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Audit & Accounting Alert Newsletter

Issue 5 | May 2013


Gerry Herter

The reputation of the accounting profession has taken a number of body blows in recent years, arising from the myriad of financial crises and collapses. But rarely has a CPA’s actions conjured up comparison to the greedy persona of Gordon Gekko, the nefarious corporate raider from the movie Wall Street. That has all changed now with SEC charges filed and the release of an FBI photograph showing a long-time KPMG partner allegedly accepting cash in exchange for insider information from his audit clients. We visit this astounding development in our first article.

Next we turn to another topic that some accountants may find astounding as well: Integrated Reporting. While the idea of capturing and connecting social, environmental and economic data about a company all in one report may boggle the minds of twentieth century practitioners, the concept has taken a major step forward as our second article reports.

 Finally, we are incorporating a new periodic feature, which will provide brief highlights of new and upcoming actions and activities of accounting organizations throughout the world. This section will enable the reporting of items warranting a mention, but not a full article.

Editor Gerald E. Herter, CPA

In This Issue 

When the Auditor is the Criminal

KPMG partner caught taking payoff for insider trading tips

The regulators and standard setters have been outspoken in recent years about the need for auditors to be ever more vigilant and skeptical when conducting audits and assessing credibility of client personnel. Inspections of audit firms, as covered in our February and April issues, have expressed concern that too many audits still fall short in this respect.

Firms have responded by beefing up training to better equip their auditors, including in the key area of ethics. But apparently no amount of training will deter the intentional criminal acts of a determined mind. Scott London, a highly respected and successful partner with KPMG for 29 years, “acknowledged taking annual ethics training at KPMG which explicitly prohibited employees from disclosing inside information regarding clients,” according to a complaint filed by the SEC in April. But at least fifteen instances of just such prohibited activity over a year-and-a-half were spelled out in the complaint.

The circumstances leading up to the alleged crime sound familiar enough to auditors, accustomed as we are, to facing pressure from clients in various situations. London met Bryan Shaw, the recipient of the insider information, at his country club, where they became golfing buddies and close friends. Several years later, Shaw’s family-run jewelry business ran into financial difficulties. London wanted to help his struggling friend out. Now here is where the auditor needs to be ever vigilant and well prepared to withstand the sometimes intense challenges to personal integrity. While knowing where to draw the line is not always easy, in London’s case there was no question. He intentionally crossed clear-cut ethical and legal lines, giving Shaw non-public, insider information on five KPMG clients, including nutritional supplement marketer, Herbalive, Ltd. and footwear firm, Skechers USA, Inc., for which he was lead auditor.

The complaint alleges that Shaw’s trading on the insider information netted him at least $1.27 million. In exchange, he paid London over $50,000 in cash, usually handed off in bags outside Shaw’s jewelry store. Additionally, items of jewelry and entertainment were provided by Shaw.

The more difficult question to answer is why someone in London’s position would risk a reputation built up over so many years, as well as jeopardizing his livelihood and even possibly his freedom, for a few bags of money and jewels that seem small in comparison to the salary of a Big Four firm partner. Hopefully, answers will come. Meanwhile, KPMG has had no choice but to resign as auditor for Herbalife and Skechers, as well as pull the last two or three years’ audit reports for those companies.

Remarkable as this episode sounds, any organization can be vulnerable, as long as human beings are involved. Even an Integra firm recently experienced what have been characterized by one partner as ethical and legal breeches by fellow partners. In this case, partners who had worked together for years, abruptly left the firm and the remaining partner, taking clients and client files, in apparent disregard for agreements, relationships, and moral consequences. Unfortunately, in situations like these, accounting profession codes of ethics and state statutes must be invoked, when personal common sense and integrity fail.

Coincidently, the AICPA in April issued an Exposure Draft, updating and modernizing the AICPA Code of Professional Conduct, which all AICPA members are required to follow. Also, the PCAOB is considering a proposed rule that would require audit firms to disclose the identity of the audit partner for all of their clients.

For further information, see SEC files complaint against KPMG Partner

Integrated Reporting Moves a Step Closer

Framework draft issued for review

Though I recall hearing both the AICPA Chairman and President mention the emergence of Integrated Reporting at two separate conferences in the past year-and-half, the recurrent commotion over the future of IFRS, and the state of audit competition and quality, appear to have drowned out the Integrated Reporting message during this period. Determined to change that in one fell swoop, the International Integrated Reporting Council (IIRC) held events in thirteen countries worldwide on April 16, including six at stock exchanges, to launch the Consultation Draft of the International Integrated Reporting <IR> Framework.

