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cAsE
l
3
AMRE,
Inc.
In
the
popular movie
The Tin
Men released
in
1987, Richard
-reyfus
and Danny
DeVito
portray aluminum siding
salesmen
during
the early
1960s.
The two
com-
petitors
use
every
means
possible
to
obtain
an unfair
advantage
over
each other.
Like
other
aluminum
siding
salesmen,
the
key
to success
for
Dreyfus
and
DeVito
is
obtaining
and
vigorously
pursuing
"leads,"
or
indications
of
interest
from
potential
customeis.
Leadi
are
not only
a key
success
factor
for homb
siding
companies
but
also
figure
prominently in many
of these
firms
accounting
and
control
systems.
Take
the
caie
of
AMRE,
Inc., a
firm that
for
nearly
two decades
sold
home siding
and
interior
refurnishing
products
such
as
cabinet
countertops.
AMRE,
short
for American
Remodeling,
began
operations
in 1980
in
lrving,
Texas,
home
of the
Dallas
Cowboys.
Within
a
few
years,
the
fast-growing
firm
ranked
as the
largest
company
in
the
home
siding
industry,
an
industry
historically
dominated
by small
b,r,rsinesses
that.market
their
services
in one
metropolitan
area.
[n
1987,
AMRE
went
public
and
listed
its com-
mon
stock
on
the
New
York Stock
Exchange.
AMRE's
principal
operating
expenses were
advertising
costs
incurred to identify
potential
tlaas
via direct
and
television
commercials.
Throughout
the
1980s,
AMRE
charged
a
portion
of
its advertising
costs
each
year
to
a
deferred
expense
account.
AMRE
justified
this
accounting
treatment
by maintaining
that
these
adver-
,irinn
-r,r
Uenefited
future
periods.
gain
accounting
period, AMRE
divided
its
total
uar,""r,iring
costs
by the nurnler
of
ners
leads
generatecl
that
perincl AI\4RE
tllen
rnul"
tipliecl
the'r'esuiting
"eost
pei'lead" by-
the
totai
nutrber
of
"unset
leads," that
is,
new
Ieads
that
had
not
yet been
pursued, to determine
the
amount
of
advertising
costs
to
a"f"r
in"
f,rm
charged,
ti-re iemaining
aclvertising
costs
fof t[1at
period
to its
advertis-
ing expeltse
account.
ln,rng
cr:eated
a
computer-based
"]ead
bank"
during
the
mid-]980s.
When
a
p,otential
customer
collacted ANIRE
a,-lerk
eollected
ancl
thert
etrtet'ecl
informa-
Iit,il irrtlre
lead
l,arik thJl
<
t,ultl
lrv
used
ru
develop
an
approptiale.sales
pitch
for
that individual. This information
included variables
such
as age,
income, home
market
value,
and
length
of
residency.
Data
for each sales
presentation were
also
entered in the
lead bank.
This
information
allorved
AMRE
to evaluate
each
sales-
person's
performance
by computing
measures
such
as
sales
as
a
percentage of
appointments,
cancellation
rate, and
average
dollar
sales
per
appointment'
The
cbntrol functions
and
data
provided by
AMRE's
computerized
lead
bank
contrib-
uted
significantly
to
the company's
eaily
success
in
the
intensel)'
co.Oatt,ive
home
Accounting for
"Leods"
Leqds
to
Trouble
When
AMRE went
public in Fe[ruary
1987.
lhe
company's
top
officers
gave
optimis-
tic
rerrenue
and
profit projections to
linancial
analysts
trackfng
the
firm.
(At
the
time,
AMRE's
fiscal
year ran
from
I\'lair
1
01
one
lrear
until
April 30
of
the next'
The
com-
pany'5
first fiscal
year as a
public
company,
fiscal
1988,
ended
April
30,
19BB)
As
the
end
of AMRE',s first
quarter
as
a
public compan]/
approached,
July
11,
1987,
the
net
income
projected for that
qual'ter ea
rliei in
the
Vear
rv:rs cleatly
unattainable-
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SECTTON
ONE
Cotr{pneHei{sMr
C.qsEs
Robert
Levin,
an AMRE
executive and
major
stockholder, feared that
AMRE's
stock
price
would
drop sharply if
the company
failed
to
reach
its
forecasted
earnings
for
the first
quarter
of fiscal 1988.
Levin,
a
CPA
since
1972,
served
as
the
company's
principal
financial
officer
and
held the
titles
of executive vice-president,
treasurer,
and chief
operating officer.
To
inflate
AMRE's net
income
for the
first
quarter
of
fiscal
1988,
Levin instructed
the
company's
chief
accounting
officer,
Dennie
D.
