...CONSERVATIVE RECOGNITION OR COOKIE JAR RESERVES Robin Turner Summary Two months after graduating from college Nick O'Brien started to work in the accounting department at his aunt's software company. While going over some financial statements Nick notices what he believes are revenue recognition issues. Since Nick believes that Lee Marchetti the Chief Financial Officer (CFO) of O'Brien Software is an honest man, he decides to have a discussion with him about what he believes are revenue recognition issues. Mr. Marchetti explains to Nick that accounting is not an exact science and that it involves a lot of judgment calls and that O'Brien Software's "deferrals and estimates are well documented and in accordance with the Securities and Exchange Commission (SEC) rules" (Conservative Recognition or Cookie Jar Reserves, Carpenter p. 3). After speaking with Mr. Marchetti, Nick decided to still speak with his aunt Amelia about his concerns. Amelia expressed to Nick that she was not very good when it came to accounting matters but she was educated when it came to recognizing revenue and that she believed being conservative was better than overstating. However, she asked Nick if he thought she should mention what he found to the audit committee. Issues/Questions One question that should be addressed surrounds why the CEO Amelia is not aware of certain financial aspects of her business. The Sarbanes-Oxley Act requires the chief executive officer (CEO) and the chief financial...
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...Conservative Recognition or Cookie Jar Reserves? A Case Study Analysis July 5, 2013 Case Summary: Nick O’Brian has just finished his college degree and has started working for his aunt’s software company, O’Brian Software. Nick was hired as a junior auditor and has only been on the job for a couple of months. His aunt Amelia started the company as a small firm many years ago and finally went public after the company had grown tremendously. She holds the CEO position and runs the bulk of the business operations. However, Amelia O’Brian does not have a sufficient understanding of the company’s accounting procedures and therefore is not involved in the company’s accounting branch. In general the company seems to function with an air of honesty and integrity. Although the company is family owned, all of the business decisions are made with the consent of the audit committee of the board of directors. Furthermore, Lee Marchetti, the company’s CFO keeps a tight eye on all the financial activity of the company and is recognized as being a trustworthy individual who can ensure that the company’s controls are watertight. The situation is like this: While reviewing some of the company’s software revenue recognition data Nick got the feeling that the estimates were too conservative based on what the company was actually bringing in. He felt that it was possible that the company was creating “cookie jar” reserves to inflate earnings when times weren’t so good. This was especially...
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...ANALISYS FOR CONSERVATIVE RECOGNITION OR COOKIE JAR RESERVES Summary: O’Brian Software is a family software firm started by Amelia O’Brian. She started the company on a very small scale many years ago, but it has grown tremendously over time. The company went public and she now holds the position of chief executive officer at the company, while managing the majority of the business operations herself. Nick, who is Amelia’s nephew and a recent graduate with an accounting degree, began working for Amelia’s company. Nick was inducted as an auditor at junior level for the company and has been working only for a few months now. Amelia O’Brian has been facing issues because she does not have a sufficient understanding of the accounting procedures used in her company and her involvement with the company’s accounting function is very limited. Overall, the company has exhibited qualities of honesty and integrity in all of its functions. Though the company is owned and managed by the O’Brian family, all the important decisions are finalized only by proper discussion and final approval of the board of directors audit committee. All financial activities and transactions in the company are run by its CFO, Lee Marchetti. He is recognized as a trustworthy executive who ensures tight internal checks and controls on company’s finances. Current situation: In the process of reviewing the company’s financial statements, Nick recognized some issues with software revenue recognition...
