Accountants play an integral role in helping individuals and businesses manage their finances and ensuring all financial records are maintained and reported accurately. However, this can make them liable for any incorrect statement or misrepresentation of financial health.
Due to accountants' significant responsibilities, many ethical standards have been put into place to prevent misleading financial information.
Ethical standards in accounting encompass the moral principles and rules that accountants are required to adhere to during their professional work. This is especially important during an audit. With the power that accountants hold when accessing different types of financial information, ethical standards help prevent any type of abuse or manipulation of numbers and funds.
The original ethical code was written in 1905 by the American Association of Public Accountants, making it the first set of ethical standards in the financial industry. Today, the ethical code has been updated and transformed into five subdivisions of principles that all CPAs are required to follow.
Integrity: Professional accountants are expected to be completely honest throughout all business relationships, and all information that accountants provide and report on is expected to be truthful. Accountants are also required to never be associated with information that is misleading or false.
Objectivity: Professional accountants should not be influenced by others or allow bias or conflicts of interest when reporting on financial statements.
Professional competence and due care: Professional accountants are required to maintain their knowledge and skills at the level needed to provide the best service to clients or employers. This level is based on current developments in practice, legislation and techniques in the accounting industry.
Confidentiality: Professional accountants should be respectful of their business relationships' confidentiality and are expected to never disclose any type of information unless there is a legal requirement to do so.
Professional behavior: Professional accountants must comply with all laws and regulations and refrain from any type of behavior that will hurt the reputation of the accounting profession.
These fundamental principles are the building blocks of accounting ethics and help shape the financial industry and its behaviors today. All professional accountants are required to comply with these principles.
Past accounting scandals
Ethical accounting practices are highly enforced due to past scandals that impacted businesses and their reputations. Here are highlights of some of the most significant accounting scandals in recent history.
Enron: Enron Corporation was a U.S. energy service company founded in 1985. Enron was a lead trader of energy between producers and customers and had continued success during the 1990s bull market. As competition began to increase in 2000, however, Enron started facing many difficulties as its profits decreased.
Enron began abusing the use of special purpose entities and dumped any of its troubled assets into those types of entities. Any problems that Enron was facing were kept off the books. creating the illusion that its financial health was not as problematic. By 2001, Enron's scandals started to come to light, and it posted a $648 million loss and a $1.2 billion decrease in shareholder equity. The Securities and Exchange Commission then launched an investigation into Enron, and countless Enron executives were sentenced to prison due to illegal financial practices.
Waste Management: Around the same time as Enron, Waste Management was involved in an accounting scandal of its own. In 1998, Waste Management was not meeting its target earnings, which would affect the company's chief officers' compensation. This situation caused chief officers to begin to commit fraud by changing financial statements that made it appear as though Waste Management's earnings were higher than they actually were. When an audit was conducted on the company's books, the officers went so far as to bribe the accountant who found discrepancies within their reporting.
Waste Management's owner and top executive were found guilty, and its auditor, Arthur Andersen, was fined $7 million.
WorldCom: WorldCom was once the biggest long-distance provider in America and had a market capitalization of $175 billion when technology was booming. When companies began cutting down on telecom services, WorldCom struggled to maintain its profits. To cover this up, WorldCom inflated its profits and falsely recorded expenses as investments. This led to an incorrect report of $1.4 billion in profit in the first quarter of 2002 instead of a loss.
Two whistleblowers, Cynthia Cooper, vice president of WorldCom's internal audit department, and Gene Morse, who was also on the auditing team, took matters into their own hands and investigated the company themselves. This investigation's findings led WorldCom to file for bankruptcy in July 2002.
Accounting regulations
Due to such extreme accounting scandals from some of the biggest companies in America, many regulations were put in place to curtail future instances of fraud. One major regulation enacted within the accounting industry at this time was the Sarbanes-Oxley Act.
The SOX Act was passed in 2002 following numerous accounting scandals, with Congress seeking to prevent company personnel from interfering with any type of independent audit that was being conducted. In addition, the SOX Act promoted:
- An internal control structure for financial procedures;
- Criminal liability to those who partake in unlawful actions; and
- Independence of audits.
It further prohibited:
- Manipulation and fraud;
- Companies from punishing whistleblowers; and
- Improper influence on audits.
This act, along with other laws and regulations and the accounting ethical guidelines, has been put into place in America to maintain trustworthy standards.
The future of accounting ethics
As our economy continues to grow and technology evolves, regulations are adjusted accordingly to maintain fundamental accounting principles. In one example on the technology side of things, artificial intelligence has recently emerged as a tool that many businesses are utilizing, resulting in a reassessment of certain practices.
The application of AI technology to accounting practices has been much talked about lately. The case study "
But this, of course, is merely one example. The concept of ethical accounting has developed over time, adjusting to laws, regulations and technological changes. As new challenges emerge in the future, it will be vital to always hold to the five principles of ethical accounting, as they can be applied to any accounting situation.
