Andersen’s Reputation in Shreds
Think straight, talk straight.
That motto was coined by Arthur Edward Andersen, a Northwestern University accounting professor who made standing up for what’s right the bedrock principle of the company he founded 88 years ago.
What John Wayne was to westerns, Andersen was to accounting--demanding absolute honesty and probity from employees and clients alike. Andersen’s fastidiousness even extended to an employee dress code, which for years required all auditors to wear fedoras on appointments, no matter the weather.
Andersen’s company grew into the world’s fifth-largest accounting firm, with more than 100,000 corporate clients, $9 billion a year in revenue and 85,000 employees around the world. More than that, it helped set ethical standards for the entire profession.
“Arthur Andersen wouldn’t put up with anything that wasn’t complete, 100% integrity,” said George R. Catlett, 84, a retired Andersen partner from Evanston, Ill. “If anybody did anything otherwise, he’d fire them. And if clients wanted him to do something he didn’t agree with, he’d either try to change them or quit.”
Today the Chicago-based firm, known simply as Andersen, is an emblem of accounting misdeeds, the focus of congressional investigations and the butt of presidential jokes.
Andersen vouched for financial statements that overstated Enron Corp.’s earnings by $586 million over nearly five years. It has admitted shredding documents even after the Securities and Exchange Commission began examining Enron’s collapse, the largest corporate bankruptcy in U.S. history.
The scandal threatens the survival of Andersen. And because of the company’s prominence, the disclosures are reverberating widely, shaking investors’ confidence in the profits and losses reported by corporate America. Members of Congress and federal regulators are examining the accounting industry’s practices and standards.
“The conscience of the industry, essentially, appeared to sell out,” said Bill Cummings, an accounting professor at Northern Illinois University and a past president of the American Accounting Assn.’s Midwest region. “I think it’s pure and simple. It’s greed and the allure of the big-money clients.”
Andersen’s role in the Enron collapse has revealed the “dark side” of a profession whose independence has been compromised by the chase for multimillion-dollar fees, Cummings said.
Like many accounting firms these days, Andersen wore two hats at Enron. It was the company’s independent auditor, responsible for ensuring that its financial statements were accurate. It was also a financial consultant, helping Enron executives devise ways of running the business more profitably and reducing its tax bill.
Andersen auditors and consultants occupied a floor of their own in the energy company’s gleaming Houston headquarters. They carried Enron-issued electronic ID cards, mingled at office picnics--and even wore Enron golf shirts.
Investigators are looking at Andersen’s alleged role in setting up complex transactions that inflated Enron’s earnings by keeping massive debts off the company’s books. Andersen has claimed that its accountants were misled by Enron.
Arthur Andersen himself wouldn’t have gotten so cozy with a client, to judge from accounts of his career. The son of Norwegian immigrants, Andersen is described as crotchety, opinionated and stubborn.
Company lore has it that he lost the prized E.I. du Pont account in the 1930s over an interpretation of operating income. Du Pont executives insisted on using a more liberal definition that would lump in the value of the company’s large investment in General Motors. Andersen’s auditors said no, and Andersen backed them up. Du Pont found another auditor.
The episode sealed the reputation of Andersen and his firm. The company still guards that legacy jealously, said Andersen spokesman Dave Tabolt. “It’s an issue that people are concerned about every day,” he said.
Even now, Andersen employees can be fired for fudging a meal on an expense form or lying about their college grade-point averages, say former partners.
Before accepting a client, Andersen performs background checks on its top executives. Andersen auditors are told to summarily “leave the field”--walk away from the job--if they meet unreasonable resistance.
The firm also has shaped reforms within the accounting profession.
Firm Insisted on Tight Central Controls
Auditors perform a vital role in the nation’s financial system by certifying the accuracy of profits, losses, debts and other financial data reported by companies. They are hired by a company’s shareholders and its board of directors to ensure that financial statements meet federal disclosure standards.
During the 1950s and 1960s, Leonard Spacek, Andersen’s successor, openly criticized the profession for tolerating what he considered a sloppy patchwork of accounting standards that left the investing public no way to compare the financial performance of different companies.
Spacek’s evangelism led to the creation of the Accounting Principles Board, an industry group that established uniform financial accounting and reporting standards. In 1973, the board was replaced by the Financial Accounting Standards Board, an independent body recognized by the SEC.
“They wanted what they considered to be substandard accounting principles . . . to be improved,” said Stephen Zeff, an accounting professor and historian at Rice University. “The accounting establishment back East . . . didn’t want the cage rattled. Arthur Andersen rattled the cage.”
The firm also has set itself apart over the years by cultivating a corporate cohesiveness that borders on clannishness, say experts and former employees.
The firm has always insisted on tight central controls and uniformity. Before computers, Andersen partners around the world worked off a cross-indexed central filing system that listed every client, audit and supporting memos.
At the firm’s campus in rural St. Charles, Ill., about 40 miles west of Chicago, uniformity is stressed to new recruits during an intensive two-week training course.
“They always talked about the one-firm philosophy. . . . No matter where you are, there was one firm, one philosophy,” said Vadim Fridman, 31, a former Andersen auditor who is now chief financial officer for St. Maartens Spirits, a distributor of premium liqueurs in Santa Barbara.
Over the years, the practice of accounting changed in ways that Andersen’s original credo didn’t anticipate.
Accounting firms now offer lucrative consulting services. Their clients include complex businesses with dozens of different divisions. And when companies go bad, shareholders often target the auditors as well as the management.
