Professional Documents
Culture Documents
Overview
Introduction
Definitions Managerial Motivation Methods of Impression Management Creative Presentation Research Evidence Accounting Scandals Impact of Creative Accounting and Fraud Controlling Creative Accounting and Fraud
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Creative Accounting
Two Quotes How do you explain to an intelligent public that it is possible for two companies in the same industry to follow entirely different accounting principles and both get a true and fair audit report? M. Lafferty Every company in the country is fiddling its profits. I. Griffiths
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Definitions
1. Fair Presentation
Using the flexibility within accounting to give a true and fair picture of the accounts so that they serve the interests of users.
Definitions
2. Creative Accounting
Using the flexibility within accounting to manage the measurement and presentation of the accounts so that they serve the interests of preparers.
Definitions
3. Impression Management
Using the flexibility of the accounts (especially narrative and graphs) to convey a more favourable view than is warranted of a companys results serving the interests of preparers.
Definitions
4. Fraud
Stepping outside the Regulatory Framework deliberately to give a false picture of the accounts.
Definitions
No Flexibility Flexibility to give a true and fair view Working within regulatory framework to ensure users interests Flexibility to give a creative view Working within regulatory framework to serve preparers interests Outside regulatory framework Flexibility to give a fraudulent view Working outside regulatory framework
Managerial Motivation
Managers may wish to:
Managerial Motivation
Which company would you invest in: A or B? Company A B Year 1 1m 4m Year 2 2m (1)m Year 3 4m 15m Year 4 8m (3)m
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Business Profit 10,000 Euros Fixed Assets 100,000 Euros Depreciation straight line 10 years If company adopts 20 year asset life will this affect profit? Yes: Original policy New policy Euros Euros Profit before depreciation 10,000 10,000 Depreciation (10,000) (5,000) Profit after depreciation 5,000
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2. Accounting Narratives 1. Selectivity 2. Spin and bias 3. Emphasise good news not bad news
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Revsine (1991) Research evidence is consistent with the notion that managers use latitude in existing financial reporting to benefit themselves.
Research Evidence
for and choose accounting policies which reduce their regulatory visibility Earnings management linked to variables such as size, risk, managerial compensation County Natwest Woodmac (1992) find that: 1. 29 out of 45 UK companies which failed reported a rise in EPS 2. 3 out of 45 were qualified
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Real Life
High Scores in Health Check Companies using the most creative accounting techniques in Phillips and Drews Health Check
Company
British-Aerospace Maxwell Burton Group Dixons Cable and Wireless Blue Circle TI Group Bookers Asda Granada Next Sears LEP Laporte British Airways Tiphook Ultramar
February, p. 22
Sector
Engineering Media Stores Stores Telephone networks Building materials Engineering Food manufacturing Food retailer Leisure Stores Stores Business services Chemicals Transport Transport Oils
Frequency
7 7 7 6 6 5 5 5 5 5 5 5 5 5 5 5 5
Source: M.J. Jones (1992), Accounting for Growth: Surviving the Accounting Jungle, Management Accounting,
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Research Evidence
Ranking of Creative Accounting Practices used by 185 Major UK Companies TYPE Provisions Non-trading profits Extraordinary costs Pension funds Capitalisation Low tax charge Off balance sheet debt Depreciation Currency mismatch Brand names Earn outs
Phillips and Drew (1992)
NO 105 63 54 52 50 24 23 17 16 14 9
% 57 34 29 28 27 13 12 9 9 8 5
RANKING 1 2 3 4 5 6 7 8 9 10 11
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Accounting Scandals
Perennial
South Sea Bubble to Enron and Parmalat
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Fraud
Individuals use businesses as own private bank
account to plunder at will.
Fictitious transactions.
Transactions which break accounting rules.
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Accounting Scandals
Adecco Adelaid Steamship Adelphia Communications Ahold Albert Fisher Alstom AOL/Time Warner Argyll Foods Ashtead Associated British Ports Atlantic Computers Barchris Construction Barlow Clowes BCCI Bond Corporation Holdings Brent Walker Brentford Nylons Britannia Securities British & Commonwealth British Aerospace British Airways Authority British Printing BTR Burton Group Cendant Cisco City Equitable Fire Insurance City of Glasgow Banking Coloroll Computer Associates Conseco Consolidated Cotton Duck Continental Vending Corporate Services Group Court Line Courtaulds Cray Electronics Dynergy Eastern Counties Railway El paso Enron Equity Funding European Commission Four Seasons Nursing GEC/AEI Global Crossing Collins Holdings Grand Metropolitan Green Department Store Green Tree Financial Halliburton HealthSouth HIH Home Stake Production IBM ImClone Systems Insull Utility Investment Intl Signals and Control Interpublic Inyerstate Hosiery Mills Investors Overseas Services Kreditanstalt Kreuger & Toll Ladbroke Group 23
Accounting Scandals
Leasco Lemont & Hauspit Levitt Group Lockheed London & county Securities London Capital Group Lonrho Lucent Maxwell Communications McKesson &Robbin Micro Focus Microstrategy Minsec National Student Marketing Nortel Nvidia Oxford Health Plans Parmalet Penn Central Pergamon Press Polly Pekc Poseidon Quaity Software Products Queens Moat Houses Qwest Rank hovis McDougall Reid Murray Rite Aid Rolls Razor Rolls-Royces Royal British Bank Royal mail Steamship Rush & Tomkins Saatchi & Saatchi Skandia Spring Ram Storehouse Sunbeam Swedish Match Texas Gulf Sulphur Tiphook Trafalfar House Tyco International US Realty & Construction Vehicle & General Versailles Waste Management WorldCom WPP Xerox Yale Express Yale Transport
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Accounting Scandals
Case Studies 1. Polly Peck (charismatic chairman: Asil Nadir) One of fastest growing UK firms in 1990s 1990 interim results analysts predict a substantial increase. 6 days later collapses Why? a, Banks and shareholders shut their eyes b, Fraud and deception c, Accounting policies flattering i, ii, iii, iv, Brands 405 million stranded in Turkey Delmonte sales overestimated Growth in borrowing 1989 139m 77.4 (55.6) 250 1106
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Accounting Scandals
v, Currency mismatch
Borrows heavily in two strong currencies DM and Swiss Francs Deposits in weak currency Turkey Weak currencies depreciate against strong ones causing capital losses
Capital Losses (44.7m) in 1988, and (170.3m) in 1989 taken direct to Reserves Interest Receivable greater therefore P & L Gains!! than interest payable
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Accounting Scandals
2. Maxwell Communications
i, Worldwide global communications ii, Net debts 1.5bn vs net assets 1bn iii, Dubious methods Pledge assets and then sell Plunder pension funds Share support 7 out of 10 in creative accounting blob index
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Accounting Scandals
3. Enron collapses, 7th biggest US company.
uses special purpose vehicles to keep debts off balance sheet Treats loans as sales Swops assets and treats them as sales Creative accounting and fraud Auditors position uneasy
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Accounting Scandals
4. Other US Scandals
Accounting Scandals
5. Parmalat
just lifting the numbers and using them as sancrosant ... some of them would be better off driving buses - it would be safer for a lot of us
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ii, Regulatory war of the fittest Griffiths Rather than eliminate creative accounting the imposition of standards appears to have created more and more sophisticated forms of financial manipulation
Probably not Part of human nature Best we can do is set up a sound conceptual
framework and sound standards Promote good ethical conduct Be aware.
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AUSTIN MITCHELL
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