Uncooking the Books: Restoring Accounting. (Enron Capitalism and How to Fix It)

Article excerpt

FINANCIAL ACCOUNTING HAS ONE quite simple goal: to give investors and other outsiders an honest report on a company's performance and management's stewardship. Accurate accounting ("transparency") is something that we Americans preach to other nations as an essential precondition for successful capitalism.

In practice, of course, it's enormously difficult to reduce to a handful of useful numbers the complex operations, spread over many countries, of a modern industrial enterprise. But in recent years, that task has been badly skewed by Wall Street's obsessive focus on short-term results and by an array of executive-compensation schemes that provide corporate officers huge personal incentives to manage--that is, manipulate--earnings to meet those market expectations. The public's primary line of defense has been, now as always, the auditors, whom we expect to remain not just skilled and diligent but, above all, independent. Independent of whom? Management, of course. The auditors' real clients are the boards of directors and the investing public.

That line of defense, however, has proved porous. Accounting firms have come to see auditing not as a governmental mandate and matter of public trust but, rather, as an opportunity to garner consulting and other business fees from the very management from whom they purport to be independent. Auditing has become a loss leader--one that brings in only 25 percent, sometimes far less, of the Big Five accounting firms' fees from a large company, thus making them increasingly likely to bless sham transactions and whatever else it takes to let Wall Street applaud what in fact is a so-so performance. In the last four years alone, more than 700 companies have been forced to restate their earnings, thus acknowledging that their auditors had, for whatever reason, failed to follow the rules.

A nasty set of problems--though remedies have become easier now that Enron and the like have brought accountants front and center. Here are five easy proposals.

* Bar accounting firms from performing nonaudit services for their audit clients. Not some nonaudit services--all. …