Motomobile Motors: A live case project

Break-even analysis and the related variable-costing-based approach to forecasting are used by most automobile manufacturers for decisions involving the establishment (or deferral) of additional retail dealerships. These additional retail dealerships may be proposed in market surveys, conducted every three to five years, which include socioeconomic/demographic data and other non-financial information. The following case study uses tabular summaries of some actual data developed by a manufacturer to assist in the decision to seek a dealer to build and operate an additional retail outlet. It illustrates some of the actual information and decision processes used in support of (or opposition to) the manufacturer's recommendation to build and operate an additional retail outlet. By considering both financial analysis and non-financial analysis, students expand their understanding of break-even analysis to a real-world setting and may consider if non-financial information could change their recommendation.     

Processes of auditability in sustainability assurance – the case of materiality construction

This study examines how financial audit-styled concepts such as materiality are transferred to non-financial audit arenas. Drawing on a case study of assurors working within a Big 4 professional services firm, we uncover a number of interrelated features of the materiality determination and assessment process within sustainability assurance (assurance on sustainability reports). We illustrate how assuror flexibility, underpinned by assuror intuition, is central to uncovering assurance technologies deemed capable of addressing the materiality of ambiguous sustainability data. Assurors with no financial audit background retrospectively rationalise their intuition using the assumed authority of structured financial audit methodologies. This facilitates the tentative translation of financial audit knowledge to the sustainability assurance domain. Collaborative, holistic decision-making processes inform the assurors’ continual construction of materiality and are characterised by alliances of (accountant and non-accountant) ‘expert’ assurors merging formal and tacit knowledge. These alliances seek social cohesion within sustainability assurance teams in order to establish a social consensus among assurors around the materiality determination and assessment process. Our analysis develops and extends Power’s theorisation of how new areas are made auditable and advances our understanding of the more practical aspects of non-financial assurance services offered by Big 4 professional services firms.     

The Relevance of Non-financial Performance Measures for CEO Compensation: Evidence from the Airline Industry

This paper investigates the role of non-financial performance measures in executive compensation. Using a sample of airline firms we document that passenger load factor, an important non-financial measure for firms in this industry, is positively associated with CEO cash compensation. This association is significant after controlling for traditional accounting performance measures (return on assets) and financial performance measures (stock returns). This evidence is consistent with the hypothesis that non-financial measures provide incremental information about CEOs actions over financial measures and hence, receive a positive weight in compensation contracts. We also explore cross-sectional differences in the importance of non-financial performance measures. We find weak evidence that CEO power and the noise of financial performance measures impact the relationship between non-financial performance measures and cash compensation.JEL Classification: J33, L25, L93, M41, M52     

Information uncertainty and auditor reputation

This paper explores the relationship between information uncertainty and auditor reputation revealed by the failure of Arthur Andersen (AA). AA’s reputation deteriorated considerably when it announced on January 10, 2002, that it had shredded documents related to its audit of Enron. AA’s demise was sealed on March 14, 2002, with its indictment for obstruction of justice. We find that on these dates the clients of AA and other Big Five auditors that are characterized by higher information uncertainty experience relatively larger share price declines compared to clients with lower information uncertainty. The findings suggest that the market relies more heavily on auditor reputation for higher information uncertainty firms, which implies that the value of an audit is greater when a firm is harder to value. Our results highlight the importance of information uncertainty in financial markets: where there is a shock to auditor reputation, firms with greater information uncertainty suffer the largest losses.     

Does the financial analysts' usage of non-financial information influence the analysts' forecast accuracy? Some evidence from the Belgian sell-side financial analyst

This paper examines whether the use of non-financial information by sell-side financial analysts influences the accuracy of analysts’ forecasts. The research findings, based on a survey of Belgian financial analysts, suggest that financial analysts who use more forward-looking information and more internal-structure information offer more accurate forecasts. Furthermore, the listed Belgian firms examined in this study have improved their non-financial information reporting over time. However, neither the frequency nor the quantity of non-financial information mentioned by financial analysts in their reports appears to have increased over time.     

