U.S. Securities & Exchange Commission
SEC Seal
Home | Previous Page
U.S. Securities and Exchange Commission

Arthur Andersen LLP Agrees to Settlement Resulting in First Antifraud Injunction in More Than 20 Years and Largest-Ever Civil Penalty ($7 Million) in SEC Enforcement Action Against a Big Five Accounting Firm

FOR IMMEDIATE RELEASE

2001-62

SEC Finds That Andersen's Audit Reports on Financial Statements for Waste Management, Inc. Were Materially False and Misleading and That Andersen Engaged in Improper Professional Conduct; Three Andersen Partners Also Consent to Entry of Antifraud Injunctions and Monetary Penalties and Settle Related Administrative Proceedings; a Fourth Andersen Partner, a Regional Practice Director, Settles Administrative Proceedings for Improper Professional Conduct

Washington, D.C., June 19, 2001 – The Securities and Exchange Commission today brought settled enforcement actions against Arthur Andersen LLP and four of its current or former partners in connection with Andersen's audits of the annual financial statements of Waste Management, Inc. for the years 1992 through 1996. Those financial statements, on which Andersen issued unqualified or "clean" opinions, overstated Waste Management's pre-tax income by more than $1 billion. As alleged in the Commission's complaint and found in a related Commission order, Andersen knowingly or recklessly issued materially false and misleading audit reports on Waste Management's annual financial statements. The audit reports falsely stated that the financial statements were presented fairly, in all material respects, in conformity with generally accepted accounting principles ("GAAP") and that Andersen's audits were conducted in accordance with generally accepted auditing standards ("GAAS").

Andersen settled both a civil injunctive action charging violations of antifraud provisions of the federal securities laws, and related administrative proceedings finding that the firm had engaged in improper professional conduct. Without admitting or denying the allegations or findings, Andersen agreed to the first antifraud injunction in more than 20 years and largest-ever civil penalty -- of $7 million -- in an SEC enforcement action against a Big Five accounting firm. Andersen further agreed to be censured under the SEC's rules of practice.

Three Andersen partners also settled both the civil injunctive action, which also charges them with violations of antifraud provisions of the federal securities laws, and related administrative proceedings. Without admitting or denying the allegations, each agreed to the entry of an antifraud injunction to the payment of a civil penalty and to a bar from appearing or practicing before the Commission as an accountant -- one with the right to request reinstatement after five years and two with the right to request reinstatement after three years.

The fourth Andersen partner, a regional practice director, settled administrative proceedings finding that he had engaged in improper professional conduct. Without admitting or denying the findings, he also agreed to a bar from appearing or practicing before the Commission as an accountant, with the right to request reinstatement after one year.

According to Richard H. Walker, the SEC's Director of Enforcement, "Arthur Andersen and its partners failed to stand up to company management and thereby betrayed their ultimate allegiance to Waste Management's shareholders and the investing public. Given the positions held by these partners and the duration and gravity of the misconduct, the firm itself must be held responsible for the false and misleading audit reports issued in its name." Mr. Walker added: "Accountants play a critical role in providing access to our capital markets. We will not shy away from pursuing accountants and accounting firms when they fail to live up to their responsibilities to ensure the integrity of financial reporting process."

Following is a summary of the sanctions:

  • Arthur Andersen LLP consented (1) to the entry of a permanent injunction enjoining it from violating section 10(b) of the Securities Exchange Act of 1934 ("Exchange Act") and rule 10b-5 thereunder; (2) to pay a civil money penalty in the amount of $7 million; and (3) in related administrative proceedings, to a censure pursuant to rule 102(e) of the Commission's rules of practice, based upon the Commission's finding that the firm had engaged in improper professional conduct and based also upon the issuance of the permanent injunction;
  • Robert E. Allgyer, now retired and then the partner responsible for the Waste Management engagement, consented (1) to the entry of a permanent injunction enjoining him from violating section 10(b) of the Exchange Act and rule 10b-5 thereunder and section 17(a) of the Securities Act of 1933 ("Securities Act"); (2) to pay a civil money penalty in the amount $50,000; and (3) in related administrative proceedings pursuant to rule 102(e), to the entry of an order denying him the privilege of appearing or practicing before the Commission as an accountant, with the right to request his reinstatement after five (5) years;
  • Edward G. Maier, currently a partner and then the risk management partner for Andersen's Chicago office and the concurring partner on the Waste Management engagement, consented (1) to the entry of a permanent injunction enjoining him from violating section 10(b) of the Exchange Act and rule 10b-5 thereunder and section 17(a) of the Securities Act; (2) to pay a civil money penalty in the amount $40,000; and (3) in related administrative proceedings pursuant to rule 102(e), to the entry of an order denying him the privilege of appearing or practicing before the Commission as an accountant, with the right to request his reinstatement after three (3) years;
  • Walter Cercavschi, currently a partner and then a partner on the Waste Management engagement, consented (1) to the entry of a permanent injunction enjoining him from violating section 10(b) of the Exchange Act and rule 10b-5 thereunder and section 17(a) of the Securities Act; (2) to pay a civil money penalty in the amount $30,000; and (3) in related administrative proceedings pursuant to rule 102(e), to the entry of an order denying him the privilege of appearing or practicing before the Commission as an accountant, with the right to request his reinstatement after three (3) years;
  • Robert G. Kutsenda, currently a partner and then the Central Region Audit Practice Director responsible for Andersen's Chicago, Kansas City, Indianapolis, and Omaha offices ("Practice Director"), consented in administrative proceedings pursuant to rule 102(e), to the entry of an order, based on the Commission's finding that he engaged in improper professional conduct, denying him the privilege of appearing or practicing before the Commission as an accountant, with the right to request reinstatement after one (1) year.

As alleged in the Commission's complaint or found in its related administrative order: In each of the years 1992 through 1996, the Andersen engagement team identified a variety of improper accounting practices that caused Waste Management's operating and income tax expenses to be understated and its net income to be overstated. While Andersen quantified some of these misstatements, other known and likely misstatements were not quantified and estimated, as required by GAAS. In connection with the audit of Waste Management's 1993 financial statements, Andersen proposed a series of "Action Steps" to change the company's improper accounting practices only in future periods and to write off its prior misstatements over a five- to seven-year period, rather than require immediate correction in accordance with GAAP. Andersen also allowed Waste Management to, in Andersen's own words, "bury" certain charges by improperly netting them against unrelated, one-time gains. Andersen told Waste Management that its use of netting was an "area of SEC exposure" but nonetheless allowed it to occur. Ultimately, when the misstatements were revealed, Waste Management announced the largest restatement in American corporate history. In issuing an unqualified audit report on the restated financial statements, Andersen acknowledged that the financial statements it had originally audited were materially misstated.

As further alleged or found by the Commission:

Andersen

  • Andersen knowingly or recklessly issued false and misleading unqualified audit reports on Waste Management's annual financial statements for the years 1993 through 1996. The audit reports stated that the Company's financial statements were presented fairly, in all material respects, in conformity with GAAP and that Andersen's audits were conducted in accordance with GAAS. These representations were materially false and misleading.
  • In one or more audits during the period 1993 through 1996, Andersen, through Allgyer, Maier and Cercavschi, identified and documented numerous accounting issues giving rise to misstatements and likely misstatements, and brought certain of the issues to the attention of Andersen's Practice Director, the firm's Managing Partner and the Audit Division Head for the firm's Chicago office ("Audit Division Head"). The engagement team also consulted with and relied upon Andersen's waste industry expert in its Accounting Principles Group (a unit within Andersen available for consultation on significant accounting issues) concerning certain of the Company's improper accounting practices discussed herein.
  • With respect to many of the non-GAAP accounting practices that it identified, Andersen failed to quantify and estimate all known and likely misstatements resulting from the accounting issues identified by the engagement team. During the years in question, Andersen quantified only certain of the misstatements. For example, in its 1993 audit, Andersen quantified current and prior-period misstatements of $128 million, the correction of which would have reduced net income before special items by 12%. The engagement team also identified, but did not quantify or estimate, accounting practices that gave rise to other known and likely misstatements. Allgyer and Maier consulted with the Practice Director and the Audit Division Head and informed them of the quantified misstatements and "continuing audit issues," and Allgyer consulted with the Firm's Managing Partner and provided him the same information. The partners determined that the misstatements were not material and that Andersen could issue an unqualified audit report on the Company's 1993 financial statements.
  • In connection with the 1993 audit, following the consultations noted above, and prior to the Company's announcement of its 1993 earnings, Allgyer presented the Action Steps to the Company's Chief Executive Officer (later signed and initialed by the Company's Chief Financial Officer and Chief Accounting Officer). According to an internal memorandum that Allgyer distributed, the Action Steps were the "minimum changes we have concluded are necessary for [Waste Management] to implement immediately" and concluded that the Company's compliance with the "must do" items [in the Action Steps] "brings the Company to a minimum acceptable level of accounting . . . ." The Action Steps also evidenced the fact that Andersen had identified the non-GAAP accounting practices that gave rise to numerous misstatements in the Company's 1993 through 1996 financial statements.
  • In 1994, the Company continued to engage in accounting practices that gave rise to the quantified misstatements and the other known and likely misstatements. As in 1993, the Practice Director, the Firm's Managing Partner and the Audit Division Head were consulted, and they again concurred in the issuance of an unqualified audit report on the Company's financial statements.
  • Andersen monitored the Company's compliance or lack of compliance with the Action Steps. In 1995, in many instances, the Company did not implement the Action Steps and continued to utilize accounting practices that did not conform with GAAP. In its 1995 financial statements, the Company used a $160 million gain that it realized on the exchange of its interest in an entity known as ServiceMaster to offset $160 million in unrelated operating expenses and misstatements that, in most instances, had been identified as misstatements in 1994 and earlier. In its income statement, the Company offset the misstatements and expenses against the gain. The amount netted represented 10% of 1995 pre-tax income before special charges. The Company made no disclosure of the netting.
  • After reaching a preliminary determination that the amounts being netted were not material to the financial statements taken as a whole, two partners on the engagement consulted with the Practice Director about the netting and whether Andersen would be required to qualify or withhold its audit report if the Company netted the ServiceMaster gain and did not disclose the netting. (The Practice Director understood that only prior-period adjustments would be netted.) He concluded that, although the netting did not conform with GAAP and the netted items would not be disclosed, Andersen did not need to qualify or withhold its audit report. He reasoned that the netting and the non-disclosure of the misstatements and the unrelated gain were not material to the Company's 1995 financial statements taken as a whole. In fact, these items were material. Andersen's 1995 unqualified audit report was materially false and misleading.
  • Several months after the completion of the 1995 audit and the Company's filing of its 1995 Form 10-K with the Commission, Andersen prepared a memorandum articulating its disagreement with the Company's use of netting and the lack of disclosure. The memorandum discussed the ServiceMaster transaction of 1995 and gains from other transactions in 1996 that were netted without disclosure. According to the memorandum, Andersen recognized that
[t]he Company has been sensitive to not use special charges [to eliminate balance sheet errors and misstatements that had accumulated in prior years] and instead has used 'other gains' to bury charges for balance sheet clean ups. [Emphasis in original].

We disagree with management's netting of the gains and charges and the lack of disclosures. We have communicated strongly to WMX management that this is an area of SEC exposure. We will continue to monitor this trend, and assess in all cases the impact of non-disclosure in terms of materiality to the overall financial statement presentation and effect on current year earnings.

  • Despite its concerns about the Company's use of netting, Andersen did not withdraw or modify its 1995 audit report or take steps to prevent the Company from continuing to use netting in 1996 to eliminate current-period expenses and prior-period misstatements from its balance sheet. The Company also continued to employ many of the improper accounting practices to inflate income.
  • During the 1996 audit, Andersen quantified misstatements in the Company's financial statements, which equaled 7.2% of pre-tax income from continuing operations before special charges. The Company also netted and misclassified gains and profits of approximately $85.1 million on the sales of two subsidiaries, which Andersen also identified as improper, and which, if corrected in 1996, would have reduced pre-tax income from continuing operations before special charges by an additional 5.9%.
  • As noted in the order as to Andersen, this conduct took place against the following background:
    • Andersen has served as Waste Management's auditors since before Waste Management became a public company in 1971.
    • Andersen regarded Waste Management as a "crown jewel" client.
    • Until 1997, every chief financial officer ("CFO") and chief accounting officer ("CAO") in Waste Management's history as a public company had previously worked as an auditor at Andersen.
    • During the 1990s, approximately 14 former Andersen employees worked for Waste Management, most often in key financial and accounting positions.
    • Andersen regarded Allgyer as one of its top "client service" partners. Andersen selected Allgyer to become the Waste Management engagement partner because, among other things, Allgyer had demonstrated a "devotion to client service" and had a "personal style that . . . fit well with the Waste Management officers." During this time (and continuing throughout his tenure as engagement partner for Waste Management), Allgyer held the title of "Partner in Charge of Client Service" for Andersen's Chicago office and served as "marketing director." In this position, Allgyer coordinated the marketing efforts of Andersen's entire Chicago office including, among other things, cross-selling non-attest services to audit clients.
    • Shortly after Allgyer's appointment as engagement partner, Waste Management capped Andersen's corporate audit fees at the prior year's level but allowed the Firm to earn additional fees for "special work."
    • As reported to the audit committee, between 1991 and 1997, Andersen billed Waste Management corporate headquarters approximately $7.5 million in audit fees. Over this seven-year period, while Andersen's corporate audit fees remained capped, Andersen also billed Waste Management corporate headquarters $11.8 million in other fees.
    • A related entity, Andersen Consulting, also billed Waste Management corporate headquarters approximately $6 million in additional non-audit fees. Of the $6 million in Andersen Consulting fees, $3.7 million related to a Strategic Review that analyzed the overall business structure of the Company and ultimately made recommendations on implementing a new operating model designed to "increase shareholder value." Allgyer was a member of the Steering Committee that oversaw the Strategic Review, and Andersen Consulting billed his time for these services to the Company.
    • In setting Allgyer's compensation, Andersen took into account, among other things, the Firm's billings to the Company for audit and non-audit services.