In the September, 2012 Audit & Accounting Alert, we covered the history of the Integrated Reporting movement, dating back to 1989. Though support for the general idea was noted to be widely held, the formidable practicalities of implementation were seen to cloud the likelihood of ever achieving the goal. However, the Draft Framework represents a substantial step forward along the intricately complex path that lies ahead.

The IIRC asserts that current reporting models and strategy formation do not adequately integrate vital intangible factors from the economic, social and environmental sectors, so that businesses and investors are at risk of making unsound decisions regarding employment of resources, leading to higher capital costs.

Focusing on current and long-term value creation, the goals of Integrated Reporting are stated as to 1) achieve a more cohesive and efficient approach to reporting that communicates the full range or pertinent factors, 2) inform capital allocation decisions, 3) enhance accountability and stewardship of the broad base of capitals employed, as well as the relationship of their interdependencies, and 4) support integrated thinking, decision-making and actions.

The basic concept of Integrated Reporting is to show how an entity employs and impacts the intangible as well as the tangible aspects of financial, manufactured, intellectual, human, social and relationship, and natural capital through its business model to create (or destroy) value over time.

The capitals, which are the key categories for reporting are further described as:

Financial capital: The pool of funds that is available to an organization for use in the production of goods or the provision of services, and is obtained through financing, such as debt, equity or grants, or generated through operations or investments.

Manufactured capital: Manufactured physical objects (as distinct from natural physical objects) that are available to an organization for use in the production of goods or the provision of services, including buildings, equipment, infrastructure (such as roads, ports, bridges, and waste and water treatment plants). Manufactured capital is often created by other organizations, but includes assets manufactured by the reporting organization when they are retained for its own use.

Intellectual capital: Organizational, knowledge-based intangibles, including 1) intellectual property, such as patents, copyrights, software, rights, and licences, 2) “organizational capital” such as tacit knowledge, systems, procedures and protocols, and 3) intangibles associated with the brand and reputation that an organization has developed.

Human capital: People’s competencies, capabilities and experience, and their motivations to innovate, including their 1) alignment with and support for an organization’s governance framework, risk management approach, and ethical values, 2) ability to understand, develop and implement an organization’s strategy, and 3) loyalties and motivations for improving processes, goods and services, including their ability to lead, manage and collaborate.

Social and relationship capital: The institutions and the relationships within and between communities, groups of stakeholders and other networks, and the ability to share information to enhance individual and collective wellbeing. Social and relationship capital includes 1) shared norms, and common values and behaviors, 2) key stakeholder relationships, and the trust and willingness to engage that an organization has developed and strives to build and protect with external stakeholders, such as customers, suppliers, business partners, local communities, legislators, regulators, and policy-makers, and 3) an organization’s social license to operate.

Natural capital: All renewable and nonrenewable environmental resources and processes that provide goods or services that support the past, current or future prosperity of an organization. It includes 1) air, water, land, minerals and forests, and 2) biodiversity and eco-system health.

At the launch event held at the Johannesburg Stock Exchange in South Africa, the IIRC chairman, Mervyn King said: “The world today faces two critical and interconnected dangers: financial instability and unsustainability… The corporate reporting landscape has not kept pace with the scale of the changes that have taken place in the world economy, business and society in recent decades…” At a similar event in New York, the IIRC CEO, Paul Druckman added: “Over the last three years, the IIRC has built consensus around the idea that the current corporate reporting model must change to meet the needs of today’s business and investment environment. The Framework is the product of business and investor input and testing involving over 300 individuals and organizations. The IIRC has recruited businesses and investors to its Pilot Programme in 25 countries.”

Those taking part in the work, according to the IIRC press release include “The Coca-Cola Company, China Light and Power, The Clorox Company, National Australia Bank, Unilever and Hyundai. The 50+ institutional investors that have been involved in shaping and testing the Framework include: Deutsche Bank, Goldman Sachs, Natixis, APG and Norges Bank.”

Noting “the business model as being at the heart of integrated reporting, the Chartered Institute of Management Accountants (CIMA), the International Federation of Accountants (IFAC), and PwC, at the request of the International Integrated Reporting Council (IIRC), issued in March a background paper, “Business Model,” to provide a consistent format for companies to follow in communicating their business model, which is defined as “the chosen system of inputs, business activities, outputs and outcomes that aims to create value over the short, medium and long term.”

Judging by the positive feedback already for the Draft Integrated Reporting Framework, from sources around the world, the cause for Integrated Reporting has now appeared to gain traction and much needed attention. President and CEO Barry Melancon spoke on behalf of the AICPA: “The AICPA has long supported efforts to develop a voluntary global framework for business reporting to complement financial reporting. The release of the Draft Framework represents important progress toward this goal. We applaud the IIRC for fostering international collaboration and encouraging key stakeholders to contribute to the <IR> Framework, which we believe will facilitate meaningful adoption of <IR>.”

