Principles of Auditing - AMRE Inc - Essay Example

Principles of Auditing By Principles of Auditing Case background AMRE, an American Remodelling company, commenced in 1980 with a primary motive of providing homes with sidings and furnished products. By the year 1987, AMRE had grown exponentially and had offset all other firms that provided the same services. This growth was attributed to the method of marketing it had employed that is, intensive advertisements via direct mail to clients and television broadcast (Duska & Duska, 2001). Also, the organization had computerized their sales activities and each salesperson’s activity was monitored so as to determine his or her performance, based on credentials like average sales in dollars for every appointment the salesperson had with a customer and the number of schedules with clients. In the long run, this AMRE was involved in an accounting fraud and the top officials we also unethical in performing their duties. This is a critically analysed and summarised below. Body of the analysis Following AMRE’s spectacular financial performance, especially in 1987, financial analysts tracking the companies were given, by the AMRE’s top officers, huge estimations of expected revenue and profit projections that would be achieved throughout the fiscal year. However, these projections, for the first quarter of the fiscal year, were not met and as a result, Robert Levin, an executive stakeholder instructed Dennie Brown, a chief accounting officer to inflate the net income for the first quarter of the fiscal year. Robert Levin in turn instructed the data processing vice president, Walter to alter the computerized records that stored records of sales. This was repeated for the second fiscal year and final culmination on the third and fourth year correspondingly (Hoffman, 2006). It can be clearly seen that firm violated the GAAP time period assumption accounting principle. According to this principal (Ken, 2006), the financial position of a given firm can be reported over a give short but defined interval period of time. It continues to advocate that, in case there is such an assessment, there should be a clear record of cash flow. This was not the case with AMRE’s auditing. In each of the quarter of the fiscal year, they would manipulated the financial records and no report of cash flow was seen (John, 2006). Secondly, they violated the full disclosure principle. The principle demands that any vital information that affects investor, stakeholders using financial statements, the information should be correctly relayed. The firm fulfilled a part of the principle of relaying the information however, it was not correct. During the fiscal year, AMRE’s executives decided to end the accounting fraud. Rather than disclosing the true records to their external auditors, Price Waterhouse, they transferred the fictitious 3$milllion to companies’ Deck division; a division meant to make courtyards for households. The remaining fabricated monetary records were regarded as losses and expenses and this was done by logical manipulation of entries. Consequently, they violated the code of transparency, they were not transparent their shareholders and also to third parties organisations like Price Watershouse, a firm that externally audited their financial records (Larkin & DiTommaso, 2004). In an endeavour to end and hide the fraud, AMRE employed another book-keeping officer, Mac Martirossian. It is evidently noted that he identified the numerous accounting fraud but when he brought the issue to light, the top executives decided reveal everything to him. With this knowledge, however, he could not relay it to the Price Waterhouse representatives when he had the opportunity to. One therefore concludes that, Martirossian violated the going concern principle. This principle asserts that a company continues to operate as long as it does not make losses or as long as it has enough resources to support its operation. In case it does not have such resources or it will be insolvent in a couple of year to come, the accountant has the mandate to make it known to the relevant stakeholders so that necessary measures can be taken to minimize or solve the problem. Martirossian clearly knew that the company had not future and this is clearly seen when he is restless about the same issue. However, when he had come in contact with relevant people like auditors from Price Waterhouse, he hid the information. As a result, thought the company did not fully collapse, it was shaken and lost customer loyalty. Profits are gains a firm obtains from its transactions and in any given transactions, expenses must be involved. According to accounting matching principle, it is demanded that expenses must match incomes. However with AMRE’s projected profits, they were contrary since most of them were inflated using complex methods herein referred to as “cost-per-lead” computation. The principle also forbids measurement of future expenses like advertisements. It argues that this expenses vary greatly with time and cannot be accounted for. According to an audit report AMRE’s had differed their advertisement cost and apparently, during the period which between 1987 and 1988, these costs were surprisingly increasing. Secondly, AMRE’s went against the monetary unit assumption principle. All the entries that were made on the books of account were fictitious figures which could not be accountable and quantified for. This violated the aforementioned principle which asserts that all accounting records ought to be of those that are quantifiable. It all gives guidelines on how to account for unquantifiable spending and declares that were that to happen, then such entries are never recorded in the accounting books. Finally, all recordings ought to be done using a stable currency as a base of which AMRE’s did not observe. Edward J. Smith and Joel