MGT 6028
               Financial Reporting and Analysis of Technology Firms
                                    Fall Seme...
Technology Firms: 2


Course Description

Financial Reporting and Analysis of Technology Firms focuses on financial report...
Technology Firms: 3


Grade Determination

       Test 1: Accounting for technology firms                                 ...
Technology Firms: 4




Consistent with the college's honor code, students must do their own work on the exam. Group
work ...
Technology Firms: 5




              Financial Reporting and Analysis of Technology Firms

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Technology Firms: 6


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MGT 6028 Syllabus

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Transcript of "MGT 6028 Syllabus"

  1. 1. MGT 6028 Financial Reporting and Analysis of Technology Firms Fall Semester, 2002 Instructor: Charles W. Mulford Office: DCOM 406 Phone: 404-894-4395 Email: charles.mulford@mgt.gatech.edu Course Materials: Course Textbook: The Financial Numbers Game: Detecting Creative Accounting Practices, by C. Mulford and E. Comiskey Course Notebook: Financial Reporting and Analysis of Technology Firms, by Prof. C. Mulford. Consists of the following parts: Course Lecture Notes: • Course Description • Identifying Technology Firms • Issues of Accounting and Financial Reporting for Technology Firms • Cash Flow Construction and Analysis of Technology Firms • Share Valuation • Financial Warnings Introduction • Premature or Fictitious Revenue • Aggressive Cost Capitalization and Extended Amortization Periods • Misreported Assets and Liabilities • Managing Earnings Perceptions • Using Operating Cash Flow to Detect Creative Accounting Practices Course Supplemental Materials: • Prior year exam with answer key • Case Assignments • Course Readings
  2. 2. Technology Firms: 2 Course Description Financial Reporting and Analysis of Technology Firms focuses on financial reporting and analysis issues facing firms from a broad range of industries whose common bond is research and development of new technology, including the application of technology to new or enhanced products and services. The course is presented in three interrelated parts, each part seeks to fulfill one of three overall course objectives. Part 1 clarifies the accounting and reporting standards that are particularly troublesome for technology firms. Standards that guide the reporting of activities of technology firms are sometimes arbitrary and are often misunderstood. For example, research and development is expensed as incurred unless aimed at the development of new software. Also, development stage enterprises are offered no special accounting guidelines from operating firms, though they do have special reporting requirements. Readers of the financial statements of technology firms must be aware of standards such as these to effectively understand the firms' underlying financial performance and position. Part 2 is devoted to cash flow analysis. Technology firms in general are fast-growth entities. Many of these companies require external sources of cash to maintain their growth. Other firms, however, that are growing just as fast, are generators of cash and accumulate large amounts that can be used for new investment. Investment analysis is ultimately focused on a firm’s ability to generate cash. This section is attentive to analyzing the traits of companies that permit some to generate cash while others consume it. The objective is to determine if and when companies that consume cash will begin to generate surpluses, and whether companies that generate cash currently will continue to do so. In Part 3 attention turns to identifying financial warnings, available in the financial statements and notes, that can be useful in anticipating future declines in corporate earnings and cash flow. Such earnings declines might be caused by operational difficulties or by the application of creative accounting practices. The circumstances surrounding these performance declines have many names, such as "Asset write-offs", "unrecorded liabilities", "restructuring charges", "accounting irregularities", "inflated profits", and "earnings restatements". Each of these circumstances is often unanticipated. The objective of this section is to prepare the financial- statement reader to better anticipate and avoid them. Course Procedure A blending of lecture and discussion will typify the class sessions. A consistently high level of preparation for class sessions will be essential in order to derive maximum benefit from the course.
