Chapter 1, Introductory Cases Dublin Small Animal Clinic, Inc. 1 page; introductory
Chapter 2, Corporate Governance and Regulation
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Chapter 2, Corporate Governance and Regulation7.Accounting Irregularities at Xerox 7 pages; intermediateCorporate governanceSales-type leasesUnderstated discount ratesAccounting manipulationSec investigationThis case discusses Xerox’s use of low discount rates for its sales-type (capital) leases in South America, and a number of other lease accounting issues. The issues arose when an assistant controller, whose father was a prominent Connecticut judge, raised questions about Xerox’s lease accounting in August 2000. He was fired two days later for “unrelated” reasons. The SEC began an investigation but management protested that this was nothing more than uninformed opinion from a disgruntled former employee. KPMG forced Xerox to delay its 2000 annual report and then forced Xerox to write down about $350 million of pre-tax profits because of problem leases. Xerox fired KPMG for “unrelated” reasons and then hired PwC, with the expectation that there would be no further write-downs. That might have been the end of the matter but in late 2001 Enron collapsed. It was clear that Arthur Andersen might be forced out of business and that the entire accounting industry would be under far greater scrutiny. Possibly because of the outrage towards the accounting profession, PwC forced Xerox to write off an additional $1.9 billion of profits in 2001. Senior Xerox executives resigned and the SEC extracted large fines from KPMG, Xerox, and senior Xerox executives. The case discusses seven accounting issues raised by the SEC, most of which relate to leases. The case can be used to cover lease basics and numerous other lease issues that can arise in practice. The case can be used in conjunction with Lease Restatements in the Restaurant Industry: 2004-2005, which covers several other lease accounting issues, primarily for operating leases. Best uses:Ethics Undergraduate intermediate accounting First-year MBA/Executive MBA financial accounting Financial reporting Financial statement analysis Valuation Use with:Brief Excel Case: Leases (Chapter 8) 8.Microsoft Corp: Financial Reporting Issues 16 pages; intermediateCorporate governanceAccrualsMaterialityDocumentationSEC investigationThis case covers Microsoft’s consent decree with the SEC over unsupported accounting accruals. It is an excellent governance case and also covers numerous accrual issues. Microsoft had very well designed systems at the operating level to prepare and monitor accruals. However, very senior management then made large unsupported accrual journal entries to a general account, allegedly to reach earnings targets. When SEC officials aligned the unsupported adjustments with relevant accounts, they discovered that for one quarter Microsoft actually had negative inventory. Those activities occurred before Sarbanes-Oxley made such practices subject to civil and criminal penalties. As a result, Microsoft signed a consent decree whereby it neither denied nor admitted guilt, but promised to not engage in those practices in the future. There were no fines and no criminal charges against Microsoft. The case can be used to discuss several accrual accounting issues. It can also be used to consider what can be done to prevent senior management from overriding internal controls. Finally, the case can be used to consider the motives of senior management. At the time, Microsoft was incredibly profitable, growing rapidly, and had a near monopoly on personal computer software. The adjustments were almost certainly immaterial, probably had little effect on Microsoft’s market value, and the firm’s key shareholders (Bill Gates and senior Microsoft executives) were neither buying nor selling shares. Microsoft and many other firms routinely reported earnings per share in excess of analysts’ consensus forecasts. The entire process seemed designed to beat the consensus forecasts for revenues and earnings. Given Microsoft’s market dominance and its fluctuating revenues as it released new versions of Office and Windows, it seems unlikely that Microsoft’s market value would have declined much if revenues or earnings were slightly lower than consensus estimates, since Microsoft still had 95% of the Office and Windows markets. Best uses:Ethics Undergraduate intermediate accounting First-year MBA/Executive MBA financial accounting Financial reporting Financial statement analysis Executive education 9.Beazer Homes USA, Inc.: SEC v. Michael T. Rand, Chief Accounting Officer 21 pages; intermediateCorporate governanceAccrualsMaterialityDocumentationSEC investigationBeazer homes was the sixth largest U.S. home builder during the 1998-2006 housing boom. Like other major home builders, Beazer’s market value grew by a factor of 8-10 during that period. However, the new home market slowed in 2006 and then collapsed in 2007. The SEC alleged that Michael T. Rand, Beazer’s chief accounting officer, understated Beazer’s reported profits in every quarter but one from 2000 through 2005 by understating Beazer’s “land inventory” account and by overstating its “cost to complete” reserve. The SEC further alleged that during each of the four quarters in 2006, and in the first quarter of 2007, Mr. Rand increased Beazer’s reported profits by increasing the “land inventory” account, decreasing the “cost to complete” reserve, and fraudulently recording sale-and-leaseback transactions for model homes. The case provides an excellent overview of the U.S. housing boom and collapse. It can be used prior to New Century Financial Corp (Chapter 3), which covers the collapse of a sub-prime and Alt A mortgage lender. The case is also excellent for covering the practical issues of accrual accounting in uncertain environments. The SEC charges imply that it is relatively simple to estimate the value of the firm’s “land inventory” and “cost to complete” accounts. The SEC’s complaints on these matters made the valuation process for each process seem far more objective than it actually is in practice, particularly for a rapidly growing firm that almost certainly was relying on less experienced managers and workers, and less experienced accountants. The case also covers a sale-and-leaseback transaction. Those accounting rules are complex, so again, it might not be clear that Mr. Rand engaged in fraud. Finally, the cumulative alleged profit understatement for 2000-2005 was about $72 million for a firm that had about $2 billion of operating profits. In addition, during nine quarters from 2007-2009, Beazer recorded about $1 billion of impairment charges. Given the implicit subjectivity in those nine impairment charges, it seems highly likely that the “land inventory” and “cost to complete” accounts were also highly subjective numbers. I use this case to consider the subjectivity of various accrual accounts. I also use it to consider who would make the accrual calculations. Beazer constructed housing developments throughout the nation. Michael T. Rand almost certainly was not personally responsible for preparing accrual estimates at the operating level.
Best uses:Ethics Undergraduate intermediate accounting First-year MBA/Executive MBA financial accounting Financial reporting Financial statement analysis Valuation Executive education
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