School of Business > UPDATE > Spring 2002 > Article

Lessons of Enron Explored
Real World Provides Classroom Focus

School of Business faculty have long used case studies to explore major issues. Recent months have provided the most stunning case study of all.

In December came the financial implosion of Enron, the largest bankruptcy in U.S. history. Soon after, the role played by its auditing firm, Arthur Andersen, came under major scrutiny. Suddenly business practices and accounting issues were front and center. Regulatory agencies, Congress and concerned investors had major questions. Is greater oversight by the federal government needed? Can firms objectively review the books of corporations that pay them millions of dollars in consulting fees? Can accountants police their industry?

The controversy has been a major class discussion topic at the School of Business, especially in accounting classes. According to Accounting Professor Larry Rittenberg, "We spent the first two weeks in my graduate auditing course talking about the lessons that can be learned for the audit profession from the Enron situation. A lot of what gets done is justified on the grounds that 'all my peers are doing it.' We teach parameters about what is acceptable and nonacceptable behavior and how to go about making decisions," Rittenberg said.

"We're trying to help students learn to make judgments on the basis of fundamental concepts in accounting instead of looking at what the rules are-because one of the lessons of Enron is that we've been on a 35-year path toward more detailed rules. People look at the rules as sort of bright lines. If you are inside this accounting rule, then it's acceptable accounting. With Enron, I have the sense that the auditors tended to look at whether special purpose entities met specific elements of accounting treatment and didn't necessarily sit back and take a look at the big picture and ask, 'What is this kind of accounting doing to the profession as a whole?'"

It's not just the accounting profession that may be doing some re-evaluation. Many are calling for a new look at the corporate culture that allows freewheeling stock compensation plans and other excesses. The roles of elected officials, regulators, stock analysts and corporate boards in protecting the public also are being examined. The Executive Education arm of the School of Business seems particularly prescient. It launched a new program called the Directors' Summit in fall 2001 to explore issues in corporate governance in partnership with the State of Wisconsin Investment Board. Ted Beck, associate dean for executive education, said future summits will focus on the responsibility of corporate boards to challenge management in order to prevent another Enron. A panel will discuss that very topic at the 2002 Directors' Summit to be held in September. "As recently as last fall, analysts were praising Enron for its excellent management," said Beck. "But now directors feel exceptional pressure to know how to spot the signs of financial irregularities and how to deal with those discoveries in their companies. We will offer lessons learned, based on Enron and others."

Accounting Professor Terry Warfield is teaching a Professional Issues class this semester. He said that in the class, "We examine what to do if you are out in Chicago or Milwaukee and there's pressure from a client. What Enron does is gives us some good examples, things we've been telling students all along. If you don't have transparent financial reporting you are going to pay a price in the market. If your financial statements aren't credible, if auditors aren't viewed as independent, you will pay a price. I believe that, and those of us who teach here believe that. We tell our students that what we are saying is based on what we've learned working at the SEC and interacting with FASB. After an Enron, people get it. They say, 'I guess you're right. I guess it matters that people believe you when you disclose something.' So this gives us a really powerful case study."

According to the American Institute of Certified Public Accountants, the number of students enrolled in accounting programs dipped by 25 percent between 1995 and 2000, perhaps due to the increasing number of states requiring 150 hours to earn the CPA designation. Some experts predict an equivalent dip due to the current controversy. Warfield, however, would argue that the current re- evaluation of generally accepted accounting principles makes the 150-hour programs more necessary. "If this is the environment that accountants are in today and the expectation is that accountants should really serve the public, then they need more education, more preparation. It's not about more accounting; it's about understanding business. One of the things we do in our Five-Year Professional Accounting Program is have students really understand the economics of financial statements, how regulation plays a role. Students come out of the program with a good understanding of the forces that are out in the marketplace for accountants."

As of this spring, some students at Wisconsin and the rest of the country were weighing whether to remain accounting majors or accept internships or job offers from Andersen because of the controversy. "Students do have uncertainty about the accounting profession, particularly those who just accepted offers to go with Arthur Andersen," said Rittenberg. Karen Stauffacher, director of the business school's Business Career Center, said it's too early to judge the effect the controversy will have on recruiting. Nationally, Andersen has worked hard to tell its side of the story to accounting faculty and students. Its partners have called and emailed students who worked for Andersen over the summer or have accepted positions with the firm. In February, Andersen CEO Joe Berardino and the firm's North America director of recruiting and North America managing partner, hosted a nationwide telephone conference call for university faculty at more than 200 universities, including UW-Madison. During the call, the executives discussed how Andersen was dealing with the Enron fallout and addressed questions posed by faculty about Enron, Andersen's recruiting plans, the firm's future and other issues.

At this point, no one can predict with any confidence what lies ahead for the accounting profession. Warfield believes damage will depend on how the profession responds. "In the past, such as the S&L crisis, the profession has responded pretty well after business failures and audit failures and partnered well with the regulators and Congress to really respond. I think we got really good reforms out of that, and I think we'll get that again."

Rittenberg believes the reputation of accountants has suffered. However, he believes there is good news in what's happening. "My personal view is that this is really an opportune time for our students because it's going to be their leadership over the next decade or two that's going to transform the accounting profession. Accounting's going to have much more emphasis on understanding that shareholders are the clients, not the management of the particular organization being audited. That approach seems to have been lost, particularly in the last decade."

Rittenberg believes the entire environment for accounting has become problematic. "We've taken very complex businesses and tried to reduce them to a single set of numbers and convey everything people need to know, like earnings per share. Businesses are too complex for that," he said. "What we are trying to emphasize to students is that to be a good auditor you first have to be a good businessperson. You need to understand the business, what makes it work.

"The first page of my auditing textbook quotes a Supreme Court case that says never forget that auditing is a very special function. We owe allegiance to the shareholders of the company and need to maintain complete fidelity to the public trust," Rittenberg said. "If you lose that, you lose everything."

Lari Fanlund is communications director at the School of Business.

For information on the Directors' Summit on corporate boards of directors being presented September 4-6,2002 by Executive Education and the State of Wisconsin Investment Board, go to http://uwexeced.com/directorssummit.