ACC 333 Exam 2

What is earnings management

Intentional manipulation of financial reports

Why are executives motivated to manage earnings, what are some tactics

Motivation includes meeting expectations, increasing bonuses, and avoid debt issues. Tactics include accelerate revenue, delay expenses, discretionary accounts, channel stuffing

What is the SEC’s position on using social media

Allowed if companies disclose which platforms they use to investors

What is income smoothing and why/how is it done

Making earnings appear stable over time, it is done shifting revenues and expenses and using reserves

How do accruals fit with earnings management

used to adjust timing of revenues/ expenses to influence earnings

Difference between discretionary and nondiscretionary accruals

Discretionary- management control

Nondiscretinary- no control

What is materiality

Information that affects decisions

Quantitative vs. Qualitative

Quantitative: dollar size

Qualitative: nature/ impact

What is earnings guidance and where is it found

Future earnings predictions by management, found in press releases and conference calls

What are cookie jar reserves

Overstating expenses now to boost future income

How is revenue manipulated

Recognizing revenue early, recording fake or incomplete sales

Red flags signaling earnings management or fraud

• high receivables

• slow inventory turnover

• one time gains

• changes in policies or auditors

What is fraud vs. material error

Fraud= intentional

Error= unintentional

Leader types

Transformational, transactional, servant, authentic

Transformational leader

inspires and motivates

transactional leader

rewards/ punishment

Servant leader

puts followers first

Authentic leader

ethical and value based

What is a follower and how do they compare to leaders

Followers support and influence leaders, leadership is a two way relationship

How is leadership in accounting different

Must focus on ethics, independence, integrity, and skepticism

What are restatements

corrections of financial statements

What is stealth (little r) restatement

Small immaterial correction, no reissue of statements

Reasons for restatements

Revenue errors, expense timing issues, misclassification, inventory/ reserve issues

What reporting is required for stealth restatements

Must disclose correction, but no full reissue

Difference between common and statutory law, auditor defenses

common= court decisions

statutory= written laws

defenses: due care, no duty, no reliance, no damages

What is due care and how do auditors prove it

Acting with skill and professionalism, proven by following GAAS

What is privity

Direct contractual relationship with client

Significance of ultramares vs. touche

No liability to 3rd parties for ordinary negligence without privity, liability exists for fraud/ gross negligence

What is tax evasion and red flags

Intentional avoidance of taxes, red flags: unreported income, false deduction, not filing

Auditor defenses against 3rd party lawsuits

• no duty

• no reliance

• no damages

• due care

What is an engagement letter and why is it important

contract defining responsibilities, protects auditor legally

Basics of 1933 and 1934 acts and liability and defenses

1933: IPO’s, requires audited financials, auditor liable for misstatements

1934: ongoing reporting (10-K, 10-Q, 8-K), requires proof of intent

Defenses: due care, lack of reliance

What is PSLRA

limits auditor liability, requires reporting illegal acts

What must auditors do if illegal acts are found

Report to management and audit committee

SOX (302 and 404 basics)

302: CEO/CFO certify statements

404: internal controls must be tested

FCPA (facilitation vs. bribe)

Facilitation: legal, speeds process

Bribe: illegal influence

Recklessness, negligence, intent, material weakness

Negligence: lack of care

Recklessness: knowingly taking risk

Intent: purposeful wrongdoing

Material weakness: major control isue

What is a form 8-k

Reports major company events

Difference between earnings management and earnings guidance and fraud example

Earnings management: manipulating reported numbers

Earnings guidance: predicting future performance

Fraud example: overstating future expectations to mislead investors

Difference between 1933 and 1934 acts and why it passed

1933= regulates IPO’s

1934= regulates ongoing reporting

Both created to protect investors after stock market crash

What must plantiff prove in negligence case, auditor defense

Plantiff must prove: duty, breach, damage, causation

Auditor defense: due care, no reliance, client negligence