Brown,
to
overstate the
number of unset
leads
in
AMREs
computerized
Iead bank.l
Brown,
in
turn, instructed
Walter
W. Richardson,
the
company's
vice-president
of
data
processing
who had
served as AMREs
controller
in
the
early 1980s,
to
enter
fictitious
unset leads
in
the
lead bank.
Entering
the
fictitious
leads in
the lead
bank
caused
a
disproportionate
amount
of AMREs
advertising costs for the first
quarter
of
1988
to
be deferred rather
than expensed.
This
accounting
scam
allowed
AMRE
to
overstate
its
pretax
income
for
that
quarter
by
approximately
$1
million,
or
by
nearly
50
percent.
Once
corporate
executives misrepresent
their firm's
operating results
for one
accounting
period,
the temptation
to manipulate
its operating results
in later
peri-
ods becomes
difficult to resist. ln the
second
quarter
of
fiscal
1988,
AMRE's
execu-
tives
again inflated
the
company's
unset
leads
to
understate
the
firm's
advertising
expenses.
During
the
third
and
fourth
quarters
of fiscal
1988, AMREs
actual
operating
results
again fell
far
short of expectations. At
this
point,
Levin
decided
to
expand
the
scope
of the
accounting
fraud. In
addition
to
overstating
unset leads,
Levin instructed
his
subordinates
to
overstate AMRE's
ending
inventory
for the
third and fourth
quarters
of
fiscal
1988. Richardson
complied
by entering
fictitious inventory in
AMRE's com-
puterized
inventory
records and
by
preparing
bogus inventory count sheets
that were
Iater
submitted to the company's Price
Waterhouse
auditors.
Ler
in also
instructed AMRE's
accounting
personnel
to
oveistate
the
company's
rev-
enue
for
the
third
and
fourth
quarters
of
Hscal
1988.
AMRE
used
the
percentage
ot
completion
method.
to recognize
re\/enue
on
unfinished installation
jobs
at the end
of
an
accounting
period.
To overstate the
revenue
booked on unfinished
projects
at
the
end
of fiscal
1988,
AMRE
grossly
overstated
their
percentage
of completion.
ln
fact,
AMRE
recognized
revenue at the
end of
fiscal
l9B8
on customer
projects
that
had
not
been
started.
AMRE
reported
a
pretax
income of
$12.2
million in its fiscal l9B8 financial
state-
ments.
A
subsequent investigation
by the Securities
and Exchange Commission
(SEC)
revealed
that AMRE's
actual
pretax
income
for
that
year
was
less
than
50
percent
of
the reported
figure. Before AMRE
fited its
1988
l0-K
with
the
SEC,
Levin
met
with
AMRE's
chief executive
officer and chairman
of
the board,
Steven
D.
Bedowitz.
At
this meeting,
Levin
admitted to Bedowitz forthe
first time that illicit accounting
meth-
ods had
been used
to overstate AMRE's reported profit
for
1988. According
to the
SEC's investigatioq
Bedowitz
"concurred
with
these efforts to improperly
increase
AMRE's
earnings."2
Bedowitz
and Levin
signed the
"Letter
to Shareholders"
included
in AMRE's
1988 annual
report.
That letter began with
the following
greeting:
"We
are
proud
1.
The information repolted in
this case rras
drawn principally
from
a
series
of enforcement
releases
issued
b5. the
Secrrrities and
Exchange
Commission
(SECt
in the
earlv
1990s. The individuals
involved
in
this
case
neither
admi.tted nor clenied
the
facts
as
represented
by the
SEC
2.
Secr-rrities and
Exchange
Commission.
-4ccounthg
and
Auditing Enforcement
Releose
No. 356,
I
l\iare h
[992.
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CASE
I.3
AMRE,INc.
{.
F.
Nnr
ris.
Aj\lRE
Drarrinqshor
,Sellcrs.,,
Ttte
Neu,yotk
Times.lg
Dccernber
l9SB,
DB.
5.
lL,irt
ar(
to
announce
that
fiscar
rggg
was
another
record
year
for
AMRE
in
both
earnings
nd
revenues'"
In-
a
subsequent
AMRE
annual
report,
Levin
recatted
how
he
had
et
Bedowitz
in
r9gr,
severar
years
before
t
urin
a"clp;;;;
executive
position
ith
AMRE.
At
the
rime,
Levin
worked
for
a
buirdirg
il;il;ompany
that
was
an
MRE
supplier.
We
discouered
k
y
ue:?
uery
much
alife,
We
both
hod
a
lot
of
energy,
ombition,
nd
dreams.
aur partnership
wis
ineiitaOte.,
Price
waterhouse
issued
ar
unqualified
opinion
on
AMRE'S
financial
statements
for
iscal
1988.
