The accounting dirt on Enron led to SOX 2002. A batch of people claim that the arise of this dirt is due to the deficiency of independency and struggle of involvement in Arthur Anderson while supplying confer withing services to their audit clients. Hence, the inquiry of whether the rise of confer withing services in accounting house will increase unethical behavior before SOX 2002 has to be examined. In order to analyze this inquiry, the definition of confer withing services and the function of comptrollers have to be defined. Harmonizing to Kuttner, Monroe S, “ consulting services are defined as professional services that employ the practician ‘s proficient accomplishments, instruction, observations, experiences and cognition of the confer withing procedure. ”[ 1 ]More exactly, “ the AICPA issued the first statement of Standard of Consulting Services ( SSCS ) in 2002 to help CPAs to place what sort of maps made up confer withing services. ”[ 2 ]It identifies that there are six chief maps of confer withing services and their intents, which include audience, consultative service, execution services, dealing service, staff and other support services and merchandise service.[ 3 ]Accountants that provide confer withing services involve in the concern operations or direction of their clients, which non merely take to miss of independency and struggle of involvement, but it might besides destroy the repute of comptrollers, as “ the underlie value of CPA services are based on the comptrollers ‘ experience and competency. [ Furthermore ] , another chief constituent of worth, viz. , independency, was besides identified ” in order to construct the repute of comptrollers.[ 4 ]Furthermore, “ Chairman Arthur Levitt asserts that independency is the nucleus of the accounting professionaˆ¦the infinite to believe, to talk, and to move on the truth. And truth is the lifeblood of investor assurance. ”[ 5 ]The value of independency ensures that comptrollers, particularly the hearers, will be able to function the populace ‘s involvement by supplying a free-of-basis audit sentiment. However, confer withing services in accounting house might finally impact the independency and lead to struggle of involvement, and therefore it is of import to analyze the inquiry whether the rise of confer withing services in accounting house will increase unethical behavior before SOX 2002.
History of the rise in consulting services
Harmonizing to Stephen A Zeff, he reported that “ from the earliest yearss of profession, accounting houses rendered confer withing services. By the 1910s, [ accounting houses ] included the installing of mill costs systemsaˆ¦ But accounting, scrutinizing, and revenue enhancement constituted the solid nucleus of the houses ‘ services ”[ 6 ]However, after the Second World War, many major accounting houses have begun to spread out beyond their traditional services to the new lines such as direction services, direction advisory services or administrative services.[ 7 ]This is the clip when people started to concern about the independency and ethical behavior in accounting house. Subsequently on “ in the early 1980s, the Big Five had begun spread outing their services in confer withing and has exceeded that of most industries, with the possible exclusion of the package and telecommunications Fieldss. ”[ 8 ]Furthermore, in 1991, Lentini, Fern wrote an article on the Journal of Accountancy on “ CPAs can better their clients ‘ concern and their ain houses by offering concern advice. ” It argued that it is of import for CPA houses to develop and pull new concern due to the loss of market portion and the high competitions and high costs. Furthermore, professional stated that merely supplying traditional services in accounting houses is non plenty to vie in the market. Hence, it is of import for “ single practicians and little to mid-size houses that have non already done so must develop new countries of concern confer withing while retaining their passion for Numberss and fiscal statements. ”[ 9 ]As a consequence, more accounting houses started to supply a greater assortment of services to their clients including confer withing of all time since.
