Ethical and Legal Implications of Excello Telecommunications Excello Telecommunications has suffered a downward financial spiral. This downward spiral will affect bonuses, share prices, and stock options (Mintz & Morris, 2011). Terry Reed, the Chief Financial Officer of Excello Telecommunications, frets over showing the downswing in profits. In searching for additional reportable income, he came across a delayed sale of equipment. Per contract, the equipment should not be billed or shipped until the next year, when the equipment would ship. This is standard practice for Excello.
The financial crunch has provided Mr. Reed with an urgency to log the sale in the current year. However, logging the sale without shipping the material is a breach in protocol and financial regulations. Legal Issues The accounting staff was tasked to find a way to log the sale of equipment in the current business year instead of the next year. The staff did recognize that the Generally Accepted Accounting Principles should not be violated. However, they still contemplated violating the Sarbanes-Oxley Act by reporting sales that did not occur and going against reported financial controls.
Not to mention the potential misleading financial information reported to the shareholders and the share price becoming falsely inflated. The Sarbanes-Oxley Act was instilled in 2002. In this act, three sections speak directly to the illegality of what Mr. Reed wants to do with the $1. 2 million of equipment sold, but not to be billed until the following year. In section 302 of Sarbanes-Oxley Act the financial statements must not contain any untrue statements, omission of material information, or be considered misleading (“Sarbanes-Oxley Compliance “, 2003).
By reporting the sale of equipment before it took place, Excello would be misstating income and misleading shareholders to the financial health of the company. Also in section 302, companies are required to fairly present the financial condition of the company. The actions of Mr. Reed indicated that he intends to mislead the shareholders and the Securities Exchange Commission by reporting Excello as more profitable than reality states. In section 401 of Sarbanes-Oxley Act companies are required to report accurate financial information. Reporting accurate financial information is to report actual sales and not pre-book future sales.
Stepping outside the controls in place would have to be reported in the financial reports. However, this would make the advance recording of the sale mute. Therefore, it is likely that Mr. Reed would not report the change in control or that the sale is prematurely logged. In section 409 of Sarbanes-Oxley Act companies are required to disclose financial changes in the company on an urgent basis to all shareholders. All reported changes should be clear, concise, and show trends as applicable. In not reporting the lowered financial status of Excello, Mr.
Reed violated section 409 of Sarbanes-Oxley Act well before the idea to advance post the sale of equipment. * * The financial reporting standard violated were not only in connection with Sarbanes-Oxley Act they were also in violation of the Generally Accepted Accounting Principles. The Generally Accepted Accounting Principles have four basic assumptions. These assumptions are that the company is separate from its owners and shareholders, will continue to exist for the foreseeable future, all values are reported in a constant monetary unit, and all transaction reported took place within the designated timeframe.
Mr. Reed is contemplating violating the fourth assumption by reporting a sale that will take place outside the reporting year. * The Generally Accepted Accounting Principles also have four basic principles. * Cost * Revenue * Matching * Disclosure * The cost principle requires the reporting of actual costs and not market value of asset acquisition. The revenue principle requires that all revenue be reported when earned and not necessarily when funds are received. The matching principle requires that the expenses must be matched to the revenue.
The disclosure principle requires the compiling and reporting of information pertinent to financial status of the company should be performed as long as the cost to do so is within reason. Mr. Reed violated the revenue principle by attempting to report a sale prior to it taking place. He also violated the disclosure principle in not reporting the dwindling finances of Excello. * Ethical Issues * The AICPA Code of Professional Conduct is an extensive set of ethical regulations for accountants.
Within this code, the “Principles include (1) Responsibilities; (2) The Public Interest; (3) Integrity; (4) Objectivity and Independence; (5) Due Care; and (6) Scope and Nature of Services” (Mintz & Morris, 2011). Mr. Reed violated the AICPA Code when he put the company’s interests above the interests of the public. By falsely inflating the sales for the current year, he provided an image of Excello being financially sound when the profits were declining. This violated all six of the principles in the fact that the numbers were false and the theme of the Code is honesty.
Aggressive accounting can be acceptable. However, knowingly misstating income is never acceptable. Ethically, Mr. Reed is wrong by going outside the company’s standard operating procedures. Mr. Fuller, accounting controller, is wrong in entertaining the idea of going against the set rules of transaction processing. Potential Actions The accounting staff provided the controller, Mr. Fuller, with three possibilities to perform the task requested by Mr. Reed. First they suggested shipping the equipment for Data Equipment Systems off-site to an Excello owned property and log the transaction.
This would not work as the off-site property is still owned by Excello and the inventory would still need to be accounted for as owned by the company. The second recommendation was to ship the equipment to Data Equipment Systems and record the transaction, but offer a refund when Data Equipment Systems returned the equipment. This option would not work as it may destroy the relationship with Data Equipment Systems and may also cause Data Equipment Systems to report Excello for fraudulent financial activity.
The third, and best, option that the accounting staff provided was to offer a discount to Data Equipment Systems for taking delivery of the equipment before the end of the year. This would decrease the posting of the sale to $1. 08 million, but would have almost the same affect without the illegality of posting the sale without delivery. However, Mr. Reed would have to explain the discount in the notes of the 10-K and 8-K statements reported to the Securities and Exchange Commission. Excello has been successful in years past, but the changes in the market and technology have yielded a lower profit.
In desperation to keep bonuses and stock prices at status quo, the Chief Financial Officer wishes to record a sale that has not taken place. This may not be in issue if the sale were only a couple thousand dollars. However, the sale is for $1. 2 million to Data Equipment Systems. In attempting to log the sale for 2010 in lieu of the agreed upon 2011, Mr. Reed is attempting to overstate the profit and understate the inventory. The accounting staff did arrive at a few options to accomplish this, but in attempting to change the standard operating procedures they may ruin the relationship of Excello with Data Equipment Systems.
This need to log the sale of equipment before shipping would also show desperation to obtain income to Data Equipment Systems and may make them look for a more stable supplier. The ethical action would be no action and let the company show a decreased profit. The decrease in profit was a reality for Excello. Preventive measures to protect the company’s fiscal health could be put in place in a timely manner to prevent financial failure if the company report declining profits in a timely manner.