Accounting in Crisis

Accounting in Crisis

Between December 2001 and July 2002, four major U.S. corporations -- Enron, Global Crossing, Adelphia and WorldCom filed for bankruptcy, constituting the most serious outbreak of corporate bankruptcies in U.S. history. These companies had hidden their true financial health from creditors and shareholders until an inability to meet financial commitments forced them to restate earnings that revealed massive losses, ultimately leading to a financial meltdown. Since most of the financial irregularities were committed by the management of the companies with the tacit or even active collusion of accountants and auditors, the prestige and public image of the accounting and profession plummeted to an all-time low. Egged on by government legislation such as the Sarbanes-Oakley Act of 2002 and stung by its own falling reputation, the auditing and accounting profession was forced to adapt to the changing environment. In this paper, I shall review the conditions which caused the role of accounting and auditing profession to change and what major changes occurred as a result of the accounting scandals.

Conditions that Caused the Changes

Even before the highly publicized financial scandals in the early 2000s, the accounting profession had seen a significant fall in its attractiveness among students, which was reflected in a 25% drop in award of accounting degrees in just 4 years from 1996 to 2001 in the United States (Inman qtd. By Colson, 2002, p. 21). Accounting education was slow to respond to the rapidly changing business environment and was perceived to be overly narrow in scope. As a result, most recruiting firms started to prefer hiring MBAs and professionals with general degrees for positions previously reserved for professional accountants. Even as the educators and accounting organizations were struggling to make the education of accountants and auditors more broad based and rigorous, the profession was hit by the double whammy of a downturn in the U.S. economy (exacerbated by the 9/11 terror attacks) and the high profile business scandals at Enron, WorldCom, and Global Crossing. Since almost all of the scandals involved filing of inaccurate and misleading financial statements prepared with the collusion of accounting firms and auditors, it was only natural that the prestige and public image of the accounting profession would nosedive to an all-time low. (Ibid.).

Major Changes in the Accounting Profession

The financial scandals proved to be a turning point in many ways for the accounting profession. The public outcry forced the legislatures to reexamine the regulatory environment for businesses, resulting in the enactment of the Sarbanes-Oxley Act in July, 2002, which is the most significant accounting legislation since 1933. It also forced the accounting professionals and their organizations such as the American Institute of Certified Public Accountants (AICPA) to make a concerted effort at restoring their fallen reputation. One of the key lessons of the scandals was the realization that accountants and auditors could play an important role in creating an ethical business environment and promoting ethical business practices. The importance of ethics in accounting education, examinations and the licensing process is, thus, now widely recognized. For example, changes have been made in the Certified Public Accountants (CPA) exams by increasing the emphasis on ethics and requiring candidates that have passed the CPA Exam to take a separate ethics exam (Gabbin, 2002).