Income Manipulation: Enron’s rise and fall
“Rather fail with honor than succeed by fraud1.” The importance of values and ethics has always shaped the very fabric of human society. This was evident from the era in which the author of this quote, the famous Greek poet Sophocles, lived until modern times. In my opinion, the famous sayings “honesty is the best policy” and “the truth shall set you free” are invaluable and should be followed by everyone. This pertains to all facets of life and the code of ethics should be practiced and applied by all in the world of politics, sports, science, and business. In the complex world of finance and accounting, the importance of ethical behavior and professionalism cannot be stressed enough. The Enron Corporation evidently did not read the code of ethics or morals. Although Enron had the makings of a successful corporation, Enron’s unethical behavior ultimately led to its downfall. As we have learned in financial accounting, the income statement shows a “company’s operating performance and summarizes the profit-generating activities during a particular reporting period.2” Along with a company’s balance sheet and other financial disclosures, the income statement provides pertinent information to both the internal and external users of a particular company. As this is the case, financial managers must walk a tight rope in providing this information to its investors and creditors while maintaining profitability and stability towards the companies they work for. Most financial managers and institutions exude professionalism and are successful in walking the aforementioned tight rope. Unfortunately, there are certain people in this world that decided to commit immoral and unethical actions in their business practices. The following sections will focus on the various forms and methodologies of income manipulation with analysis on the case of Enron Corporation committing financial fraud. This will be followed by steps towards avoiding income manipulation and a concluding statement. Income Manipulation and Smoothing
Prior to the discussion of income manipulation and smoothing, it is important to note the relevance of earnings quality. The income statement, specifically net income and the disclosures therein, allows financial analysts and investors to analyze a company’s earnings quality. Earnings quality provides a reasonable measure to display a “company’s true earnings as well as the usefulness of reported earnings to predict future earnings.3” Obviously, this aspect of earnings quality is most important to a company’s external users. However, most financial analysts have difficulty in assessing as well as translating financial statements. This is so, because companies feature earnings through various sources including: “net income, earnings from [continuing] operations, revenues, as well as pro-forma earnings4.” Because of a lack of a uniform and global scale in relating these values, financial analysts are placed in a world of stress and despair in the attempt to figure out the underlying message of these statistics. If this were not the case, most financial analysts and advisors would be deemed to have their services rendered useless. Because of their difficult job duties, financial analysts are assisted by FASB and its Conceptual Framework. One of FASB’s Conceptual Framework main goals is to ensure that all financial information provided by companies have “decision usefulness as well as relevance and faithful representation5.” Despite the tremendous efforts of FASB, the AICPA, and the SEC, there are certain individuals within prominent corporations who are completely and utterly ethically challenged. In the majority of cases of income manipulation, individuals are usually motivated by greed and their desire to obtain the maximum amount of money and capital that they could possibly imagine. There is a popular opinion about the...
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