Accounting Chapter 6 Other Students Will Chime In And You

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6. Since several companies have written off massive amounts paid for their acquisitions, were each of

these managements wrong for specific reasons, or were there common factors affecting them all? If

so, what were they?

The massive writes-offs that occurred throughout the mining industry indicate that this may be

Useful Articles, Links, and Videos

PwC (February 2014). “2014 Global Mining Deals Outlook and 2013 Review: Strategically Picking Up the

17. Accounting Rule Changes Increase Apple Computer’s Revenue (Chapter 6, pages 474-

476)

What this case has to offer

This case describes Apple’s objection to subscription accounting, or deferred recognition of revenue, for

the sale of iPhones, iPods, and other devices bundling hardware, software and technical support. When

the accounting rule was changed, Apple’s income and stock price rose.

Teaching suggestions

Before discussing this case, I ask students what is earnings management. An interesting definition of

earnings management widely used in the academic accounting literature is provided by Healy and

Whalen (1999):

“Earnings management occurs when managers use judgment in financial reporting and in

structuring transactions to alter financial reports to either mislead some stakeholders about the

Once the class discussion focuses on what is earnings management, I introduce the case facts and follow

with the discussion of the two questions from the case.

In order to discuss this case, it is important to understand the concept of multiple-deliverables revenue

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Discussion of ethical issues

1. Do you think that Apple’s new accounting policy, that is consistent with the 2009 FASB statement,

results in fair financial reporting?

Using the accelerated revenue recognition method does not necessarily distort earnings, provided

that the users of the information are aware of the existence and effect of long-term contracts on the

company’s net income. Both policies should be equivalent if management is transparent about its

2. Do you think that Apple’s share price should have gone up as a result of increased revenue due to a

change in an accounting policy?

If markets are efficient with respect to information (i.e., information about revenue and revenue

recognition policies is fully available to market participants) and if earnings do not directly impact

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18. The Impact of International GAAP on Earnings (Chapter 6, page 476)

What this case has to offer

This case describes a situation where a retailer’s net income decreased after the company switched to

International Financial Reporting Standards (IFRS). Shoppers Drug Mart used to recognize, separately,

Teaching suggestions

Before discussing this case, I ask students to define earnings management. An interesting definition,

widely used in the academic accounting literature, is provided by Healy and Whalen (1999):

“Earnings management occurs when managers use judgment in financial reporting and in

Once the class discussion focuses on what is earnings management, I introduce the case facts and follow

with the discussion of the two questions from the case.

In order to discuss this case, it is important to understand rewards or loyalty programs. IFRS

interpretation IFRIC 13 “Customer Loyalty Programmes” (IFRIC 2007) states:

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Discussion of ethical issues

1. Do you think that the gross value method distorts earnings because it overstates revenue?

Using the gross value method does not necessarily distort earnings, provided that the users of

the information are aware of the existence and magnitude of the rewards program. Both

2. The total cash that the company receives is the same regardless of the method the company uses to

report revenue. So, is one revenue recognition method just as good as any other?

If markets are efficient with respect to information (i.e., information about the rewards program

is fully available to market participants) and if earnings do not directly impact managerial

compensation or other contracts, the method used to recognize revenue does not matter.

Market participants can undo the effect of accounting policies.

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Useful Articles, Links, and Videos

Healy, P., and J.M. Whalen. (1999). A Review of the Earnings Management Literature and its Implications

for Standard Setting. Accounting Horizons 13: 365-384.

IFRS [International Financial Reporting Standards] (2017). “IFRIC 13 Customer Loyalty Programmes.”

IFRIC [International Financial Reporting Interpretations Committee] (2007). [Standard] IFRIC 13:

IFRIC standards and their interpretations are issued after approval by the IASB. Since the case

was written, the International Financial Reporting Interpretations Committee (IFRIC) has been

replaced by the IFRS Interpretations Committee, which is the interpretative body of the IFRS

Foundation which, in turn, is the body that writes interpretations of standards developed by the

International Accounting Standards Board (IASB).

PricewaterhouseCoopers (2007). “IFRIC 13: Accounting for customer loyalty programmes.”

19. Auditor’s Dilemma (Chapter 6, pages 477-478)

What this case has to offer

This case presents a real problem faced by accounting students. The desire to always stay within time

budgets often leads to understating the real time spent on audits or not to spending enough audit time

to do a proper job.

Teaching suggestions

This case can begin with a discussion of budgeting:

• Why time budgets are important

• The relationship between time budgets and the amount billed to the client

Discussion of ethical issues

From an ethical point of view, “the purpose of an audit is to enhance the degree of confidence” that

users have in the financial statements by expressing an opinion “on whether the financial statements

are presented fairly, in all material respects.” (Canadian Auditing Standard (CAS) CAS 200.03) Users

include a wide variety of stakeholders, such as current and future shareholders, creditors, government

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1. What should Arthur do? Why?

