My Discussion :
Even though firms follow the accounting rules (GAAP) when presenting their financial statements, it is still possible for conflicts of interest to exist between what management wants investors and creditors to see and the economic reality of transactions. Explain how this can occur.
Respond to at least two of your classmates’ posts.
Reply to Remmie:
CONFLICT WITH GAAP
Even though firms follow the accounting rules (GAAP) when presenting their financial statements, it is still possible for conflicts of interest to exist between what management wants investors and creditors to see and the economic reality of transactions. Explain how this can occur.
The façade that organizations used to deceive investors and creditors known as “creative accounting” and former SEC Chairman Arthur Levitt coined several terms that we will use though out this post “accounting hocus-pocus” to describe this technique; an organization can “cleanup” its balance sheet by washing away past financial problems, when returns drop considerably, and executives don’t want the company to be seen financially unstable, negative items on the balance sheet would be drop and masked as other favorable items of change. (Epstein, L. 2014)
“Cleaning” process may all so include hiding previous financial reporting problem, intentionally or non-intentional accounting errors reported in the past period. By including this misstep as part of the restructuring, the company now hopes to cover past errors as part of a said larger change. “Merger magic” hiding previous reporting problems as part of the merger, hoping that passed inaccuracies would be missed. (Epstein, L. 2014) There are numbers of other ways “creative account” can poke it ugly head up which includes the “miscellaneous cookie jar”, “revenue recognition”, “exploitation of expense”, “recognizing overstated assets”, “undervalued liabilities.” These are some of the creative ways organizations masked financial improprieties. (Epstein, L. 2014)
Epstein, L. (2014). Financial decision making: An introduction to financial reports [Electronic version]. Retrieved from https://content.ashford.edu/
Reply to Edward:
Conflicts occur through management and investors when managers have to find ways to keep shareholders happy and from leaving the company. The Gaap requirements only consist of following general accounting principles and guidelines along with standards put in place by the financial accounts standing board. While these guidelines show that a company is honest in regards to displaying their financial statistics, they do not provide enough vital information to investors and shareholders. Shareholders want information that will provide a more in-depth performance of a company that will help give a future forecast.
To prevent company loss in investors, managers may inflate numbers on a financial report, which can include selling their accounts receivables to expand the cash in their operating activities which will appease shareholders but can cause sanctions against the financial accounts standing board. To prevent this from happening, congress should be allowing quality financial reporting which includes giving customers more information about their company which will decrease their uncertainty. Management that attempts to supply convenient data “should have a safe harbor against sanctions for their legitimate efforts to improve reporting quality beyond GAAP. FASB should issue standards that identify best practices and weaker alternatives and require managers who don’t adopt the best practices to explain why” (Miller, 2002). Conclusively, by giving shareholders and investors more information through quality financial reporting, companies will have lower capital which will increase the efficiency of their long term funds.
References
Miller, P. B. W. (2002, April). Quality financial reporting: Finding customer focus through the power of competition. Journal of Accountancy. Retrieved from http://www.journalofaccountancy.com/Issues/2002/Apr/QualityFinancialReporting.htm (Links to an external site.)