Impact of accounting houses
Accounting is viewed as a profession instead than a concern. However, due to today ‘s competitory market, accounting houses have been spread outing their traditional services into confer withing. Since confer withing services have a lower cost comparison to other accounting services such as auditing, and extra grosss are generated by such enlargement. “ In 1984, the confer withing fees in the Big Eight houses from the mid-1970s had increased a per centum of entire gross house fees from a scope of 5 % to 19 % in 1977, to a scope of 11 % to 28 % in 1984. ”[ 10 ]“ Even by 1978, six of the Big Eight houses placed in the top 10US consulting houses in footings of gross Billingss for confer withing services. ”[ 11 ]The high net incomes from confer withing services lead to increasing concerns about the impact of confer withing services in accounting house. The public and certain professionals argued that the rise of confer withing services impaired the value of independency and changed a profession into a concern ; nevertheless, on the other manus, there were professionals argued that confer withing services had more benefits to comptrollers than merely increasing the houses ‘ grosss. First, Mednick, Robert, and Previts, Gary John claimed that “ the inquiries of keeping independency and scrutinizing work for a client who on a regular basis seeks the comptrollers ‘ advice upon direction jobs or for whom assorted other direction services are rendered, it is likely that all uncertainties as to finish independency can non be avoided. ”[ 12 ]Although an accounting house can non be to the full independent, they should still seek to minimise events that will impact their independency in order to keep the nucleus values of an comptroller. Hence, accounting houses should seek to minimise or whirl off the consulting services into an independent section in order to keep the house ‘s independency. Besides the statements sing the impossibleness for an accounting house to keep independency, “ practising comptrollers argue that the proviso of non-audit services does non impair hearers ‘ independency because they have strong economic and legal inducements to stay independent and continue their reputes. In add-on, they maintain that non-audit services improve the quality of audits as hearers become more knowing and develop greater expertness refering the clients ‘ concerns and operations. ”[ 13 ]Although there are strong economic and legal inducements for comptrollers to stay independent and continue their repute, the economic bond between the comptrollers and clients besides create inducements for them to take part in unethical behaviors in order to procure their relationship with the clients. Furthermore, as an comptroller, it is of import for them to go on to develop their cognition to keep competency. Even though hearers can go more knowing and develop greater expertness on client ‘s concerns and operations through supplying non-audit services such as consulting, it is non the lone manner for comptrollers to develop their ability. They are able to derive relevant cognition by reading, carry oning research and implementing professional development while at the same time keeping their independent. Furthermore, “ old surveies contend that both audit and non-audit services may make the same incentive effects on hearers, and that independency might besides be impaired when both audit and non-audit services constitute profitable concern for the hearer ” This shows that non merely non-audit services will impair independency, but so make audit services when there is a fee associated with them. Hence, any type of accounting concern will impair independency, and hence consulting services is non be the lone ground that contributes to the rise of unethical behavior in accounting house.
Harmonizing to the AICPA ‘s Professional Standards, CPA is required “ to retain their unity and objectiveness in all stages of their pattern and, when showing, sentiments on fiscal statements, avoid engagement in state of affairss that would impair the creditability of their independency ”[ 14 ]However, confer withing services create economic bonds between hearers and the clients which impair the value of comptrollers. In scrutinizing, comptrollers have the duty to function the public involvement and execute their work on behalf of the populace. On the other manus, in confer withing services, comptrollers perform their work to function best involvement of their clients where they provide sentiment and advices based on their cognition and harmonizing to the clients involvement. If the comptrollers provide advices and audit for the client at the same clip, it will take to conflict of involvement. Consulting services besides affect independency in that the interaction between the comptrollers and clients by supplying services out of their range created tight relationship between the two parties.
In 1984, before the well-known accounting dirt, Simunic, Dan A wrote a research paper on “ Auditing, Consulting, and Auditor Independence. It indicated that there is “ one research squad [ which ] examined the association between degree of non-audit and both the magnitude of discretional accumulations and the company ‘s inclination to merely run into or crush analysts ‘ prognosiss, reasoning that high degrees of non-audit fees significantly impair auditor independency and cut down the quality of net incomes. ”[ 15 ]Furthermore, it besides provided grounds that clients who purchase non-audit services from their comptrollers paid significantly higher non-audit fees than audit fees. Since non-audit fees are higher than the auditing fees, there is an purpose for the accounting house to concentrate more on non-audit services such as consulting and keep an important relationship with the clients in order to capture the non-audit concern. Hence, the important net income to the accounting house that addition by confer withing services will finally impair the comptrollers ‘ independency with the clients. This will besides increase the hazard of unethical behavior.
