The Strategies To Mitigate Management Override On Accountants’ Independence

Introduction

Management override of internal controls is the intervention by managers in handling

financial information and making decisions contrary to internal control policy (Vitez, 2017).

Management can perpetuate financial reporting frauds by overriding established control

procedures and recording unauthorized or inappropriate journal entries or other closing

adjustments (U.S. Department of Health & Human Services, 2018). There are three types of

specific situations on management overrides: concealing or not disclosing facts that may affect

amounts in theinancial report, engaging in complex transaction that are structured to

misrepresent financial position or performance of the entity, and altering records or terms related

to significant and unusual transaction. Those situations reflect that in order to get profit,

management take an improper measure to the effect the financial statement.

The problem of management override is a significant issue in the accounting field.

Managements have the responsibility to ensure appropriate financial reporting, they have the

obligation to review financial statements before statements are issued and make any appropriate

adjustment. While such actions could be called the management override which conducts

improper behavior that affects the financial decision making so that exerts a negative impact on

the overall accounting environment. According to the latest global Economic Crime Survey

(ECS) prepared by PwC, middle and senior management account for 14% and 42% respectively

of internal fraud perpetrated by employees across various industries (pwc,2011). As O’Leary

(2008) stated, there are serious issues of management override in various industries. For

example, in a chemical company, an assistant accountant had realized a doubts whether a project
has an ability to generate sufficient future revenue. However, when the assistant accountant

talked to CFO about this issue, the CFO reluctantly admitted to this fact. Actually, CFO’s bonus

was performed based on the company’s annual profit, so the accountant suspected CFO’s

motives for not writing off this and other doubtful projects. To conceal his true purpose, CFO

paid the accountant’s salary to try to ignore this problem and show a fake high revenue in their

financial statements. This is a typical case related to management override faced by accountants

when they prepare financial statements. Therefore, it is necessary to study the effect of

management override on accountants’ independence, which will lead to financial reporting

misstatement (Turner, Weickgenannt, & Copeland).

The existing research has been working on the management override for a long time. Several

studies have shown some indicators of management override. Hayes (2008) states that there are

several bad signs of management override, such as physical dislocation, bending the rules,

exception becoming the rule, and unusual numbers. Therefore, auditors need to pay attention to

those unusual signs to avoid management override leading to a fraud. Furthermore, several

literatures explore the reasons of management override. PwC (2011) investigates several factors

may exist which provide the incentive for management to override controls, such as internal and

external pressure, personal financial problem or unable to meet financial target. As skaife, H. A.,

Veenman, D., & Wangerin, D. (2013) found in their research, insider trading profitability is even

greater when insiders are more likely to act in their own self-interest. In addition, Gordon, J. N.

(2002) states that the most important guarantor of an accountant's independence is that its firing

is highly salient, which means that the management may force accountant by make a threat of

dismissal.
 Despite the previous research has contributed a lot on the study of management override, it

just either focused on the effect of auditing on management override or focused on the

accountants’ independence, limited studies combine management override and accountants’

independence together and put forward some practical solutions to deal with management

override on accountants’ independence. Moreover, there is no related solutions to solve the

conflict between management override and Accountant independence in the previous research.

Thus, the purpose of this review of literature is to explore the solutions to mitigate management

override on accountants’ independence because we would like to help accountants mitigate

pressure from management in order to improve financial statement’s credibility in accounting

field.

Accountant’s Independence

Although accountants’ responsibilities are different from auditors’ but they have so much in

common, especially independence. Because of independence, only the people who do the work

of the auditor have been specially stressed. Albert D. Spalding Jr. and Alfonso Oddo (2011)

defines that independence simply requires auditors to maintain independence from their clients

when performing attestation services or review. Adebayo Olagunju (2011) stated that auditors’

independence exerts an impact on the credibility of financial statements prepared by accountants.

Both auditors and accountants spend time on financial statements, accountants who need to

prepare for financial statements also need independence. In accounting field, accountants’

independence means different jobs are completed by different people (Blann, 2010). In other

words, the person who did the job is not influenced or controlled by another one and should be

objective and free from bias or prejudice (Blann, 2010). Freier (2004) also pointed out that an
integral part of the ethical component of the accountant’s domain is the requirement to maintain

“independence” from the managers of the company being audited so as to ensure that the

accountant provides the public with an objective, unbiased assessment of the financial

statements. Moreover, objectivity is a necessary and sufficient condition to achieve the

independence in fact and appearance and maintain the reliability of the financial reporting

(Taylor, DeZoort, Munn, & Thomas, 2003). Therefore, as independent accountants, they should

keep objectivity and provide unbiased assessment in financial statements.

Connection between m Management Override and Accountants’ Independence

Responsibilities of accountants are affected by financial managers, since managers apply their

judgment and estimates to recognize and measure assets and liabilities. This indicates managers

have discretion to influence the credibility of the financial statements under GAAP; that is,

managers can use their discretion to generate the biased financial information (Hollis, 2004).

Auditors are employed by top management for all practical purposes and this behavior reduces

the effectiveness of independence (Hollis, 2004). Similarly, accountants are hired by

management for specific purposes. The reason is that managers prefer to hire accountants who

have no threats to their inappropriate modification on the financial statements (Hollis, 2004). To

maintain the credibility of the financial statements, they are required to be independent during

the accounting procedures. This implies that managers will affect the performance of accountants

and accountants may make fake accounts on the financial statements to be in accordance with the

work of auditors.

There are two indication that implies management override would occur. One indicator of

management override is that accountants will conceal transactions that may affect amounts in the
financial reports. The deficiency of accountants’ independence might lead to misstatements in

the financial reports. Take a typical case of Enron fraud transactions. In an engagement regarding

whether to record taxes the day occurred, executives concealed these expenses to avoid income

taxes. This illegal behavior caused the downfall of this multi-billion dollar firm (Adebayo, 2011).