Assessing professional ethics in tax: A case on uncertain tax positions

We develop and present an ethics case dealing with an uncertain tax position. The case can be used to assess professional ethics as part of an assurance-of-learning (AOL) plan as well as a component of a course grade. We present data on student performance on this case over a 5-year period. Students consider existing ethical frameworks to identify and frame the potential ethical “dilemmas” they might face in addressing whether to countenance a client’s suggested treatment and disclosure of an uncertain tax position. In addition, students evaluate the AICPA guidance and U.S. Treasury standards on taking and reporting uncertain tax positions in the tax return and the FASB and PCAOB standards on reporting and auditing uncertain tax positions in the financial statements. The case allows faculty to assess students’ ability to frame potential ethical dilemmas when clients engage in aggressive tax behavior, to recognize with whom and with what professional reference documents they should consult when an uncertain tax position arises, and to choose among alternative actions when faced with client/preparer conflicts.     

Investor reactions to key audit matters: Financial and non-financial contexts

We investigate how a disclosed risk item and key audit matter (KAM) relatedness combine to affect investors' riskiness assessment in financial and non-financial contexts. When management disclose a high-risk item, we find that investors react the same way across contexts with KAM relatedness having no effect. When management disclose a low-risk item, investors react differently in each context. When a KAM is related to the disclosed financial (non-financial) low-risk item, investors assess investment riskiness higher (lower) than when a KAM is unrelated to the low-risk item. Our findings indicate the varying communicative value of KAMs across financial and non-financial contexts.     

Assessing the effectiveness of financial reporting harmonization for emerging market banks: The case of Banco Serfin

In the last decade there has been a proliferation of financial crises in emerging markets. To some extent, the suddenness and magnitude of some of these crises have been blamed on poor financial reporting standards for bank loan losses. As a result, prior to providing countries with “financial bailout” funds, international investors and international financial organizations have increasingly required that countries harmonize their bank financial reporting standards with international financial reporting standards.Given this trend, this case requires students to assess the effectiveness of efforts to harmonize loan financial reporting (with International Financial Reporting Standards) for Mexican banks during (and after) the country’s financial crisis of the late 1990s. Students are required to assess the extent to which both pre-crisis standards as well as new, post-crisis standards complied with international financial reporting standards. They are also required to assess the impact of the new standards on the reporting practices for loans of one particularly troubled financial institution. Through the examination of this institution’s accounting practices for loans, students obtain a familiarity of the shortcomings of emerging markets’ banks’ loan financial reporting as well as the factors which influence the adoption of international financial reporting standards by emerging market banks.     

The effectiveness of interactive professional learning experiences as a pedagogical tool: Evidence from an audit setting

This paper describes an interactive professional learning experience (IPLE) and provides guidance for implementing an IPLE in an audit classroom. The IPLE described in this paper exposes students to a realistic practice environment within the classroom by bringing practitioners together with students in a professional supervisory setting. Practitioners review students’ work and then meet with students one-on-one to provide feedback on their work. We also document evidence of the pedagogical value of an IPLE by using a between-subjects experimental design in which learning outcomes for participants are compared to a control group that received the same instructions and completed the same written assignment, but did not participate in the professional interaction. In addition, pre- and posttests of students’ audit knowledge allowed for a within-subjects self-assessment of knowledge acquisition. The results strongly suggest that participation in the IPLE improves students’ performance on a skills test of relevant audit material and increases their self-perceptions of knowledge gained. In addition, results indicate that both students and audit professionals consider the IPLE a positive professional learning experience.     

