UNITED STATES OF AMERICA Before the SECURITIES AND EXCHANGE COMMISSION SECURITIES EXCHANGE ACT OF 1934 Release No. 38844 / July 17, 1997 ACCOUNTING AND AUDITING ENFORCEMENT Release No. 937 / July 17, 1997 ADMINISTRATIVE PROCEEDING File No. 3-9347 _________________________________ : In the Matter of : ORDER INSTITUTING PROCEEDINGS : AND OPINION AND ORDER DENNIS KLEIN, CPA : PURSUANT TO RULE 102(e) : OF THE COMMISSION'S RULES OF Respondent. : PRACTICE : ________________________________: I. The Securities and Exchange Commission ("Commission") deems it appropriate and in the public interest to institute proceedings against Dennis Klein, CPA ("Klein"), pursuant to Rule 102(e)(1) of the Commission's Rules of Practice.<(1)> Accordingly, IT IS HEREBY ORDERED that said proceedings be, and hereby are, instituted. II. In anticipation of the institution of these proceedings, Klein has submitted an Offer of Settlement to the Commission which the Commission has determined to accept. Solely for the purpose of this proceeding and any other proceedings brought by or on behalf of the Commission or in which the Commission is a party, and <(1)> Rule 102(e)(1) of the Commission's Rules of Practice, 17 C.F.R.  201.102(e), provides in pertinent part: The Commission may censure a person or deny, temporarily or permanently, the privilege of appearing or practicing before it in any way to any person who is found by the Commission after notice of an opportunity for hearing in the matter . . . (ii) . . . to have engaged in . . . improper professional conduct. without admitting or denying any findings set forth in this Order Instituting Proceedings and Opinion and Order Pursuant to Rule 102(e) of the Commission's Rules of Practice ("Order"), except that Klein admits the jurisdiction of the Commission over him and over the subject matter of this proceeding, Klein consents to the entry of the findings and remedial sanctions set forth below. III. FINDINGS On the basis of this Order and Klein's Offer of Settlement, the Commission makes the following findings:<(2)> A. RESPONDENT AND ISSUER 1. RESPONDENT -- DENNIS KLEIN is a certified public accountant licensed in the State of New York and has been a partner in the Bellmore, New York, accounting firm of Sklar, Heyman & Co. since 1993. Klein performed the work for Sklar, Heyman's audit of Latin American Resources, Inc.'s ("LARI") financial statements for its fiscal year ended 1993. Sklar, Heyman issued an unqualified audit report on those financial statements which were contained in LARI's Form 10-SB filed with the Commission in July 1994. LARI was Sklar, Heyman's only public company audit client. 2. ISSUER -- LATIN AMERICAN RESOURCES, INC. ("LARI") is a Nevada corporation with offices in Huntington Station, New York. LARI was the surviving corporation following the merger of Security Asset Management International, Inc. ("SAMI") and Mining Corporation, a public shell. LARI's common stock is registered with the Commission under Section 12(g) of the Exchange Act. From February, 1994, until August, 1994, when the Commission suspended trading in LARI's common stock, quotes on trades in its common stock were reported on the National Association of Securities Dealers Automated Quotation System. LARI's common stock is not currently traded. <(2)> The findings herein are made pursuant to Klein's Offer of Settlement and are not binding on any other person or entity named as a respondent in this or any other proceeding. ======END OF PAGE 2====== B. KLEIN ENGAGED IN IMPROPER PROFESSIONAL CONDUCT 1. Summary This proceeding is brought to address the conduct of Klein in connection with Sklar, Heyman & Co.'s audit of the December 31, 1993, financial statements of LARI which were included in LARI's Form 10-SB filed with the Commission in July, 1994. The Form 10-SB stated that LARI owned mining and agricultural properties in Mexico and South America. By far the most valuable properties LARI claimed to own were one timber plantation and three palm oil and hearts of palm plantations located in Brazil ("Brazilian plantations"). Those four plantations -- carried at an aggregate value of $5,415,655 -- constituted more than 95% of the assets on the balance sheet included in the Form 10-SB. Sklar, Heyman & Co. issued an audit report containing an unqualified opinion that stated that LARI's financial statements for the fiscal year ended December 31, 1993, were fairly presented in conformity with generally accepted accounting principles ("GAAP") and that the audit had been conducted in accordance with generally accepted auditing standards ("GAAS"). In fact the company's financial statements were not presented in conformity