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Introduction
Financial accountability is a control aspect in a transactional process. This case study explores Lehman Brothers, focusing on the faults that precipitated the 2008 global financial crisis. The primary focus is the infractions of Generally Accepted Accounting Principles (GAAP), Generally Accepted Auditing Standards (GAAS), and the Sarbanes-Oxley Act. Professional responsibility includes responding to customers, colleagues, and other professionals involved.
The Lehman Brothers
The collapse of Lehman Brothers signaled the onset of the 2008 financial meltdown. The company history reveals that in 1844, German brothers Henry, Emanuel, and Mayer Lehman opened a general business in Montgomery, Alabama, which would become the genesis of Lehman Brothers (Mieszala 2019). After Henry’s passing, the remaining Lehman brothers extended their firm to include commodity trading and financial services. The company flourished as the U.S. economy developed into a worldwide superpower during the subsequent years. When it was split out by American Express (AXP) in 1994, the corporation had weathered the transportation bankruptcies of the 18th century, the Great Depression, two world conflicts, and a capital deficit (Stephens 2018). Lehman Brothers filed bankruptcy on September 15, 2008, owing to excessive mismanagement, causing a significant market upheaval.
Due to high-risk investing in worldly goods, the failure of Lehman Brothers was followed by a crisis of confidence among banks. With 25,000 employees globally, the business was listed as the fourth-largest investment bank in the United States in 2008 (Stephens 2018, p.4). The company had $639 billion worth of assets and $613 billion in receivables, which caused a domino effect among other credit intermediaries (Yao et al., 2022, p.957). The banking sector was branded as a symbol of the extravagance causing the 2007-2008 financial crisis. The excesses were overwhelmed by the subprime implosion that swept capital markets and resulted in an estimated $10 trillion in lost economic productivity (Stephens 2018, p.7). Investigators have pointed to professional responsibility and accountability concerns that violated the GAAS and the GAAS as a set of systematic rules utilized by auditors to perform financial audits of businesses.
Lehman Brothers Failing Generally Accepted Auditing Standards Test
GAAS is often used in financial reporting to assure management’s assertions’ precision, consistency, and factuality. Auditors can reduce the likelihood of missing critical information in action. In the context of Lehman Brothers, GAAS might be examined from three essential perspectives: violation of general requirements, GAAS fieldwork standards, and GAAS recordkeeping requirements (Prasad & Webster, 2022). GAAS gives reporting firms, investors, and financiers a framework that includes broad principles and particular procedures in most sectors (Allami & Jabbar, 2022). In banking, GAAS facilitates the implementation of a standard framework for accounting information in America. Financial Accounting Standards Board (FASB) crime investigators have proven that Lehman Brothers may not have applied operational procedures covered under the GAAS.
GAAS, for instance, offers a legal practice standard for crucial activities like mergers, significant purchases, and disputes. The FASB determined that the unsuccessful integration of the new personnel was due to a lack of confidence, and poor management. The merger and litigation processes in doing business did not comply with GAAS fundamentals, with language and communicational barriers arising between international enterprises. The financial audits demonstrate that the corporation, like many other financial institutions, diversified into mortgage-backed bonds and collateralized debt obligations (Prasad & Webster, 2022). In 2003 and 2004, at the height of the U.S. housing boom, Lehman purchased five mortgage lenders in addition to BNC Mortgage and Aurora Loan Services, all of which concentrated on Alt-A loans (Stephens 2018, p.7). Such loans were given to customers without comprehensive paperwork following the GAAS requirements for precision, consistency, and verifiability.
Lehman Brothers Failing Generally Accepted Accounting Principles Test
Similarly, the management of Lehman Brothers failed to execute GAAP as required for a financial institution. GAAP stipulates the norms, practices, and procedures accountants must adhere to while documenting and summarizing transactions and preparing financial statements (Prasad & Webster, 2022). An essential component of GAAP is its focus on the general, allowing for some flexibility in the degree to which a specific concept is strictly adhered to (Allami & Jabbar, 2022). Financial investigators detect that Lehman Brothers exploited weaknesses in financial reporting compared to generally recognized GAAP. Theoretically, adherence to GAAP enables investors to make informed judgments on a company’s financial status. In reality, third parties that must depend on financial accounts have the right to believe that the statistics are unbiased and consistent. Trends indicate that Lehman Brothers failed to offer trustworthy and consistent information.
For instance, the company’s financial records revealed that Lehman’s purchases seemed prescient in violation of consistent financial reporting. From 2004 to 2006, Lehman’s real estate subsidiary project revenues in the wealth management division increased by 56 percent due to skewed data patterns (Mieszala 2019, p.7). In 2006, the company reported $146 billion in mortgage loans, a 10 percent growth from 2005 (Aikman et al., 2019, p.113). Each year from 2005 to 2007, Lehman declared record profits (Abdul-Aziza & Chan 2019, p.93). In 2007, the company had a net income of $4.2 billion on sales of $19.3 billion (Choonara 2018, p. 158). The trends appeared optimistic, but the risk management criteria failed to forecast the fragility of the GAAP-based business model. GAAP allows for some variation in accrual accounting, so long as they adhere to the set of principles.
