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Nelson Mandela

Detecting the Scam

 

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common sense:
the subway test (part 2)

One of the obstacles to applying the rules of The Duck School is that we often only see what we want to see. When that guy in the subway shows us his fake Rolex, we know that its fake. Later, when we tell our friends its real, we have crossed over to the dark side…

In their book, The Smartest Guys in the Room, Bethany McClean and Peter Elkind referred to an Enron employee’s account of the company’s approach to accounting rules. Tell me if this sounds familiar:

IrishmanSay you have a dog, but you need to create a duck on the financial statements. Fortunately, there are specific accounting rules for what constitutes a duck: yellow feet, white covering, orange beak. So you take the dog and paint its feet yellow and its fur white and you paste an orange plastic beak on its nose, and then you say to your accountants, “This is a duck! Don’t you agree that it’s a duck?” And the accountants say, “Yes, according to the rules, this is a duck. Everybody knows that it’s a dog, not a duck, but that doesn’t matter, because you’ve met the rules for calling a it a duck.”

What were the accountants thinking? Could they claimed they were the victims of a scam? Hardly, yet that is what they claimed. They knew they were looking at a dog dressed as duck and when they certified the dog as a duck, they became part of the scam. They had failed the Rolex test, as had everyone else involved…

At the time, there were some financial analysts who were questioning the lack of clarity of Enron’s public financial disclosures. Despite this, other analysts continued to recommend that the public buy Enron’s stock—but many had their own agenda. Again, this is how Bethany McLean and Peter Elkin described the situation:

To be sure, Enron, with Andersen’s assistance, did everything it could to camouflage the truth, but there was more than enough on the public record to raise the hackles of any self-respecting analyst.

The analysts and the other professionals let us down… They had failed the Subway test… They had failed to apply the most basic rules of The Duck School…

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