The European Commission (EC) went even further on April 16, proposing a new law that will require certain large companies “to disclose information on policies, risks and results as regards environmental matters, social and employee-related aspects, respect for human rights, anti-corruption and bribery issues, and diversity on the boards of directors.” The goal is better transparency, while providing flexibility in how the data is provided in annual reports. Michel Barnier, Commissioner in charge of the Internal Market and Services at the EC, noted that “companies that already publish information on their financial and non-financial performances take a longer term perspective in their decision-making. They have lower financing costs, attract and retain talented employees, and ultimately are more successful.

For further information, see The International Integrated Reporting Council

Worldwide Update

Roundup of recent and upcoming actions and activities by audit and accounting organizations

Periodically, we will summarize significant items impacting the accounting world.


IASB – International Accounting Standards Board (

  1. Accounting Standards Advisory Forum (ASAF) is formed and signs Memorandum of Understanding. With representation from accounting standard setters from the six continents, the group’s objective “is to provide an advisory forum where members can constructively contribute towards the achievement of the IASB’s goal of developing globally accepted high-quality accounting standards.
  2. IFRS for SMEs – Monthly updates are provided. A comprehensive three year review is under way for the standards which were initially issued in 2009.
  3. XBRL – The 2013 annual IFRS Taxonomy is published.
  4. Conceptual Framework project – A discussion Paper is planned for release in upcoming months that will focus on the reporting entity, elements of financial statements, measurement, presentation and disclosure. The Framework is a guide of basic concepts from which consistent accounting standards can be developed.

IFAC – International Federation of Accountants (

  1. IFAC reports that SMEs and SMPs (small and medium accounting practices) “that integrate sustainability into their core business strategy can benefit from lower costs, reduced risk, and new opportunities. See article at Sustainability: Challenges and Opportunities for SMPs and SMEs.
  2. Business Model,” a background paper for integrated reporting was issued in March 2013 to provide businesses a standard definition of the business model, to promote consistent application in reporting. The paper defines the term business model as “the chosen system of inputs, business activities, outputs and outcomes that aims to create value over the short, medium and long term.”
  3. The International Ethics Standard Board for Accountants (IESBA) meets about four times a year, and develops and issues ethical standards for the accounting profession. The 2012 edition of the IESBA Code of Ethic for Professional Accountants is currently in effect, and is updated periodically.
  4. The International Auditing and Assurance Standards Board (IAASB) sets audit and assurance standards and facilitates convergence of national standards. Currently, the Consultation Paper, “A Framework for Audit Quality is out for comment until May 15, 2013. See the March 2013 issue of the Audit & Accounting Alert for a discussion of this document.

IIRC - International Integrated Reporting Council (

1. Consultation Draft of the International <IR> Framework is launched on April 16, 2013. See the preceding article in this issue, as well as the September, 2012 issue of the Audit & Accounting Alert for more on this topic.

 AAA – Americas, Australia & Asia

FASB – Financial Accounting Standards Board (

  1. Reporting Discontinued Operations – Exposure Draft issued in April to limit definition of discontinued operations to a separate major line of business or major geographic area of operations. Also, disclosures of financial results would be expanded, and convergence with IFRS would be enhanced.
  2. Financial Instruments – Credit Losses – Comment deadline for proposed update on accounting for credit losses extended to May 31, 2013. A single “expected credit loss” measurement is proposed that would require estimating and recording the total loss expected based on past, current and future inputs. See the July 2012 issue of the Audit & Accounting Alert for a discussion of this topic.
  3. Leases – A revised exposure draft is planned for the second quarter of 2013, to address comments received and deliberations with the IASB since issuance of the original exposure draft in 2010. See the April 2012 issue of the Audit & Accounting Alert for a discussion of this topic.
  4. Revenue Recognition: Revenue from Contracts with Customers - The final standard is scheduled for the second quarter of 2013, having been deliberated with the IASB. Results of deliberations have been considered in the application of the five step process of identifying the customer and the separate performance obligations, determining and allocating the transaction price, and recognizing revenue upon satisfaction of performance obligations. See the May 2012 issue of the Audit & Accounting Alert for a discussion of this topic.
  5. Liquidation Basis of Accounting – Accounting Standard Update No. 2013-07 issued April 22, 2013 clarifies when entities should apply this basis, and how to account and report. Assets are measured based on expected cash proceeds, while liabilities are reported based on GAAP.

