1. What are the pressures that lead executives and managers to cook the books?

There are several situations that lead the executives and managers cook the books. Enron, Tyco, Global Crossing, Adelphia, WorldCom, and HealthSouth - the list continues to grow. While Enron is perhaps the most complicated fraud in the recent string of business failures, WorldCom was the most simple to perpetrate. WorldCom is a for profit organization that specialized in local, long distance and international plans, high cable internet, prepaid cards, and provided telecommunications to customers nationwide with business corporations making up the majority of the 20 million customers they served. Fraud is becoming increasingly prevalent and also public. Two of the largest corporate frauds in U.S. history, Enron and WorldCom, occurred in this decade, inspiring increased attention from both the financial press and government regulators. If overconfidence is the reason, does that mean systematically biased decision makers dominate the executive ranks? A lot of executives exhibit the characteristic of overconfidence in which their expectations are higher than what might be suggested, Overconfidence is a human characteristic that exists in the general population for certain types of people, and it is more prevalent in executives. It is pointed out that research in psychology, along with entrepreneurial and management studies, shows that people who get promoted to the top levels of a corporation are typically those with enough confidence to take chances. In addition, executives are in top positions because of past successes, and these experiences can cause them to be overly confident. Just because overconfidence might lead to bad decisions in particular circumstances, it should not be the only, or even primary, consideration when evaluating executives, adding that growing body of literature indicates that confident and optimistic leaders might make what would be viewed as bad decisions in certain circumstances, but overall, they also have assets that any firm needs to succeed. "Given that the firm has to hire the whole person, you might actually want somebody who exhibits this bias. But, you should recognize that the overconfidence, which has its positive aspects, can also have a downside.

2.What is the boundary between earnings smoothing or earnings management and fraudulent reporting?

Earnings Management may be defined as “reasonable and legal management decision making and reporting intended to achieve stable and predictable financial results.” Earnings Management is not to be confused with illegal activities to manipulate financial statements and report results.

3.Why were the actions taken by WorldCom managers not detected earlier?

WorldCom’s company structure and corporate culture were the roots that prevented the fraud by the WorldCom managers from being detected earlier. The company encouraged a corporate culture that “employees should not question their superiors that do not reflect economic reality. As we see in the case of Betty Vinson who had flawed under pressure from her bosses. There existed distant relations between the WorldCom’s external auditor and the board of directors. By having several performance indicators. WorldCom should not focus on just one performance indicator. A culture was created that made legal function less influential and less welcome. but simply do what they were told. but fraudulent

accounting does so by violating generally accepted accounting standards (GAAP) while earnings management does so within GAAP. Some researchers believe it is a legal act and totally different from fraud because it is within the boundaries of GAAP. Just focusing on one indicator gives managers incentive to do whatever they can to reach the target ratio. and view it as an unethical act that needs to be fought by external auditors. and the multiple indicators would give a better. The internal audit team was also rendered useless and several employees did not even know of its existence. Both involve the intent. popularly known as “cooking the books or fraudulent earnings. the E/R ratio. overall view of the company’s health.” involve misrepresenting financial results. Firstly. Many executives face a lot of pressure to cross the line from earnings management to fraudulent earning. The debate on earnings management and fraud will continue unless there is a proper way to help auditors identify the difference between them. which made it difficult for the different departments to fully coordinate and realize what was occurring in other departments. These types of activities. . 4. by reporting management. while others see a very tiny line between earnings management and fraud.

What processes or systems should be in place to prevent or detect quickly the types of actions that occurred in WorldCom?

Several systems should have been in place to both prevent and detect the types of actions that occurred in WorldCom. managers would have a harder time using fraudulent practices to maintain all indicators. Employees did not have an independent outlet for expressing concerns.” The employees had incentives to follow top management’s demand or were crumbled by threats that were commonplace to employees who did not obey orders. There existed no written policies or code of conduct and each department had it own management style. Another major cause was WorldCom’s departments were spread out across the country. to distort their company's earnings picture. instead of just testing the same summaries each quarter. . It was a tough time for telecom industry and there were enough doubt raising facts and figures but Board of directors and external auditors of WorldCom ignored them. Manipulating tactics included mainly two actions releasing accruals and capitalization of line costs. Not interruption or scrutiny by them made them blameworthy. he was also owner of several other businesses and he drew financial help from WorldCom for those businesses without providing any significant collateral option by using his position in WorldCom. What mitigated her concerns must be the assurances from her employer that she was not doing anything illegal and that he took full responsibility. although she was definitely not without blemish. CFO Mr Sullivan forced other employees to change the account entries to meet the illogical forecasts of CEO. Board of directors and external auditors never had access to the correct information of WorldCom accounts. 6. the external auditors and board of directors were blameworthy in this case of accounting fraud at WorldCom. Their job was to raise question. The Board of Directors should also be in closer contact with different managers and lower level staff members to get a better picture of true operations. Several times a year the external auditor should audit “the old fashioned way” by testing thousands of random individual transactions. Lastly. CEO and CFO were trying to show consistent revenue growth at WorldCom by manipulating accounts. the external audit system should work correctly to ensure that no fraudulent practices occur. The external auditorshould also not permit clients like WorldCom to deny turning over important financial information or deny meetings or phone conversations.