with GAAP, as LARI's assets and shareholders' equity were materially overstated. Furthermore, Klein failed to comply with GAAS in conducting the audit in several ways. First, Klein was not independent of LARI because of prior compilation work he had done for LARI's predecessors. Second, Klein failed to obtain sufficient, competent evidential matter to support LARI's claimed ownership and valuation of the Brazilian plantations. Third, Klein failed to exercise due care and a proper degree of professional skepticism when evaluating documentation and representations related to these assets. Fourth, Klein falsely opined in his audit report that LARI's financial statements were prepared in conformity with GAAP. 2. Klein's Involvement Klein first became involved with LARI when he was engaged to prepare compilation reports for LARI's predecessor entities, SAMI and Mining Corporation. In June, 1993, Klein was requested to compile the financial statements because the company was preparing for a future filing with the National Association of Securities Dealers. Prior to this time, the accounting operations had not been set up nor had books and records been maintained. In performing the compilation work, Klein was given copies of contracts, checkbooks, and bank transfer documents from which he was to develop the accounting records and financial statements for SAMI and Mining Corporation. With respect to the Brazilian plantations, Klein was provided ======END OF PAGE 3====== with a series of assignment agreements and a bound report of the related appraisals and deeds. In September, 1993, LARI requested that Sklar, Heyman & Co. issue an audit report on financial statements reflecting the merger of SAMI and Mining Corporation to form LARI. Klein was the primary person at Sklar, Heyman & Co. responsible for the audit. In the audited financial statements, Klein listed the value of the Brazilian plantations based on (1) the $5,000,000 total "liquidation value" of the 10,000 shares of preferred LARI stock that purportedly were exchanged for them, and (2) the purported appraised value of the bare land without the trees, which was said to be approximately $5 million. Also added to the valuation were additional moneys purportedly expended by SAMI and LARI on these properties. 3. Departures from GAAP in the 1993 Fiscal Year End Financial Statements LARI materially overstated the amounts at which it recorded the Brazilian properties as assets on its books and in its financial statements for the fiscal year ended December 31, 1993. Because of the incorrect accounting treatment given to the transaction by LARI, the financial statements included in the company's Form 10-SB filed with the Commission were materially misstated in that LARI's listed assets and shareholders' equity were both materially overstated. 4. Audit Failures a. Klein was not independent of LARI Regulation S-X, 17 C.F.R. 210.2-01(b), and GAAS require accountants to maintain independence from the entities which engage them to perform audit services.<(3)> When an auditor is not independent, he must so state and disclaim an opinion. AU  504.09. <(3)> AICPA Statements on Auditing Standards ("AU")  504.08 provides that "[t]he independent public accountant must be without bias with respect to the client; otherwise, he would lack that impartiality necessary for the dependability of his findings." ======END OF PAGE 4====== Klein was not independent because he prepared the financial statements that he audited.<(4)> As LARI maintained no general ledger or other financial accounting system in 1993, Klein's compiled financial statements were prepared using original source documents provided by SAMI or LARI management. Klein prepared compiled financial statements for SAMI and LARI in 1993 which served as the underlying accounting records for the December 31, 1993, financial statements audited by Sklar, Heyman & Co. In consultation with LARI management, Klein also determined the initial valuation of the Brazilian plantations in preparing the compilation report. b. Failure to Obtain Sufficient Competent Evidential Matter Auditors must obtain sufficient competent evidence to afford a basis for an opinion regarding the financial statements under audit. AU  326.01. The validity and sufficiency of required evidence depends on the circumstances and the auditor's judgment. AU  326.19-.20. An assessment of higher risk may cause the auditor to expand the extent of procedures applied or modify the nature of procedures to obtain more persuasive evidence. Klein failed to obtain sufficient, competent evidential matter as to whether LARI had the actual rights of ownership to the plantations or if, in