Question:
Discuss About The Financial Statement Corporate Governance?
In the year 1988, the formation of ABC Learning was done and by the end of the year 2000, the company gained massive coverage of more than thirty centers. Further, the company attained its listing status in 2001 and diversified itself to more than 650 centers all across United Kingdom, Australia, and the United States. However, the collapse of the company can be attributed to the management’s over-ambitious strategies and failure on the part of auditors. Further, the emergence of debt in 2007 wherein negotiation with the bankers was necessary also resulted in a bigger concern (CPA, 2012). As a result, some long-term liabilities of the company were not paid and this affected the company’s cash flow negatively. Besides, this also resulted in a decline of the share price of the company. In short, the incident led to the total fall and the reason that can be cited is the collective failure of the management and the auditor. Even after having the top-notch audit firm, there was a scenario of collective failure. Nonetheless, if the auditors had implemented strong choices, then this situation could have been prevented. Moreover, the ineffective choices of the auditors would not have been caught in the company had not attained profits from the usual course of activities. In other words, it was a big question as to how any childcare division could function in such a rapid way (IFAC, 2015). On a whole, the ways adopted by ABC Learning in order to attain bigger heights is surely noticeable and once must rethink how it enhanced its operations so rapidly.
An unqualified judgment was offered by the external auditors of ABC since the appointment in the year 2003. However, Ernst and Young took over the authority of being an auditor in the year 2007 and made an altogether distinct analysis of the profits that was done previously. Further, KPMG was engaged as a third party of the company in order to settle the differences. Nonetheless, both these enormous giant firms also failed to track any falsifications on the part of the management. This gives rise to the fact that both the auditors have offered a distinct opinion upon the company’s financials and therefore, it must be taken into consideration that the unqualified judgment by the auditors played a key role in the disintegration of ABC Learning. In simple words, even after having major firms in the company’s affairs, loopholes or mismanagement occurred that ultimately crumbled the company.
Improper utilization of related party transactions played a key role in creating major problems for the firm. The major reason behind such decision was to portray an effective and shiny image of the firm so that the investors and financial institutions could be easily fooled in order to get more borrowings from them. In addition to this, the obligations and losses of the firm were also addressed by such borrowings and keeping the securities as collateral. Nonetheless, such related party transactions played a vital part in decreasing the securities by highlighting the transactions as a registered sale for securities. Further, the auditing department also assisted the management in concealing such replication of securities in the financials so that their vulnerabilities were not exposed. In addition, the loans obtained by the firm were also depicted as ‘Sale Proceeds of Investment Securities’ and this never formed part of the balance sheet (CPA, 2012). The major intention behind such transaction was to target less risky liabilities and resourceful assets. In short, the major intention was to reap more profit at the cost of others. ABC learning center made enormous success and profit in a short time span and this was done at the cost of the innocent investors.
The company was also being paid an enormous figure of $74 million for the operations associated with the ABC centers. The company also attempted to sponsor the Brisbane Bullets team of basketball. All these transactions were unrelated in nature based on the statement of ABC Learning but in reality, these transactions itself played a major part in disintegrating the company. Nevertheless, this was both the management and auditors’ failure that resulted in such a situation. On a whole, such related party transactions must not be endeavor by any company because it not only creates a situation for hampering of goodwill in the market but also crumbles the company as a whole (Teen, 2012). The common public and investors perceive that the management is operating the company for their own benefits and not for the advantage of the investors. However, in contrast to this, in the case of ABC Learning, it can be easily stated that the major drawback that resulted in its downfall can be attributed to a poor performance on the part of auditors and an ineffective corporate governance mechanism. Besides, the real scenarios of the firm were not revealed in the financial statements at all, and as a result, such financials represented the financial information in a very distinct manner based on the prevailing situation of the firm (Cappelleto, 2010). This resulted in the emergence of a major cause of discrepancy in the financial reporting standards of the company.
Overall, considering the above situation, it can be easily stated that the company could have been easily safeguarded from such a drastic situation if the auditors had taken relevant steps to disclose important matters to the stakeholders and common public. However, instead, they tried to conceal significant concerns from these users so that a tarnished image of the company can be portrayed. Moreover, even if they warned the management of the hazardous consequences of such steps, the situation might have been very different. Either the company could be saved or its disintegration could be delayed to some extent if the auditor took such steps.