Great Galway Goslings: Organizational Context of Managerial Accounting*

This case seeks to enhance student understanding of the relationship between accounting information and the order fulfllment and production activities of a manufacturing frm, Great Galway Goslings. Great Galway Goslings manufactures goose sculptures and has been suffering losses in recent years. Students draw on the skills they learned in financial accounting to analyze the company's order fulfllment activities, identify economic transactions, and prepare journal entries. The case provides a link to managerial accounting topics as students use segment financial statements to create contribution margin income statements, perform break‐even analyses, and recommend whether Great Galway Goslings should keep its retail business segment. Students will become familiar with the key features of business process management (BPM) and the extensive, real‐world activities that a manufacturing entity engages in to fll an order. Students will analyze the company's existing order fulfllment process and apply their knowledge of BPM to recommend process improvements for Great Galway. This case contributes to the accounting case literature by serving as a bridge from financial accounting to managerial accounting, intertwining many topics from managerial accounting into one cohesive case, and providing real‐world business process knowledge. Student feedback indicates that, overall, the case met its stated learning objectives. Great Galway Goslings is appropriate for an undergraduate introductory managerial accounting course but can be adapted to the equivalent graduate‐level course or an accounting information systems course.     

The impact of voluntary audit and governance characteristics on accounting errors in private companies

This paper examines the extent to which the audit and corporate governance characteristics of UK private companies are associated with defective accounting information. Despite the economic importance of private firms, relatively little is known about their financial reporting and governance characteristics. Using a large sample of UK private companies, we examine the effects of voluntary audit, board gender balance and financial expertise on the likelihood of errors occurring in published annual accounts. Our results indicate that audited accounts are approximately half as likely as unaudited accounts to contain errors. In addition to contributing to recent academic research in this field, our findings are likely to be of interest to policy makers, who are considering exempting more firms from mandatory audit. We also find that gender diversity among board members is positively associated with the accuracy of accounting information, though our primary measure of directors’ financial expertise has no significant effect.     

The effects of audit firm rotation on perceived auditor independence and audit quality

Our study explores loan officers’ perceptions of auditors’ independence and audit quality under three experimental audit firm rotation scenarios. We use a case experiment with a between-subjects design to determine whether rotation of the audit firm impacts financial statement users’ perceptions of auditor’s independence and quality. Findings based on 212 useable responses indicate that loan officers do perceive an increase in independence when the company follows an audit firm rotation policy. However, the length of auditor tenure within rotation fails to significantly change loan officers’ perceptions of independence. Findings also indicate that neither the presence of a rotation policy nor the length of the auditor tenure within rotation significantly influences the loan officers’ perceptions of audit quality.     

Shareowners' Equity at Campbell Soup: How can Equity be Negative?

Abstract

This paper presents an instructional case based on the 2001 annual report of the Campbell Soup Company (CPB). During that year, CPB's shareowners' equity went from a surplus of USD137 million to a deficit of USD247 million. The analysis will allow students to determine that the change resulted from borrowing to purchase treasury stock. Students are asked to consider why CPB's lenders allowed the firm to purchase so much treasury stock with borrowed funds. The case provides an opportunity for students to improve their understanding of the impact of shareowners' equity transactions on the entire balance sheet, and to examine the effect of unreported and under-reported assets on financial statement information.     

A parsimonious model to forecast financial distress,based on audit evidence

This paper provides evidence that audit reports convey relevant evidence for inferring the existence of underlying, unrevealed, financial imbalances. Unlike previous works, which studied US listed-firms bankruptcy, our research deals with Spanish non-financial SMEs under financial stress. Our results indicate that the audit of distressed SMEs has several distinctive features: higher auditor rotation, more qualified reports, and non-compliance with deadlines to approve and file the annual financial statements. We use this evidence to build and test a parsimonious and reliable forecast model. Several implications for auditors’ independence, information quality, and failure forecast are discussed.     