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...Recognition or Cookie Jar Reserves SUMMARY OF THE FACTS Parties Involved: Aunt Amelia – Founder of O’Brian Software, Nick’s aunt and inexperienced in accounting. Nick O’Brian – Junior Internal Auditor, recently college graduate, nephew of the Lee Marchetti – Chief Financial Officer of O’Brian Software. After recently graduating college two months prior, Nick O’Brian is hired as a Junior Internal Auditor for his Aunt Amelia’s company, O’Brian Software. O’Brian Software has been in operations for five years and is a multi-million dollar publicly traded company that provides both software and consulting services to its clients. Although this is Nick’s first position at the company, he’s been involved since the very beginning of this family venture, since family members owned the majority of the stock. Realizing “her specialty is software, not accounting “, Aunt Amelia hires Lee Machete to be Chief Financial Officer (CFO) of O’Brian Software after the firm’s initial public offering (IPO) three years ago. Nick notices a significant amount of unearned revenue the balance sheet and wonders if O’Brian Software is being overly conservative in estimating the amount of deferred income. After having a difficult understanding the firm’s methodology for revenue recognition, Nick decides to talk to Marchetti. In the meeting with Marchetti, Nick states what worries him. “Overly conservative reporting could leave the impression we’re trying to create cookie jar reserves.” Machete...
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...chairman Arthur Levitt delivered at the NYU Center for Law and Business regarding earnings management in 1998. While companies use many techniques and illusions to improve their numbers, this paper will only look at three: “Cookie-Jar” Reserves, “Big Bath” Charges, and Revenue Recognition. After discussing and using real world examples of these techniques, this paper will examine ethical questions related to the selection of audit committee members such as qualifications and independence. Cookie Jar Reserves Cookie Jar reserves refers to the practice of intentionally recording unreasonable estimates or one time transactions during good economic times in order to smooth out activity in bad economic times (Levitt). These transactions directly violate, not only simple human honesty, but also Conservatism, one of the main accounting principles. A real world example of the use of cookie jar reserves is the computer company Dell. In 2010, they paid a penalty to the SEC of $100 million dollars due to their using of cookie jar reserves. To establish their reserves, Dell did not disclose payments from Intel which were paid in order to maintain exclusive use of their microprocessors. When times were tough, Dell drew on these reserves. At one point, these reserves made up more than 70% of their quarterly earnings (Investopedia). This example, first, violates the matching principle, since the payments from Intel should have been recorded as a rebate contra to the variable cost of the...
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...ethics. The nature of the work done in accounting can affect the livelihood of all those connected to a business. Accurate and ethical accounting practices are crucial to a company. Earnings management is a process in which companies manipulate earnings to match a pre-determined target amount. The purpose is known as “income smoothing” and the intent is to keep earnings stable over a period of time (Investopedia, 2014). Practices like a company’s use of reserves for deferred maintenance are also known by the disingenuous accounting practice called cookie jar accounting or reserves (Investapedia, 2014). This practice is not ethical because it misleads investors on the company’s performance if there is not full disclosure of the company’s financial picture. In the United States, the SEC typically does not permit cookie jar accounting by public companies because it can mislead investors regarding a company's financial performance. There numerous cases where the SEC has sued U.S. companies for the use of cookie jar accounting....
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...him as a honest man with years of experience. Out of concern for his aunt’s company he approached his aunt, who is not known for her accounting expertise, but is the CEO of O’Brian Software. After explaining his concerns she asked Nick whether or not they should present this information to the audit committee. Issues/Questions The initial question is whether or not the audit committee should be made aware of Nick’s revenue recognition concerns. As President and CEO of Softrax Corporation, Robert O’Connor, points out, this is a serious claim. It is imperative that Nick does his research before making such a claim. The underlying issue in this case is if O’Brian Software is creating ‘cookie jar’ reserves by understating profits in periods of prosperity and then creating false reserves in times the company needs a boost. The smoothing of revenue recognition can mislead investors by providing them a false impression of the company’s financial standing while the purpose of the financial statements is to accurately present users with the finances of the company. Before answering his aunt’s question, there is research that needs to be done. An issue with most companies is when to recognize revenue and when to defer...
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...Xerox Corporation 1 Accounting Ethical Breaches at Xerox Corporation Taiwan Byrd Xerox Corporation 2 Accounting Ethical Breaches at Xerox Corporation Some of the largest accounting frauds in history occurred in the last several years leading to the well-known scandals in the accounting industry. During the early 2000’s accounting scandals were at the forefront of most business circles and rising to an all-time high in record number of cases being reported (Erickson). This raised the public to question and ask one major question are these scandals of fraud directly linked to the lack of ethics in these company or are they just honest mistakes that need to be fixed. Today businesses have made tremendous strides towards cleaning up the scandals. Businesses today have implemented programs that give the public, stockholders, and investors the belief that they want to take the right steps towards improving this negative environment inside major corporations around the world. The company I have chosen to take a more in-depth look at its ethical breaches and the improvements they have made to improve on those breaches is the famous and most illustrious Xerox Corporation. Xerox was cited for what we would call a major infraction back in the early 2000’s for some of their accounting practices in the late 1990’s. Xerox faced with hard competition from up and rising foreign markets and losing a portion of their core small copier business to desktop...