fact, the plantations actually physically existed. He also failed to obtain sufficient evidence to afford a reasonable basis for the opinions on LARI's financial statements valuing at $5.4 million the Brazilian plantations, by far the most substantial assets on LARI's balance sheet. (1) Ownership of the Brazilian Plantations Under GAAS, Klein was required to obtain corroborating evidential matter, including evidential matter from sources other than LARI, that would support the information provided by LARI. AU  326.19. Yet the only steps Klein took to obtain third party evidence were to take the copies of the deeds and appraisals provided to him by LARI to the Brazilian embassy to determine whether the documents looked authentic and to rely on a copy of a letter from a Brazilian attorney which was sent to LARI indicating that the Brazilian properties indeed had been transferred. <(4)> Section 602.02 of the Codification of Financial Reporting Policies states that "[w]here source data are provided by the client and the accountant's work is limited to processing and production of listings and reports, independence will be adversely affected if the listings and reports become part of the basic accounting records on which, at least in part, the accountant would base his opinion." ======END OF PAGE 5====== Klein made no independent attempt to confirm that the properties had indeed been registered in SAMI's or LARI's name in Brazil. Klein made no inquiries as to discrepancies among the deeds, statements contained in the assignment agreements, and management's representations regarding the consideration for the alleged acquisitions, the stated values of the plantations, conditions of forfeiture, and other representations. Klein also made no inquiries as to the qualifications of the Brazilian attorney who provided the letter to SAMI, the circumstances leading up to the issuance of the letter, or whether the attorney had any other relationship with SAMI or its principals, as required by AU  336. To compound these failures in auditing procedure, Klein never inspected the physical existence or condition of the plantations, and never inquired whether LARI management had visited the properties previously. Although auditors are not required to authenticate documents, given the extent of the discrepancies, the materiality of the transactions, and the distant location of the properties involved, Klein's professional skepticism should have been heightened. This should have caused him to expand his audit procedures to obtain additional evidence. Klein did not do so. (2) Valuation of the Brazilian Plantations To value the Brazilian plantations, Klein relied primarily on management's representations that they were acquired for 10,000 shares of SAMI/LARI preferred stock with total liquidation value of $5,000,000. However, the assignment agreements, deeds and other documents which Klein received relating to the transfer of the assets conflicted with management's representations. Klein did not focus on these discrepancies as management said they were simply part of the negotiation process. Management provided Klein with purportedly independent appraisals which estimated the value of the properties at over $100 million, of which approximately $5 million was attributed to the land portion alone. Klein relied on these appraisals to support listing the properties at the $5 million liquidation value of the preferred stock as it approximated the appraised value of the land. Klein also drafted a footnote that the Brazilian plantations were worth at least $50 million based on his arbitrary reduction of the original appraised value. In relying on these appraisals, Klein failed to follow the guidelines set forth in AU  336 regarding the use of a specialist, to wit: (1) he did not determine what the relationship, if any, was between the appraisers and the seller or SAMI, (2) he made no inquiries as to the competency or reputation of the appraisers, and (3) he did not gain an understanding of how the appraisals were developed. See generally AICPA Audit and ======END OF PAGE 6====== Accounting Guide for the Use of Real Estate Appraisal Information (1987). GAAS states that management representations are not a substitute for the application of audit procedures necessary to form a reasonable basis for the auditor's opinion in the financial statements. AU  333.02. In spite of the conflicts between various documents and management's claims, Klein did not seek to confirm from any independent third parties whether management's representations were accurate. He thus failed to adequately inquire whether the discrepancies between LARI's valuation of the plantations