SEC charges against Cardillo Travel Systems executives and compliance violations

Explain the Securities and Exchange Commission's rationale to charge Cardillo executives with each of the following violations:

Making false representations to outside auditors

Without a doubt, executives of Cardillo Travel Systems made incorrect accounting transactions. As a result, this gave rise to false representations to external auditors. The rational for the SEC to charge these executives with this particular violation is linked to Management's Report on Internal Control Over Financial Reporting Under Section 13(a) or 15(d) of the Securities Exchange Act of 1934. In accordance to this guideline, the SEC expects the company's management to be accountable for maintaining an internal control system over financial report. This is so as to offer sensible guarantee with respect to the reliability of preparing and reporting of financial statements for external users of such statements, comprising of the external auditors (SEC, 2007).

Failing to maintain accurate financial records

Management of a company is obligated to implement good governance and internal control with respect to financial reporting. In the case of Cardillo Systems, considering Smith functioned in a professional and impartial manner by repudiating to sign the affidavit concerning the United Airlines transaction, ought to have been an indication to the executives of the company that falsifying to show the $3 million threshold was a mistake. In particular, the action of the management by placing a deceptive adjusting entry was in violation of section 13(b) 2 (A) set by the SEC. In accordance to this rule, companies are mandated to create and maintain financial records and accounts in accurate detail centered on the GAAP (SEC, 2003).

Failing to file prompt financial reports with the SEC

The executives of Cardillo were in violation as they failed to timely report material financial penalties in the amount of $685,000 to the SEC linked to the settlement in the law suit. The SEC has a reasonable case in charging them as they were in violation of section 13(a) of the Securities and Exchange Act. Based on this section, the SEC is entitled to carry out an administrative proceeding against the late filer and this could in the end bring about the revocation of the company's registration (SEC, 2014).

Violating the insider trading provisions of the federal securities laws

The executives of Cardillo were in violation of insider trading provisions, owing to the fact that they made a shareholder equity transaction through the issuing of 100,000 shares of the company's stock, with the excuse of obscuring for the substantial financial penalties charged by the court. The SEC's actions are rationalized as this undertaking was in violation of section 10b-5 of the Securities and Exchange Act. Rule 10b5-1 provides that an individual trades on the basis of material nonpublic information if a trader is aware of the material nonpublic information when undertaking the purchase or sale. In addition, this guideline provides that individuals obtaining confidential information under circumstances outlined would owe a duty of trust or confidence (SEC, 2013).

Determine who was in violation or compliance of the AICPA's Code of Professional

In this case study, there were individuals who violated the AICPA Code of professional conduct and there are those that complied with it. The individuals that complied with the AICPA Code of Professional conduct consisted of Russell Smith, Helen Shepherd, and Roger Schlonsky. To begin with, Smith properly gave advice to Cardillo's executives informing them that their effort to include the $203,000 transaction would be an incorrect item in the financial report. In addition, his repudiation to sign off on the transaction was an act of compliance to the code of professional conduct, which outlines the importance of integrity amongst professionals. Secondly, Shepherd provided services as an independent auditor. She demonstrated expected professional precaution and skillfully skeptical of her conclusion concerning the organization's financial statements. She clearly attempted to explain to Cardillo's executives that the $203,000 transaction amount could not be recorded in the financial books as a revenue amount.

Third, Schlonsky was a representative of KMG Main Hurdman. It can be perceived that his actions were in compliance with AICPA's Code of Professional Conduct. In particular, he laid out the proper way in which the organization would evade being in violation with the regulations set by the SEC. This was to record the $203,000 transaction amount in the financial books as revenue but on a pro rata basis over the 5-year contract period. He made it clear that recording the amount in another way would give rise to severe misgivings by the SEC with respect to material misstatements.

In contrast, one of the key personnel of Cardillo Travel Systems that was not in compliance with the AICPA Code of Professional Conduct is William Kay, who acted as vice president for finance. His actions encompassed making an entry adjustment of $203,000 recording the transaction as revenue generated. This action was against the rules, owing to the fact that Kaye not only knew but was also given advice against such financial recording. The adjustment entry was potentially had a misleading impact on the judgment of the company's financial statement users.

Analyze the actions taken by Cardillo's outside auditors and evaluate the level of efficiency of the audit risk management in this case study. Provide support for the rationale

The external auditors of Cardillo included Roger Schlonsky and Helen Shepherd. The actions undertaken by these auditors demonstrated high levels of professional scrutiny whilst performing their expected duties. It is imperative to note that the fundamental responsibility of the external auditor is to express an opinion regarding the reliability of the entity's financial statements and also provide sensible guarantee to the users of such statements that the information asserted is true and accurate. In this case, it can be perceived that Helen Sheherd did request the CEO of Cardillo for permission to scrutinize and make verifications that the $203,000 amount was not to be refunded. Furthermore, as expected, the external auditors did report their incongruity with the company regarding the transaction amount (Rittenberg et al., 2010).

Determine whether or not the five (5) components of internal control were being followed. Support the response with at least two (2) examples

The five components of internal control include risk assessment, control activities, control environment, information and communication, and lastly monitoring. Bearing in mind the actions of the company's executive regardless of the advice given, Cardillo did not have a good control environment. Secondly, management of the organization had significantly poor risk assessment bearing in mind that a financial entry adjustment was recorded yet it was known that it would be misleading. There is also poor communication as the financial information was relayed in an untimely manner. Lastly, there was inadequate monitoring to assess whether there was proper implementation of the internal controls. One example to back this up can be seen through the actions of William Kaye who failed to sufficiently monitor the internal controls, failed to undertake the counteractive action against the apprehensive financial transactions to make certain that the internal control was functioning efficaciously. A second example takes into account the actions of Rognlin, the CEO of the organization as well as chairman of the board telling the accountant to sign off on a falsified document in order to achieve the $3 million amount that was necessitated (Rittenberg et al., 2010).

Create an argument for or against whether auditors have a responsibility to assess the judgment of the decisions made by Cardillo's management. Support the argument

The auditors have a fundamental responsibility to evaluate the judgment of the decisions made by the organization's management. It is imperative to point out that the decisions made by the management are substantial and therefore auditors are culpable in ensuring that they do not render any material misstatements. In this case, it was in fact vital for the auditors to collect information regarding the $203,000 financial transaction and assess whether it was earned or not (Rittenberg et al., 2010).

References

Rittenberg, L. E., Johnstone, K. M., & Gramling, A. A. (2010). Auditing: A business risk approach.

Securities Exchange Commission (SEC). (2003). Recordkeeping and Internal Controls Provisions. Retrieved from: https://www.sec.gov/spotlight/fcpa/fcpa-recordkeeping.pdf

Securities Exchange Commission (SEC). (2007). 17 CFR PART 241: Commission Guidance Regarding Management's Report on Internal Control Over Financial Reporting Under Section 13(a) or 15(d) of the Securities Exchange Act of 1934. Retrieved from: https://www.sec.gov/rules/interp/2007/33-8810.pdf

Securities Exchange Commission (SEC). (2013). Insider Trading. Retrieved from: https://www.sec.gov/answers/insider.htm

Securities Exchange Commission (SEC). (2014). SEC Announces Charges Against Corporate Insiders for Violating Laws Requiring Prompt Reporting of Transactions and Holdings. Retrieved from: https://www.sec.gov/News/PressRelease/Detail/PressRelease/1370542904678#.VNKjv2x0wd