Case 1.

1 JAMAICA WATER PROPERTIES

Case Summary Jamaica Water Supply Company began operations in 1886 as a small business delivered water to a few neighborhoods in the Queensborough of NY. When the owner (Martin Dwyer) realized that in 1960s, the water utility industry is heavily regulated by the government, he decided to branch out to other business. By 1980s, his son, Andrew, took the charge, and bring the company to a different stage. He rename the company to Jamaica Water Properties, which offered a wide range of services including design, development, and maintenance of complex mechanical, electrical, and computer system. Although JWP still had a water utility division, its only accounted for a small percentage of total profit that JWP had earned. And though JWPs profit had shown a remarkable result, it also has problems. Due to the rapid expansion, it suffered the high administrative expenses. To cope with this problem, he hired David Sokol who has been known good at handling companies in difficult circumstances. When Sokol arrived, he examined the accounting records of JWP, and found irregular and unusual items in the record. The CFO of JWP is Ernest Grendi, who is former employee of JWPs audit firm, Ernst and Young. He, and his three friends, which also from E&Y, is the actors behind the accounting fraud in the JWP. The abusive accounting practices included misapplying the purchase method of accounting for acquisitions, recording fictitious assets, improper accounting for net operating loss (NOL) carryforwards, misapplying the percentage of completion method of accounting for long term contracts, and others. The internal audit department has known this illegal practice, but they have been threatened by Grendi not to

challenge his accounting treatment. When Sokol call them and interviewed them, the secrets revealed. Sokol then told Andrew Dwyer about the condition of the company, and insisted to find an outside auditing firm to help him uncover the fraud in JWP. Finally, Deloitte & Touche being hired to investigate the accounting records in JWP, and the fraud uncovered. JWP has to reduce its previously reported earnings for 1990 and 1991 by $40 Million, $653 million write down of the companys assets. JWP filed for bankruptcy in 1993. Ernest Grendi, as well as his three colleagues were fined for millions dollar, and Ernst & Young also got the impact. It is sued by the former JWPs stockholder, which consider E&Y also responsible for the companys losses. When the courts investigate this problem, it is known that E&Y has known this practice for several years, had advised Grendi to change and make adjustment to it, but Grendi always said no. But still, E&Y issued an unqualified opinion for audit report.

Questions and Answers 1. After discovering the suspicious items in JWPs accounting records, would you have taken a different course of action than David Sokol did? Why or why not? No, I would not take a different course of action than David Sokol, since I think this is the right thing to do. To examine the accounting records of the company, find the fraud, and contact the audit firm to help to investigate further. 2. What measures can and should be taken to make it easier for corporate employees to blow the whistle on a fraudulent scheme they uncover within the firm? When an employee know something had gone wrong, or someone had intentionally broke companys policy, or even government law and regulations, he must blow the

whistle, to report the wrongdoing done by someone in the company. But he has to have the evidence to prove and support his judgement. What could make it easier to do is that a company has to have : a. Clear rules and warning about whistleblowing. b. Compliance help line/ call center (anonymous) c. Reward for the whisteblower d. Guarantee for whistleblower, that he will not be punished/retaliated/fired 3. Should business, accounting firms, and other organizations explicitly rewards ethical behavior by their employees and executives? Defend your answer I think that ethical behavior is something that everyone should have, and that is why the company does not have to explicitly rewards it, except in certain circumstances, such as as a whistleblower, when he/she have a good faith to report the wrongdoing he/she knows, along with the evidence he/she has, for the good of the company, maybe to save the companys asset. 4. List several measures accounting firms can take to reduce the risk that personal relationship between client personnel and members of an audit engagement team will adversely affect the quality of an audit. a. Check the background of the client, as well as the audit team personnel, make sure that they have no conflict of interest or related relationship b. Periodically rolling the audit team member for the company c. Maintain a professional ethics d. Maintain a professional skepticism

e. Make a clear rule, understanding and policy about the relationship with client