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...“The Numbers Game” A Speech by SEC Chairman Arthur Levitt Article Review The article, “The Numbers Game” 1 is about the Securities Exchange Commission (SEC) Chairman, Arthur Levitt’s concern over earnings management. Specifically, he expressed during a speech at the NYU Center for Law and Business his distress over an evolving problem with a game played among market participants to manipulate their financial reporting numbers motivated by Wall Street earnings expectations. Chairman Levitt is very passionate and direct in his 1998 speech. It appears that he was invited to honor Bill Allen, the first Director of the NYC Center for Law and Business and he took the opportunity to use this occasion as a platform to voice his concern over the growing problem of market manipulation made by public companies. Mr. Levitt feared that this practice could destroy the quality of earnings and financial reporting. Levitt, the SEC and other aligned corporations were all concerned with the growing practices of financial manipulation fearing that deception appeared to be losing out to integrity. Mark 8:36 says, “What good is it for someone to gain the whole world, yet forfeit their soul?” Corporations who conduct such deceitfulness are winning at the cost of their existence. They are willing to bet their whole life for a few moments of glory on Wall Street. In my opinion, it was very courageous for Mr. Levitt to call out these corporations and put them on notice that their questionable...
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...short term revenue and income. Xerox reduced its cost of sales by retroactively increasing the residual values of its machines. Moreover, the “portfolio asset strategy”, which was applied by Xerox, involved the sale of revenue streams in order to realize the full revenue within the current period. Xerox also realized additional income from contract renegotiations within the current period, instead of recognizing it over the remaining part of the contract. Another manipulation practice of Xerox was the use of factoring without disclosing it. This created the impression, that their cash from operation is much higher than it actually is. On top, they made use of the cookie jar practice by releasing reserves of nearly $500 million, which had been created for another purpose, without disclosing it. By releasing reserves, which had been fraudulently created or by changing accounting standards and policies, Xerox was able to increase its income in the years 1994 to...
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...for Baidu.com. Also the paid advertisers could take their business elsewhere. 3. If Baidu.com could reassure their stakeholders that their information is reliable. And the companies that pay for advertising will receive the services expected. If they are unable to restore their creditability they could possibly go out of business as indicated by the drop in their stock. ‘5. By developing a culture of openness and by diminishing that culture of secrecy. And the government putting laws in place to determine the behavior of the country. WorldCom: The Final Catalyst 1. WorldCom created excess reserves or provisions for future expenses, which they later released or reduced, thereby adding to profits. The manipulation of profit through reserves or provisions is known as “cookie jar” accounting. According to the SEC first, WorldCom improperly released certain reserves held against operating expenses. Second, WorldCom improperly recharacterized certain operating costs as capital assets. 2. I am uncertain, but I believe the Arthur Andersen auditor lost its independence when conducting the WorldCom audit. Two members of upper management were previous employees of Arthur Andersen made personal. And the fact that Andersen’s...
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...THE COMMITTEE OF SPONSORING ORGANIZATIONS OF THE TREADWAY COMMISSION (COSO) Introduction The Committee of Sponsoring Organizations of the Treadway Commission was organized in 1985 and was jointly sponsored by five professional organizations, American Accounting Association (AAA), American Institute of CPA (AICPA), the Institute of Internal Auditors (IIA) , the Association of Accountants and Financial Professionals in Business (IMA), and Financial Executives International (FEI). Each sponsoring organization appoints representatives to periodically work together on specific projects. The goal of COSO is to provide leadership through the development of frameworks and guidance on enterprise risk management, internal control and fraud deterrence to enhance organizational governance and decrease fraud 1. The History of COSO and the Creation of the COSO Framework Due to the public criticisms against both accounting professionals and the U.S. Securities and Exchange Commission (SEC), the Treadway Commission was formed in 1985 to inspect fraudulent financial statements, especially in the aspects of reliability and accuracy. In 1987, the Treadway Commission issued its first report on fraudulent financial reporting. COSO was created because of this report. In 1992, COSO released the report titled Internal Control-Integrated Framework, which defined the concept of internal control and established a framework on how to make internal control systems work effectively. The...
