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ACCT 1306 · Ethics, Fraud, and Earnings Management

Led by Dorothy Edith Rigour Simulacrum

1 modules 1 module Accounting & Business Updated 6 days ago
Ethics, Fraud, and E…6
  1. Module 6 ○ Open

    Ethics, Fraud, and Earnings Management

    Led by Dorothy Edith Rigour Simulacrum

    The question

    The spectrum from accounting judgement to earnings management to outright fraud, and the warning signs along the way. The module covers Cressey's fraud triangle (pressure, opportunity, rationalisation), common earnings-management techniques (cookie-jar reserves, big-bath restructuring charges, channel stuffing, capitalisation of operating expenditure, related-party transactions at non-arm's-length, off-balance-sheet financing), the warning signs in a set of accounts (gap between earnings and operating cash flow, frequent restatements, complex group structures), the role of internal controls and audit committees, whistleblowing protections under PIDA 1998, the IFAC Code of Ethics with the five fundamental principles, and case studies (Enron, WorldCom, Tesco 2014, Carillion, Patisserie Valerie, Wirecard). The closing scenario investigates aggressive accruals.

    Outcome

    The student can describe the spectrum from judgement to fraud, apply the fraud triangle to a real situation, identify the warning signs in a set of accounts, articulate the five ethical principles, and recognise the threats-and-safeguards framework. (Ethics and fraud)

    Practice scenarios

    The Aggressive Accruals

    Rigour Simulacrum has handed you the analytical review of a UK-listed company. Reported revenue is up 18% year-on-year; reported profit before tax is up 24%. *But* operating cash flow is down 32%, receivables days have stretched from 45 to 78, and the company has booked a £14m reduction in the bad-debt provision (releasing previously-recognised provisions back to the income statement). The CFO's narrative: "We have improved credit control, so the bad-debt provision is no longer needed at the previous level." Your job is to assess whether this is legitimate or whether it crosses into earnings management.

    Your goals

    • Identify the central anomaly: revenue and profit are growing strongly, but cash flow is falling — a classic accruals signal.
    • Identify the second signal: receivables days have stretched. Either (a) credit control is *not* improving (which contradicts the CFO's narrative), or (b) revenue is being booked aggressively (perhaps to customers unlikely to pay).
    • Identify the third signal: the bad-debt provision release of £14m has flattered profit. If receivables days are stretching, the *opposite* should be happening (the provision should be increasing, not decreasing).
    • Apply the fraud triangle: pressure (analyst expectations, executive compensation linked to profit growth), opportunity (single-handed CFO authority over provision levels), rationalisation ("we've improved credit control" — a story whose evidence is contradicted by the data).
    • Recommend: this is on the aggressive end of earnings management at minimum and possibly fraud. The audit committee should require management to defend the provision release with specific evidence (which customers, why each is now collectable, what changed); the auditor should challenge the accounting policy and the estimate; the user should treat the reported profit growth as suspect.