Problem:
An accounting professor, Dr. Mitchell, received a telephone call early one Monday morning from a former accounting student who wished to remain anonymous. The caller was serving as a controller of a small start-up company that, in the caller's opinion, knowingly submitted fraudulently misstated financial statements to its local bankers. The individuals purportedly involved in the fraud were the company's chief executive officer (CEO), the vice president of finance, and the chief financial officer. The financial statements in question related to the just completed first quarter of the current fiscal year and purportedly overstated sales and receivables. The bank requested the first quarter financial statements to determine whether it would resume funding of the company's line of credit that was halted because of the company's weak operating performance. The company was experiencing a severe cash shortage. The caller claimed that she vehemently refused to sign the commitment letter required by the bank because some recorded sales and receivable transactions did not meet revenue recognition criteria required by generally accepted accounting principles (GAAP). The caller noted that company senior executives insisted that the transactions be included, because without those transactions the bank would not resume funding the line of credit. Those executives accused the caller of living in an "ivory tower" and emphasized that companies book these kinds of transactions all the time. The caller stated that there was no underlying customer order related to the sales and no goods had been shipped to the customer as of quarter end. The senior executives believe that the transactions represented sales expected to be completed in the very near future. The sales and receivables transactions were actually booked by an accounts payable clerk who was specifically instructed by the CEO to record the transactions while the caller was not in the office. Fortunately, the accounts payable clerk was concerned about the transactions and informed the caller when she subsequently returned to the office. The caller believed that the prior-year financial statements, which were audited, did not contain similar transactions. Following the Friday bank meeting, the bank resumed funding the line of credit.
What would you recommend to the caller if you were Dr. Mitchell? What are the risks of continuing to work with the company? What are the risks of resigning immediately? Could the state board of accountancy be a source of advice?