Neverrheress,
a
financiar;r"rr"
tor
The
w"i
yii'n*rquestioned
the
redibititv
of
those
financiar
statements.iih"
"r;i;;oJri"J"r,
,hat
AMRE,s
use
of
he
percentage-of-compretion
accouniing
metrrooieemed
unrruur.
Businesses
typi_
ally
use
the
percentage-of-compretion
nietrroa
g.".rdJ"
r;;ue
on
projects
that
ake
severar
months,
if
not years,
to
.on,pi"tu.
AMRE''
i.*turrution;obs
required
onry
few
days
to
comprete.
Even
more
,rouiiing
to
the
analyst
was
the
three
weeks
of
unbiiled
revenue.s"lhat
AMRE
h"d
;.;;;i^a
on
unnnisnuJiirtuuution
jobs
nearhe end
of
r988.
That figure
ru"*"a
Lr.-.rsive
since
AMRi,;;;;..ge
time
ro
com-
lete
an
instailation
job
was
on"
*""t
.
it
e
analyst
arso
questioned
AMRE,j
adver_
ising
expense
fieure. r
irtriirg;;;;;"
.o,,pun1,;,
;;;;;;
adverrising
cosrs
ad
been
rising
rapidrv.
tn
rr*,iu.y,
,t*
"r"rvriili*;;ffi:#d
rhe
integrity
of
MRE's
fi
nancial
statements.
Tb
shorbse'ers,
it
rooks
rik-e
o
classic
p**l:
orrnrting
reoenues
and
understating
xpenses,
a
pattern
that
often
ends
in'o
,li*
,ri
ur."v,f"rr"nii"i,
ount
spokes-
ersonl
said
the
compony's
orrorrtirj
prartices
were
prop",
oniirr"
periodically
euieued
with
outside
auditors.s
'
--
-'
-
r'
vvv,
u,tu
&
AMRE's
1989 Fiscot
yeor
During
fiscar
l9gg,
AMRE's
executives
became
increasingry
concerned
that
their
ndisc'etions
woLrld
be
discovereO.
fn
,n"lf,ira
qrurt"r'oi;ir";;,
il
##j:
ors
decidecJ
to
end
the,account;rt
n-;;1'The
executives
met
regurarry
to
discuss
ow
best
to
tei:minate
the
fraud
*,rr"r,
i.irlng
the
suspicions
of
the
firm,s
Fr:ice
\/aterhorrspariditorsoncl
,rthe'pur,i"r
on"ier
rrocr
theexeculivessettledonwasto
t'ansfer'ficritious
assets
in
Aiil#i,j.i;oiing
.".o,os
ro
rhe
firms
Decks
division.
hat
division's
principar
line
of
urri""*
*"r
buirding
backyard
decks
on
residentiar
omes.
company
officiars
r,aa
ar.eaJy
a".ia"a
a"
"iirlrri"
in"
o."r,
division.
By
ransferring
approximately
$3
million
ot
n.titio*
assers
ro
ihr;;;;"r,
AMRE
,,bur-
ied"
the
write-offs
of
thos
utt",r
in'ir,"
iir.ontinu"a
operations
section
of
its
l9g9
ffi:T;'d;:enr.
AMRE
booked
,r,"ru,".i*offr,p;ir.i;"li;arrrg,,,"
third
quarter
company
executives
wrote
off
approximately
$5
million
of
additional
fictitious
ssers
as
losses
ot
expenses
in.
the
fourth
quarte-inr."iliig"g
#
ffi;;;;;;;.*
hese
write-offs
ancr
rho:"
gJ]ru
pr;;ilr
q;"rrer
resurred
in
^MRE
reporting
a
net
l""r.r^"j'::l,t
$6
milrion
for
1989.
Exhibii
t
iJ.*urirus
key
financiar
data
incruded
in
MRE's
1989
annual
repor.t
for
rhe
nu"_y"u.
f".iod
1985_19gg.
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SECTION
oNE
CoI{pnrHsNsIVE
CASES
I
AMRE,
1989
1988
Year
Ended
Aprit
30,
1987
1986
1985
Contract
revenues
Contract
costs
Gross
profit
0perating
income
Net income
Working
capital
Totat
assets
Stockhotders'
equity
$183,885
64,702
179,78
7,602
(5,744\
11,779
50,399
27,774
$121,,033
41,,369
79,664
9,983
7,299
15,307
34,713-
23,565
{72,18V
25,017
47,77A
6,153
2,907
73,236
23,527
-16,895
$3e,575
$22,451
75,275
9,259
24,300
73,792
7,576
667
878
414
40
L75
7,239
2.477
7,334
456
;
The
Role
of AMRET
New
CFO
in
Terminoting
the
Accounting
Froud
In
March
I989,
near
the
end
of AMRE's
fourth
quarter
of fiscal
lg8g,
AMRE
hired
Mac
M. Martirossian
to
serve
as
the
company's
chief
accounting
officer.
