Question

Companies occasionally offer a coupon or warranty offer to increase sales. Management must estimate the redemption rate and record and expense the corresponding liability. A manager could intentionally under estimate the redemption rate. The increased sales would be recorded in the current period to meet a sales goal, but the redemption cost would not be recorded until the following period. Could this situation happen to a company with a good control environment? Describe any steps a company could take to prevent such abuse. Who might be harmed? Do you consider this example to be management fraud or employee fraud? Describe how it fits the definition of your choice.

Answer 1

It is difficult for a company to do this with good control environment as they have policies in place for charging warranty for each period.

Company can make a policy document specifying as to how warranty cost need to be estimated. The best way to do this is by calculating percentage of warranty cost incurred for previous 3-4 years and then average it out.

Stakeholders who rely on the company financial statements to make decisions may be harmed.

This is more of a managemnet fraud as they can avoid it based on past history.