On July 21, 2015, Toshiba (OTCBB:TOSBF) CEO Hisao Tanaka announced his resignation in the face of an accounting scandal tied to about $1.2 billion in overstated operating profits. Details of the scandal emerged the day before when an independent investigative panel released a report describing the accounting improprieties in detail. Improper accounting was found to have taken place over the course of seven years, embroiling two former CEOs in the scandal alongside Tanaka. The investigative report revealed that the CEOs did not directly instruct anyone to cook the books but rather placed immense pressure on subordinates and waited for the corporate culture to turn out the results they wanted.

Toshiba: Quick Facts

Toshiba Corporation traces its history in Japan to 1875. The company rode the post-war Japanese boom in the late 1950s to high growth and an expanding catalog of unique and innovative products. Toshiba began selling products in foreign markets during this period and continued to expand its businesses across the globe during the following decades.

As of 2015, the conglomerate operates business units on a worldwide scale in a variety of diverse industries, including semiconductors, personal electronics, infrastructure, home appliances and medical equipment. Toshiba reported net worldwide sales of more than $63 billion for the fiscal year ending March 31, 2015. It employs more than 200,000 people worldwide.

Findings of the Investigative Report

Investigators found direct evidence of inappropriate accounting practices and overstated profits in multiple Toshiba business units, including the visual products unit, the PC unit and the semiconductor unit. The accounting misconduct began under CEO Atsutoshi Nishida in 2008 amid a global financial crisis that cut deeply into Toshiba's profitability. It continued unabated under the next CEO, Norio Sasaki, and eventually ended in scandal under Tanaka.

The inappropriate accounting techniques employed at Toshiba varied somewhat between the different business units. Investigators found evidence of booking future profits early, pushing back losses, pushing back charges and other similar techniques that resulted in overstated profits. Although the techniques varied, the investigative panel identified a single set of direct and indirect causes to explain how the inappropriate practices took hold across the conglomerate.

Investigators describe how Toshiba's corporate leadership handed down strict profit targets, known as Challenges, to business unit presidents, often with the implication that failure would not be accepted. In some cases, quarterly Challenges were handed down near the end of the quarter when there was no time left to materially affect unit performance. It soon became clear within individual business units that the only way to achieve these Challenges was to do so through the use of irregular accounting techniques.

The investigative panel concluded that Toshiba's corporate culture, which demanded obedience to superiors, was an important factor enabling the emergence of fraudulent accounting practices. The culture operated on the level of business unit presidents and on every level of authority down the chain to the accountants who ultimately employed the accounting techniques.

The investigative panel also pointed to weak corporate governance and a poorly functioning system of internal controls at every level of the Toshiba conglomerate. Internal controls in the finance division, the corporate auditing division, the risk management division and in the securities disclosure committee did not function properly to identify and stop the inappropriate behaviors.

Going Forward

The investigative report includes specific recommendations to prevent the recurrence of unacceptable business practices across Toshiba's business units. These recommendations include reformation of the corporate culture, elimination of the Challenge system of profit targeting and reestablishment of internal controls and strong corporate governance. The report also recommends creation and promotion of a robust whistleblower system that employees can use without fear of retribution.

In response to the investigation, Toshiba released a statement outlining the initial actions it would take in response to the report. The company has promised to examine the results of the investigation thoroughly and to reflect the report recommendations in its business practices going forward. Toshiba further promised to announce the results of its examination process in a timely manner. At the time of this writing, no such announcements have been made.

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