Marti;;:;;,
;
cPA
since
1976,
had
more
than
I0
years
of
public
accounting
experience
with
the
Dallas
office
of Price
waterhouse,
which performed
AMRE'sinnual
audits.
In
July
1989,
Martirossian
assumed
the
titte
of
chief
financial
officer (cFo).
Levin,
who
hai
essentially
served
as AMRE's
CFO
for
several
years,
retained
the
titles
of
executive
vice-president,
treasurer,
and
chief
operating
officer.
while
becoming
acquainted
with
AMRE's
accounting
system
in
his
first
few
weeks
with
the
firm,
Martirossian
discovered
numerous
aciounting
entries
that
lacked
adequate
documentation.
Marti
rossian
immediately
began
inveiti
gatin g
this
obvious
inler,natr
conti:oi:
pi:oblerr.
No
croubt, A\,lRE s top
eNecuiiv.es
realizld
thit
the.inquisi-
tive
accountant
would
eventuall5.,
"put
two
and
two
together."
So,,
they
decided
to
reveal
the
frar:d
to
Martirossian.'(Recognize
thar biu
thls
pointlnl
uri*,r"";-rr;;
alreadl'
begun
terminating
the fr",idj
--o-"-"
The
startling
confession
made
bir
his
ner,r,
colleagues
stunned
N{artirossian.
On
April
28.
1989,
jusr
rwo
days
before
the
end
of fiscat t5g9,
Martirossian
calteJ
a meei-
irrg
r.r'ith
llrp
ereculires
invoh.ecl
in
llre
fraud.
Af
this meetirrq.
he insisted
tnut
in"
misstatements
remaining
in
the
companl,'s,accountingr".or;:
0"
fm;a[*fl,';;"
rected.
If
the
corrections
were
not
made,-Martirossian
Ihreatened
to resign.
Mortirossian
further stoted
that
he woutd
hotd'himself
responsible
for
the
company's
finonciol
statements
for
periods
after
fiscol
tggg, but
thrt
th"
scheme,s
participants
would
be responsible
for
correcting
the
misstatements
in the
periods
to which
rhey
related,
and for
oddressing
ony
questions
[from
AMRE's
independent
auditors
qnd
other
portiesJ
arising
from
the
corrections.G
Bedowitz
acquiesced
to Martirossian's
demands.
Initially.
the
two
men
decided
to
correct
AMREb
accounting
records
with
a
large
prior p"iioa
adiustrnent.
I;
;;;;
ter
of
days,
this
plan
backfired.
outside
direct,orson
etuna's
board
became
aware
of
the
prior
period
adjustment
and
began questioning
why it
was
necessary.
At
this
poinl,
AMRE's
executives,
including
Martirossian,
mei
to consider
other
alternatives
for
correcting
the
compan)"s
accounling
records.
The
executives
decided
that
the
6. Securities
and
Excheinge
Commission.
.AccoLrnting
ond.lu(liting
Enforcemcnt
Release
Na.
3g4.
30 Jr rrrp
1992.
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cAsE
t.3
AMRE,
tNc.
cti ,
a
il
emaining
errors
in
AMRE''
accounting
records
wourd
be
written
off
against
the
:f,:,,:j:
::
ffJj::
:j
*;,?,:.'
q
u
a rtei
ir
ri,
cJr
iiig
"iutJeli,oa_",
o
i
n
g
ad
j
u
st
i
n
g
shortly
after
the
end
of
fiscal
1989,
Martirossian
attended
several
meetings
between
MRE'S
top
executives-and
repres"rr"ri"",
of
price
w"t
rh;;.
At
these
meetings,he
Iarge
accounring
adjustments
rn"J"
ry
g,fnE
au.infif,"i"rnn
quarrer
of
fisca[
9Bg
were
discussed:.
A""rrai"gi.
i;;
sEi,
u"ni.*"i"r"r"ior"rnr
rt
1e
orher
com_
ffYrrffilfves
provided
false
explanations
to
Price
waterhorr"."gu.airg
the
large
The
efforts
of
his
colleagues
to
mislead
the
price
waterhouse
auditors
troubred
artirossian'
Before
Price
fraterho"r".o.pr"t"a
itr
igs'9""rdiiri*nr,
Martirossian
rranged
a
confidential
meeting
at
a
local
hotelwr,r,
r,"y
p.i""
iaterhouse
personnel
ssigned
to
the
AMRE
audit.