E. Reed of the Price Waterhouse, violated the code of business by colluding with AMRE’s top official in hiding the accounting fraud. According to source information, Price Waterhouse employed EDP auditing procedures which are too powerful to detect fraud. However, they we approached by AMRE’s executives and were persuaded to bypass the EDP test. Secondly, Smith and Reed did not meet all the necessary qualifications of being professional auditors. They accepted information without testing it thoroughly for its worth and relevance. It is evidently recorded that they were given audited AMRE’s work papers, by one of their staff auditors and they did not carry out further auditing on the same. When one looks intently on the audit work paper report, it had incorrect information relating to AMRE’s inventory. Alternative solutions With the inability of Price Waterhouse to identify clearly the fraud claims within AMRE, alternative methods to investigate the scandal had to be employed. The SEC, Security and Exchange Commission had to investigate AMRE’s financial statements pertaining to the accounting fraud. On the other hand, AMRE’s officials tried to hide their fraud by channelling the fictitious revenue to conceptual investment in order to provide an alternative solutions in covering the fraud, however it failed. Conclusions/recommendations As to conclusion, companies and organisations ought to be sincere as far as their financial dealings are concerned. Firms should not manipulate their financial figures so as to attract investors or with an intent to gain any competitive advantage over other firms. Also, to manager and executives of firms should not enforce or entice workers who are working beneath them collaborate and assist in the executives mischief, rather, they should act as role models. This is clearly seen in the AMRE’s scandal. Top executives used accounting officer and company data controllers to satisfy their own gain and hide the truth. Moreover, in case of a fraud, executives should correct the situation before it becomes hard to solve. AMRE’s top officials tried to channel the fictitious assets to other operations but all in vain (Lubbe & Watson, 10). They had to employ another accountant with and endeavour to hide the truth but the reality lastly surfaced. Lastly, anybody who is guilt-ridden of accounting fraud, in any organisation, should accept his or her mistakes and work on being honest and transparent as the AMRE’s executives did. Implementation plan Both AMRE and Price Waterhouse failed as far as their objectives were concerned. AMRE had the mandate of providing services to homes while Waterhouse as an external auditing firm is required to conduct its operations with the highest level of integrity and transparency. In the long-run, they all failed and this may be attributed to poor implementation of initial plan they had. In order to prevent such incident from happening, the firms therefore need to implement some plans like revenue recognition principle. This stipulates that income is only recognized if and only if a commodity, product or service is delivered to a consumer. Secondly as a firm that deals with selling refurnishing products to households, they should adopt the plan or code of matching. That is recording of cost accumulated in undertaking business should be recorded concurrently with the revenue generated. For instance, AMRE deals with supplying sidings for home. Before the sidings become revenue, they were once assets to the company. This plan enables easy accounting as one will be able to know which inventory gave which revenue. The Price Waterhouse may as well embark on a plan that will ensure that they consistently adhere to one plan when undertaking their auditing operations. When one does this, meaningful comparisons can easily be carried out between accounting periods. When this company failed to use the EDP audit procedures in auditing AMRE’s accounts, there was inconsistency with the data collected. In case companies want to estimates some future projections about finances and appreciation of assets, accountants should adopt the principle of conservatism that asserts that estimates should not be too biased. Moreover, all firms should adhere to the business entity concept that is all the accounting procedures ought to be separated from individual undertakings. This means that proprietors are advised to put any private and personal inventory to the business balanced sheet (Porter & Simon, 2010). Finally, in some instances, a firm is cornered by compelling situations and they have to alter some of the principles they have set in order to achieve something. Some of this situations are either too expensive or too difficult to adopt. In such cases, accountants are advised to stick to the principle of materiality. That is, temporarily ignore other rules but ensure that financial records are not manipulated for selfish gains and if these records are manipulated in any way, the manipulation should be too insignificant to bring an impact. References Duska, R., & Duska, B. 2011. Accounting ethics 2nd ed.. Chichester, West Sussex: Wiley-Blackwell. Hoffman, W. 2006. The ethics of accounting and finance trust, responsibility, and control. Westport, Conn.: Quorum Books. John, C. 2006. Research on professional responsibility and ethics in accounting. Bingley, U.K.: Emerald. Ken, C. 2006. Ethics a handbook for financial services professionals. 4th ed.. Los Angeles, CA: Silver Lake Pub. Larkin, R., & DiTommaso, M. 2004. Wiley not-for-profit GAAP 2004 interpretation and application of generally accepted accounting principles for not-for profit organizations. Hoboken, NJ: Wiley. Lubbe, I., & Watson, A. 2006. Accounting: GAAP principles. Oxford: Oxford University Press. Porter, B., & Simon, J. 2010. Principles of external auditing 2nd ed.. Chichester, West Sussex, England: J. Wiley. Read More