Question

ETHICAL DILEMMA

You are the Controller for AJAX, Inc., a large regional manufacturer of widgets. The CFO comes to you and says the earnings results for the quarter ending June 30, 2019, are 20 percent below financial analysts’ estimates. As a public company, you know the stock price is likely to decline, perhaps significantly, after public disclosure of the earnings reduction for the second straight quarter in 2019.

Competitive pressures and a difficult economic environment have already placed great strain on the company’s finances, making it difficult for the company to comply with the multitude of government rules and regulations affecting its industry. Your worried that a decline in the company’s stock price at this time would likely cause the company shareholders and directors to demand another round of cost-cutting to improve corporate profitability. This would result in layoffs and other operating cost reductions that would make it impossible for the company to remain in compliance with governmental safety standards, environmental protections, etc.

The CFO, who could fire you at will, tells you that the CEO wants to avoid another round of cost cutting and insists the company must “make the numbers” this quarter. The CFO says that we are a team, it is our job to make it happen, and that he has a great idea for getting the job done. His idea is to record sales at full invoice price. He informs you that he discussed the idea with the corporate General Counsel and the General Counsel, who wrote the sales contract, assured him that recording the full sales amounts was appropriate. You happen to know that the General Counsel is the CEO’s brother-in-law.

The CFO “strongly urges” you to make this change in accounting practice (i.e., record sales at full invoice price) despite knowing full well that the company has a very liberal return policy that provides customers the right to return merchandise long after a normal return period for any reason.

Despite the urging of the CFO and the reported assurances of the corporate General Counsel, you are concerned that this new procedure for recording sales may result in the misstatement of revenues.

Questions

1. What do you do? Why?

2. What are the accounting issues?

3. What are the ethical issues?

4. Who are the key parties who can influence, or will be affected by, your decision?

5. Is there any other information about or rationale for your decision that you would like your classmates to know?

Answer 1

1. In this situation of the CFO asking you to cook up accounts, you must explain him that you cannot take up incorrect recording of accounts so as to window dress the financial statements. The same will be discovered during audit and cause severe long term legal and financial consequences for the business.

2. The accounting issues here that the sales return will not be recorded so as to show higher revenue and in turn higher profits. If the sales return is not recorded, then the physical inventory will not match with the books and the management will have to hide the physical inventory in order to cover the sales return. Or the company will have to record increase in other asset and reverse an expense to record the returns. The accounts receivables will remain uncollectible and will have be to ultimately written off as bad debts.

3. The ethical issues associated with this incorrect accounting is that the company will loose investors confidence in the long run when the fraudulent recording is discovered either during external audit or by the IRS audit. The company may as well not be able to meet its accounts payable obligations on time since the inventory will never be sold as per the records which will result in losses for the suppliers.

4. Key parties that can be influenced by the decision are shareholders, employees, suppliers, tax authorities and the management.

5. As a CPA you must follow the Code of Ethics laid out for the members as well not succumb to management pressures at work. This will jeopardize your career prospects as well put the company's financial health in to danger.