Introduction
The United States of America has the most monitored economic system in the world. Few people have been able to run and/or sustain a scheme to rob other people’s money. Among them is Bernard Madoff who managed to create a scheme to enrich himself at the expense of his clients for over 15 years. This individual managed to embezzle billions of dollars using a fraudulent scheme. His confession shocked the public, thus necessitating a number of auditing measures. This paper analyzes the Madoff case in an effort to establish what went wrong and what should have been done differently to prevent fraud.
Regulatory Oversight
Regulatory oversight was in place to predict, prevent, and deal with fraud at the time that the Ponzi scheme was in place. The US’ Securities and Exchange Commission (SEC) was providing regulatory oversight at the time (Knapp, Rittenberg, Johnstone, & Gramling, 2012). This organization was in charge of preventing cases of fraud. However, it failed to do so for a number of reasons. SEC had received warnings from individuals and organizations regarding the Ponzi scheme, with the most famous example being from Harry Markopolos.
The failure to react to these warnings was due to the inexperienced auditing staff members that we’re serving at the time in SEC. The other reason may be that the institution was understaffed, with unqualified personnel being tasked with the security of the financial system. SEC and its employees also delayed the examinations and auditing processes that were necessary to stop the Ponzi scheme.
Audit Procedures
Several audit procedures could be applied to Madoff Securities. As an auditor in a firm that had $10 million dollars invested in Madoff Securities, I would have applied fundamental audit procedures to this investment. The first procedure would be to analyze tax-reporting methods in the firm through the analysis of its work papers. The second procedure might involve reviewing the records of Madoff Securities in an effort to reconcile the tax collectors and the gross sales.
The accounting systems and internal control checks would also be under analysis. I would also ensure that the owners of the firm were aware of the taxable services and purchases. An analysis of the internal controls in Madoff Securities would have been suitable. A review of all the pertinent books and the firm’s records could be conducted, with the tax reported being crosschecked against the tax accrual account.
Peer Review
A peer review is important in the work of a professional entity since peers in the same industry understand most of the issues pertinent to the industry (Shatz, 2004). In this review, one firm seeks for the auditing services of another firm to assess its accounting work. Within the context of the paper, a peer review of Friehling and Horowitz should have uncovered the scheme related to Madoff Securities. One way in which this plan could help is through criticism of the resource capability of Friehling and Horowitz, which only had one accountant to handle such a big firm as Madoff Securities (Knapp, Rittenberg, Johnstone, & Gramling, 2012).
A conflict of interest should have also been suggested since the accounting firm had an account with Madoff Securities (Knapp, Rittenberg, Johnstone, & Gramling, 2012). This conflict of interest would have impeded the functioning of the accounting firm, especially in the process of auditing Madoff Securities.
The peer review could also make banking reconciliations that might be important in revealing a possible fraud in the name of a Ponzi scheme. Peer reviewing of Friehling and Horowitz’s records revealed a disparity in the payouts made by the firm and Madoff Securities when comparing the payouts with those prevailing in the industry. This finding was enough to prompt the reviewing firm to put in place measures to allow further investigations of Madoff Securities. Another way in which a peer review of Friehling and Horowitz could be important in the uncovering of the fraud was through the establishment of the actual amounts that were in different accounts of Madoff Securities. These events could have led to the discovery of the fraud earlier to allow appropriate measures.
Suggested Strategy
Harry Markopolos had different strategies to uncover potential fraud in the case study. One strategy, which is personal suggestion different from the one used in the case study, could be to contract an independent audit firm to audit the activities of Madoff Securities together with a peer review of Friehling and Horowitz. This assessment of the firms demonstrates the different disparities between the reported operations and the actual operations, thus exposing the fraud that was secretly taking place. An audit of the firms would lead to the discovery of the various frauds that the company had created in the years based on the different account deposits and operations.
The rationale to support this suggestion can be made through a closer look at the possible effects that the audit could have had on Madoff Securities. If Markopolos were convinced of the fraud being conducted at the firm, it would be useless waiting for a long time for the response by SEC. He should have used the results of his independent audit to build his case and support the one he already had with SEC. This strategy is an efficient way of uncovering the fraud, ensuring that the public is aware of it, which would lead to massive reactions, thus prompting further investigations.
Audit Committee’s Role and the Suggested Action
The audit committee for Madoff Securities would have played a major part with regard to the discovery of the Ponzi scheme. This committee, which was tasked with the discovery of financial oversight and reporting in the institution, had a role to play in that it could have made adequate policies of overseeing the accurate and true postings of the taxes. The committee should have ensured that the external auditors selected by the organization were qualified and hired in an open manner. However, the committee was biased in the company’s decisions and financial reporting due to the control that the management had over the institution as a whole.
One suggested action the audit committee would have taken in order to prevent or detect the fraud would have been through the establishment and contracting of a new external auditor that was more qualified than the one that was serving at the time of the Ponzi scheme. If this plan were applied, the committee would have discovered the falsified information that was being propagated by the external auditors that they had, thus prompting further inquiries.
Conclusion
The Ponzi scheme is one of the largest schemes of its kind in the history of the United States. The scheme led to a loss of billions of dollars in a period of over 15 years. Madoff Securities firm managed to evade the long arm of the economic laws in the country based on its partnership with the external auditors that it had contracted. The paper suggested some of the suggestions that could have been useful in the prevention, detection, and investigation of the fraud.
Reference List
Knapp, C., Rittenberg, E., Johnstone, K., & Gramling, A. (2012). Contemporary auditing. United States: South-Western, Cengage Learning.
Shatz, D. (2004). Peer Review: A Critical Inquiry. Lanham, Maryland: Rowland & Littlefield.