Late Breaking News: On April 23, the FASB announced that Russell Golden will succeed Leslie Seidman as FASB chairman on July 1. A former Deloitte & Touche partner, Golden joined the FASB staff in 2004, and was appointed to the board in 2010. More to come in future issues.

AICPA – American Institute of Certified Public Accountants (

  1. Auditing Standards Board (ASB)
    a. Attestation standards, which cover assurance engagements other than for audits and reviews of historical financial information, are being updated for clarity and convergence with IAASB standards. An exposure draft is scheduled for May, 2013.
    b. Statement of Position 13-1 (SOP 13-1) – Attest Engagements on Greenhouse Gas Emissions Information updates SOP 03-2 adding review guidance to the examination guidance of the earlier SOP. Issued in April, 2013.
    c. Not-for-Profit Entities Audit and Accounting Guide – The first comprehensive revision since 1996 was released in March, 2013. The guide includes enhancements and expansions in areas such as reporting relationships with other entities, noncash gifts, program-related investments and microfinance loans, municipal bond debt, donor-imposed restrictions, and the legal and regulatory environment.
  2. Accounting and Review Services Committee (ARSC) – A new exposure draft on compilation standards is expected in June to replace, combine and revise the three proposals that were withdrawn. The compilation engagement may be repositioned as a nonattest service, as is the preparation of financial statements. See the November, 2012 issue of the Audit & Accounting Alert for a discussion of this topic.
  3. Professional Ethics Executive Committee (PEEC) – Exposure Draft issued on April 15, 2013 restructuring and codifying the AICPA Code of Professional Ethics. The proposed code is categorized by topic for easier and more intuitive use, a conceptual framework and approach is incorporated both for members in public practice and in business, and nonauthoritative guidance is referenced.

PCAOB – Public Company Accounting Oversight Board (

1. Proposed Framework for Reorganization of PCAOB Auditing Standards was issued for public comment on March 26, 2013. The framework would place existing standards into a logical, topical format arranged by categories of general auditing standards, audit procedures, auditor reporting, matters relating to filings under federal securities laws, and other matters associated with audits.

BAC – Business Accounting Council of Japan’s Financial Services Agency (

1. Opinion on the Standard Setting to Address Risks of Fraud in an Audit issued on March 26, 2013, to be used by the Japanese Institute of Certified Public Accountants to revise current standards and converge with international standards.

EMEIA – Europe, Middle East, India & Africa

EFRAG – European Financial Reporting Advisory Group (

1. Three bulletins published on April 11, 2013 address the IFRS Conceptual Framework proposal from the standpoints of prudence, reliability of financial information, and uncertainty. The IFRS proposal drops the use of the term “prudence,” replaces “reliability” with “faithful representation,” and limits the use of “uncertainty” to the area of measurement and not to definition or recognition of an element. The bulletins make the case for the importance of retaining the usage of these terms in the Conceptual Framework.

FRC – Financial Reporting Council of the UK (

1. Audit Quality Inspection Reports were issued for BDO and Grant Thornton. The reports noted issues with professional skepticism on several audits, as well as sufficiency of audit evidence obtained.

EC – European Commission (

1. Proposal for a Directive amending Council Accounting Directives (Fourth and Seventh Accounting Directives on Annual and Consolidated Accounts, 78/660/EEC and 83/349/EEC, respectively) as regards disclosure of non-financial and diversity information by certain large companies and groups. The objective is to increase EU companies’ transparency and performance on environmental and social matters, and, therefore, to contribute effectively to long-term economic growth and employment. See preceding article in this issue.

Late Breaking News: Following up on last month’s article on mandatory auditor rotation, the Legal Affairs Committee of the European Parliament voted on April 25 to require companies to change auditors every 14 years, unless certain conditions are met, in which case the time frame is 25 years. The full European Parliament will consider the reform later this year.

Additional A&A News

The following links provide a selection of current articles devoted to highlighting other A&A topics currently making news.

  1. Herz Pens Book on FASB Experiences
  2. A Pension Plan Funded With Cheese 
  3. Local audits go back to the future 
  4. China Accounting: Stalking the Big Four
  5. Australian Accountants Compromise on Pay
  6. Indian Accounting Regulator Plans to Launch TV


Audit & Accounting Alert is a publication of Integra International intended to highlight emerging issues in the profession. The goal is to give Integra members an awareness of developments impacting the practice of Audit & Accounting, enabling them to stay on the forefront of industry trends.

Editor Gerald E. Herter  •  HMWC CPAs & Business Advisors, 17501 E. 17th Street, Suite 100, Tustin, CA 92780-7924
 •  Tel: 1 714 505-9000  •  Fax: 1 714 505-9200  •  Email: [email protected]