Enron, one of the high-profile dirts in accounting industry, which happened in 2002 has led to the great concern about the independency of confer withing services and audit. The bankruptcy on Enron is chiefly due to two grounds: 1 ) the failure to unwrap related-party dealing, 2 ) Arthur Anderson, Enron ‘s hearer “ received more than half of its Enron gross from confer withing services which gives an visual aspect of deficiency of independency. ”[ 16 ]In Enron, they used off-balance sheet partnerships to conceal losingss. Enron used 3,500 particular intents entities ( SPE ) to seek to cover up their losingss. These SPEs were managed by Enron employees and funded by Enron stock which should be reported and disclosed as related-party minutess. Furthermore, the SPEs have no legitimate concern intent and were used merely to better the visual aspect of the wellness of Enron. Since these SPEs are connected with the stock of Enron, therefore the stock monetary value determined whether the debt can be covered. If the stock monetary value additions, the debt will be covered, nevertheless, on the other manus, if the stock monetary value beads, the debt will be uncovered which leads to the failure of the company. Besides the inappropriate accounting intervention on the SPEs, another of import ground for Enron ‘s failure was the deficiency of independency of the hearer. Arthur Anderson had received $ 27 million from Enron as confer withing fees while gaining $ 25 million from scrutinizing Enron.[ 17 ]The sum that they received from confer withing was more than scrutinizing fees. Although “ the company claimed that the confer withing gross did non impact any of their audit determinations, … , to the populace, the independency in visual aspect is impaired when one house provides both audit and consulting services. ”[ 18 ]As a professional comptroller, they should hold maintained their independency both in visual aspect and in fact. In Enron, Arthur Anderson that generated such big sum of grosss from both scrutinizing and confer withing from Enron made the public think that they were non independency, therefore, this lead the company to be treated as non independency in visual aspect and should non execute audit services to Enron. This well-known accounting dirt led to SOX 2002 to turn to populace ‘s concern over independency issue arise from confer withing services in accounting house.
The Sarbanes-Oxley Act of 2002 ( SOX 2002 ) became effectual after the celebrated Enron accounting dirt. In one of the rubrics in SOX, it provides specific demands and criterions for hearer independency. It limits struggle of involvement and reference on hearer rotary motion, hearer coverage demands and it besides restricts accounting house that provide scrutinizing to supply non-audit services for the same clients similar the Enron instance. In Section 201, it provides a descriptive list that consisted prohibited non-audit services such as “ clerking or other services related to accounting records or fiscal statements of audit client, fiscal information systems design and execution, legal services and adept services unrelated to scrutinize [ etc. ] ” .[ 19 ]This regulations clearly identify that accounting house with scrutinizing services can non supply other accounting services to the same client in order to keep independent and avoid struggle of involvement. Furthermore, “ the Commission ‘s rules of independency with regard to services provided by hearers are mostly predicated on three basic rules, misdemeanors of which would impair the hearer ‘s independency: ( 1 ) an hearer can non work in the function of direction, ( 2 ) an hearer can non scrutinize his or her ain work, and ( 3 ) an hearer can non function in an protagonism function for his or her client. ”[ 20 ]These rules lay out the basic events that will impair hearer ‘s independency and supply a guideline for the hearer to be every bit independent as possible. The SOX 2002 and the Commission ‘s rules regulates the relationship between confer withing services and accounting house which address the public consciousness on accounting house ‘s independency.
In today ‘s competitory concern environment, accounting houses will seek their best to keep and spread out their client base in order to remain competitory in the industry. Hence, this leads to the rise of confer withing services. This enlargement raises concerns sing whether unethical behaviors will originate as a effect. Due to the fact that accounting houses can derive more gross from non-audit services, it creates a tendency for houses to concentrate on keeping the client ‘s involvement alternatively of the populace ‘s involvement. This leads to conflict of involvement and transgress the Code of Professional Conduct. Furthermore, confer withing services impair independency which is one of the most of import values of comptrollers. The more connexion and the stronger the economic bond between the clients and accounting house, the more likely the house will be missing independency. Although confer withing services might non straight lead to unethical behavior, nevertheless, it increases the hazard of unethical behavior. Hence, SOX 2002 comes into topographic point to forestall any other similar accounting dirt like Enron.
Beside SOX 2002, in November 2002, “ the SEC adopted new regulations that prohibit accounting houses from supplying certain non-audit “ consulting ” services to their audit clients. The regulation besides requires public companies to unwrap in their proxy statements the fees paid to their independent hearers for audit and non-audit services. ”[ 21 ]Furthermore, harmonizing to Codes of Professional Conduct, it besides clearly indicates that comptrollers have to be keeping independency in fact and in visual aspect. Since confer withing services bring up immense concerns and lead to accounting dirts, regulations and ordinances are bit by bit created to restrict non-audit services that accounting house can supply and diminish the hazard of unethical behavior that will potentially originate from confer withing services.