Another indicator of management override is that accountants will alter records or terms related

to significant and unusual transactions under the authority of management. The impairment of

accountants’ independence indicates they fail to disclose facts that may affect amounts in the

financial statements. This means that accountants might be affected by management override if

they lose independence in the work. For example, if a seller had sold his house in December then

the seller could have taken advantage of certain tax benefits. However, he only realized this

transaction in January and wished to backdate the document to December. In this scenario, the

event did not occur during the time period required for the benefit but the management of this

selling company pretended that it occured. Accordingly, this company recorded this tax benefits

and caused an overstatement of net income (Forster, 2015).

Strategies to Mitigate Management Override on Auditors

Because accountants and auditors are required to be dependent in the work, constructed

strategies to solve management pressure from auditors’ perspective might be applicable to

accountants. A misstatement in the financial statement might attribute to the inappropriate

decisions management made (Radin, Arthur J. 2008). The effective method to alleviate this risk

of inappropriate override is to inspect the performance of management. In Guilford Mills, Inc., a

financial director computes fraudulent journals and debits accounts payable accounts, causing a

understatement of liability and thus a overstatement of net income. Thus, it is significant to test
the appropriateness and accuracy of journal entries and adjusting records for auditors. In

addition, the existence of inherent weakness makes management override possible. PCAOB AS

2401 (2007) sets several agenda to guide auditors to confront with the risks of management

override of controls. Auditors need to inspect the sources of evidence, examine entries, focus

much on year-end and high risk accountants, review and evaluate whether is significant account.

Because a large number of financial supervisors or financial managers engaged in the auditing

work or have taken auditing courses before developing financial work, they probably may be

able to devise ways to get around the auditors. To illustrate, if the auditor sends a party in a

confirmation asking if the contract is complete, this action will reduce the risk of side letters, not

a zero. Since a client can anticipate the confirmation and conspire with the recipient. This

suggests there are inherent weaknesses in the auditing process that make management

override possible. Accordingly, the regulations to mitigate management override simply

from auditors’ perspective is not sufficient.

Discussion and Implications

In this review of literature, we have found that accountants are probably facing the pressure

from the management while preparing financial statement, and it is necessary to provide some

strategies to mitigate the pressure and enhance the reliability of financial reporting ( O’Leary,

2008). However, the previous scholars either focus on the strategies to address the risk of

management override based on the perspective of auditors or accountants’ independence when

preparing financial reporting (Hayes, 2008). Therefore, in this review of literature, we have

studied the effect of management override on accountants’ independence and provide some
specific solutions related to ethics education and complying with the accounting standards to

mitigate the management override on accountants’ independence.

Extending O’LEARY’s research on the impact of ethnic education on accounting students, we

suggest that ethical education on accountants is one of the strategies that can be used to mitigate

management override on accountants’ independence. O’LEARY (2009) suggests that ethical

education has a positive influence on ethical attitudes of accounting students. It is a good way to

help accountants keep independence and enable them to learn how to make decisions in different

kinds of ethical dilemmas. As for ethical education, one of the probable methods to instruct

accountants is to create some scenario simulations or cases of ethical dilemmas. In these cases,

accountants will be educated to maintain various professional qualities, such as objective and

they will understand how to deal with the specific issues as well as corresponding consequences.

For example, Enron is a typical case that involves concealing transactions which may affect

amounts in financial reporting (Adebayo, 2011). In that case, the management directed

accountants to conceal the amount of income tax payable account to avoid paying income taxes.

When facing this type of management override, accountants after receiving ethical training

should keep objective as well as integrity and record the amount that should have been recorded

based on GAAP, which is the most important requirement for accountants while preparing

financial statement. Due to the limited regulations to protect accountants from management

override, we suggest that accountants could report this issue to the Direct Board, which is the

supervisor of management, if the manager continues to override on them. It seems that

accountants are likely to prepare financial statement objectively and enhance the reliability of the

financial reporting.
 The other strategy that we recommend is to require accountants to comply with professional

standards or codes such as SAC, even if they encounter management override while preparing

financial statements. The IESBA provides ethical standards that professional accountants must

comply with the code of ethics. (IESBA, 2013). In addition, SAC also states the specific

requirements related to different accounts that accountants are allowed to follow. Therefore,

when facing some misstatements in financial statement, accountants have to perform the

procedures that are in agreement with the standards or codes. In a specific situation, the

management will probably alter records in order to acquire some benefits. For instance, based on

the standards, the company could take advantage of certain tax benefits if the company sold a

house in December, while that company actually realizes this transaction in January in the next

year. In order to obtain that tax benefits, the management asks the accountant to backdate the

document to December. In this case, the accountant is aware of this illegal action because it

breaches the regulation in SAC. According to SAC 605-15-25, the revenue from the sales

transaction should be recorded at the correct date. Therefore, the accountant should refute the

manager’s request of backdating and record the revenue in January instead of in December. In

this way, accounts are more likely to develop effective performance of reporting financial

statements.

Conclusion

A great deal of accounting scandals are due to the fact that corporate executives make fake

financial statements and inflate their income in order to pursuit benefits. In this process, whether

to comply with the accounting standards or to follow the manager's instructions becomes a tough

for accountants. Thus, this paper discusses how accountants independence is influenced by
management override and how accountants should do when they are authorized with

management override. According to literature review, what strategies can help accountants make

the appropriate decisions when facing management override. However, these strategies depend

on the level of the pressure from the managers and the quality of accountants. Therefore, more

additional research is needed.

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