Mirtirossian
t
aa
become
well
acquainted
with
several
f
these
individuars
during
rh"
r0
t;;;
he
worked
ro,
pii..iuterhouse,s
Daras
ffice.
At
this
meeting,
M:r:,,:?::,i,n
expressed
o
high
teoel
of
anxiery
regording
rhe
oudit,
nd
he
specificarv
stated
thot
o
pontiriii'ii
,iir'ri.Zri''ri,o"i*
,oss
the
smer.
est'"
Further,
he
orso
posed;r;t;;r;;;
,r,e.auditors
tnrt
tiin"f,ri)*ingry
unrerated
udit
issues
ond
euents
to
the
odjustmrir-ii
i,
,,
,o"^ii
i
iirzit-t-he
auaitors
to
the
ndisctosed
scheme
[occourtirj'iiiii;,'"
Although
he
hinted
strongly
to
the
auditors
that
AMRE,s
fourth-quarter
write_offs
ere
suspicious,
Martirossian
never
reveared
the
trueiaturl'o,
ouroor"
of
those
djusrments'
price
waterhouse.
urtimaterr
".""g,."g
1rr"
,"*j*nn_quarrer
adjust_
ents
before
issuins
an
unquarified
opinion
on
AMRE,s
19g9
financiar
statements.
o,owing
the
comprerion
or
the
rgag
"raii,
rvr;;;#r;;;;;i;
,
re*er
or
repre_
entations
add'essed
to
price
war"rrro,,s.-ihi-
r.u"r'i"a"i;;;r,,*;
he
a,cl
othcr
r<e,,
tulRE exec
uIir
.s
rr
t-r
e rru,
.;;,; ;
r""*r
Jgu
rarities
that
wourd
materialj_v
affect
the
ccuracy
of
Ihe
company.s
financiat
statements.
Durinq
fiscar
I990.
r\ia'tirossian
,^a"u""rr'r,
extensive
effort
to
improve
AMRE,s
ccounring
and
financiai
;;;;;';;''r,,.i,"r,
r;l';;;;;,
,;.i;;""cr
imprementing
eve'at
measrr-es
to
srrengrhe,
il;
;;;;;n,t
iri",rul';;;;;;l;rr,.m.
Marriros-
ian
atso
sear.crred
.re
csrnppn1,,,
o..o,,niin;,;;;;;;
;;,
:;i:',:-
'
,
ng
er.r.ors
a,de'ie*'ect
the
co,pan,'r
u..o*nii;;;;;;;r
ro
ensur.e
r'at
thel,were
being
prop_
rly
applied.
The
Froud
ls
Disclosed
publicly
In
1990,
the sEC'revealed^ that
jt
was
investigating
AMRE
s
financial
statements
for
the
revious
fewyears.
The
Nea
yorn
rime,
iiicre
in
late
rg8s
thil;ilenged
AMRE,'
inancial
data
prompted
that
investigu*irr-1"
"rly
lssi,;ffi'f".*"a
a
special
com-
ittee
consistinq
of
th'ee
outside
rr'"rrr""
"r
iti
board
,"
,.rr,irlr"
the
company,s
inancial
affairs.
Foilowing
il
"
.epoiioiir,o"io-*ittee,
AI\4RE
pubricry
r,eveared
that
rs
financiar
statemenrs
Iorreach
r,"rr
rggz
ihrJugh
rgg0,
bLrt
principaily
lgg'
and
Iggg,
ontained
mateiiar
errors.
err,lig
,".tutuJ-it.
financial
statements
for
each
of
thoseears
From
earr'
r992
th.oLrgh
mid-r994,
trre
igc
i*r"l
r"*rri;i";"r.rr
rereases
isclosing
the
.esults
of
its
ligtlrl,
irr,"riigriirn
of
AMRE,s
accounting
frauci.s
r.
ll,ttd
S
.\l\4RE
s
fi rr.rrrcili
.orrrlir
rurr
(.,,llt
jll
jerl
to,lelet
intate
rl
ceaseci
,perations
a ncr
fi rell
tor
in'oru.ta^.
ban
kr
rptc_'.,.
ltr.irrg
ri're
n
ricl-
l990s
tn
1997.
the
companr,
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sEcItoN
oNE
CournnHeNsrw
CsEs
Each
of
the
AMRE
executives
who
actively
participated
in
the
fraud,
including
Bedowitz,
Levin,
Brown,
and
Richardson,
agreed
to
an
SEC
consent
order.