4. Were the external auditors and board of directors blameworthy in this case? Why or why not?

Yes. the external auditor should report the company to the SEC for closer investigation. if a client continues to deny financial information or meetings. the board of directors should more directly interact with the company to oversee all operations and make sure everything is running smoothly and legally. Secondly. 5. it would be unfair to take an extreme position and label her a villain. instead of just accepting financial packets created by the CEO. Apart from his job as CEO of WorldCom. CEO of WorldCom always tried to maintain a distance from the lawyers and ethical and legal procedures. She had complete knowledge of the wrongness of what she was doing right from the beginning when she was asked to do it for the first time. giving the auditor a better chance of catching fraud. However. as she was put in a difficult position. The board should personally check out the accountant department financial statements at random to see the true financial situation. Mr Ebbers. not the picture painted by the CEO. which they didn't do.

5. Betty Vinson – Victim or villain? Should criminal fraud charges have been brought against her? How should employees react when ordered by their employer to do something they do not believe in or feel uncomfortable doing?

Betty Vinson had pleaded guilty to the court and was indeed cooking the books at the behest of her employers. If quitting job is difficult due to lack of another opportunity. she continued to cook the books. Perhaps. However the eventual punishment that she received was not a very harsh one and at par with her fault as she should have refused to do what she did the very first time. the handsome salary and the position of Director provided further incentive. Whenever an employee is in a position. where his principles are in conflict with his work at the job. he should do what he believes in and not something that causes internal conflict. Although ethically incorrect. He should refuse the order and quit the job if need be. he/she should perhaps turn into a whistle blower. Although she had planned to resign she never did. The criminal charge of conspiracy was not deserved as she was not a part of the conspiracy but was following orders and was under much pressure. . In fact, to keep the job holding the knowledge that it was illegal.

1. What are the ethical considerations involved in a company's decision to loan executives money to cover margin calls on their purchase of shares of company stock?

The ethical dilemma is a big one between doing what is looked at as “right” and what is unjust. If they loan the executive money they can keep stockholders and the public from knowing that there might be an issue. However this can be seen as unjust as they are omitting the truth to people whose money they’re risking.

2. When well-conceived and executed properly, a growth-through-acquisition strategy is an accepted method to grow a business. What went wrong at WorldCom? Is there a need to put in place protections to insure stakeholders benefit from this strategy? If so, what form should these protections take?

Growth through acquisition is an accepted strategy in most cases (except monopoly issue) however in WorldCom’s case they were not prepared to grow that fast and their ability to grow may have been embellished a bit to the public but I still feel that there should be no protection for stakeholders, if you are willing to risk your money then you know the fact that “high risk, high reward” comes into play. It was your decision to invest and you need to be held accountable, another thing to consider here is that their already is the minimal protection in place that I feel needs to be there to keep companies accountable. Anything above that keeps our market from being a “free market”.

3. What are the ethical pros and cons of a banking firm giving their special clients privileged standing in "hot" IPO auctions?

4 Jack Grubman apparently lied in his official biography at Salomon Smith Barney. Isn't this simply part of the necessary role of marketing yourself? Is it useful to distinguish between "lying" and merely "fudging."?

5. Cynthia Cooper and her colleagues worried about their revelations bringing down the company. Her boss, Scott Sullivan, asked her to delay reporting her findings for one quarter. She and her team did not know for certain whether this additional time period might have given Sullivan time to "save the company" from bankruptcy. Assume that you were a member of Cooper's team and role-play this decision-making situation.

QUESTION 1

a) Discuss the earnings management technique employed by the management of World Com.

WorldCom admitted that the company had classified over $3.8 billion in payments for line costs as capital expenditures rather than current expenses. Line costs are what WorldCom pays other companies for using their communications networks; they consist principally of access fees and transport charges for messages for WorldCom customers. Reportedly, $3.055 billion was misclassified in 2001 and $797 million in the first quarter of 2002. According to the company, another $14.7 billion in 2001 line costs was treated as a current expense.

WorldCom’s accounting had been questioned before its June 25 admission. In March 2002, the SEC requested data from the firm about a range of financial reporting topics, including (1) disputed bills and sales commissions, (2) a 2000 charge against earnings related to wholesale customers, (3) accounting policies for mergers, (4) loans to the CEO, (5) integration of WorldCom’s computer systems with those of MCI, and (6) WorldCom’s tracking of Wall Street analysts’ earnings expectations. On July 1, 2002, WorldCom announced that it was also investigating possible irregularities in its reserve accounts. Companies establish these accounts to provide a cushion for predictable events, such as future tax liabilities, but they are not supposed to manipulate them to change reported earnings. On August 8th, WorldCom admitted that it had improperly used its reserves in recent years. The indictments issued August 28th charged that reserve accounts were reduced in order to provide credits against line expenses.

In your opinion, why do managers of WorldCom want to manage their earnings and subsequently be engaged in fraudulent activities?

CEOs and managers want to give the impression that business is smooth and on-course. Delivering bad news can not only hurt a company, but also an individual’s career. The dollars involved in options, bonuses, and other compensation put intense pressure on today’s managers to demonstrate only positive results. Those who have limited accounting knowledge sometimes assume that a little ambiguity on their books is acceptable. Many CEOs believe that managing earnings is not only their prerogative, but also their right. A Wall Street analyst, speaking at an investor-relations conference, was quoted as boldly urging companies to consider “hiding earnings” for future use. Private companies usually resort to managing earnings to decrease taxes; public companies rely on the practice to help them meet Wall Street expectations or to increase their stock prices.