Financial versus non-financial information: The impact of information organization and presentation in a Balanced Scorecard

This paper investigates how the organization and presentation of performance measures affect how evaluators weight financial and non-financial measures when evaluating performance. We conduct two experiments, in which participants act as senior executives charged with evaluating two business-unit managers. Performance differences between business units are contained in either a financial or one of the three non-financial categories. Specifically, the first experiment studies how organizing measures in a Balanced Scorecard (BSC) format affects performance evaluations. Our results show that when the performance differences are contained in the financial category, evaluators that use a BSC-format place more weight on financial category measures than evaluators using an unformatted scorecard. Conversely, when performance differences are contained in the non-financial categories, whether measures are organized into a BSC-format or into an unformatted scorecard has no impact on the evaluation. The second experiment shows that when performance markers are added to the scorecards (i.e., +, −, and = signs for above-target, below-target, and on-target performance), evaluators that use a BSC-format weight measures in any category containing a performance difference more heavily than evaluators using an unformatted scorecard. Our findings suggest that firms should carefully consider how to present and organize measures to get the intended effect on performance evaluations.     

Different uses of performance measures: The evaluation versus reward of production managers

This study examines how the importance that is attributed to a variety of financial and non-financial performance measures depends on the type of use – evaluation versus reward. Survey data, collected on a sample of industrial companies, provide consistent evidence of a difference in the importance attached to performance measures for these two uses. More importance is attached to both financial and non-financial performance measures for the periodic evaluation than for variable rewards. The study also shows that the influence of production strategy and departmental interdependence on the importance attached to performance measures differs for evaluation and reward uses. A production strategy focused on differentiation by product-performance has a negative effect on the importance attached to financial measures for variable rewards but no effect on their importance for periodic evaluation. Moreover, departmental interdependence decreases the importance attached to financial measures for variable rewards but not for periodic evaluation. Departmental interdependence also has only a positive effect on non-financial measures for periodic evaluation and no effect on non-financial measures for variable rewards. Overall, the data suggest that it is essential to distinguish between different uses when studying performance measurement choices and their determinants.     

Investor perceptions of an auditor’s adverse internal control opinion

In response to recent corporate scandals, Congress passed the Sarbanes–Oxley Act of 2002 (SOX) which, among other things, requires that the auditor render an opinion as to the effectiveness of a company’s system of internal controls. The assumption implicit in this requirement is that the new internal control opinion provides investors with value-relevant information. Our evidence suggests that an adverse audit opinion on internal control over financial reporting provides incremental value-relevant information to investors beyond that contained in the financial statement audit opinion alone. Specifically we find that an adverse audit opinion on internal controls over financial reporting relative to an unqualified opinion is significantly associated with investors assessing a higher risk of financial statement misstatement, higher risk of a future financial statement restatement, higher information asymmetry, lower financial statement transparency, higher risk premium, higher cost of capital, lower sustainability of earnings, and lower earnings predictability. Overall, our empirical results support our hypotheses that the auditor’s opinion on the internal controls over financial reporting provides financial statement users with value-relevant information.     

Internal control risk and audit fees: Evidence from China

This study examines the association between internal control risk and audit fees under the voluntary adopting regime of the Basic Standard of Enterprise Internal Control in China. We find that audit fees are positively related to disclosed internal control weaknesses (ICWs). In particular, they are significantly associated with non-financial reporting-related, but not with financial reporting-related, ICWs.Our results also indicate that voluntary assurance in internal control reports can mitigate higher audit fees associated with ICWs. Our study provides timely evidence relating to the debate on whether the scope of internal control should be expanded to non-financial reporting-related areas.     

Computer assisted analytical procedures using Benford's Law

This case introduces students to Benford's Law and Digital Analysis, which can be used as an analytical procedure and fraud detection tool. Digital Analysis (DA) is the analysis of digit and number patterns of a data set. Actual digit frequencies in a data set are compared to the expected frequencies according to Benford's Law [Benford, F. (1938). The law of the anomolous numbers, Proceedings of the American Philosophical Society, 78, 551–572.]. Minor differences suggest that the data have passed a reasonableness test, while major differences signal possible financial statement mis-statements. After describing Benford's Law and the basic DA tests, the case requires auditing students to download DA software and the actual accounts payable file of a software company from a designated Internet site. Students then, (1) analyse the data using three DA tests as an analytical procedure in an external audit context, and (2) graph and a report the results and audit-related conclusions. The teaching note includes the actual findings from the audit of that data set and guidance on using the case in an auditing course.