The Forensic Accountant Follows The Facts!

Monday, December 6, 2010 - 01:00

Editor: Please describe your background and experience.

Smith: After graduating in 1983 from Indiana University with a bachelor of science degree in finance with honors, I worked six years at Peterson & Company, a large national firm specializing in litigation support, followed by six years at Price Waterhouse in its litigation and bankruptcy practice area. In 1994, I joined Amper, Politziner & Mattia's Litigation and Valuation Group, now part of the newly merged EisnerAmper LLP, and have achieved my Certified Public Accountant certificate, Accredited in Business Valuation designation as well as the forensic accounting designation of Certified in Financial Forensics from the AICPA.

Editor: What are the most important judicial or legislative developments affecting forensic accounting with respect to litigation support?

Smith: One of the more significant changes is in the federal civil practice rules governing the discovery of information related to expert witnesses involved in forensic accounting or other litigation contexts. The new rules align the federal discovery rules more closely with those of New Jersey, which were amended in 2002. Under the new modifications to Federal Rule of Civil Procedure 26(a)(2)(B) only "facts or data considered by the witness" in forming the expert opinion must be disclosed, thereby amending the existing requirement that disclosure of all "data or other information" upon which the expert relied in developing expert opinions, preparing reports or preparing for testimony was discoverable. Effective December 1, 2010, work product protection is being extended to preliminary expert reports and various other communications between the expert witness and counsel, rendering them no longer discoverable. One of the primary reasons for the rule change is to streamline the litigation process and cut costs. By eliminating excess time spent on seeking drafts and preliminary work product of the opposing expert, i.e., those which were not relied upon in reaching the expert opinion contained in the final report, considerable cost-savings should be realized.

Another cost savings will stem from less of a need for obtaining both a consultant and an expert witness on the same matter. Under the existing rules, a consultant's communications with counsel and any draft reports prepared are not discoverable, while all draft reports and communications of an expert witness with counsel are viewed as fully discoverable by many judges. The new rule change will allow a single individual to serve in both capacities, while preserving privilege.

Other recent changes involve privacy and data security. Toward the end of 2007 the Federal Trade Commission enacted the "Red Flag Rules and Address Discrepancy Rules" requiring financial institutions and creditors to develop and implement written "Identity Theft Prevention Programs" and requiring issuers of credit cards and debit cards to assess the validity of notifications of changes of address. There is a deadline of December 31, 2010 for many companies to be in compliance. Many states over the last few years have also implemented similar state laws governing the control of personal identity information, including New Jersey (New Jersey State Law 56:8-163). Other information required to be secured includes Social Security, driver's license, state identification, financial account, credit card and debit card numbers. The penalties for non-compliance can be severe, including fines and claims for deceptive business practice or consequential damages for identity theft.

Editor: What are the most important factors to consider in creating a synergistic relationship between forensic accountants, law firms and clients?

Smith: The most important factors are instilling confidence with the attorney and client in your technical expertise and experience and the appropriateness of your skills in the current matter; conveying an understanding of the issues early on in the engagement; contributing meaningfully in planning the scope of work and fee estimates; having open and timely communication during the engagement, and conveying strong values of independence and integrity.

Editor: To what extent are you involved in developing and assessing legal theories and litigation strategies?

Smith: My involvement varies by case and attorney, depending on the complexity of the matter and the experience of the attorney. Forensic accountants are not attorneys and cannot offer legal advice. However, they can provide pragmatic advice based on issues and experience and provide guidance as to deviations from proper compliance with accounting standards or regulations. I have also assisted counsel in the interpretation of jurisdictional case law on financial and economic issues in its application to specific fact patterns in the determination of damages or business valuations. For instance, key assumptions can affect the determination of damages or business value, the application of which can vary by jurisdiction, and not all attorneys are familiar with the jurisdictional nuances.

Editor: How much of your practice is involved in litigation avoidance, for example, compliance and proactive risk assessment?

Smith: Most of my work as a forensic and economic expert begins after there is a problem, and internal or external counsel retains my service to determine the scope of the issue and quantification of the related damages.

Editor: There have emerged a number of specialty designations, such as ABV (accredited business valuator), CFF (certified in financial forensics) and CFE (certified fraud examiner). To what extent do you envision the practice of forensic accounting becoming specialized?

Smith: I see specialization continuing well into the future. The credentials you identified are but a few of the already existing valuation and forensic credentials. Other forensic credentials include certified digital forensics examiner, certified cyber crime investigator, certified computer forensic technician and certified computer crime investigator. Beyond these credentials, there will be increasing forensic industry specialization for certain industries that have their own unique accounting guidelines, such as banking and financial institutions, airlines, auto dealerships and insurance companies, to name a few. For these industries, clients and attorneys may increasingly seek and find forensic specialists with years of experience within these industries, rather than partnering general forensic examiners with industry specialists, as is frequently done now.

