In Search of the 'Right' Numbers: Navigating Professional Judgment Challenges in Accounting
(7 pages of text)
In October 2001, the co-founder and vice-president of Veritas Investment Research Corporation (Veritas), was considering his next steps as he prepared to issue a highly critical report on Bombardier Inc. (Bombardier). The vice-president believed that Bombardier had relied upon accounting innovations rather than operating innovations in order to report accounting profits. While numerous issues concerned the vice-president, one of the most critical was the way the company had managed the relationships between its various operating segments. These issues had developed over recent years and threatened to increase following the business decisions in the wake of September 11, 2001, which had dramatically affected the sale of aircraft. The vice-president’s investment report would have significant consequences for numerous stakeholders and would affect both his own and Veritas’s reputations. How should Veritas interpret the various issues related to Bombardier’s accounting and reporting choices?
This case can be used in a financial accounting course at the undergraduate or graduate level. Students should have a basic understanding of financial statements and accounting choices. The case provides an opportunity for students to understand how companies may manage earnings through their accounting choices and assumptions in order to meet specific targets or market expectations. It highlights various motives behind earnings management and the difficulty of discerning between earnings driven by accounting innovation and those driven by operating innovation. Students analyze possible instances of earnings management in Bombardier’s allocation of revenues and cost among various operating segments and debate whether Bombardier’s actions reflect attempts to mischaracterize or to correctly characterize performance. After working through the case and assignment questions, students will be able to do the following:
- Explain how earnings management practices can lead to greater reported earnings without corresponding increases in underlying cash flows.
- Identify a manager’s motivations and opportunities for managing earnings, particularly as a company expands.
- Analyze how a company might rely on multiple business operating segments to engage in earnings management.
- Analyze accounting choices that might lead investors to suspect earnings management.
- Discuss the governance considerations and acceptability of earnings management practices to financial statement users.
Canada, Large, 2001
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