Ethics of Earnings Management

I enjoyed the conversation on GAAP and earnings management relating to the case “Be Careful What You Wish For: From the Middle”. The conversation was brief, but got me thinking on the ethics of earnings management. GAAP accounting is to reflect in good faith the company’s actual financial status and present reality as is. It is not to present a manipulated set of numbers that paint a pretty picture. GAAP requires recording of revenue when there is persuasive evidence of an arrangement, assurance of collectability, a fixed or determinable price, and delivery. If Sarah recognizes revenue before delivery, she would violate GAAP and partake in channel stuffing. It would not be earnings management.

In my opinion, there is a fine line between ethical and unethical earnings management. For example, a company may have the choice to early adopt an accounting standard or wait until it becomes mandatory. Would it be unethical to delay implementation because the current standard makes earnings look better? I could argue the decision both ways. I could say the decision is unethical because there is intent to portray earnings in a better light than they would under the new standard. I could also argue it is ethical. The current standard reflects current earnings and it would be best to delay implementation until the release of a final draft or until all questions are answered. Implementing new standards can also be costly, and part of the reason to delay implementation could be to delay costs.

GAAP allows management to use discretion in areas where guidance is not black and white; however, I believe they allow discretion under the assumption that managers will be unbiased and act in good faith. As mentioned in class, if Sarah...

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...heart breaks. How would I feel if the individuals unable to obtain donations were my family members? How would I feel if I knew they needed medical supplies, but would not be able to receive them because someone like me upset a donor? I agree with the suggestions discussed, such as having companies realize what would happen if the IRS or the public were to find out donors were overstating donations. I do not like the idea of valuing items differently from the corporations. I would feel wrong knowing the not-for-profit was dealing with individuals who were deceiving others. I would be supporting unethical behavior, and I would not want to be associated with them. At the same time, if the not-for-profit were to disassociate themselves with companies who refuse to correctly value donations, the individuals with the greatest need would be the ones to suffer most.