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Accounting Fraud at WorldComStephanie WalkerFebruary 23, 2014ACCT461Case Study 7 5

Outline Explanation of the nature of the accounting fraud at WorldCom. The pressures that lead executives and managers to cook the books. The boundary between earnings management and fraudulent financial reporting. The reasons the actions taken by WorldCom managers were not detected earlier. The management control processes or systems that should have been in place to detect the actions that occurred. The responsibility of Bernard Ebbers, Arthur Andersen, and the Board of Directors. Betty Vinson, victim or villain? An opinion on how employees should react when ordered by their employer to do something they do not believe in or feel uncomfortable doing.

OverviewAccording to former U.S. attorney general Richard Thornburgh, WorldCom could not have failed as a result of the actions of a limited number of individuals. Rather, there was a broad breakdown of the system of internal controls, corporate governance and individual responsibility, all of which worked together to create a culture in which few persons took responsibility until it was too late (Anthony, 2011). WorldCom, a company built through rapid acquisitions had become the second largest long-distance company before filing for insolvency protection in 2002. The bankruptcy filing was the largest in United States history and the ensuing scandal was regarded as one of the most devastating corporate crimes on record.

Creative AccountingNature of Fraud

Between 1999 and 2002 WorldCom overstated its pretax income by at least $7 billion; the largest deliberate miscalculation in history at the time the company filed for bankruptcy protection in 2002. Subsequently more than 75% of company assets were written down; $82 billion.WorldCom used accrual releases; line item costs were estimated monthly. Scott Sullivan instructed staff to release accruals that were too high and directed David Myers to handle any resistance from senior managers to the releases. WorldCom management decided to stop recognizing expenses for unused network capacity; managers were instructed to reverse $227 million of capitalized non-revenue-generating line expenses.WorldCom transferred $771 million of line costs into capital expenditures.

Pressures Leading to the Cooking of the Books Organizational strategy Abuse of authority Promises Aggressiveness Disregard for legal functions Lack of internal controls No corporate Code of Conduct

The Boundary Between Earnings Management and Fraudulent Reporting

Earnings ManagementEarnings management is recognized as any attempt by management of business entity to influence or manipulate reported earnings by utilizing specific accounting methods, recognizing one-time non-recurring items, deferring or accelerating expense or revenue transactions, or using other methods to influence short-term earnings (Akers, 2007).Fraudulent ReportingFraudulent financial reporting is comprised of intentional or reckless conduct, acts, or omissions that result in financial statements that are materially misleading.

Why the Fraud was UndetectedA former WorldCom manager stated, Each department had its own rules and management style. Nobody was on the same page (Anthony, 2011).Corporate general ledger maintained in MississippiNetwork operations based in Texas Human resources department in Florida Legal department in Washington, DC

Internal Controls Establishment of responsibility Segregation of duties Documentation procedures Physical controls Independent internal verification Human resource controlsCorporate Code of Conduct

Internal control activities are the policies, procedures, and daily activities that occur within an internal control system. WorldCom operated without internal controls because of Bernie Ebbers disregard for the rules. A good internal control system should include all of the items listed. There are generally two types of internal control activities: preventive and detective.

Preventive control activities are designed to deter the instance of errors or fraud; activities include thorough documentation and authorization practices.Detective control activities are implemented to identify undesirable occurrences after-the-fact; activities include reconciliation.

WorldComAssigning Blame

Bernie Ebbers, the external auditors, and a passive Board of Directors are blameworthy in the WorldCom case. Ebbers had the most to lose if the truth were ever revealed. He used his authority to force managers to do whatever it took to accomplish his financial objectives. The Board of Directors approved large mergers with minimal information.Board approvals were granted that members had not approved.Ebbers was allowed to borrow unlimited amounts of money without seeking approval.Arthur Andersen did not verify WorldComs treatment of line costs or merger reserves; it relied solely on WorldCom management.

Betty Vinson, Victim or Villain?

A victim is someone harmed as a result of an action or an event and a villain is a person whose actions are important to the plot; both define WorldCom accountant Betty L. Vincent. Ms. Vinson was one of the accountants that made some of the fraudulent entries in the books at WorldCom. Ms. Vinson, 49, claimed that she was pressured by her superiors to make false entries. However, she admitted that she had put her own independent thought into how to fudge the numbers. Although it is not difficult to understand how Betty Vinson could buckle under pressure from management it is nearly impossible to support her actions. After all, she accepted a promotion and a raise for her complicity. Hence, Ms. Vinson was both a victim and a villain. She was a victim because she was harmed by the fraud at WorldCom. She was a villain because although she had a right of refusal she did not. Instead, she became a part of the plot.In summary, Betty Vinson and other key players in the demise of WorldCom are excellent examples of why an employee should consider the consequences when asked by their employer to do something they do not believe in or feel uncomfortable doing.

References

Akers, D. (2007). The CPA Journal. Earnings Management and Its Implications. Retrieved February 22, 2014 http://www.nysscpa.org/cpajournal/2007/807/essentials/p64.htm.Anderson, M.O. (2013). WorldComs Betty Vinson and Cynthia Cooper: A Tale of Two Professionals. Strategic Finance, 95(7), 48-51.Anthony, R., Hawkins, D. & Merchant, K. (2011). Accounting: Text and Cases, 13th Edition. McGraw-Hill Learning Solutions.Lanzano, L. (2005). Ex-WorldCom Accountant Gets Prison Term. Retrieved February 22, 2014 http://www.nytimes.com/2005/08/06/business/06worldcom.html?_r=0.Needles, B., Powers, M., & Crosson, S. (2008). Principles of Accounting, 10th Edition. Houghton Mifflin Company.The Thin Blue Line. https://www.google.com/search?q=pictures+of+cooking+the+books&client=firefox-a&hs=Nql&rls=org.mozilla:en-US:official&tbm=isch&tbo=u&source=univ&sa=X&ei=S4btUoXNNefWyQGR54DwCg&ved=0CEUQsAQ&biw=1280&bih=554#facrc=_&imgdii=_&imgrc=zmbbNCgVKTEVdM%253A%3Bk2PAaAp3cDsoRM%3Bhttp%253A%252F%252F3.bp.blogspot.com%252F-U2dY3ve8efc%252FUojSsHDxK9I%252FAAAAAAAACkk%252FbPfUa9zNB30%252Fs1600%252FCooking%25252Bthe%25252Bbooks.jpg%3Bhttp%253A%252F%252Fthinbluelineuk.blogspot.com%252F2013%252F11%252Fpolice-recorded-crime-consequences-of.html%3B1511%3B866.