Allgyer

  • Allgyer is the only defendant charged in connection with Andersen's audit of Waste Management's 1992 financial statements. The Complaint alleges that Allgyer knew or was reckless in not knowing that the Andersen's audit report on the Company's 1992 financial statements was materially false and misleading because in addition to quantified misstatements totaling $93.5 million that, if corrected, would have reduced the Company's net income before accounting changes by 7.4%, he knew or was reckless in not knowing of additional known and likely misstatements that had not been quantified and estimated. Allgyer further knew that the Company had netted, without disclosure, $111 million of current-period expenses and prior-period misstatements against a portion of a one-time gain from an unrelated initial public offering of securities, which had the effect of understating Waste Management's 1992 operating expenses and overstating the Company's income from operations.
  • The Commission's complaint further alleges that Allgyer engaged in similar conduct in connection with the 1993 through 1996 audits: Allgyer knew or was reckless in not knowing that Andersen's unqualified audit report for each of the years 1993 through 1996 was materially false and misleading.

Maier

  • The Commission's complaint alleges that, for each of the years 1993 through 1996, Maier knew of the quantified misstatements and of accounting practices that gave rise to additional known and likely misstatements that were not quantified and estimated and approved the issuance of an unqualified audit report. He knew or was reckless in not knowing that Andersen's unqualified audit report for each of the years 1993 through 1996 was materially false and misleading.

Cercavschi

  • The Commission's complaint alleges that, for each of the years 1994 through 1996, Cercavschi knew of the quantified misstatements and of accounting practices that gave rise to additional known and likely misstatements that were not quantified and estimated and approved the issuance of an unqualified audit report. He knew or was reckless in not knowing that Andersen's unqualified audit report for each of the years 1994 through 1996 was materially false and misleading.

Kutsenda

  • The Commission's order as to Kutsenda finds that, during the 1995 audit, when Kutsenda was informed of the non-GAAP netting of a $160 million one-time gain against unrelated expenses and prior-period misstatements and that the amount represented 10% of the Company's 1995 pre-tax income, he knew or should have known that the Company's use of netting warranted heightened scrutiny. Although not part of the engagement team, when he was consulted by two of the engagement partners, Kutsenda was required under GAAS to exercise due professional care so that an unqualified audit report was not issued on financial statements that were materially misstated. The order further finds that Kutsenda wrongly concluded that Andersen was not required to withhold or qualify its audit report and that in reaching this result, he engaged in highly unreasonable conduct that resulted in a violation of applicable professional standards. Based on these findings, the Commission found that Kutsenda engaged in improper professional conduct within the meaning of rule 102(e)(1)(ii) of the Commission's rules of practice.

*   *   *   *   *   *

The Commission's investigation is continuing as to others.

For further information, contact:

Richard Walker   (202) 942-4500
Stephen Cutler   (202) 942-4540
Thomas Newkirk   (202) 942-4550
James Coffman   (202) 942-4551

 

http://www.sec.gov/news/headlines/andersenfraud.htm


Modified: 06/19/2001