The
executives
neither
admitted
nor
denied
their
alleged
roles
in
the
fraud
but
pledged
not
to
violate
federal
securities
laws
in
the
future.
Levin
and
Brown
also
forfeited
proceeds they had
received from
the sale
of AMRE
stock
while
the
fraud
was
in
progr"r.. This
feature
of
the
agreement
required
Brown
to
pay
approximately
bfO,6OO
to the
federal
government.
Levin
paid
nearly
$1.8
million
to
tlte.fgdelal
q9v-
ernment,
including
a
$SOO,OOO
fine
for
violating
the
provisions of the
Insider
Trading
Sanctions
Act.
In November
1991,
The
Woll
Street
Journol
reported
that
Bedowitz,
Levin,
and
AMRE,
Inc.,
had
reached
an
agreement
to settle
a large
class
action
lawsuit
filed
by
AMRE
stockholders.e
This agreement
required
the
two
formerAMRE
executives
to
contribute
approximatelv $a.5
million
to
a
settlement
pool.
AMRE,
Inc.,
contributed
another
$5.9
million
to
that
Pool-
Martirossian
reached
an
agreement
with the
SEC
similar
to the
agreement
made
by
the
federal
agency
with
the
otherAMRE
executives.
However,
the
federal
agency
issued
"
r"purui"
enforcement
release
describing
Martirossian's
role
in
the
{raud.
The
SEC
criticized
Martirossian
for
not insisting
that
proper
measures
be
taken
to correct
AMRE's
accounting
records
and
for
not
disclosing
the
fraud
to
Price
Waterhouse.
Martirossian's
non-participation
in
the
originol
fraudutlent
Yl"^"
connot
iustify
his
rrctions
in turning
a
blind
eye
to
the
methods
utilized
by AMRE
to correct
the
material
misstotements
.-.
. Akhough
he expressed
concern
and
posed
questions to AMRE's
ouditors
in
on
attempt
to
i*pot"
the
existence
of,
the
scheme
t9
them,
Martirossian's
effort
to discharge
nL
auty to
make
accurate
and
complete
disclosure
n
Unr'1ay(i'
fott-s
tritts
ineffeetu.tt
enr
misleac[inq beeeuse he'fai[eel
to
prouide
the
auditors
al[
of
the
*i
nrii,
i o,
h e
p
o
ssessed.ro
SEC
lnvestigotes
Price
Woterhouse's
1988
ond
1989
AMRE
Audits
After
the
SEC
finished
dealingwith
AMRE's
executives,
the
fe_deral
agency-turned
it,
ii,*r,tiun
io
the
compn,,1,"i
ind"p"ndent
audit
firm,
Price.Water}'iouse.
nf
??_C
focused
on
the
conduct
of
two
members
o{
the
AMRE
audit
engagement
team,
Edward
J.
Smith
and
Joel
E. Reed.
Smith
served
as
AMRE's
audit
engagement
part-
ner,
while
Reed
was a
senior
audit
manager
assigned
to
the
AMRE
audits.
Among
the
SEC's
complaints
lodged
against
Price
Waterhouse
was
that
the
audit
firm
failJd
to
properly teit
,qURg's
deferred
advertising
expenses'
Recall that AMRE
computed
theadvertising
costs
to
be
deferred
for
a
given
accounting
period
by
multi"
plying
the
"cost
per
lead;
for
that
period
by the
number
of
"unset
leads"
at
the
end
of
ii
L
p""uioa.
One
method
AMRE
used
to inflate
its
reported
profits
was
to,create
ficti-
tious
unset
leads.
Staff
auditors
of
Price
Waterhouse
assigned
to
the
AMRE
en$a$e:
ment
verified
the
cost-per-lead
computation
during
the
lgBB
audit.
Howev:t-:rl".tPff
auditors
failed
to adequately
test
the
nurn-ber
of
unset
leads
reported
by
AMRE
at
the
end
of
fiscal
1988.
The
auditors
simply
compared
the
number
of
unset
leads
on
two
client-prepared
schedules.
9.
K. Blr,rmenthal,
',{N4RE,
Ex-Officem
Agree
to
Settlement
of
Stockholder
Lan'suit,"
The
ltall Street
,lournctl,l2
Novenrber
1991.
A13.
10.
