Question 5 – Earnings Management & Disclosures (20 marks) Covid-19 poses significant challenges for companies regarding the valuation of financial report items and the calculation of provisions. Given the uncertain situation, management might be inclined to consider ways in which they could manage earnings.
a) Define ‘earnings management’. Do you consider it to be good or bad? Why? (8 marks)
b) If you were an auditor of a company that has a financial year end of 30 June 2020, what earnings management techniques would you be expecting to find? Give examples of ways you might detect these. (12 marks) Total – 20 marks
Question 5 – Earnings Management & Disclosures (20 marks) You have recently been appointed as a graduate accountant for a publicly listed firm. The firm is facing some temporary financial difficulties that arise from trading during the Covid-19 crisis.
a) Using two theories, explain why managers would be tempted to use accrual accounting to manage earnings. Provide a practical example of how this would be done in your answer. (10 marks)
b) Your manager has asked you to investigate what earnings management techniques the firm could carry out that would be less likely to be scrutinised by auditors, but would assist the firm meeting its earnings targets. You decide that real earnings management would be appropriate. Can you explain why this would be a good method and provide the manager with three examples of ways in which the firm could successfully complete this? (10 marks)
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