Improper accounting included overstatements and booking profits early or pushing back the recording of losses or charges, and such steps often led to even higher targets being set for divisions in the following period. 168 Chapter 4 Professional Legal Liability Application Activities FRAUD PROFESSIONAL SKEPTICISM NOTE: Completing Application Activities requires students to reference additional resources and materials. 4-25 4-26 The report said much of the improper accounting, stretching back to fiscal year 2008, ,vas intentional and ,vould have been difficult for auditors to detect. The audit firm during this misstatement period was EY (Ernst & Young ShinNihon) ,vho incurred significant reputational damage after they were accused of failing to detect the misstatement and fined $17.4 million by Japanese regulators. The investigation into Toshiba's accounting practices was initia lly limited to its home country. However, in 2016 the U.S. Justice Department and the Securities and Exchange Commission began looking into the case since part of the alleged fraud involved a Toshiba unit based in the US (Westinghouse Electric Company). a. Based on this limited information, does this case represent a business failure, an audit failure, or both? b. Should auditors be held liable if their client's business fails or if the financial statements contain a fraud that the auditors did not detect? c. Under ,vhat la,v would the SEC be likely to pursue this case?

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