The Dangerous Morality of Managing Earnings*
The Majority of Managers Surveyed Say It’s Not Wrong to Manage Earnings
Actions for Concerned Managers We believe most corporations would benefit if they established clearer accounting and operating standards for all employees to follow. The standard-setting process should involve managers in discussions of the practices related to short-term earnings measurements. Until these standards are in place, different managers will use widely varying criteria in assessing the acceptability of various earnings-management practices. These variations will have an adverse effect on the quality of the firm’s financial information. Companies can use a questionnaire similar to the one in our study to encourage discussion and to communicate corporate standards and the reason for them. Standards also enable internal and external auditors and management to judge whether or not the desired quality of earnings is being maintained. In most companies, auditors can depend on good standards to identify and judge the acceptability of the operating manipulations. Ultimately, the line management chain-of-command, not auditors or financial staff, bears the primary responsibility for controlling operating manipulations. Often managers must rely on their prior experience and good judgment to distinguish between a decision that will have positive long-term benefits and one that has a positive short-term effect but a deleterious long-term effect. Finally, it is important to manage the corporate culture. A culture that promotes openness and cooperative problem-solving among managers is likely to result in less short-term earnings management than one that is more competitive and where annual, and even quarterly, performance shortfalls are punished. A corporate culture that is more concerned with managing for excellence rather than for reporting short-term profits will be less likely to support the widespread use of immoral earnings-management practices.
Required a. Time, laws, regulation, and professional standards have restricted accounting practices to those that are moral, ethical, fair, and precise Comment.
b. Most managers surveyed had a conservative, strict interpretation of
what is moral or ethical in financial reporting Comment.
c. The managers surveyed exhibited a surprising agreement as to what constitutes an ethical or unethical practice. Comment
d. List the five generalizations from the findings in this study relating to managing earnings.
e. Comment on management’s ability to manage earnings in the long run
by influencing financial accounting.