Deck 2: Ethics Governance Scandals

Question 1

Why did Arthur Andersen go along with each of these mechanisms?

Answer 1

It is unclear if Arthur Andersen was aware of the manipulations as (according to SEC comments), WorldCom went to great lengths to conceal the manipulations. That said, Arthur Andersen's failure to identify these manipulations (or to follow up on them) raises the question of how effective Andersen's audit practices were. As in the Enron case, WorldCom was a lucrative consulting client for Andersen, and it may have been that the auditor chose not to confront management.

Question 2

What should the internal auditors have done that might have assisted the directors?

Answer 2

Enron's auditors failed in their professional duty to be on the alert for flaws in Enron's conflict of interest policies, and any lack of compliance. When a policy was/is set aside by the Board (such as the decision to allow CFO Fastow to create, monitor, oversee and report on the entire SPE process , a clear violation of internal control policies calling for segregation of duties), internal audit should have been advised or should have realized this by screening the relevant minutes. Unfortunately, in this case, the internal auditors were the same as the independent auditors, creating a lack of checks and balances. The internal auditors in this case failed to identify and report on any questionable transactions. Their reports should go the Board of Directors as well as management.

Question 3

Are the reforms undertaken by the SEC (see http://www.sec.gov/spotlight/sec -postmadoffreforms.htm) tough enough, and sufficiently encompassing?

Answer 3

According to the SEC website (http://www.sec.gov/spotlight/secpostmadoffreforms.htm), the steps taken by the SEC following the Madoff scandal include:
• Revitalizing the Enforcement Division
• Revamping the handling of complaints and tips
• Encouraging greater cooperation by 'insiders'
• Enhancing safeguards for investors' assets
• Improving risk assessment capabilities
• Conducting risk-based examinations of financial firms
• Improving fraud detection procedures for examiners
• Recruiting staff with specialized experience
• Expanding and targeting training
• Improving internal controls
• Advocating for a whistleblower program
• Seeking more resources
• Integrating broker-dealer and investment adviser examinations
• Enhancing the licensing, education and oversight regime for 'back-office" personnel
These steps will certainly make the investigation process intense, however, as with many reforms instituted following a fraud or audit failure, only time will tell if the reforms will be effective and it is likely that they will only be effective until the next new scheme comes along. In addition, much will depend on how well these reforms are executed given funding pressures on the SEC and other regulatory agencies.

Question 4

Did Markopolos act ethically at all times?

Question 5

Did Enron's directors understand how profits were being made in this segment? Why or why not?

Question 6

Identify conflicts of interests in:
• SPE activities
• Arthur Andersen's activities
• Executive activities.

Question 7

How should WorldCom's board of directors have prevented the manipulations that management used?

Question 8

What were the most surprising aspects of Markopolos' verbal testimony on YouTube at http://www.youtube.com /watch?v=uw_Tgu0txS0?

Question 9

Do you think that the events recorded in this chapter are isolated instances of business malfeasance, or are they systemic throughout the business world?

Question 10

Does it matter that Madoff's auditor, Friehling, was his brother-in-law?

Question 11

How much time should a director of Enron have been spending on Enron matters each month?

Question 12

The events recorded in this chapter have given rise to legislative reforms concerning how business executives, directors, and accountants are to behave. Is this a case of too little legislation being enacted too late to prevent additional business fiascos?

Question 13

Enron's directors realized that Enron's conflict of interests policy would be violated by Fastow's proposed SPE management and operating arrangements because they proposed alternative over-sight measures. What was wrong with their alternatives?

Question 14

Did those who invested with Madoff have a responsibility to ensure that he was a legitimate and registered investment advisor? If not, what did they base their investment decision on?

Question 15

Is there anything else that can be done to curtail this sort of egregious business behavior other than legislation?

Question 16

Bernie Ebbers was not an accountant, so he needed the cooperation of accountants to make his manipulations work. Why did WorldCom's accountants go along?

Question 17

How many large company boards should a director serve on? How would you characterize Enron's corporate culture? How did it contribute to the disaster?

Question 18

Many cases of financial malfeasance involve misrepresentation to mislead boards of directors and/or investors. Identify the instances of misrepresentation in the Enron, Arthur Andersen, and WorldCom cases discussed in this chapter. Who was to benefit, and who was being misled?

Question 19

Does it matter that Friehling did no audit work?

Question 20

Should investors who make a lot of money (1 percent per month while markets are falling) say "Thank you very much," or should they query the unusually large rate of return they are receiving?

Question 21

Use the Jennings "Seven Sign" framework to analyze the Enron and WorldCom cases in this chapter.

Question 22

Ken Lay was The chair of the board and The CEO for much of the time. How did this probably contribute to the lack of proper governance?

Question 23

Should investors who made money from "investing" with Madoff be forced to give up their gains to compensate those who lost monies?

Question 24

Rank the worst three villains in the film Wall Street: Money Never Sleeps (2010). Explain your ranking.

Question 25

Why would a board of directors approve giving its Chair and CEO loans of over $408 million?

Question 26

Is this simply a case of "buyer beware"?

Question 27

In each case discussed at some length in this chapter-Enron, Arthur Andersen, World- Com, and Bernie Madoff-the problems were known to whistle-blowers. Should those whistle-blowers each have made more effort to be heard? How?

Question 28

Comment on the efficacy of self regulation in the form of FINRA, and in respect of the audit profession. What are the possible solutions to this?

Question 29

Is Madoff's sentence too long?

Question 30

What aspects of the Enron governance system failed to work properly and why?

Question 31

Which segment of its operation got Enron into difficulties?

Question 32

How can a board ensure that whistleblowers will come forward to tell them about questionable activities?

Question 33

Describe the mechanisms that World- Com's management used to transfer profit from other time periods to inflate the current period.

Question 34

Answer Markopolos' questions: "How can we go forward without assurance that others will not shirk their civic duty? We can ask ourselves would the result have been different if those others had raised their voices and what does that say about self-regulated markets?"

Question 35

Some SEC personnel were derelict in their duty. What should happen to them?

Question 36

Why didn't more whistle-blowers come forward, and why didn't some make a significant difference? How could whistle-blowers have been encouraged?

Question 37

How were profits made in that segment of operations (i.e., what was the business model)?

Question 38

How could Markopolos and the other whistle-blowers have gotten action on their concerns earlier than they did?