Arthur understands time pressures and the need to be both efficient and effective when

conducting an audit of inventory. Arthur has a responsibility to report his time accurately.

Useful Articles, Links, and Videos

From the website: “The Canadian Public Accountability Board is Canada’s recognized source of

timely reporting on auditor oversight and audit quality. We contribute to thought leadership on

enhancing audit quality through resources, insights, tools, research, outreach and

communication. We also act as a catalyst for dialogue and engagement among key stakeholders

on audit quality issues, domestically and globally.”

Canadian Auditing Standards (CSA) (2014). CPA Canada Handbook – Assurance. Available at

KPMG (2014a). “Highlights from KPMG Canada’s ACI [Audit Committee Institute] Roundtable Session,

An overview of the KPMG roundtable on Enhancing Audit Quality (see KPMG 2014b, below),

which discusses the impact of EU audit reforms— including mandatory firm rotation, prohibited

non-audit services—and their implications for auditors and audit committees in the EU and

Canada.

KPMG (2014b). “On the 2014 Agenda: Enhancing Audit Quality – KPMG: Canadian Audit Stakeholders

This roundtable, hosted by KPMG in June 2014, discusses the impact of EU audit reforms—

including mandatory firm rotation, prohibited non-audit services—and their implications for

auditors and audit committees in the EU and Canada. This roundtable reminds auditors that

their work will be reviewed by audit committees.

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20. Management Choice (Chapter 6, page 479)

What this Case has to Offer

In this case the chief executive officer of a construction company wants to manage her earnings

downward this year so that a steady growth pattern will continue. She has proposed two means of this

Teaching Suggestions

Since this case is quite straightforward, I would ask the class the questions that are listed at the bottom

of the case. Identification of the stakeholders is important so that one can understand who has

interests and what those interests are. As far as the ethical issues involved in the case are concerned,

(case question #2), these should include:

• The conflicts of interests for Sue Fault between her duties as an employee and her duties as a

Discussion of ethical issues

1. Who are the stakeholders involved in this decision?

• The most obvious stakeholders are these:

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2. What are the ethical issues involved?

Conflicts of Interest

The formal discussion of conflicts of interest is in Chapter 5 on pages 257-262. An important

issue to clarify in this connection is that the nature of the professional accountant’s role involves

inherent conflicts of interest which one must always be on guard against, including: self-interest

3. What should Sue do?

Correct Action in the Face of Unethical Behavior

As the students learn in Chapter 5, their code of conduct prohibits them from involvement in

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21. To Qualify or Not? (Chapter 6, pages 479-482)

What this case has to offer

This case is intended to introduce the students to a real life auditing dilemma where they’re being told

to do something against their better judgement, where they believe that their senior professionals are

Teaching suggestions and discussion

By way of introducing the case I would invite a student to recap the major issues that they had seen in it.

Other students will chime in, and you can develop a list of issues. I would then ask the class whether

Jane Ashley, the staff accountant, had any choice except to follow the direction of the partner on the job

Having established the relevance of the case for the students, I ask the members of the class to outline

their understanding of the cut-off problem that has developed and make sure that they appreciate the

issues involved. It would appear that there is a shortage in inventory which Mrs. Hyst is attempting to

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The problem to be faced here is to whom should the auditor be loyal? Is the primary duty owed to her

partner, the firm, Mrs. Hyst, or other financial statement users in the public which would include the

bank. (See the discussion in the text in Chapter 5, pages 249, 263, and Chapter 6, page 390, on the role

of the auditor.)

In the end, the students should see that the proper decision is to do the very best they can to apply the

principles underlying the code. If it could be shown later that they were biased in some way and did not

apply fundamental principles rigorously, then they would be open to legal liability by one or the other of

the stakeholders. Their only hope is to apply the principles as rigorously, fairly and accurately as they

can to escape this liability.

firm. Written notes should be kept of these discussions. If the firm is not responsive to her interests,

then she should consider whether she should consult an ethics officer or the professional body to which

she is attached or a lawyer for advice. This would be to protect the profession from a scandal that could

be developed if an improper judgement is made. These are matters of judgement based on the

Discussion of other issues

Fairness to All Stakeholders

See above for discussion.

This case can also be used with Chapter 2 of the text so that students will develop an understanding of

the role of professional accountants. If used with Chapter 6, they could also develop an appreciation of

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22. Team Player Problems (Chapter 6, page 482)

What this case has to offer

This case puts the professional accountant (PA) in the position of being on a multidisciplinary team as a

player, not as the leader. This means that if any issue comes up that offends the PA’s ethical code, then

Teaching suggestions

I start the case with a brief introduction, setting the stage, as noted above, except for the last sentence.

