A describe incentives that might induce a company’s executives to manage reported earnings, financial positions, and cash flows;

Question 1

‘Manage earnings’ to overstate income

Answer 1

to meet earnings expectations

To remain in compliance w/ lending covenants

to receive higher incentive compensation

Question 2

‘Manage earnings’ to understate net income

Answer 2

Obtain trade relief in the form of quotas or protective tariffs

Negotiate favorable terms from creditors

Negotiate favorable labor union contracts

Question 3

‘manage the balance sheet’

Answer 3

OVerstating assets or understating liabilities to appear more solvent

Understate assets or overstate liabilities to appear less solvent in order to negotiate concessions with creditors and other interested parties.

to enhance performance ratios ex: lower asset values will result in a higher return on assets ratio and a higher asset turnover ratio.

*ROA - net income/average total assets

Question 4

Quality of Reported Cash Flows

Answer 4

Creative accounting treatments: Results in CF from borrowing being classified as Op. CF’s (has been employed by some companies)