California Micro Devices
California Micro Devices was the company that was established in 1980 by Chandrashekar M. Desaigoudar. The company was founded to specialize in assembling and selling computers and their components in California. Questionable questions about the company’s accounting were first recorded in 1989 by Price Waterhouse, an independent accountant. In this year of 1989, this accountant asked the company’s management to restate the financial statements in which a loss of three million dollars was recorded. Later, the company’s management, the auditing role, was switched to Coopers and Lybrand to cater to the company’s accounting processes. The case that will be addressed by the essay is the case that occurred in 1994 (Choo, et al., 2005). This year, the two accountants resigned as the company’s auditors, and Big Six firm was hired by the organization to meet the company’s accounting needs. Young and Ernst from this firm are the ones who discovered and reported the accounting irregularities of the company. When these irregularities were reported, the Securities and Exchange Commission of San Fransisco began investigations of the company. Investigations proved that there were financial irregularities in the California Micro Devices. The paper will discuss this accounting case in detail, based on the facts associated with the company’s audit failure. Also, the consequences of the case based on professionalism and accounting standards.
Facts of Audit failure
The facts of the audit failure of California Micro Devices involved the loss of resources in the company. The issue that went wrong in the company is that the company’s management created phony transactions of sales of the company, resulting in inflated sales. Also, there were records in which one executive of the company told the other executive to extend the quarter’s records to improve sales figures. According to the case, Desaigoudar instructed the other executive to keep the quarter open, which would create ways for inflation of sales (Choo, et al., 2005). These instructions led to activities in which the company would ship goods after a quarterly period is ended, which be wrongly booked. The other auditing issue recorded is that the company would approach customers to convince these clients to accept additional products. The customers were expected to receive the products sooner that they were required to get these goods. If customers refused to accept this approach, they would go ahead and make invoices to prove that sales were occurring. In 1994, financial analysts also raised some concerns about the company’s accounting issues based on accounting practices. The accounts receivable were increasing according to these analysts that were not relevant to one quarter. The analysts’ results proved that California Micro Devices was shipping products to window dress the earnings and sales, and this was accounting fraud. When a company personnel conference and the accounting analyst were called, Desaigoudar admitted that these questionable business transactions were known to them. The claim about the Asian distributors who had been said to delay the products was raised (Choo, et al., 2005). The analysts asked Desaigoudar on these Asian distributors’ details based on the location, but he could not provide an answer for this. This was proving that business transactions were not validated, and this led to the accounting issues.
In 1994, it was Ernst and Young from the Big Six firm who uncovered the financial irregularities that were affecting the organization. According to the article, these two said that they had found accounting and other irregularities in the California Micro Devices. The report proved that the company had continued to make efforts to make deliberate overstates. One of these individuals’ findings was a revenue recognition problem in which the company would report sales of a quarter that had occurred in previous quarters. Fraudulent practices on sales were also recognized in which the management of the company would create invoices for sales and lading bills. Misclassification of accounts is the other issue that was raised. In this malpractice, California Micro Devices would intentionally inflate the gross profits through the classification of nonproducts and product sales. The auditors in the company failed in their responsibility and therefore resulted in the occurrence of the issues. Effective communication between predecessors and the successor auditors lacked in the company making it hard for smooth auditing processes (Choo, et al., 2005). For example, the article states that when Cooper and Lybrand resigned from the company, they withdrew the reports associated with the financial year of June 30, 1994. Therefore, the financial statements of 1994 were not audited and hence played a significant role in the audit failure case in 1994. When the case was occurring, auditors were getting employed and getting fired while others resigned when they noted the issues that were occurring in the business. They failed in their ethical responsibility, which, in the case, failed the company.
Consequences of Failure
Two Generally Accepted Auditing Standards were violated in the case, and some consequences were felt. The auditors failed to comply with the third standard in which auditors are required to plan and perform with professional skepticism. The other standard that was violated was the standard that indicates that auditors are expected to obtain enough evidence by performing the audit procedures s as to have a reasonable basis once the question on financial statements is asked. The auditors in the case failed to comply with these auditing standards based on confirmation of accounts receivable, write off accounts, and sales and allowances (D’Aquila & Capriotti, 2011). The case allowed the accounting fields in the United States to develop new standards that would be used by auditors in the country. The new standards were expected to reduce fraudulent cases in the United States. The following contents were addressed are fraud risks, work paper, professional skepticism, and analytical procedures. The consequences are that new general auditing standards were established to ensure that the auditing process adhered to ethical responsibilities. The consequences were also based on the legal procedures if the new standards were violated, resulting in an improvement of the accounting procedures.
The consequence of the case also influences the profession of the auditors and the managers of the company. They proved that Marrie and Berry had failed to show professional skepticism.
Professional skepticism is defined as the attitude of the professional that involves questioning. This aspect allows the professionals to be alert to the conditions that show misstatement due to errors of fraud and critical assessment of the evidence used in the audit. In this case, these two individuals ignored red flags that were being raised, and they were unmistakable (US Securities and Exchange Commission, 1999). These red flags showed that the organization had possible accounting irregularities that needed to be addressed before the impacts got worse. The red flag was supposed to alert the auditors to prevent severe outcomes, but these professionals lacked professional skepticism that affected the company’s accounts and finances. Professional skepticism was not followed by Berry and Marrie, in which they failed to follow the auditing standards in the process of inventory of property and equipment.
The consequence of the case was that auditors and managers of the organizations are expected to behave with professional skepticism. In case of irregularities through misstatement, the management should not avoid avoiding legalities that drug the production behind.
Conclusion
In conclusion, accounting irregularities are experienced in many countries, and in many cases, the issue would be solved before it got out of hand. The case discussed above could be avoided if the whistleblowers were given the right attention. Generally Accepted Auditing Standards should be adhered to reduce accounting malpractices. Ethically, these standards help in ensuring that the finances of the company are protected. The essay has mentioned that professional skepticism would be applied to prevent accounting malpractices. If Marrie and Berry had used professional skepticism, they would have avoided the serious consequences that were experienced. Negative consequences, like legal cases, can be avoided. California Micro Devices was involved in legal proceedings to identify remedial actions against the company. Legal cases deplete the company’s resources and can result in bankruptcy, hence affecting the company’s resources. Auditors and managers should be ethically responsible, adhering to accounting standards, and following professional skepticism. Ethical responsibility and professional skepticism also ensure that the company has a good reputation that attracts customers to the business. The 1994 California Micro Devices company ruined the company’s reputation, and this would be controlled through ethical responsibility.