by Eli Mason
In July 1994, The CPA Journal (published by the New York State Society of CPAs) carried my article, “Public Accounting No Longer a Profession,” which concluded with, “Some may say there has been a diminution of standards in other areas such as law and medicine, but public accounting is different because the public relies on CPAs for financial representation and disclosure.
“Investors, bankers, credit grantors, public agencies and others depend on the work products of public accountants. For, without such representations, to whom could they turn? If the public loses confidence in those who practice public accounting because of over-commercialization, then that loss of confidence — which is the very foundation of any profession — will ultimately pull down the structure of an institution that for decades proclaimed its dedication to public service. The potential loss of professional recognition should be resisted by those who may suffer the greatest harm, namely, those who practice public accountancy. The challenge is clear and must be met!”
The same year, Ernst & Young designated Philip A. Laskawy as its chairman and he retired in July 2001. During that period, Ernst & Young was sued by shareholders, pursued by the Securities and Exchange Commission, and criticized by the Internal Revenue Service, and currently is under investigation by a federal grand jury investigating the firm’s tax shelter scams.
The pity of it all is that Ernst & Young was an amalgam of three prominent firms, diverse in their origins, successful in their operations and powerful in the structure of the accounting profession. Ernst & Ernst, Arthur Young & Co., and S.D. Leidesdorf & Co. were each pillars of strength. The founders of these firms may look back with sadness on the current state of the firm that absorbed them.
Alwin Ernst was born in 1881 in Cleveland. His father was a tailor. After high school, he attended a business college at night and in 1900, obtained a position with The Audit Co. in Cleveland.
In June 1903, Alwin Ernst and his older brother Theodore formed Ernst & Ernst in Cleveland with a capital of $500. They were different in personality and drive and, in October 1906, Theodore left the firm, but Alwin Ernst, bright, ambitious and aggressive, continued the firm.
In 1910, Alwin Ernst received his Ohio CPA certificate. He made numerous business contacts and expanded the firm’s practice at a rapid pace. He was not reticent to advertise and to solicit clients. Alwin Ernst would not accept Ohio’s state board limitation on solicitation. Oftimes, Ernst would open an office in cities where the firm had no clients.
In 1908, he opened an office in Chicago, in 1909 in New York City, in 1911 in Cincinnati, and in 1913 in St. Louis. By 1919, Ernst & Ernst had 16 offices and by 1929, Ernst had 26.
Alwin Ernst was a hard-working top executive who insisted that partners and staff likewise be diligent in serving the firm. He maintained his position that accounting firms should be permitted to solicit and advertise, and when the American Institute of CPAs took action against the firm, Ernst resigned from the institute.
Arthur Young, born in Glasgow, Scotland, in 1863, can only be described as outstanding in appearance, personality and competence. He came from an upper middle-class family; his father was a prosperous ship broker. As a young man, tall and athletic, he excelled in rugby and other sports. Arthur Young aspired to become a barrister and studied law at Glasgow University, where he received his LLB degree with honors in 1887. However, by that time an affliction that he endured all his life changed his direction. He suffered from partial deafness and realized that it would make a career as a barrister unattainable. He decided to abandon thoughts of becoming a barrister and, in 1890, traveled to America where he obtained employment with a Wall Street banking firm. His work for the firm involved financial investigations and assignments, which he executed with competence. He traveled to various cities for the firm and finally settled in Chicago.
The State of Illinois had recognized the Certified Public Accountant title in 1903, and Arthur Young was one of the first to be admitted as a CPA in that state. In 1906, Arthur Young, together with his brother Stanley, formed Arthur Young & Co. The firm expanded rapidly and soon had offices in Chicago, Kansas City, St. Louis, San Francisco and New York. Arthur Young was a “hands-on” executive who personally reviewed letters to clients and reports, and was much involved in the technical aspects of the firm’s practice. His warm and friendly demeanor endeared him to partners, staff and clients. What is remarkable is that, despite his increasing deafness, he continued an active involvement in the firm’s work. He was a perfectionist and his style permeated into the firm’s standards.
On a personal note, I had the good fortune to serve with Thomas G. Higgins when he was president of the New York State Society of CPAs and managing partner of Arthur Young, and subsequently, with Ralph E. Kent when he was president of the AICPA, and also managing partner of Arthur Young — both outstanding individuals. I also enjoyed a personal relationship with John C. (Sandy) Burton Jr., trained at Arthur Young, when he was chief accountant of the SEC, and whose father John C. Burton Sr. also served as managing partner of the firm. This is not to say that Arthur Young & Co. did not have problems of its own, including Lincoln Savings and Loan and RepublicBank of Dallas, but the legend of Arthur Young constituted a major gain for Ernst & Ernst in its merger with Arthur Young & Co. in 1990.
