Week12.AccountingEthics

Week 12: Accounting Ethics

The Importance of EthicsThe nature of the work carried out by accountants and auditors requires a high level of ethics.Shareholders, potential shareholders, and other users of the financial statements rely heavily on the yearly financial statements of a company as they can use this information to make an informed decision about investment.LO 1

The Importance of EthicsThey rely on the opinion of the:accountants who prepared the statementsauditors that verified them, to present a true and fair view of the company.Knowledge of ethics can help accountants and auditors to overcome ethical dilemmasthe right choice although may not benefit the company, will benefit the public. LO 1

Ethical Obligations of Accountants Aristotles VirtuesTrustworthiness, benevolence, altruism Honesty, integrity Impartiality, open-mindedness Reliability, dependability, faithfulnessTrustworthinessEthical Standards for CPAsIntegrity

Truthfulness, non-deceptionObjectivity, independence

Loyalty (confidentiality)

Due care (competence and prudence)

Accounting Community CitizenshipHonoring public trustActing with integrity in performance of professional servicesBeing independent of clientsMaking decisions objectivelyExercising due care in the performance of services

Ethical StandardsAre issued by many accounting bodiesContain clear specific guidelines as to what accountants/auditors can or cannot do.E.g. Auditors cannot receive gifts from clients (may be bribes)E.g. Accountants have a duty to ensure that the work is done carefully LO 1

Accounting scandalsFrom the 1980s to the present there have been multiple accounting scandals that were widely reported on by the media and resulted in fraud charges, bankruptcy protection requests, and the closure of companies and accounting firms. LO 1

Causes of accounting scandalsCreative accountingA primary benefit of public accounting statements is that they allow investors to compare the financial health of competing companies. However, when firms indulge in creative accounting they often distort the value of the information that their financials provide. Can be used to manage earnings and to keep debt off the balance sheet. LO 1

Causes of accounting scandalsFrauddeceptive accounting practices, manipulation to maintain the appearance of sustainabilityE.g. recording future expected salesE.g. understating expenses through such means as capitalizing operating expensesE.g. inflating assets' net worth by knowingly failing to apply an appropriate depreciation scheduleE.g. hiding liabilities off of the company's balance sheet

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Causes of accounting scandalsThe motivations of creative accounting & fraud Personal incentivesBonus-related payBenefits from shares and share optionsJob securityPersonal satisfactionTax management

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EnronFraudulent accounting practices - Nugan Hand Bank, Phar-Mor, WorldCom & AIG.Enron, a multinational companyFor several years had not shown a true or fair view of their financial statements.Auditor Arthur Andersen signed off on the validity of the accounts despite the inaccuracies in the financial statements.LO 1

EnronEnron, a multinational companyWhen the unethical activities were reported, not only did Enron dissolve but Arthur Andersen also went out of business. Enron's shareholders lost $25billion as a result of the company's bankruptcy.Although only a fraction of Arthur Anderson's employees were involved with the scandal, the closure of the firm resulted in the loss of 85,000 jobs.LO 1

Responses to scandalsNew reforms, new regulations, ethical education - to improve the credibility of the accounting profession. New regulations include the Sarbanes-Oxley Act of 2002 (US). limits the level of work which can be carried out by accounting firms. puts a limit on the fee which a firm can receive from one client as a % of their total fees. This ensures that companies are not wholly reliant on one firm for its income, in the hope that they do not need to act unethically to keep a steady income. LO 1

Responses to scandalsSarbanes-Oxley Act of 2002 (US)protects whistleblowers requires senior management in public companies to sign off on the accuracy of its company's accounting records. LO 1

Responses to scandalsIn 2003, the International Federation of Accountants (IFAC)determined areas for improvement within organizations Developed recommendations for companies to develop more effective ethics codes. recommended that companies improve training and support so accountants could better handle ethical dilemmas. LO 1

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