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Sem 2 - Financial accounting > Earnings Management - Lecture 1 > Flashcards

Earnings Management - Lecture 1 Flashcards

1
Q

What is earnings management?

A

The use of accounting techniques to make a company’s financial reports look better (or worse)

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2
Q

Why is earnings management used by managers?

A

.Increase remuneration packages
.Meet market expectations
.To cover up fraudulent activity
.Enhance their credentials

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3
Q

Financial reporting quality is high if:

A

.Reporting is compliant with IFRS
.Information is neutral and free from errors
.Faithfully represent financial position

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4
Q

Earnings quality is high if:

A

.Earnings are sustainable
.Earnings provide adequate return to investors

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5
Q

What makes financial reports decision-useful?

A

When they are unbiased (neutral)

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6
Q

What are aggressive accounting choices?

A

Choices increase current period earnings and financial position

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7
Q

What are conservative accounting choices?

A

Choices decrease current period earnings and financial position

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8
Q

How may management smooth earnings using conservative and aggressive choices?

A

.Conservative choices when earnings are high
.Aggressive choices when earnings are low

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9
Q

What are some motivations for producing low quality reports?

A

.To increase share price
.Improve view of company by investors
.Increase reputation and remuneration
.Meet or exceed benchmark EPS

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10
Q

What are some opportunities for low-quality reporting?

A

.Weak internal controls
.Inadequate board oversight
.Range within IFRS
.Minimal consequences for inappropriate choices

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11
Q

How does rationalisation affect reporting quality?

A

Managers create reasons to justify their behaviour

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12
Q

What are some compliance mechanisms involving the government and market regulation?

A

.Disclosure requirements
.Auditing requirements
.Review of business, management commentaries
.Enforcement - Fines, prosecution

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13
Q

What are some compliance mechanisms relating to auditing?

A

.Auditors provide opinion on reports
.Check for internal controls
.Selected and paid for by company

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14
Q

How are private contracts used as a compliance mechanism?

A

.May have loan covenants
.Financial triggers for ROI
.Specific methods for calculating accounting measures

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15
Q

What are Non-IFRS presentations?

A

.Accounting measures designed to influence analysts’ earnings expectations and valuations
.Non-IFRS measures often remove negative items

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16
Q

What measures do Non-IFRS presentations require to be used properly?

A

.Must be defined
.Require an explanation for their use
.Must be reconciled with closest IFRS measure

17
Q

What are some choices relating to revenue recognition?

A

.Discounts to increase orders in current period
.Delay shipments to defer revenue to later period
.Increase shipments to distributors
.Bill-and-hold transactions: Recognise revenue for goods that have not been shipped

18
Q

What choice does management have for depreciation?

A

Straight-line versus accelerated

19
Q

What are the depreciation estimates?

A

Economic life and scrap value

20
Q

What is capitalisation?

A

Defers expenses to future periods

21
Q

What are related-party transactions?

A

Can move earnings into or out of the firm

22
Q

What choices do management have for managing operating cash flow?

A

.Capitalising purchases
.Stretching payables
.Capitalising cash interest costs

23
Q

What are some high level financial statement checks?

A

.Excessively smooth trends over time
.Unexplained increase in margins
.Profits vs cash flow
.Non-IFRS presentation

24
Q

What are accounting warning signs?

A

.They indicate more investigation is required
.Determine if statements are being manipulated
.Multiple warning signs without explanation indicate high levels of earnings management

25
Q

What are some accounting warning signs related to revenue recognition?

A

.Revenue growth out of line with peers
.Lack of clarity on revenue recognition method
.Change in revenue recognition method

26
Q

What are some warning signs related to depreciation?

A

.Unusual depreciation methods relative to peer group
.Useful lives appear excessively long or short
.Salvage values are excessively high or low

27
Q

Is earnings management fraud?

A

No

Sem 2 - Financial accounting (7 decks)

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