Abstract Despite the claims from several accounting authorities, the Enron matter was much more than a “perfect storm,” i。e。, a concurrence of unpredictable, rare and unusual conditions that combined to create a unique, devastating event。 While the effects of Enron seriously and adversely affected the accounting profession, a critical analysis of Enron’s financial statements shows that a corporate collapse was inevitable。 The collapse arose in part from accountants moving away from competently auditing financial statements that would have provided real assurance to their readers。85078

The purpose of this paper is to show that if accountants had ethically applied the lessons of the financial reporting literature on fraud to produce effective and informative audits the Enron debacle would likely never have happened。 In fact, what some deemed accounting errors were most likely intentional misstatements。 The Enron debacle suggests that the profession should adopt more of a “back to basics” approach to auditing。

Keywords: Enron debacle; Perfect storm; Accounting

Several top leaders associated with financial reporting have called the events surrounding the financial collapse of Enron a “perfect storm”—a concurrence of unpredictable, rare and unusual conditions that combined to create a unique, devastating event。 American Account- ing Association President G。 Peter Wilson (2002, p。 3) stated that the perfect storm occurred between 1996 and 2000, “a period that presented an unparalleled opportunity to inadver- tently or intentionally misrepresent information。 Business risk was at an all time high, the un- derlying activities were remarkably difficult to measure reliably, and there were very strong incentives to manipulate reported numbers。” In the midst of Enron’s collapse, former SEC Chair Harvey Pitt called the current outdated reporting and financial disclosure system the

financial “perfect storm” (Thomas, 2002, p。 114)。 Moreover, William Harrison, CEO of J。P。 Morgan Chase, also called Enron the “ultimate perfect storm” (Asselin, 2002, p。 117)。 Much more than a perfect storm, Enron was just the first big tempest of an upcoming stormy season。 The financial reporting literature dealing with fraud has long predicted an imminent tur- bulent period in the US capital markets, fueled by an ever-increasing use of “aggressive,” “gray” or even fraudulent accounting practices。 While Financial Accounting Standards Board (FASB) Chair Jenkins (2002) claims that CPA firms providing both auditing and consulting services to clients create no conflict of interest, recent audit failures suggest oth- erwise。 The explosion in stock options and financial derivatives, the erosion of the auditors’ independence, and the desire to create wealth rather than ensure fairness, accuracy and transparency have led the slide toward the dark side of accounting。 The profession’s move- ment to a risk-based audit approach and its reluctance to accept more responsibility for detecting fraudulent financial reporting has created a climate within our financial reporting system that can unleash multiple financial storms that could impair our capital markets。 O’Malley (2002) also suggests that the accounting industry was relatively successful, since only a few audits failed among about 15,000 public companies。 But, if airplanes crashed as often as do audits, the Federal Aviation Agency would soon ground the industry。 Recent audit failures threaten to undermine confidence in the US financial markets for many years to come since investor confidence is easy to lose, but very difficult to regain。 In 1981 only three publicly traded companies were forced to re-state their financial statements, but the number has risen significantly in recent years; from 1997 to 2000, restatements doubled from 116 to 233。 Lynn Turner, Levitt’s former Chief Accountant, calculates that in the past 6 years, investors lost nearly $200 billion of earnings due to restatements and lost market