The early 2000s were a time of great turmoil in the business world. A number of major corporations collapsed, and many others were embroiled in scandals.
One of the most notable accounting scandals was that of Enron. Enron was once one of the largest energy companies in the world, but it all came crashing down when it was revealed that the company had been cooking its books. Enron’s collapse led to the loss of thousands of jobs and billions of dollars in investor money.
Another major scandal involved WorldCom, another energy company. Like Enron, WorldCom was found to have engaged in fraudulent accounting practices. The scandal led to the loss of even more jobs and billions of dollars in investor money.
The Enron scandal is one of the biggest from the early 2000s. Everything about this fiasco was huge, including a $50 billion bankruptcy and employee retirement accounts that were drained of more than $1 billion. As a result, Enron’s auditor Arthur Andersen was indicted on criminal charges in 2002.
Enron was one of the largest energy companies in the world and was known for its innovative trading strategies. However, it all came crashing down when it was revealed that the company had been hiding debt and overstating profits through a series of complex financial transactions.
The scandal led to stricter regulation of accounting practices and increased scrutiny of public companies. It also resulted in the demise of Arthur Andersen, which was once one of the biggest accounting firms in the world.
When they were scrutinizing internal controls, they had to vouch for their own data. This sparked major concerns about the accounting field as a whole. Furthermore, earnings restatements increased by 200% over this period, and Enron declared losses of $600 million. Investor losses on market capitalization from audit failures continued to grow.
In order to prevent future accounting scandals, the Sarbanes-Oxley Act was put into place in 2002.
The first scandalous business that used fraudulent accounting practices was Enron. They were reported to have used special purpose entities, which allowed them to keep debts off their balance sheet. This made it look like they were doing much better than they actually were. Eventually, their stock prices crashed and they had to declare bankruptcy.
Another company that was caught up in an accounting scandal was WorldCom. They were found to have been inflating their earnings by $3.8 billion. As a result of this, the company had to file for bankruptcy protection.
These two companies brought about many changes in the accounting world. The Sarbanes-Oxley Act was put into place in order to prevent future accounting scandals. This act placed many restrictions on how companies can report their financials.
The Enron and WorldCom scandalous businesses brought about many changes in the accounting world, which included the Sarbanes-Oxley Act being put into place in order to prevent future accounting scandals.
SOX was designed to establish compliance regulations. The new rules, put in place “to protect investors by improving the accuracy and reliability of corporate disclosures made pursuant to the securities laws, and for other purposes” (SOX, 2002), were much more strict.
The 2002 Act mandated that the CEO and CFO of a publicly held company must attest to the accuracy of financial statements.
The SOX compliance deadline was set for June 15, 2004 (Waters, 2005). As this date approached, it became apparent that many companies were not going to be able to meet the deadline. In fact, by May of 2004, “64% of public companies said they were not ready to comply with all provisions” (Lyngaas, 2004).
This lack of preparedness was due in part to the fact that the cost of compliance was much higher than originally estimated. A study done by Financial Executives International found that “the average cost per company for compliance was $4.36 million, with a median cost of $1.6 million” (Lyngaas, 2004). This was significantly higher than the original estimate of $91,000 per company (Josten, 2003).
Despite the high costs, many companies found that they had no choice but to comply with the new regulations. Failing to do so could result in criminal charges, as well as damage to the company’s reputation. In addition, Sarbanes-Oxley was designed to make it easier for shareholders to sue companies and their officers for fraud. This increased liability made it even more important for companies to ensure that they were in compliance with the new law.
The most fundamental reform of SOX was the creation of the Public Company Accounting Oversight Board (PCAOB). The PCAOB oversees auditors of public companies in order to protect the interests of U.S. investors. Arthur Anderson went out of business following their decline and indictment, and this was the second major change that occurred as a result of the Enron scandal.
The fall of Enron Corporation in 2001 revealed widespread corporate fraud. The scandal also brought into question the accuracy of financial reporting by public companies. In response to these revelations, the U.S. Congress passed the Sarbanes-Oxley Act (SOX) in 2002.
SOX includes provisions that hold CEOs and CFOs personally responsible for the accuracy of their company’s financial reports. It also requires that all public companies have an independent audit committee to oversee the accounting process. Finally, SOX created the Public Company Accounting Oversight Board (PCAOB) to oversee the auditors of public companies.