Koss and Sue Sachdeva’s Accounting debacle. Terrence Rice, a Milwaukee CPA, comments…

As a business ethics speaker and author…I find myself amazed at times with what comes up daily to write about.  Of course, to Milwaukee…the who Koss mess with Sue Sachdeva’s embezzlement is unique (to say the least) and creating quite a stir.  Not only does this reflect poorly on senior management, but also on the independent accounting firm.  But, of course, to top it off is the Sue’s claim on not being guilty due to a mental/emotional spending disorder.  That’s worth following this story in and of itself.  But…

Rarely when I write these entries do I get a response so well thought out as the one I received 30 or so minutes ago.  It was so well done that I asked the author – Mr. Terry Rice, CPA, if I might feature it in a new blog entry.  He was kind enough to say yes.  Read below and feel free to join in on the discussion.  For sure, we will have plenty to discuss for months to come…!

The Milwaukee business community is wondering how a company with $38 million in annual sales could have lost $30 million in an embezzlement.  This goes beyond being just a crime, it is an embarrassment.

The internal controls were lax, the separation of duties were lax, the audit committee was lax, the Grant Thornton auditing firm was lax, the CEO was lax and on and on.  Plenty of blame to go around.  The Koss Corporation and the Koss family had ultimate trust in their VP of Finance, Sue Sachdeva. She purchased expensive items using her own American Express account and then fraudulently wired Koss Corporation funds to pay the bills. The IRS will be knocking soon.  If the American Express fraud department hadn’t reported it, she would probably still be doing it. As I tell my clients, you cannot trust anyone.

In a 2007 interview, Michael Koss complained that the new costs associated with Sarbanes-Oxley were particularly galling to his family.  The problem is that Sarbanes-Oxley did not go far enough.  Sarbanes-Oxley, for all its reputation as a hard-hitting law, fails to correct a crucial accounting system weakness: the potential for what is called the “moral seduction” of outside auditors.  Executives still have too much control over the hiring and firing of auditors, which discourages accountants from providing failing critical reports. A company’s culture between auditors and management usually becomes entrenched.
To see the real-world consequences here, just look at Enron.  Its auditor, Arthur Andersen, came to identify so strongly with the client that its judgment was compromised, and the demise of one led to the demise of the other.

SarbOx was supposed to change all that.  Yet the law leaves in place strong incentives for auditors to please clients even as it mandates complex new rules that are supposed to make corporate books more credible.  The system needs to be changed.  The auditors need to make independent assessments instead of just ratifying clients’ accounting. The auditors need to be hired by boards rather than company executives and be retained for a fixed period without the chance of being rehired.

In the 2007 interview, Koss said that “it’s annoying having to deal with this extra layer of bureaucracy.  Small companies like ours are spending hours in auditing committees that would be better spent on strategic planning.”  Sarbanes-Oxley requires that there be an audit committee that is independent of management. There had to be some indication in the Koss numbers that something was wrong.  The other executives and the members of the board of directors had a duty to pay closer attention to the numbers. If the audit committee is filled with laymen or buddies of the management, business will continue as usual.

The audit committee is uniquely suited to assess risk and internal financial controls and to ensure that company strategy and finances are aligned.  It is time for this committee to assess its unique role as messenger to the rest of the board of directors and to shareholders on all matters of risk management and financial-reporting judgments and to bolster trust. Brilliant and curious individuals are what audit committees desperately need, especially during these times of economic turmoil. The audit committee needs to concentrate on protecting shareholders from misleading accounting and outright fraud.

The audit committee of Koss Corporation and the outside auditing firm, Grant Thornton, failed in their responsibilities.  Don’t let your company be the next Koss Corporation.

Terrence Rice is a Milwaukee CPA and is author of www.bankembezzlement.blogspot.com and www.churchembezzlement.blogspot.com

A BIG TIME OUT HERE…now as I was preparing to post this entry I saw an article that knocked my socks off.  Article headline:  GRANT THORNTON FIRES BACK AT KOSS CORP.  The article in the Business Journal of Milwaukee states:

After its firing as outside auditor for Koss Corp., which is reeling from a $31 million embezzlement case, Grant Thornton LLP fired back that it was never hired to evaluate “internal controls” at Koss.

Allow me to show my ignorance, but as a former CPA (tax partner in a firm in NC) I thought that an AUDIT required and included an evaluation of the company’s system of internal controls as a basis or foundation for the opinion that they render.  IF the internal controls were lacking, either the CPA firm would have to do more work or state that an opinion as to the fairness of the firms records could not be issued.  (Layman’s terms).  So please somebody tell me what I’m missing! The excuse for not detecting a MAJOR FRAUD was we weren’t hired to evaluate the “internal contols”… REALLY? The full Business Journal article is here.  I’m speechless…  Well back to Terry…

Terry…thanks for following the story (although I imagine that it’s hard not to up in your neck of the woods).  More important thank you for your thoughful comment.

IF YOU WISH TO COMMENT…feel free to do so…AFTER ALL YOUR COMMENTS ARE ENCOURAGED AND WELCOME.

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