Olympus: Where were the auditors?

By Jonathan Weil Time of article published Nov 14, 2011

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If you happen to be a connoisseur of accounting scandals, then the past month or so has been about as good as it gets, capped by the unfolding disaster at Olympus. On the flip side, if you are an auditor for a big accounting firm, it just got that much harder to argue that society should value your services.

The scam at Olympus was simple. The Japanese maker of cameras and endoscopes hid losses by treating them as assets. It said it had been doing so since the 1990s.

Where were the auditors? While we still don’t know the full extent of what they knew and when, just looking at who the outside auditors were is fascinating.

Olympus’s auditor in the 1990s was the Japanese affiliate of Arthur Andersen, then one of the so-called Big Five accounting firms. After Andersen collapsed in 2002, KPMG acquired its Japanese practice and took over Olympus’s audit. KPMG remained the auditor through 2009. Olympus switched to Ernst & Young later that year.

The ghosts of Andersen may still be with us. It was indicted in 2002 over its conduct as auditor for Enron. Big accounting frauds turned up later at many of its former clients – names that included WorldCom, Dynegy, Qwest, Freddie Mac and Refco.

The Financial Times reported last month that KPMG had raised questions at some point about Olympus’s accounting. But no disagreements between KPMG and Olympus were disclosed publicly. Nor did Ernst & Young’s opinion letters flag any problems. Its latest audit report, signed June 29, noted that the firm audited Olympus’s financial statements only for the fiscal years 2010 and 2011, and that the company’s 2009 books were examined “by other auditors” whose report “expressed an unqualified opinion”. Now both Ernst & Young and KPMG have egg on their faces.

You can hear the echoes of past scandals, too, in the collapse of MF Global Holdings, which was built partly through an acquisition of Refco’s assets in 2005. MF’s auditor, PwC, as recently as May said its controls were fine, as did MF’s chief executive at the time, Jon Corzine. Whether that was accurate is now in question. More than a week after MF filed for bankruptcy, there’s still about $600 million (R4.7 billion) missing and unaccounted for.

Then there’s last month’s implosion at Dexia, the French-Belgian lender that took a government bailout to avoid collapse. Dexia got a clean audit opinion from Deloitte’s Belgian affiliate in March.

So many large companies have blown up after getting the all-clear from a Big Four accounting firm that many people regard auditor opinion letters as a joke. The client pays the auditor, after all. Regulators for decades have tried figuring out ways to get around this fundamental flaw by passing all sorts of rules requiring that auditors be “independent”. New waves of accounting scandals keep coming anyway.

Yet the next logical step – stripping the accounting profession of its golden goose by making outside audits voluntary for public companies – always has seemed like a horrible idea, because it practically would be an invitation for more frauds.

At least the public can revel in the entertainment value of all these scandals. It may not be much of a silver lining, but it is something to distract us from the obvious conclusion that we’re stuck for now with a system that too often doesn’t work.

The biggest fear for the Big Four cartel should be that someday investors will become so fed up that they demand the status quo be chucked entirely, figuring they’ve got nothing left to lose. We’re not there yet, but give it time. If the auditing industry can’t find a way to re-instill value in its most basic product, even terrible solutions may start to look like drastic improvements.



* Jonathan Weil is a Bloomberg columnist.

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