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The Role of Intent on Accounting Students’ Ethical Attitudes Towards Earnings Management

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Abstract

The purpose of this study was to investigate whether intent (primarily for selfish or unselfish benefit), an attribute of earnings management (EM), affected the evaluation of the level of ethical acceptability of other EM attributes reported by senior Canadian undergraduate accounting students. Extending work in the U.S. begun by Merchant and Rockness (Journal of Accounting and Public Policy, 13, 79–94, 1994) and Bruns and Merchant (Management Accounting, 72(2), 22–25, 1990), our results indicate that there were statistically significant differences in the assessments of ethical acceptability attributable to intent. There were also significant differences attributable to gender.

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Authors and Affiliations

  1. Odette School of Business, University of Windsor, 401 Sunset Avenue, Windsor, Ontario, N9B 3P4, Canada

    George Lan, Maureen Gowing & Talal Al-Hayale

Authors
  1. George Lan
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  2. Maureen Gowing
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  3. Talal Al-Hayale
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Corresponding author

Correspondence to George Lan.

Appendix

Appendix

Earnings Questionnaire-V.1

The following questions reflect common ethical choices faced by those in authority in an organization. We would like you to evaluate these practices as they apply to a public company (annual revenues, say, $100 million).

Imagine that you are a member of the company’s audit committee evaluating the decisions of the CEO. Assume that the intent of the CEO making the decision is to maximize his/her remuneration. Part of the CEO’s remuneration is a cash bonus based on exceeding a target net income for the year. The bonus paid increases as the amount by which the CEO exceeds the company’s target net income increases.

Use the following scale to indicate how you judge their acceptability (by circling the appropriate number):

  1. 1.

    Ethical practice

  2. 2.

    Questionable practice (I would not ensure the committee reprimands the Chief Executive Officer (CEO), but it makes me uncomfortable)

  3. 3.

    Minor infraction (I would ensure the committee warns the CEO not to make this choice again)

  4. 4.

    Serious infraction (I would ensure the committee severely reprimands the CEO)

  5. 5.

    Totally unethical (I would ensure the committee recommends that the CEO be fired)

Accounting practice

Ethical scale

1. The company’s headquarters building was scheduled to be painted in 2006. But because profit performance was way ahead of budget in 2005, the company’s CEO decided to have the work done in 2005. Amount: $150,000

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2. The CEO ordered his employees to defer all discretionary expenditures (e.g., travel, advertising, hiring, maintenance) into the next accounting period, so the company could make its budgeted profit targets. Expected amount of deferrals: $150,000

 a. The expenses were postponed from February and March until April in order to make the first quarter target.

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 b. The expenses were postponed from November and December until January in order to make the annual target.

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3. On December 15, a clerk ordered $3000 of office supplies, and the supplies were delivered on December 29. This order was a mistake because the CEO had ordered that no discretionary expenses be incurred for the remainder of the fiscal year, and the supplies were not urgently needed. The company’s accounting policy manual states that office supplies must be recorded as an expense when delivered. The CEO learned what had happened, and to correct the mistake, the CEO asked the accounting department not to record the invoice until February.

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4. In September, the CEO realized that the company would need strong performance in the fourth quarter to reach its budget targets.

 a. The CEO decided to implement a sales program offering liberal payment terms to pull some sales that would normally occur next year into the current year; customers accepting delivery in the fourth quarter would not have to pay the invoice for 120 days.

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 b. The CEO ordered manufacturing to work overtime in December so that everything possible could be shipped by the end of the year

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 c. The CEO sold some assets and realized profit of $40,000.

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5. At the beginning of December 2005, the CEO realized the company would exceed its budgeted profit targets for the year.

 a. The CEO ordered the controller to prepay some expenses (e.g., hotel rooms, exhibit expense) for a major trade show to be held in March, 2006 and to book them as 2005 expenses.

Amount: $60,000.

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 b. The CEO ordered the controller to develop the rationale for increasing the reserve for inventory obsolescence. By taking a pessimistic view of future market prospects, the controller was able to identify $700,000 worth of finished goods that conservative accounting would say should be written off, even though the CEO was fairly confident that the inventory would still be sold at a later date at close to full price.

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6. The next year, the company sold 70 % of the written-off inventory, and a customer had indicated some interest in buying the rest of that inventory the following year. The CEO ordered the controller to prepare the rationale for writing previously written off goods to full cost for obsolescence by $210,000 The CEO’s motivation for recapturing the profit was:

 a. To continue working on some important product development projects that otherwise might be delayed due to budget constraints.

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 b. To make budgeted profit targets.

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7. In November 2005, the company was straining to meet budget. The CEO called the engagement partner of a consulting firm that was doing some work for the company and asked that the firm not send an invoice until next year. The partner agreed. Estimated work done but not invoiced:

 a. $30

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 b. $500

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Earnings Questionnaire-V.2

The following questions reflect common ethical choices faced by those in authority in an organization. We would like you to evaluate these practices as they apply to a public company (annual revenues, say, $100 million).

Imagine that you are a member of the company’s audit committee evaluating the decisions of the CEO. Assume that the intent of the CEO making the decision is to maximize the benefits for either the shareholders or the employees of the firm (or both) by carefully choosing accounting policies and techniques to attain the corporate governance objectives of the firm. Incidentally in doing so, the CEO’s remuneration may be enhanced (or impaired) but this outcome is irrelevant to the CEO when making the decisions about accounting policies and techniques. The remainder of the questionnaire is same as EARNINGS QUESTIONNAIRE-V.1.

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Lan, G., Gowing, M. & Al-Hayale, T. The Role of Intent on Accounting Students’ Ethical Attitudes Towards Earnings Management. J Acad Ethics 13, 345–362 (2015). https://doi.org/10.1007/s10805-015-9242-6

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  • DOI: https://doi.org/10.1007/s10805-015-9242-6

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