SecuritiesanciExchangeConmission.-4c(-ountingrtncl
.AuditingErtfotcenentReleaseNo
394,
ll0.lLrne
1992
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The
oudit
of
the
unset
reads
defenor
was
flaw,ed.because
no procedures
r.ere
Der_
ormed
to
uenrv
the
intesitv
ri;i;;;;;;
on
which
th";;;i;i;;;.
rn
ract,
the
reports
ere
not
supported
bv
undertyine,irn.
attniiin,ii:irii"iZlirrr",
teods
suppos_
illi" #';;;;E:; ,*#tr ;1,:;:, "';;;';a%"ir,,*";iii'iii,3t,ssaj,
,iilii,
Price
waterhouse's
audit
pranning
memorandum
for
the
Iggg
AMRE
audit
indi-
ated
that
EDp
audit
procedures
*oir,riu
used
to
test
the
integrity
of
AMRE,s
Iead
ank'
AMRE
executives
irrorra
inir,i"accotrnting
r'urJr""r"a
that
these
proce_
ures
wourd
resurt
in
aetectron
oi
rr"
il,iri"u.
ruuJl;*il;;;ank.
These
execu_
ives
persuaded
Smith
and
n*O
,.'nyp;r,
the
EDp
tests.
,
AMRE
arso
inflated
it'uportuJfio?iJ
u19""*airs
year-end
inventory.
During
iscar
1988,
AMRE's
inveyrrv
ir"*[.i
ov
zrs
p*"ri,"rir,i['rrL,n.ruured
68
per_
ent
and
inventory
purchases
in.r"ur"aio.
p";o;;.
i;;igiffinu
audit
plannino
emorandum
identified
the
rarge
increaruin
i*.nto.y
*
ui",
,il
factor.
The
audii
ranning
memorandum
ur* pJiri"a'"iiir,r,
an,,neiii
*ii'r;',
perpetuar
inven_
:H;n:i:#;l
n,,r
that
the
year-",Jinuun,o,y
;;;ffi
;;;,,,"0 o"
determined
by
Price
waterhouse's
initiar
audit
pran
for-r9gg
cared
for
the
observation
of
the
#:.;i;
j}Ij;:lTffi:[T,;::*i1,,"::1.11;a**',**uiou,y"uae.i.J
ma
n
ase
me
n
t
c
ompra
i
n
e
d
rr,
J,r*'
i,
".";g
:ffi
:
:,jH#:i,ililil;,,,Tii:;
:n*
bserved
bv
price
waterhouse
;";il;;;;.iar5z
increase;"";;or
rhe
1988
audir.
MRE's
executives
convinced
pri".wui"riouse
to
allow
AMRE
accounting
person_
el
to
monitor
the
physicur
.orro
uilr,rue.3f
t|_e^inventory
sites
that
the
auditors
ad
serected
for
observation.
a..o.oing',;,r,.
srct
rrr"riis"iiin,
onrou
manage-
ent
inflated
the
year-end
inventon,of
o"o"n
of
rhs
19
;r,,*"?r
ri"s
not
o6srr.i*l.Lt
"ear-end
bv
price
warerhouse.
irr"r"
i,,r."rrory
rir",
in.irJ;;',;"
rhree
sires
n,here
MRE
accounting
personn"r
our"rruo
ihelhysical
counts.
In
totar,
AMRE
overstatecr
ts^I988
year-end
inventory
by
$t.q
rnif
llon.'
During
the
third
and
fourr[
qru,
,",r
oinscar
r9gg,
AMRE
began
n,riring
off
irs
fi*i-
ious
assets.
Recail
rhat
AMRE's
"^".r,i,,"rl"nceared
,*"",
uii,iiirn
doilars
of
such
rire-offs
in
rhe
losses
booked
ro,
,n";,;,ir,*i
o".r,_
0,,,r,rllrn"
price
\\,arer.
o*se
aucriror,
,",,i",r.Jrh."L,-i;'i;#ri?i,r*,r*i,,
"-
"
;ffination
or
AMRE,s
ecks
division
during
nr."."l
r9S"S.
H;;;;
according
to
the
SEC,
rhe
price
Warer-
lff:;:::i:?,:,?:::?::"*.*:$','"1,i#i,,,n,
ro,
i,","
iu,*i*i,r,,ur
app,ying
while
writing
off
fictitiou,
urr"i,
Jrli"s'irr"
fourrh quarter
of
r9g9,
AMRE purged
7,000
bogus
unset
reads
r-,
,r,"
.r*priSrlr"a
r"rJ
ulri.
i;;rff;g"
cost
o[
these
eads
was
$r08.33.
meaning
that
the
i"rrLl.r,
rerared
to
tr,"iirriie_off
exceeded
1.8
million.
A
price
warerh"ouse,i"rr
"rila,
asked
an
AMRE
alcountanr
why
rhe
arge
nurnber
of
unser
readr
y;:;;i;;
1.""#o
from
the
read
bank.
.rhe
accounranresponded
that
the
unset
reads.h"a
u*,
irproperry
recorded
auu
a
an
.,accounting
control
weakness."