Worries over shareholder lawsuits rippled throughout the firm and shaped how audits were conducted during the 1990s, former employees say.
Auditors use two files to keep records of their work. One is for working papers that offer supporting documentation for the auditor’s findings about a company’s finances. The other file is for personal notes, memos and other documents. At the end of an audit, papers in the second file are destroyed while those in the first are preserved.
“The emphasis when I was at Andersen was to take more and more out of the work file. They wanted fewer and fewer source documents to be in the source file, across the board with any client,” said a former employee in Houston, who left the firm about a year ago. “The less of that you keep in the file, the less likely there is of someone coming back in and finding a smoking gun.”
Equally troublesome, say regulators and critics, was Andersen’s habit, common in the industry, of encouraging its auditors to seek employment with the companies they were auditing. This gave Andersen a network of allies in big corporations and with it leverage to preserve its auditing and consulting contracts and prospect for new ones.
Andersen alumni hold top positions in industries where Andersen has a large share of the auditing business. Andersen is the dominant accounting company for Texas energy companies. Former Andersen executives hold top corporate slots at such companies as Dynegy, Petroleum Geoservices and Comstock Resources. All buy auditing services from Andersen, whose contracts are reviewed annually.
“We call it practice development,” said one Andersen alumnus. “The biggest reason to do it is, if there’s other [non-audit] work to be done, you want to be the first one they call.”
Case in point: Vadim Fridman. He worked in Andersen’s Woodland Hills office, auditing mid-size businesses. When he left the company, he wasn’t forgotten. “They’ve always maintained contact,” he said.
Two jobs later, an Andersen executive called him and asked whether he had any interest in becoming chief financial officer of St. Maartens Spirits, the Santa Barbara company.
“They did some [consulting] work for the company and came up with the fact they needed a CFO and got me the interview,” said Fridman, who ended up getting the job. If St. Maartens ever needs the services of a major accounting firm, he added, “obviously I’d lean toward Andersen. I know how they work.”
Over the years, Enron hired away dozens of current and former Andersen employees--including Sherron S. Watkins, the Enron vice president who eventually warned of the company’s collapse. In 1993, Enron shifted 40 employees to Andersen’s payroll when it hired the firm, already its outside auditor, to take over internal auditing as well.
Outside auditors examine transaction records to verify the accuracy of a company’s financial statements. Internal auditors monitor the effectiveness of the company’s internal financial controls.
The arrangement meant that Andersen would be essentially policing its own work, said one former Andersen energy expert.
In the case of another Andersen client, Waste Management Inc., the SEC cited such interlocking ties when it levied a $7-million fine against Andersen last year, the largest ever imposed by the agency on an accounting firm.
In that case, Andersen issued “materially false or misleading audits” that overstated Waste Management’s net income between 1993 and 1997 by more than $1 billion, the SEC said. The agency also fined four Andersen partners and barred them for varying periods from working on audits of publicly traded companies.
“Arthur Andersen and its partners failed to stand up to company management and thereby betrayed their ultimate allegiance to Waste Management’s shareholders and the investing public,” said Richard Walker, the SEC’s chief of enforcement.
The agency disclosed that every chief financial officer and chief accounting officer at Waste Management from 1971 until 1997 was a former Andersen auditor. Altogether, 14 former Andersen employees worked for Waste Management during the 1990s in key financial and accounting positions. Andersen and Waste Management paid $220 million to settle several lawsuits over accounting practices.
The case was one of the latest in a string of lawsuits and sanctions against Andersen or its partners for alleged shoddy or misleading work. In April, the SEC sued an Andersen partner for allegedly covering up a massive management fraud at appliance maker Sunbeam Inc. Andersen agreed to pay $110 million to settle a related shareholder lawsuit.
In 1999, the accounting giant paid $90 million to investors and $2.5 million to Connecticut authorities to settle allegations that it knowingly approved overly optimistic projections for real estate ventures launched by Colonial Realty, a commercial real estate company.
Those settlements have come as Andersen has fought tighter restrictions on the accounting industry.
Last year, Andersen led the lobbying campaign that ultimately defeated a proposed SEC rule to force accounting firms to separate their business consulting practice from auditing. Former SEC Chairman Arthur Levitt and others argued that the twin functions posed a temptation for firms to coddle high-paying clients or bury their accounting sins.
At Enron, Andersen collected $52 million for its auditing and consulting services for 2000.
The firm that once defied du Pont is accused of wilting in the face of a dubious client that paid it a million dollars a week in fees. “Nobody’s going to walk away from that,” said Cummings, the Northern Illinois University professor.
Andersen Chief Executive Joseph Berardino rose to the defense of his firm this week, saying the Enron debacle does not represent the true character of the company and its 85,000 employees.
“They want you to know that this is not their Andersen,” he said.
Berardino conceded the company was losing business. One recent defector is Keystone Automotive Industries, a Pomona-based distributor of auto parts. In November, the firm’s board voted to hire Andersen after using Ernst & Young as its auditor for 20 years. The board dropped Andersen when the Enron revelations began to roll.
“We just felt that there was so much noise surrounding this situation that maybe for us the best thing to do was not be second-guessed” by stockholders, said John Palumbo, Keystone’s chief financial officer.
Among the clients sticking by Andersen for now is Houston-based Swift Energy, an oil and gas exploration firm. Yet Bruce Vincent, Swift’s executive vice president, said he could understand why others might desert the company.
“The risk to Andersen is almost like that of a bank,” said Vincent. “If you have a loss of credibility, you have a run on the bank. If you have enough clients that start switching, they’re out of business.”