Such auditing standard was adopted for the purpose of efficient financial reporting in the year December 15. The prior motive behind the adoption of this standard can be attributed to the fact that it assists in keeping a trace of major audit matters and after conducting effective assessment measures, such matters can be reported to the management of the audit firm without wasting any further time. The users of financial statements can be highly benefitted from such standard because it allows them to observe the major matters and other situations prevailing in the financials so that it can safeguard them from encountering significant losses, thereby, in turn, posing as a very effective way to enhance transparency (Geoffrey et. al, 2016). Moreover, the financials of the firm would have been real and easy to be interpreted by such users if the auditors were not negligent of their duties as an auditor. Further, if such standard prevailed in the situation of ABC learning, the auditors would not be in a position to conceal relevant matters from the audit report and that would have safeguarded the firm from disintegration as a whole (Fazal, 2013).
On a whole, it is the responsibility of an auditor to emphasize relevant and due care towards matters that are more significant especially while undergoing the procedure of auditing of the financial statements.
The auditing standard of ASA 707 would have played a key role in the disclosure of relevant facts and figures in the case of ABC learning. Besides, the absence of such standard, in this case, granted undue advantage to the auditors in concealing significant facts from the audit report that ultimately played a key role in destroying the firm (Kaplan, 2011). On a whole, it can be stated that the absence of ASA 707 and other relevant loopholes in the regulatory system at that time resulted in the failure and collapse of ABC learning.
. The significant concerns that resulted in the disintegration of the firm have been portrayed by the points that had to be reported to those who are responsible for the maintenance of governance. Besides, if ASA 701 was not absent in the case of ABC learning, the auditors would be strictly bound to comply with all the statutory rules and regulations and concealment of relevant matters would have been avoided (Kruger, 2015). Further, the firm could be saved from such a grave scenario as well.
The firm was responsible to acquire a true opinion of sales in order to proceed with their transactions that can fully adhere to the lawful platform for the transfers. The major reason that led to the downfall consisted in the deficiency of the system. Going by the ACCC representation, it is evident that the ABC downfall was not due to the cut-throat competition rather the downfall happened to owe to many disturbances and financial mismanagement like high debts and acquisitions. Hence, the fall can be linked to the deficiencies that the financial information projected. The firm encountered disintegration owing to such borrowings and transactions (Christensen, 2011). Moreover, the financial institutions also stopped accepting the securities as collateral in contrast to the short-term borrowings. This resulted in a failure to address the obligations on the part of ABC learning and all these scenarios occurred after the occurrence of huge debts and liabilities in the capital structure of the firm that posed a huge threat to its smooth flow of operations and finally crumbled the firm as a whole.
Owing to the improper transactions, the same was required to be disclosed in the audit report and financials of the firm. However, it planned to conceal the same because it would then become vulnerable owing to massive borrowings and other obligations. In addition, the unaltered leverage ratio would also expose the firm to the investors if they had not concealed the same (Lapsley, 2012). The major part played by the auditors in such a scenario was concealment of impacts that could be caused because of the transactions entered into by the firm and therefore, it was decided to hide the same.
The financials of the company were based on weak grounds and the management took many decisions without concerning the auditor. Moreover, the auditor failed to trace such frailties and proceeded with the same. Many transactions were undertaken as investments in the balance sheet. Moreover, the auditor must have been aware of the consequences that would occur and it was their moral responsibility to warn the management about the same (Carcello, 2012). In addition to all this, the firm also endeavored to portray its equities as collaterals instead of fixed income securities so that the related party transactions can be easily carried on.
. Besides, both the firm and their auditors were smart enough to depict these relevant transactions as minimal variations in the financials. In addition to this, the firm also highlighted that the repurchase of securities was majorly undertaken at a minimal cost and the same was concealed under major large-scale derivatives (Heeler, 2009). Besides, the firm and their auditors attempted to show these transactions in the notes to financial statements. On a whole, it can be seen that all these improper acts were done by the firm in consultation with the auditors who were morally responsible to stop or disclose the same in their audit report.
All the major short-term financing transactions were inappropriate and the recording was faulty in nature. Furthermore, the securities were depicted as collateral was later removed from the financials of the firm. In addition to all this, the firm also endeavored to minimize its liabilities in order to portray the image that the securities of the firm are being provided to the third parties as compensation and the leverage is also declined (IFAC, 2015). Further, all the debts acquired by the firm was also supposed to be shown on the balance sheet of the firm until they were repaid. However, the transactions were depicted as sales so that the sold securities could be subtracted from the assets of the firm and there could be no sign of any liabilities (Manoharan, 2011).
