Question

Question# 3

Barbara Wonkers is a Controller at a company that builds software and hardware products. The firm does projects with clients paying several hundred thousand to millions of dollars for the products it creates. They turn over their inventory on hand on average, every six months. It is typical that the company has inventory on hand at the end of each period, as is the case this year as well. Barbara is evaluated on net income and the shareholders expect that net income she brings in will increase each year.

It is now close to the end of the fiscal year and Barbara has a pile of invoices on her desk relating to utilities for both the manufacturing plant and head office. Barbara’s current net income puts her ahead of last year’s net income, so she will get her year-end bonus based on net income. This will be the third straight year that she has increased net income and she is sure that this year’s performance will put her in good favor with her bosses.

Barbara receives a call the next day to tell her that her sales manager has calculated her sales staff’s year-end bonus and it comes to $50,000 more than you had forecasted, which will decrease net income once they are recorded to expenses. There goes Barbara’s bonus and any hopes of impressing her bosses. The Assistant Controller, whose bonus also is tied to net income, suggests that they re-run their projected financial statements, but this time, allocate all of the utilities costs as if they were from the manufacturing plant. Since these invoices haven’t yet been entered into the general ledger, there is still time to make this change.

Required:

a.Would the net income be higher or lower in the current year’s revised projection with the assistant controller’s suggestion? (Make sure to clearly state why or why not using concepts from Chapter 2 of the text.)

b.If the company continues to make similar amounts of inventory in the next period, Would the net income be higher or lower in next year’s financial statements with the assistant controller’s suggestion? (Make sure to clearly state why or why not using concepts from Chapter 2 of the text.)

c.If Barbara were to accept this assistant controller’s suggestion, do you view this act as unethical? Why or why not?

Answer 1

a)The net income will be lower as per the suggestion of the assistant controller. If the utilities costs that do not pertain to the current period are added to the manufacturing costs, the gross profit will reduce which will in turn reduce the net income.

b) If the company continues to increase manufacturing costs fictitously the finished goods cost also increases as result. This in turn will result in increased gross profit and consequently the net income will also go up.

c) If Barbara were to accept the assistant controllers suggestion it is certainly unethical since inflating profits or reducing it for one's personal gains is against public trust in the company. Also, it is an act that favors few employees in the company endangering the human resources.