Lehman Brothers Violate the 2002 Sarbanes-Oxley Act.
During the first phases of the company’s demise, Lehman Brothers committed comparable errors in the deceptive accounting of its financial information. Congress created the Sarbanes-Oxley Act of 2002 (SOX Act of 2002) to financial institutions against false financial statements by firms in the U.S. corporate sector (Gorshunov et al., 2020). The SOX Act of 2002 ordered stringent revisions to current securities rules and set new solid penalties for lawbreakers. Due to misleading reporting on mortgage rate prospects and market operationalization, the FASB confirmed that Lehman Brothers made enormous miscalculations. The patterns indicate that the error contributed directly to Lehman’s stock collapse. The financial crisis originated in August 2007 when two Bear Stearns investment banks failed. Despite these red flags, the prediction risk management intervention failed to identify the patterns.
The financial data indicate that Lehman’s market cap achieved a record high in its market capitalization in February 2007. However, as a consequence of the Sarbanes-Oxley Act violations, fissures in the U.S. housing market were already visible but were never accounted for in the company’s estimates. Despite the company’s stance, subprime mortgage defaults reached a seven-year high. On March 14, 2007, a day after the stock had its worst one-day decline in five years due to fears that mounting defaults would impact Lehman’s profitability, the company posted record sales and profits for its first quarter of 2008 (Mieszala 2019, p.7). Following the quarterly announcement, Lehman said that the risks presented by growing home delinquency rates were managed while maintaining profitability. However, Lehman Brothers’ prospects began to decline as growing delinquency patterns were seen.
Prevention Measures
The failure to implement the GAAS, GAAP, and SOX Act of 2002 regulations serves as a case study for comparable players in the banking business. The management of such institutions must recognize the need to apply methodical rules in accounting (Prasad & Webster, 2022). In business and ethics, the rules have been established as conventions to assure management’s precision, consistency, verifiability, and credibility. Auditors may decrease the likelihood of missing crucial information by making decisions based on GAAS. Employing GAAP and the SOX Act of 2002 in corporate reporting necessitates a high degree of expertise in auditing financial data without prejudice.
The fragility of the global financial networks exposes the need for accountability within the financial sector. Corporations in the financial industry should adhere to the industry’s core functions. Several codes of ethics and professionalism serve as the basis upon which financial institutions must base their choices on honesty, integrity, confidence, and trust (Crane et al., 2019). As institutions provide a structure for deficit and excess spending, the financial system is vital across societies. The experts serve as the connection between the economy’s deficit and surplus units. The administration of comparable financial institutions should recognize the need to adhere to legal, practical, and policy requirements.
Businesses must maintain accurate accounting to guarantee stability and dependability. Management must recognize that a bank’s reputation and activities reflect its ethical behavior and professionalism, which impact its profit and development potential. Bank workers must be educated on the institution’s ethical rules to make the appropriate judgments in a demanding business environment. For accountability, banking personnel must know when and how to seek assistance when confronted with ethical difficulties and when to report potentially unethical behavior to authorities.
Conclusion
In practice, the objective of the audit is to acquire reasonable certainty over the absence of significant misstatements in the financial accounts. The finance management errors at Lehman Brothers demonstrate the need for professionalism. Bankers must comply with GAAP, GAAS, and the Sarbanes-Oxley Act provisions. Legally, financial statements should depict an organization’s financial situation in accordance with widely recognized accounting rules.
References
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Allami, F. A. J., & Jsabbar, L. D. A. K. (2022). A proposed audit program to integrate modern and traditional auditing methods. Periodica Journal of Modern Philosophy, Social Sciences and Humanities, 6(1), 53-60.
Choonara, J. (2018). The political economy of a long depression. International Socialism, 6(1), 158.
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Gorshunov, M. A., Armenakis, A. A., Feild, H. S., & Vansant, B. (2020). The Sarbanes-Oxley Act of 2002: Relationship to magnitude of financial corruption and corrupt organizational cultures. Journal of Management, 21(2), 73.
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Prasad, A. L., & Webster, J. C. (2022). What are the trends in PCAOB inspections and the reported audit deficiencies? Journal of Accounting, Auditing & Finance, 37(3), 523-546.
Stephens, P. (2018). Populism is the true legacy of the global financial crisis. Financial Times, 6(1), 3-30. Web.
Yao, Y. (2022). Analysis of financial crisis influence on the investment banks of Wall Street. 2022 7th International Conference on Social Sciences and Economic Development-Atlantis Press, 3(1), 950-954).
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