In
the
audit
,orr,pup"ri',r,"
,,.ri"rai,"].".".,r0"0,
based
on
he
AMRE
accountant's
statement,
tr,ut
ir,i,
i,weakness,,
was
an
,,isorated
incident,,
hat
did
nor
require
rurrher
irr"r,is.iil"
ii'iri,n
*Ji"";:;.r;ilo
,,,,,n
rhe
srarr
CASE
t.3
AMRE,
[vc.
jl
iTiiJ;:t
and
Exchange
Comrnission
Acr
ounting
ond
.Auditing
Enforcemerrr
Retcose
No
j54
12.
tbid.
)3.
tbid
.,at
-"9
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SECTION
ONE
Co{,rpnsHsNslvs
CASES
auditor's
assessment
and
did
not require
any further
audit
procedures
to
be
applied
to
the large
adjustment.
The
SEC
also
questioned
Price
Waterhouse's
review
of the
quarterly
financial
data
included
in AMRE's
1989
10-K
registration
statement.
Near
the
end
of the 1989
audit,
Smith recommended
that
AMRE disclose
in the l0-K the
large
period-ending
1".oflJin-s
adiustments
that
were largely
responsible
for the
company's
net
loss
for
fiscal
1989.
AMRE's
executives
refused.
After
reconsidering
the
matter,
Smith
noted
in
the
audit
workpapers
that the
fourth quarter
adiustments
did
not
need
to
be
dis-
closed
separately.
Smith
concluded
thot
the
adiustments
did
not
requhe
disclosure
because
"the
quarterty
data
is
not
prt
of the finonciol
statements
and
the
disclosure is informatioe
only
- -- -
the magnitude
of
the adjustments
is not
sumcient
to
couse
us
to require
them
to
do it
[thot
is,
disclose
the
adjustmentsJ.aa
A
key
factor
that
reportedly
influenced smith and
Reed's
decisions
to
accept
AMRE's questionable
accounting
treatments
was their familiarity
with
Martirossian,
a
former
colleague
of theirs
in the
Dallas
office
of Price
Waterhouse.
According
to the
sEC,
smith
and
Reed
"relied
improperly
on
his
[Martirossian's]
unverified
repr"r"n-
tations
based
upon
their
prior
experience
with
him
and his reputation
for
integrity
within
Price
Waterhouse."r5
In
an
enforcement
release
issued
in
Aprii
1994,
the
SEC concluded
that
Smith
and
Reed
had
failed
to
comply
with
generally
accepted
auditing
standards
during
the
19BB
and
1989
AMRE
audits.
As
a result,
the
sEC
prohibited
Smith
and
Reed
irom
being
assigned
to
audits of
SEC registrants
for
nine months.
Questions
l.
Define
rhe
terms
ethics
and
professiorroLethrr^s.
Using the
following
scale,
er,aluate
the conduct
o[ eacl-r indir.iduaf
invoh,ed
in lhis
case,
-100.
.
Hiqhh,
Unetlrical
0........100
Highly
Ethical
,
Do
you
belier.'e
that
the individuals
who
behaved
unethicaily
in
this
case were
appropriately
punished?
Defend your
answer.
Identify
the
alternative
courses
of action
available
to Martirossian
when
he
became
aware
of
the accounting
fraud
at
AMRE.
Assume the
role
of
Martirossian.
Which
of
these
alternatirres
would
you
have
chosen?
Wh},?
was
AI\'trREi
practice
of
deferring
a por-tion
of its adi,ertising
costs
in
an
asset
account
appropriate?
Defend
you
unr*.r.
1.
11.
tbid
15.
Ibid
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CASE
I.3
AMRE,IIc.
What
key
red
flags,
or
audit
risk
factors,
were
present
during
the 1988
and
1989
AMRE
audits?
Did Price
Waterhouse
appropriately
consider
these
factors in
planning
those audits?
Why
or why
not?
Was
Price
Waterhouse
justified
during
the
1988
audit
in agreeing
to
allow
client
personnel
to
observe
the
physical
counts at
certain
inventory
sites?
To
what
extent
should
an
audit
client
be
allowed
to
influence
key audit
planning
decisions?
sl^tlro.
3/,
"Evidential
Matter,"
identifies
five management
assertions
that
underlie
a
set
of
financial
statements-
Whieh of
theseassertions
should
have
been
of
most
concem
to Price
Waterhouse
regarding
the
large
period-ending
adiustments
AMRE
recorded
during
the
fourth
quarter
of
fiscal
1989?
What
responsibility
do auditors
have
for
quarterly
financial
information
reported
in
the
footnotes
to
a
client's
audited
financial statements?
7.