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...1. (1) Cookie-jar reserves is accounting practice take reserves against losing in a profitable years, and use this reserves in a loss years to make company in a good condition year to year. (2). The strategy of manipulating a company's income statement to make poor results look even worse. http://www.investopedia.com/terms/b/bigbath.asp (3). According to the FAS 5, first, the asset on the financial statement needs to be impaired, and the liability recorded on the finance statement actually occurred. Second, the amount of loss can be reasonably estimated. Accruals for general or unspecified business risks are no longer permitted. 2. (1) Substance over form concept means financial statements will show the overall financial reality of the entity, rather than the legal form of transactions. (2) According to the FAS 5, first, the asset on the financial statement needs to be impaired, and the liability recorded on the finance statement actually occurred. 3. (1) Channel stuffing means company or sale department inflates its sales figures by forcing more products through distribution than the channel which design for selling activities. (2) Doom loop is making the situation worse because of the underlying system. (3) It should be noted, however, that MD&A disclosure of a company without recent revenues frequently reads very similarly to the disclosure previously required of small business issuers under Item 303(a) of former Regulation S-B. 4. (1) Bill and hold...
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...Revenue recognition – the accounting term for determining the amount of revenues to be “booked” for purposes of calculating a firm’s earnings in a given period – is an important, complex and controversial issue. The importance of revenue recognition stems from the accountant’s approach to calculating earnings, which is to first calculate recognized (“booked”) revenues, and then deduct the accounting costs of earning those revenues (a process known as “matching costs with revenues”). Consequently, revenue recognition directly affects reported earnings and indirectly affects balance sheet numbers and several important financial ratios. Generally Accepted Accounting Principles (GAAP) includes some general revenue recognition principles as well as many specific rules for recognizing revenues in particular circumstances. Even then, there frequently is scope for interpretation and judgment by the company’s managers and auditors. For various reasons managers can be expected to have preferences for the amount of reported earnings, so when the rules provide some latitude they can be expected to exercise judgment in a fashion that reflects those preferences. In addition, when there are rules that provide explicit revenue recognition guidance, managers sometimes knowingly or unknowingly violate them. Not surprisingly, approximately 60 per cent of all accounting malfeasance involves revenue recognition issues. Revenue recognition is particularly important in the software industry,...
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...Course code: F-209 Course title: Auditing and taxation Submitted to Mohammad Salahuddin Chowdhury Lecturer Department of Finance University of Dhaka Submitted by Kazi Umme Sumaiya | 16-022 | Arjumand Naznin | 16-120 | Shahriar Azad | 16-142 | Tasrifa Sultana | 16-154 | Mst. Shamsunnahar | 16-176 | Date of submission: 12/11/2011 Acknowledgement The group expresses their gratitude to our honorable course teacher, Mohammad Salahuddin Chowdhury, Lecturer, Department of Finance, University of Dhaka, who has assigned us a fictional case about a corporate scandal. We choose to work with Xerox scandal that took place in 2002. We use our knowledge of audit while working in this report. Also we learn about the ways of accounting manipulations that took place in the real world. Letter of transmittal 12th Nov, 2011 Mohammad Salahuddin Chowdhury Lecturer Department of Finance University of Dhaka Dear Sir Here is a report on the “Corporate scandal of Xerox Corporation”. In this report we have presented the whole history of the scandal, identified the cause of the mishap and showed the result of the scandal. At University of Dhaka, we appreciate having this assignment. If you need any assistance in interpreting this report or if you have any query, please contact with us on the given mail address starz@yahoo.com Sincerely yours, Shahriar Azad Shashi On behalf of the group 2nd Year 2nd Semester B.B.A 16th Batch Department of Finance. Executive...
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