[SOLVED] One of the earliest frauds during the

One of the earliest frauds during the late 1990s and early 2000s was at Sunbeam. The SEC alleged in its charges against Sunbeam that top management engaged in a scheme to fraudulently misrepresent Sunbeam’s operating results in connection with a purported “turnaround” of the company. When Sunbeam’s turnaround was exposed as a sham, the stock price plummeted, causing investors billions of dollars in losses. The defendants in the action included Sunbeam’s former CEO and chair Albert J. Dunlap, former principal financial officer Russell A. Kersh, former controller Robert J. Gluck, former vice presidents Donald R. Uzzi and Lee B. Griffith, and Arthur Andersen LLP partner Phillip Harlow.
The SEC complaint described several questionable management decisions and fraudulent actions that led to the manipulation of financial statement amounts in the company’s 1996 year-end results, quarterly and year-end 1997 results, and the first quarter of 1998. The fraud was enabled by weak or nonexistent internal controls, inadequate or nonexistent board of directors and audit committee oversight, and the failure of the Andersen auditor to follow GAAS. The following is an excerpt from the SEC’s AAER 1393, issued on May 15, 2001:
From the last quarter of 1996 until June 1998, Sunbeam Corporation’s senior management created the illusion of a successful restructuring of Sunbeam in order to inflate its stock price and thus improve its value as an acquisition target. To this end, management employed numerous improper earnings management techniques to falsify the Company’s results and conceal its deteriorating financial condition. Specifically, senior management created $35 million in improper restructuring reserves and other “cookie-jar” reserves as part of a year-end 1996 restructuring, which were reversed into income the following year. Also in 1997, Sunbeam’s management engaged in guaranteed sales, improper “bill-and-hold” sales, and other fraudulent practices. At year-end 1997, at least $62 million of Sunbeam’s reported income of $189 million came from accounting fraud. The undisclosed or inadequately disclosed acceleration of sales through “channel-stuffing” also materially distorted the Company’s reported results of operations and contributed to the inaccurate picture of a successful turnaround.
A brief summary of the case follows.
Chainsaw Al
Al Dunlap, a turnaround specialist who had gained the nickname “Chainsaw Al” for his reputation of cutting companies to the bone, was hired by Sunbeam’s board in July 1996 to restructure the financially ailing company. He promised a rapid turnaround, thereby raising expectations in the marketplace. The fraudulent actions helped raise the market price to a high of $52 in 1997. Following the disclosure of the fraud in the first quarter of 1998, the price of Sunbeam shares dropped by 25 percent, to $34.63. The price continued to decline as the board of directors investigated the fraud and fired Dunlap and the CFO. An extensive restatement of earnings from the fourth quarter of 1996 through the first quarter of 1998 eliminated half of the reported 1997 profits. On February 6, 2001, Sunbeam filed for Chapter 11 bankruptcy protection in U.S. Bankruptcy Court.
Accounting Issues
Cookie-Jar Reserves
The illegal conduct began in……………………………………………….
EXHIBIT 1
Sunbeam Corporation’s Aggressive Accounting Techniques

Technique
Example
Shenanigan Number

Recorded bogus revenue
Bill-and-hold sales
2

Released questionable reserves into income
Cookie-jar reserves
5

Inflated special charges
Litigation reserve
7

EXHIBIT 2
Sunbeam Corporation’s Operational Performance

Operational Performance

9 months 9/97 ($ in millions)
9 months 9/96 ($ in millions)
% Change

Revenue
$830.1
$715.4
16%

Gross profit
231.1
123.1
86%

Operating revenue
132.6
4.0
3,215%

Receivables
309.1
194.6
59%

Inventory
290.9
330.2
12%

Cash flow from operations
(60.8)
(18.8)
N/A

1. How did pressures for financial performance contribute to Sunbeam’s culture, where quarterly sales were manipulated to influence investors? To what extent do you believe the Andersen auditors should have considered the resulting culture in planning and executing its audit?
2. Why is it important for auditors to use analytical comparisons such as the ratios in the Sunbeam case to evaluate possible red flags that may indicate additional auditing is required? How does making such calculations enable auditors to meet their ethical obligations?
3. Assume you were the technical advisory partner for Andersen on the Sunbeam engagement and reported directly to Harlow. You have just reviewed all the workpapers on the audit including materiality judgments. You are concerned about what you have just seen. Further assume that you consider yourself to be a pragmatist, one who is concerned with your own material welfare, but also with moral ideals. Develop a plan of action for voicing your values to ensure you are heard by Harlow and others in the firm. Consider the following in developing the plan to do the right thing:
• What do you need to say to Harlow?
• What are the likely objections or pushback?
• What would you say next? To whom, and in what sequence?

Question: One of the earliest frauds during the

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