  3. 3. Technology Firms: 3 Grade Determination Test 1: Accounting for technology firms 15% Test 2: Cash flow construction and analysis 25% Test 3 (final exam): Financial Warnings 35% Group case 1 - company analysis, due Oct. 28 10% Group case 2 - financial warnings using CFI, due Dec. 4 10% Classroom participation 5% At the start of the semester, the class will be divided into groups of four to five persons. These groups will work together on two group cases. The first group case entails an analysis of an individual company’s earnings and cash flow potential. Firms selected for analysis by each group must be from a chosen technology industry. Firms should be small (revenues of under $100 million), profitable, and expected to grow at a minimum of 15% compounded over the next five years. Technology industries from which individual companies may be chosen are listed below. No more than two groups may select the same industry. Aerospace Biotechnology Computers and peripherals Computer Software and Services Drug Electronics Medical Supplies Precision Instrument Semiconductor Semiconductor Capital Equipment Telecommunications Equipment The second group case entails a search for warnings of creative accounting practices and impending operational difficulties using the CFI ratio from among five chosen companies within the selected industry.
  4. 4. Technology Firms: 4 Consistent with the college's honor code, students must do their own work on the exam. Group work should be done without the help of others outside the group. For students with disabilities: to request classroom accommodations, contact the ADAPTS office: Assistant Dean/Coordinator for Students with Disabilities, Smithgall Student Serices Building, Suite 221, (404) 894-2564.
  5. 5. Technology Firms: 5 Financial Reporting and Analysis of Technology Firms Course Outline Session Notebook page Mon. Aug. 19 Course Introduction Identifying Technology Firms Tech Firm Intro pp. 1-10 • Use of technology in providing goods and services • Not a good indicator • Using financial statement characteristics to identify technology firms • Percentage of assets that are technology-based • High level of research and development activity, patents are a minor portion of total assets - Biogen • Capitalized software development costs - Astea International, Inc. • Portion of employees engaged in scientific research activities • Personnel mix - Groundwater Technology • Research and development expenditures as a percentage of revenues • A workable approach for identifying technology firms • Research and development expense as a percentage of revenues for eight industry groups • Three industries that do not meet this technology firm definition • Broadcasting, including cable television • Environmental • Telecommunications services, including cellular phones • Technology 80 - share valuation case assigned Wed. Aug. 21 Pre-class readings: Readings section, back of notebook • FAS 7: "Accounting and Reporting by Development Stage Enterprises" • FAS 2: "Accounting for Research and Development Costs" • FAS 68: "Research and Development Arrangements" • Exp. Draft: Proposed Statement of Financial Accounting Standards: "Business Combinations and Intangible Assets - Accounting for Goodwill" Written assignment: R&D or What? 26 Group assignments made.
  6. 6. Technology Firms: 6 Session Notebook page Issues of Accounting and Financial Reporting • Development stage enterprises Financial Reporting, pp. 1-10 • Definition • Accounting and reporting requirements • A Development stage enterprise - Waverider Communications, Inc. • Accounting for research and development costs Financial Reporting, pp. 11-23 • Definition • Examples • Reporting guidelines • Costs incurred internally • Purchased from others • Research and development arrangements • What is research and development? - St. Jude Medical • Purchased research and development • Cisco Systems, Inc. • MCIWorldCom • Research and development arrangements • Hi-Tech Pharmacol Co., Inc. •• In-class exercise - R&D or what? Mon. Aug. 26 Issues of Accounting and Financial Reporting (cont’d) Pre-class assignment: Technology 80. Case section, back of notebook In-class: • Technology 80 - what’s it worth? • Discuss collecting industry data and provide guidance for group case. • Students should consider industries of interest and group membership Wed. Aug 28 Issues of Accounting and Financial Reporting (cont’d) Pre-class readings: Readings section, back of notebook • SOP 98-1: “Internally Developed Software” • FAS 86: "Accounting for the Cost of Computer Software to be Sold, Leased, or Otherwise Marketed" • SOP 97-2: "Software Revenue Recognition" • Article: "The Boundaries of Financial Reporting and How to Extend Them" by Lev and Zarowin. Be prepared to discuss findings and implications.
  7. 7. Technology Firms: 7 Session Notebook page • Accounting for computer software costs Financial Reporting, pp. 24-37 • Key issue - sufficiently similar to research and development? • Software purchased or created for internal use • Software purchased or created for sale or lease • The life cycle of software development • Accounting for software development costs • Importance of technological feasibility • Accounting and disclosure requirements • Capitalized software development costs • Astea International, Inc. • American Software, Inc. • Accounting for software revenue recognition Financial Reporting, pp. 38-50 • Statement of Position 97-2 • Basic Principles • Computer Associates International • Four requirements for recognition • Evidence of an arrangement • Delivery • Fixed or determinable fees • Collectibility • Special situations • Multiple elements • PCS • Services • Contract accounting for software • Example policies • Microsoft Corp. • IBM Corp. • Mustang Software • American Software Mon. Sept 2 Holiday Wed. Sept 4 Issues of Accounting and Financial Reporting (cont’d) Pre-class readings: Readings section, back of notebook • FAS 123: “Accounting for Stock-Based Compensation” • APB 25: "Accounting for Stock Issued to Employees" • FIN 28: "Accounting for Stock Appreciation Rights and Other Variable Stock Option or Award Plans" Complete: • H&R Block 83 • Teradyne, Inc. 85
  8. 8. Technology Firms: 8 Session Notebook page In-class: • Compensation of Personnel Financial Reporting, pp. 57-94 • Characteristics of technology firms often limit cash compensation • Alternatives employed • Stock options • Stock appreciation rights • Performance - type plans • Reporting guidelines for stock-based compensation plans • Stock compensation plans • Qualified vs. nonqualified stock option plans • Qualified and nonqualified plans - Autodesk • Tax benefits from stock options • Microsoft • Quigley Corp. • I2 Technologies •• In-class exercise - H&R Block •• In-class exercise - Teradyne, Inc. • Stock appreciation rights • SFAS 123 - Accounting for stock-based compensation • Pro-forma disclosures - Autodesk Wed. Sept. 9 Test 1: Accounting and reporting for technology firms Mon. Sept. 11 Review Test 1 results Share Valuation • Share valuation lecture and discussion of case assignments Valuation notes Wed. Sept. 16 Cash Flow Construction Cash Flow Construction, pp. 1-51 • Partitioning cash flows •• Arch Therapeutics: • Change in cash • Balance sheet changes • Indirect method • Direct method •• Storefront Furniture, Inc. • Indirect and direct methods contrasted
  9. 9. Technology Firms: 9 Session Notebook page • The UCA format cash flow statement •• Barton Industries, Inc. - calculating net cash after operations ••• Problem: Forders, Inc. - calculating net cash after operations • The UCA format cash flow statement • A statement format for cash flow analysis •• Column Casts - bank format cash flow • Highlighting differences among the indirect method, direct method and bank format statements of cash flow • Cash flow construction: A closer look at deriving the UCA format cash flow statement • Cash flow construction: A three step process Mon. Sept. 18 Cash Flow Analysis Cash Flow Analysis, pp. 1-53 Pre-class assignment: Problem: Hamilton Farms, Inc. - preparing a UCA format cash flow statement - cont’d. In-class: • Review Hamilton Farms, Inc. solution • Using the analysis cash flow format to analyze cash flows • Five cases - same revenues, same net income, same net cash flow, very different conclusions • Some comments on the cash flow cases • A sixth case Cash Flow Analysis (cont’d) • Using ratios to analyze cash flows • Growth • Profitability • Cost of goods sold percentage • Selling, general and administrative expense percentage • Operating efficiency • Days receivables • Days inventory • Days payables