When it comes to the process of financial reporting, both internal, as well as statutory auditor plays a leading role in shaping the destiny of the organization. Moreover, the level of transparency depends on the auditor’s duty. If the compliance is done in accordance with the company law it leads to better practice. Hence, the auditor needs to assess the books in an in-depth manner so that the preparation of the financial statement is devoid of any mistakes and errors. The auditors are responsible for the financial statement preparation and to correctly note the facts and then provide the independent decision. The auditors are morally liable to depict a true and fair view of the financials of the company and the society because they rely upon the judgment offered by the auditors (Blay et. al, 2011). Therefore, in order to adhere to this, the auditors must comply with the auditing standards so that they can utilize the same in their audit processes. In the ABC learning case, since the auditors neglected in doing their activities in a moral way and therefore, the third parties suffered. Hence, without depicting the mistakes of the company in the financial statements, the auditors cannot adhere to ethics of audit. Further, the disintegration of ABC learning shows the loopholes in the regulatory system that necessitates corrective actions and supervision as a whole.
Conclusion
The disintegration of Lehman offers illustrations to organizations to adhere to moral standards in relation to corporate governance practices. Further, the management and auditor must strictly abide by all the rules because such rules are made for their own advantages so that both the management and public can be effectively addressed. Moreover, it is the situation’s demand that there must be a wise and appropriate imaging of the financials of companies so that the management does not acquire undue advantage to mislead the users of financial statements for their own benefits. Overall, in such a case, implementation of accounting and auditing standards is the need of the hour. Nevertheless, the firm failed to disclose all these concerns in their financial statements because the auditors attempted to conceal the same (Matthew, 2015). This gives rise to the fact that if the auditors had not been negligent in their activities and tried to disclose the same, the firm would have been safeguarded from such a drastic situation and corrective actions would have saved it.
References
Blay, A. D., Geiger, M. A. & North, D. S. 2011. The Auditor’s Going-Concern Opinion as a Communication of Risk. Auditing: A Journal of Practice & Theory, 30 (2), pp. 77- 102.
Cappelleto, G., 2010. Challenges Facing Accounting Education in Australia. AFAANZ, Melbourne
Carcello, J 2012. What do investors want from the standard audit report? CPA Journal, 82(1), 7.
Christensen, J., 2011. Good analytical research. European Accounting Review, 20(1), pp. 41-51
CPA 2012. ABC learning collapse case study. [online] Available at: <https://www.cpaaustralia.com.au/professional-resources/education/abc-learning-collapse-case-study> [Accessed 15 September 2017]
Fazal, H., 2013. What is Intimidation threat in auditing? [Online] Available at <https://pakaccountants.com/what-is-intimidation-threat-in-auditing/> [Accessed 14 September 2017]
Geoffrey D. B, Joleen K, K. Kelli S & David A. W 2016. Attracting Applicants for In-House and Outsourced Internal Audit Positions: Views from External Auditors. Accounting Horizons, 30(1), pp. 143-156.
Heeler, D., 2009. Audit Principles, Risk Assessment & Effective Reporting. Pearson Press
IFAC 2015. Strengthening organizations, Advancing Economies. [online] Available at: <https://www.ifac.org/auditing-assurance/clarity-center/clarified-standards> [Accessed 14 September 2017]
Kaplan, R.S., 2011. Accounting scholarship that advances professional knowledge and practice. The Accounting Review, 86(2), pp. 367–383.
Kruger, P., 2015. Corporate goodness and shareholder wealth. Journal of Financial economics, pp. 304-329
Lapsley, I., 2012. Commentary: Financial Accountability & Management. Qualitative Research in Accounting & Management, 9(3), pp. 291-292.
Manoharan, T.N., 2011. Financial Statement Fraud and Corporate Governance. The George Washington University.
Matthew S. E 2015. Does Internal Audit Function Quality Deter Management Misconduct?. The Accounting Review 90(2), pp. 495-527
Teen, M.Y., 2012. The ABC of a corporate collapse. [online] Available at: <https://governanceforstakeholders.com/2012/12/28/the-abc-of-a-corporate-collapse/> [Accessed 14 September 2017]
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