Audit system failed to detect misconduct at Toshiba

Toshiba’s three successive presidents, from left, Atsutoshi Nishida, Hisao Tanaka and Norio Sasaki, are shown at a press conference in Minato Ward, Tokyo, in February 2013, to announce that Tanaka would assume the top post.
PHOTO: The Japan News/ANN

A third-party panel, which investigated the accounting irregularities at Toshiba Corp., said in its report Monday that three successive presidents, including President Hisao Tanaka and his predecessor Norio Sasaki, who is now vice chairman, are responsible for the scandal.

Two major factors - the malfunction of the auditing system and the failure to prevent abuses of the top management that was desperate to improve performances - have led to the overstating its operating profits. Observers believe that the problem is deeply rooted in conflicts among the three presidents.

The panel's report stipulated that the main cause for the improper accounting was a pattern where the top management presented a numerical goal for earnings improvement, dubbed a "challenge," to each division chief and strongly urged them to achieve the targets.

Atsutoshi Nishida, who preceded Sasaki as president and is now an adviser to the company, reportedly sought to add ¥5 billion (S$55 million) in operating profits as a "challenge" when he was in the post. Sasaki also strongly urged the company to increase the profits by ¥12 billion with just three days left until the end of the settlement term when he was a president.

Pointing out the necessity of working out feasible earnings goals according to corporate ability, the panel said the challenge system was tantamount to putting "improper pressure" on front line employees.

In principle, if a company is about to suffer a loss, it should make this apparent, even if short-term profits are reduced.

However, Toshiba's front line employees, who were asked by the top management to achieve unreasonable targets, became involved in improper accounting to cover up the losses.

The panel asked Toshiba to abolish the challenge system, saying it was pursued even tough the employees found it difficult to improve the earnings despite every effort to do so near the end of the settlement term.

Accounting irregularities

Toshiba's accounting scandal has shown that its in-house audit commission was unable to recognise the firm's routine practice of grossly padding its profits, resulting in a failure to rectify such misconduct.

This lack of supervision was an important enabling factor in the company's efforts to cover up their long window-dressing operation.

The committee comprises two Toshiba managing directors and three outside board members who are tasked with identifying questionable accounting and business operations. It is also designed to work with a managerial auditing department under the direct control of the president.

The external board members sitting on the audit commission include two former Foreign Ministry bureaucrats. In its report issued Monday, the third-party panel said the firm needs to ensure its auditors include legal, financial and accounting experts.

Another factor in the current scandal is the oversight committed by Ernst & Young ShinNihon LLC, the auditing firm responsible for auditing Toshiba's accounting.

With this in mind, the third-party panel urged Toshiba to establish an auditing division vested with strong authority independent of the president.

In its consolidated settlement of accounts for the business term ending in March 2009, Toshiba took after-tax losses in excess of ¥300 billion, largely due to an economic slowdown due to the collapse of Lehman Brothers in the autumn of 2008.

Sasaki, who became president in June 2009, was under pressure to achieve a turnaround in his corporation's business performance as soon as possible.

In trying to achieve this, Sasaki hoped Toshiba's nuclear power generation-related business would do much to improve its business performance.

However, the East Japan Great Earthquake frustrated this hope. Sasaki had been promoted from a division responsible for manufacturing equipment for nuclear power generation.

Sasaki's increasing anxiety and impatience seemed to partly reflect his antagonism toward his predecessor, Nishida, according to sources familiar with the affair.

In 2009, Nishida chose Sasaki as his successor. However, he began to openly criticise Sasaki for "solely cutting fixed expenses and nipping growth in the bud."

Sasaki's stance is also believed to have reflected his sense of rivalry with Hitachi, Ltd.

This prompted him to exert greater pressure on employees at his firm's operating divisions, urging them to achieve profits at their departments.