Auditors’ Duty to Ensure Clients are Using Accounting Practices in Compliance with Generally Accepted Accounting Principles: A Case Study of Infinity Business Group, Inc.
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Infinity Business Group, Inc. (IBG), a company specializing in the collection of bad checks, was incorporated in 2003. IBG recorded its collection fees as Accounts Receivable even before the Not-Sufficient-Funds checks were collected, a method not in compliance with Generally Accepted Accounting Principles; accordingly, IBG’s auditor should not have issued unqualified opinions on the financial statements during 2003-2008. A $23 million write-off of Accounts Receivable in 2009 had a devastating effect on the company and it declared bankruptcy in 2010. In 2019, the Bankruptcy Court ruled: (a) the auditor’s unqualified opinions violated the U.S. Securities Exchange Act, and the auditor was forced to plead guilty to one felony count of securities fraud; (b) IBG’s CFO was dishonest when he responded to an inquiry from a lender about the Accounts Receivable; (c) Morgan Keegan & Company, Inc. (MK), a brokerage and investment banking firm contractually affiliated with IBG, encouraged IBG to discontinue using the improper accounting method; (d) IBG’s President Cordell made a misrepresentation to MK in 2007 when he stated that all of the questionable Accounts Receivable had been written off; (e) in 2008, MK became aware that IBG might change the accounting method; (f) MK never encouraged IBG managers to breach fiduciary duties to IBG; (g) MK did not owe IBG fiduciary duties, but even if it did, there is no evidence of a breach because MK encouraged discontinuance of the improper accounting practice; (h) some of the managers and directors of IBG were innocent, they did not participate in daily operations of the company, and they did not have control of the company; and (i) notwithstanding the fact they did not commit securities fraud, some of the “innocent” managers and directors failed to discharge their duties to IBG by advocating for the continued use of the improper accounting method. On appeal in 2021, the District Court affirmed the Bankruptcy Court, holding that it did not make any legal errors, that the Bankruptcy Trustee did not adequately prove damages caused by MK, and that the Bankruptcy Trustee’s claims were barred by the Doctrine of In Pari Delicto.
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