Question

Ethical Scenario

Rick Pines and Joe Lopez are the plant managers for High Mountain Lumber’s particle board division. High Mountain Lumber has adopted a just-in-time management philosophy. Each plant combines wood chips with chemical adhesives to produce particle board to order, and all product is sold as soon as it is completed.

Laura Green is High Mountain Lumber’s regional controller. All of High Mountain Lumber’s plants and divisions send Green their production and cost information. While reviewing the numbers of the two particle board plants, she is surprised to find that both plants estimate their ending work-in-process inventory at 75% complete, which is higher than usual.

Green calls Lopez, whom she has known for some time. He admits that to ensure their division would meet its profit goal and that both he and Pines would make their bonuses (which are based on division profit), they agreed to inflate the percentage completion. Lopez explains, “Determining the percent complete always requires judgment. Whatever the percent complete, we’ll finish the work-in-process inventory first thing next year.”

For this discussion you have the option to select TWO of the following questions as your initial response. You only need to select TWO of the four questions. You do NOT need to answer all four questions.

In addition to your initial response, for full credit, please be sure to respond to more than two other student’s initial responses as well.

1. How would inflating the percentage completion of ending work-in-process inventory help Pines and Lopez get their bonuses?
2. The particle board division is the largest of High Mountain Lumber’s division. If Green does not correct the percentage completion of this year’s ending work-in-process inventory, how will the misstatement affect High Mountain Lumber’s financial statements?
3. Evaluate Lopez’s justification, including the effect, if any, on next year’s financial statements.
4. Address the following: What is the ethical issue resulting from this situation? What should Green do?

Answer 1

1. Inflating the percentage completion of ending work-in-progress would lead to overvaluation of ending work in progress. Such overvalued ending work in progress would be credited to the Profit and Loss Account thereby increasing the amount credited to the said account. The increase in the amount credited to the Profit and Loss Account would eventually lead to increase in the profits. Since, Pines and Lopez bonuses are based on profits, the increased profits would lead to higher profits for Pines and Lopez. In this manner inflating the percentage completion of ending work-in-process inventory would help Pines and Lopez get their bonuses.

2. If Green does not correct the percentage completion of this year’s ending work-in-process inventory, this will lead to disclosure of enhanced profits as discussed above. Further, due to increase in the percentage completion the ending work in progress would be reflected in the balance sheets at higher value. This will lead to overstatement of assets in the balance sheet.

Hence, if Green does not correct the percentage completion of this year’s ending work-in-process inventory, this will lead to disclosure of enhanced profits and overvalued ending work in progress.