Question

In 2015, the business press reported that Japan's Toshiba Corp. overstated its operating profit by 151.8 billion yen ($1.22 billion) over several years through accounting irregularities involving top management. This overstatement represents approximately one-third of Toshiba's pre-tax profits during the misstatement period. Toshiba had a corporate culture in ,vhich one could not go against the wishes of superiors. An investigation report noted that when top management presented 'challenges', di vision presidents, line managers and employees below them continually carried out inappropriate accounting practices to meet targets in line ,vith the ,vishes of their superiors. Improper accounting included overstatements and booking profits early or pushing back the recording of losses or charges, and such steps often led to even higher targets being set for divisions in the following period. 168 Chapter 4 • Professional Legal Liability Application Activities FRAUD PROFESSIONAL SKEPTICISM NOTE: Completing Application Activities requires students to reference additional resources and materials. 4-25 4-26 The report said much of the improper accounting, stretching back to fiscal year 2008, ,vas intentional and ,vould have been difficult for auditors to detect. The audit firm during this misstatement period was EY (Ernst & Young ShinNihon) ,vho incurred significant reputational damage after they were accused of failing to detect the misstatement and fined $17.4 million by Japanese regulators. The investigation into Toshiba's accounting practices was initia lly limited to its home country. However, in 2016 the U.S. Justice Department and the Securities and Exchange Commission began looking into the case since part of the alleged fraud involved a Toshiba unit based in the US (Westinghouse Electric Company).

a. Based on this limited information, does this case represent a business failure, an audit failure, or both?

b. Should auditors be held liable if their client's business fails or if the financial statements contain a fraud that the auditors did not detect?

c. Under ,vhat la,v would the SEC be likely to pursue this case?

Answer 1

Question a. Based on this limited information, does this case represent a business failure, an audit failure, or both?

Answer: Based on the informations, In my judgement, there is a business failure & Audit failure also. ie the case covers both the failure. With Overstating the operating profit coupled with several accounting irregularities, its a business failure turning into big financial losses with over tax payements to exchequers as well as lost of reputation over other side with several inquiries, loss of investors faith etc. Audit failure is very much clear from the aforesaid informations.

Question b. Should auditors be held liable if their client's business fails or if the financial statements contain a fraud that the auditors did not detect?

Answer: For Client's business failure the Auditors should be liable, as they are outside agencies who works for Investors community at large ie. shareholders & others. If the financial statements contain a fraud, and if the Auditos firm could'nt detect it than they should be held liable definitely.

Questionc. Under ,vhat la,v would the SEC be likely to pursue this case?

Answer: SEC have rights to initiate legal action against such corporation which have manipulated its financial data.

Basically the SEC ensures proper presentation of financial data in the interest of large investors community. The legal action is taken under New SEC Bounty Action laws and CFTC Bounty Action laws after detailed enquiry in the matter & if established. False Accounting Statements & Other types of corporate accounting fraud are covered for legal action by SEC.