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Emead Plc is a public company. At the end of the financial year in December 2 0 1 8 , financial analysts' forecasts show that
Emead Plc is a public company. At the end of the financial year in December financial analysts' forecasts show that the company's net income will grow each year for the next three years ie and During the Year Great Bakery got a lot of new customers, and its earnings doubled compared to showing a increase. The earnings went up from to between the two years a increase In the number of new customers decreased, but the company was still able to maintain its high growth and earnings by expanding the product line to existing and new customers. The earnings grew again to become increase At the end of the Year nonetheless, the company's management prepares a forecast for the Year and realises that the company will be short of analysts' earnings growth expectation by ie the earnings growth is expected to be only ; hence, the earnings are expected to be To remediate this, the Financial Controller FC with the consent of the Finance Director FD decided to use cookie jar accounting: he artificially increases the company's warranty reserves by applying unrealistic assumptions at the end of the Year The increased warranty reserves result in an additional expense of and reduce earnings for to from ie making earnings increase from instead of the actual In the company indeed had earnings of or a increase compared to the prior year as forecasted. To meet the financial analysts' expectations, FC and FD again adjusted the warranty reserves assumptions and reverses the additional warranty expense recognized in This reversal creates an additional income of for and gets the earnings right on target with the analysts' expectations of growth. a Using the information in the scenario, explain whether this is an example of fraudulent financial reporting or misappropriation of assets. Discuss the difference, if any, between the two concepts. b What is cookie jar accounting? How does it differ from big bath accounting? Illustrate your answer with examples from the scenario? c Why might senior management overstate or understate earnings?
Emead Plc is a public company. At the end of the financial year in December financial analysts' forecasts show that the company's net income will grow each year for the next three years ie and During the Year Great Bakery got a lot of new customers, and its earnings doubled compared to showing a increase. The earnings went up from to between the two years a increase In the number of new customers decreased, but the company was still able to maintain its high growth and earnings by expanding the product line to existing and new customers. The earnings grew again to become increase At the end of the Year nonetheless, the company's management prepares a forecast for the Year and realises that the company will be short of analysts' earnings growth expectation by ie the earnings growth is expected to be only ; hence, the earnings are expected to be To remediate this, the Financial Controller FC with the consent of the Finance Director FD decided to use cookie jar accounting: he artificially increases the company's warranty reserves by applying unrealistic assumptions at the end of the Year The increased warranty reserves result in an additional expense of and reduce earnings for to from ie making earnings increase from instead of the actual In the company indeed had earnings of or a increase compared to the prior year as forecasted. To meet the financial analysts' expectations, FC and FD again adjusted the warranty reserves assumptions and reverses the additional warranty expense recognized in This reversal creates an additional income of for and gets the earnings right on target with the analysts' expectations of growth.
a Using the information in the scenario, explain whether this is an example of fraudulent financial reporting or misappropriation of assets. Discuss the difference, if any, between the two concepts.
b What is cookie jar accounting? How does it differ from big bath accounting? Illustrate your answer with examples from the scenario?
c Why might senior management overstate or understate earnings?
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