and the information in the deeds indicated that the company had materially overstated the value of the plantations. Finally, in applying GAAP regarding the purchase of the Brazilian plantations, Klein utilized the accounting principle that assets acquired for stock should be recorded at the value of either what was given up or what was obtained in the transaction, whichever is more clearly determinable. See APB 16, para. 67. In so doing, Klein relied on the stated liquidating value of the preferred stock of $5 million without determining whether this stock had any value itself. Placing reliance on this value -- which was set by the management of LARI -- without obtaining corroborating evidence is not proper. Indeed, at the time of the sales transactions, LARI stock was not publicly traded, and LARI did not have any substantial assets -- other than the purported plantations themselves -- which could have been used to pay the $5 million to the seller. c. Failure to exercise due professional care and maintain professional skepticism Auditors must exercise due professional care -- both in what they do and how well they do it -- in performing an audit and preparing the audit report. AU  230.01, 230.04. An auditor must maintain an attitude of professional skepticism and assess the risk that errors and irregularities may cause the financial statements to contain a material misstatement. AU  316.05, 316.21. A higher risk of material misstatement on the financial statements will ordinarily cause the auditor to exercise a heightened degree of professional skepticism in conducting the audit. AU  316.14. Klein failed to exercise due professional care because he: failed to disclose that he was not independent of LARI; failed to obtain sufficient competent evidential matter to support the $5.4 million valuation of the Brazilian plantations; and failed to ensure that the financial statements were presented in conformity with GAAP. Furthermore, Klein failed to view information obtained from management and others with a proper degree of professional skepticism. For example, there were numerous agreements regarding LARI's acquisition of the Brazilian plantations -- none of which ======END OF PAGE 7====== reflected the transaction as described by management or as reflected in the deeds -- which should have heightened Klein's professional skepticism regarding the transactions. Klein's undue reliance on management representations did not constitute the proper degree of professional skepticism required by AU  316.08 and had a direct adverse impact upon his ability to search for irregularities in LARI's financial statements. Klein's undue reliance on representations of LARI management constituted a failure to act with due professional care. d. Failure to qualify or disclaim opinion If the auditor's scope is restricted, either by the client or by the circumstances, such as by the inability to obtain sufficient evidential matter, the auditor may be required to qualify or disclaim an opinion in his report. AU  508.40. An audit report that the financial statements are presented in conformity with GAAP may be expressed only when the audit was performed in accordance with GAAS. AU  508.07. Additionally, if the auditor is not independent, he must disclaim an opinion. AU  504.09. The issuance of an audit report containing an unqualified opinion and a representation that the audit was conducted in accordance with GAAS when such was not the case constitutes improper professional conduct. During the course of his audit of LARI's December 31, 1993, financial statements, Klein (1) was not independent, (2) failed to obtain sufficient evidence to corroborate the value of the Brazilian plantations and (3) inappropriately used the findings of a purported specialist. Despite these facts, and in violation of GAAS, Klein nonetheless caused Sklar, Heyman & Co. to issue an unqualified audit report on LARI's materially overstated December 31, 1993 financial statements which were included in LARI's Form 10-SB filed with the Commission in July, 1994. C. CONCLUSION Accordingly, for the reasons set forth above, the Commission has determined that Klein engaged in improper professional conduct within the meaning of Rule 102(e)(1)(ii) of the Commission's Rules of Practice. IV. In view of the foregoing, the Commission deems it appropriate and in the public interest to impose the sanctions specified in Klein's Offer of Settlement. ======END OF PAGE 8====== IT IS HEREBY ORDERED, effective immediately, that Klein is denied the privilege of appearing or practicing before the Commission as an accountant. By the Commission. Jonathan G. Katz Secretary ======END OF PAGE 9======