Also, we discuss the need to apply the PA’s code more broadly than on audit engagements.

I then ask the class what parts of the PA’s code of ethics could be offended during the completion of the

assignment. They come up with and we discuss the following:

• misrepresentation – of facts through error or leaving out important issues

We then turn to the possible actions open to the PA, including:

• Consider if the issue is material, and if so:

o attempt to convince the team/team leader to do the right thing

Discussion of ethical issues

The discussion, above, and below, will lead to answering the case question:

1. Answer the questions put to John in the case.

Applicability of code

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The PA’s code of ethics would have to be applied if the PA were known to be a PA and was

contract, or by specific exception in the code.

Materiality

The general test of materiality (affecting the judgement of a lay person) would apply unless

Area of expertise

The PA must take into consideration his or her expertise in the matters under review. If the

Choice of action

A PA cannot be involved with a misrepresentation, or other breach of his or her code. If the

team leader cannot be convinced to adopt the right practices, then the PA must act. The

23. Minimal Disclosure (Chapter 6, pages 482-483)

What this Case has to Offer

In this case, Ted, the manager on the audit of Smart Investments Limited, is briefing a partner on an

upcoming meeting with the audit committee. In the briefing the manager raises a problem of conflict of

interest wherein the CEO, CFO and some directors would not want to lessen their profits or present full

information that might weaken their ability to exercise stock options profitably. The three disclosure

choices are rather interesting:

• Should profit on trading of derivative securities qualify for segmented disclosure?

Teaching Suggestions and Discussion

At the outset I call for a student to outline what she or he thought the major problem in the case was,

and then I ask for students to clarify each of the three issues raised.

This would be useful, for some may not have a full understanding of derivative securities or the desire

for segmented disclosure. Others may not appreciate why there would be a need to disclose the

significant amount of profit made through the trading of derivative securities, for segmented disclosure

usually refers to revenue earned by geographic area or by line of business. The principles behind

segmented disclosure, however, should be applied to significant sources of earning, and that means that

With regard to the second issue, the disclosure of a potential lawsuit would turn also on a balance of a

desire to be as accurate as possible in fairness to the shareholders who are relying upon the auditor as

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The final issue is that of reliance on another auditing firm who have given a clean opinion or on your own

judgement as an auditor as to the financial viability of a subsidiary. Because the firm of Dodds & Co. is

probably not one which operates within the U.S., but just in the Bahamas, it is unlikely that they could

withstand a significant lawsuit. Given current US laws regarding joint and several legal liability Carl’s

firm would be in the position of picking up the bill, even though they were not the primary auditor for

At the end of this case discussion, students should be reminded that their deliberations involved:

identification of stakeholders, and reasoning about fairness to their interests, overall and individual well-

offness, legal rights, and fiduciary duty. All of these are ethical concepts and are inherent in the choices

accountants make. The use of an ethical decision-making framework from the outset, or reference to its

important components, would ensure that each major ethical issue is given attention.

1. What should Carl, the partner, plan to do?

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24. Opinion Shopping (Chapter 6, page 483)

What this case has to offer

In Opinion Shopping, the student is confronted with the prospect of an auditor who has done his job in a

proper and rigorous manner, but who is nonetheless going to be subjected to pressure, intimidation and

possible loss of the client for his troubles. There is also the issue of why this activity is being engaged in,

Teaching Suggestions

I would invite the class to answer the questions in the order they’re set out at the conclusion of the

case. In the section above, I have identified most of the major stakeholders, and have indicated the

ethical issues involved. The stakeholder list should also include the other auditors who are to be

questioned, current and future shareholders, directors (particularly those on the Audit Committee), and

the auditing profession. In addition, however, there is the issue of the proper conduct of Bill Page as the

Discussion of ethical issues

1. Who are the major stakeholders involved in this situation?

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2. What are the ethical issues involved?

Conflicts of Interest

These are relatively obvious, with the main one being the self-interest of the president, the

chief financial officer and the auditor and the owners of the business, as well as whoever

2. Is this situation unethical? Why and why not?

Opinion Shopping

There is nothing wrong with informal discussions with other auditors on how issues might

be handled, provided no misrepresentations were made as to the relationship of a particular

decision to the awarding of the audit, and the likelihood that the audit would be awarded to

Responsibility for Fair Disclosure

The desire of the president to soften the auditor’s stand on several issues including obsolete

inventory, an engine warranty problem, and the clean-up costs of a waste spill does not

relieve the chief financial officer who is a qualified accountant from his responsibility to be