Editor: Do you have to take a test or have practiced in that area for a period of years or both?

Smith: A number of these certifications require taking a test, having a certain number of years of experience in the field and then participating in continuing professional education programs each year to meet the annual continuing education requirements.

Editor: What are the key issues in document management, particularly eDiscovery, with respect to litigation readiness?

Smith: One of the key issues is for corporations to become more familiar with the Federal Rules of Civil Procedure governing discovery of "electronically stored information." The rules deal with (a) the definition of discoverable materials, (b) early attention to issues relating to electronic discovery, including a document production format, (c) discovery of electronically stored information from sources that are not reasonably accessible, (d) the procedure for asserting claim of privilege or work product protection after production and (e) a safe harbor limit on sanctions under Rule 37 for the loss of electronically stored information as a result of routine operation of computer systems. Being familiar with these rules will help formulate appropriate electronic document control and retention policies.

Editor: Do you advise clients as to which documents are most likely to be required in the event of litigation?

Smith: I may at times advise as to particular documentation needed to comply with certain requests, but to go beyond this and identify documents most likely to be required in a litigation would be impractical, since litigation can arise from so many causes of action. My advice to clients is to keep their books and records in compliance with the tax regulations and accounting standards.

Editor: What is the interplay between your roles in litigation support and expert testimony?

Smith: My role in litigation support is broad, as the name implies, covering a wide breadth of possible services, including assisting counsel in identifying and requesting relevant accounting, financial and business records; monitoring document production and performing document management; assisting in preparing interrogatories and deposition questions for accounting and management personnel; performing forensic analysis of accounting and other business records, determining damages through lost profits or diminution of business value, etc. As an expert, my conclusions and findings resulting from the forensic investigation or economic analysis as part of litigation support are typically conveyed in a written report. Should the case proceed to trial, I will provide expert testimony on that report, or should settlement talks result, I will participate as requested by counsel in the settlement discussions.

Editor: As an expert witness do you have the attorney/client protection?

Smith: Under the new federal laws, as in New Jersey currently, I will have that protection.

Editor: How does this affect privilege, and do you know in advance that your participation will involve being called as a witness?

Smith: Privilege with materials provided to an expert is typically established at the beginning of a matter through signing a confidentiality agreement. During discovery, privilege continues with certain documents being identified as having certain levels of confidentiality and sometimes having information redacted or sealed. I usually know from the beginning of a matter whether there is an expectation for me to be called as an expert witness; however, depending upon findings as the facts that are uncovered, there may be a need for a more specialized industry or auditing expert with whom I will collaborate.

Editor: What are the trends in forensic accounting in international litigation?

Smith: With globalization, the possibility of fraudulent or improper transactions between affiliates in different countries increases, and the need for teams of multilingual forensic accountants becomes more important. To address this issue both law firms and accounting firms, such as ours, are aligning themselves with multinational associations of similar professional firms that pool their resources to assist clients of member firms by providing services in their respective countries. This allows these firms to provide effective international forensic accounting services.

Editor: Please describe some recent matters you have handled that reflect your forensic services.

Smith: A significant portion of my work recently has involved privately held corporations where disputes arise among trusted advisors or family members who are shareholders, some of whom may be officers, while others are employees or hold no active position in the companies. What happens in family situations is that the different family members tend to take on different roles in the companies with some individuals gravitating to the position of president/CEO/CFO, with those individuals tending to control the decision making, finances, and books and records of the companies - sometimes to the detriment of other shareholder family members who take on more of the line functions, such as production, warehouse operations, sales, etc. Alternatively, these other shareholder family members may have been relegated to managing a minor affiliate with no access to the parent company's records. In other situations, families may split businesses by geography and maintain minority positions in each other's businesses. Unfortunately, disputes sometimes arise among the parties with claims of unfair compensation, mismanagement, usurpation of corporate opportunity, diversion of funds or theft. These are all matters involving forensic investigation.

As a case in point, I led a forensic investigation matter involving a second generation family that had experienced no distributions in recent years from their father's investment in an insurance group, the president of which was a trusted family advisor. As it turned out, the absence of distributions was the result of millions of dollars in loans and unequal capital distributions to the president to fund his undisclosed competing insurance company.

Editor: What are some of the non-obvious issues in litigation support of which our readers and viewers should be aware?

Smith: One issue that should be obvious, but may not always be, is that the role of the expert is different from the role of the attorney. The expert's credibility to the court, beyond pure technical competence and thoroughness, is based on his independence. In contrast, the attorney is an advocate for the client and will vigorously represent the interests and positions of the client. This distinction means that the findings of the expert, whether favorable or unfavorable to the client, will be whatever the facts dictate.

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