The firm of S.D. Leidesdorf & Co. can only be described as a phenomenon. Founded in 1904 by Samuel D. Leidesdorf, a short, stocky, mustachioed individual, it grew into the largest accounting firm in New York City, greater in partners and staff than any of the Big Eight firms in New York at the time of its merger with Ernst & Ernst. Leidesdorf was one of the greatest rainmakers ever to emerge on the accounting scene. From the time he first rented space in a law firm to 1922 when he built a 26-story office building at the corner of Park Avenue and 42nd Street in New York City where the firm occupied several floors, the firm achieved prominence by virtue of Leidesdorf’s professional and business acumen.
With friends and clients, Leidesdorf built another huge office building on New York’s Park Avenue that occupied the entire blockfront from 40th to 41st Streets, with Philip Morris as its major tenant. He also was active in charitable endeavors, including serving as chairman of the NYU Medical Center Building Committee, chairman of the Board of Trustees of the Institute for Advanced Study at Princeton where Albert Einstein found refuge from Hitler’s Germany, and for many years as treasurer of United Jewish Appeal, where he raised and contributed millions.
Perhaps the most remarkable characteristic that Leidesdorf possessed was his uncanny ability to choose partners of high technical skill. The firm was known for its lofty standards and would brook no deviations from clients who “stepped over the line” and whom they would drop without hesitation.
When Ernst & Ernst merged with S.D. Leidesdorf & Co., it was a major coup.
During the period from 1994 through 2001, Ernst & Young was plagued with some sensational lapses of professional performance. The firm settled a lawsuit brought by Cendant Corp., and paid $335 million — one of the largest amounts ever recorded against an accounting firm. More recently, the firm was embarrassed by disclosures related to HealthSouth Corp., where millions in operating expenses were capitalized and reported as assets on the balance sheet.
In the tax area, Ernst & Young marketed tax shelters that the IRS has determined to be abusive and dozens of taxpayers are under investigation by the IRS for having followed Ernst & Young’s tax advice. The most publicized case was that of Sprint’s chairman-chief executive and president-chief operating officer, who had realized over $300 million from stock options when Ernst & Young, independent auditors for Sprint, presented a convoluted scheme to eliminate the tax that, when exposed, resulted in the resignation of both officers and the dismissal of Ernst & Young as Sprint’s independent accountants.
To add to its woes, Ernst & Young was under investigation for several years for its business relationship with its client PeopleSoft. Ernst & Young had received over $500 million in commissions for recommending PeopleSoft products to clients and others. When an SEC administrative law judge held that Ernst & Young had breached its independent status with its client, PeopleSoft, and recommended that Ernst & Young be suspended from accepting new public company clients for six months, Ernst & Young called the decision “outrageous.” However, the chief administrative law judge of the SEC, in a lengthy decision, confirmed the prior judgment and Ernst & Young accepted the six-month suspension but kept the $500 million.
Why did a firm with such strong roots lose its way? Was it greed? This writer has heard that the average salary of the partners of the major firms is in the neighborhood of $500,000 (a nice neighborhood). Andersen’s 44-year-old David Duncan of Enron fame earned $700,000 each year. The income of upper-level partners is in the seven-figure range, as was evidenced when KPMG Consulting went public (as BearingPoint on the New York Stock Exchange) and when Andersen Consulting went public (as Accenture, also on the NYSE).
When Ernst & Young sold its consulting division to Cap Gemini for $11 billion, there was curiosity as to how that big pie was to be sliced. Because of a nasty divorce case, it was revealed that Richard S. Bobrow, Ernst & Young’s chief executive, received a salary of $3.125 million in 2001 and his “share” of the Cap Gemini sale was approximately $25 million. It has not been reported how much Philip Laskawy, Ernst & Young’s chairman, may have received from the Cap Gemini bonanza.
Was there a relationship between Ernst & Young’s financial success and its professional decline? In a recent conversation, a former Leidesdorf partner asserted, “They were driven by greed.” Perhaps he was jealous.
Eli Mason is a past president of the New York State Society of CPAs, a past chairman of the New York State Board for Public Accountancy, and a past vice president of the AICPA. He recently took time off to write a book.
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