  10. 10. Technology Firms: 10 Session Notebook page Wed. Sept. 23 Cash Flow Analysis (cont’d) Pre-class assignment: Problem: Jewel’s Jewelers. - preparing a UCA format cash flow statement (time permitting) In-class: • Using ratios to analyze cash flows (cont’d) • Review Jewel’s Jewelers solution (time permitted) • Industrial Services (exclude tax accounts) Mon. Sept. 25 Cash Flow Analysis (cont’d) Pre-class assignment: Problem: Environmental Services (excluding tax accounts) In-class: • Complete review of Industrial Services • Review Environmental Services Wed. Sept. 30 Cash Flow Analysis (cont’d) Pre-class assignment: Problem: Liuski Corp - computer generated cash flow statement Case section, back of notebook Read: Share valuation lecture notes Valuation notes In-class: • Complete review of Environmental Services • Review Liuski Corp. Share Valuation • Share valuation lecture and discussion of case assignments Valuation notes Wed. Oct. 2 Share Valuation Pre-class Read share valuation lecture notes • Share valuation lecture and discussion of case assignments Valuation notes
  11. 11. Technology Firms: 11 Session Notebook page Mon. Oct. 7 Share Valuation Pre-class Read share valuation lecture notes • Share valuation lecture and discussion of case assignments Valuation notes Wed. Oct. 9 Share Valuation Pre-class:Read share valuation lecture notes • Share valuation lecture and discussion of case assignments Valuation notes Mon. Oct. 14 Fall Recess, No Class Mon. Oct. 16 Test 2: Cash flow analysis and share valuation Wed. Oct. 21 Review Test 2 results Oct. 23 Introduction to Financial Warnings Pre-class Read chapters 1 and 2, The Financial Numbers Game Complete: A Survey of Lenders - anticipating earnings surprises 12 • What's an earnings surprise? 2 •• The Topps Co. - Provision for obsolescence and returns •• MiniScribe - A massive fraud •• Chambers Development - Abandoning unorthodox accounting •• Home Nutritional Services - Changes in reimbursement patterns •• Crown Crafts - Inventory theft loss •• Presidential Life - Loss on investments •• Lucent Technologies - Premature revenue recognition •• Sunbeam Corp. - Premature revenue recognition •• California Micro Devices - Fictitious revenue •• Cascade International - Where's Our Chairman? • How do earnings surprises impact future cash flows? 10 • Course agenda 16 • Causative Factors for Earnings Surprises - Economic Fundamentals 17
  12. 12. Technology Firms: 12 Session Notebook page Oct. 28 Introduction (cont'd) Pre-class Read chapters 4 and 5, The Financial Numbers Game Complete: Financial Numbers Game Questionnaire 27 • Causative Factors for Earnings Surprises - Economic Fundamentals (cont'd) 17 • Flexibility in Financial Reporting 27 Group Case Assignment 1 is due. Oct. 30 Premature or Fictitious Revenue Pre-class Read chapter 6, The Financial Numbers Game Complete: Trading Cards, Inc (Topps). 13 • When should revenue be recognized? 2 •• Autodesk - Sales to distributors •• BMC Software - Licensing of software •• Computer Associates - Product license fees •• Group 1 Software - Licenses of software • Guidelines for revenue recognition 3 • SEC requirements for revenue recognition 4 • Persuasive evidence of an arrangement 4 •• Perceptive BioSystems - Consignments 4 •• Digital Lightwave - No P.O. 5 • Delivery has occurred 4 •• American Software - Shipment of user msanuals 6 •• Cylink - Shipments to a warehouse 7 •• Informix - Side letters 8 • Fixed or determinable fee 9 •• Informix - Extended payment terms` 9 • Collectibility is probable 10 •• Informix - Disregarding customer creditworthiness 10 • Change in revenue recognition practice to conform to new guidelines 11 •• American Software - Recognition awaits shipment 11
  13. 13. Technology Firms: 13 Session Notebook page • Using accounts receivable to detect premature or fictitious revenue 12 •• Knowledgeware - Buildup in accounts receivable 12 Nov. 4 Premature or Fictitious Revenue (cont'd) Pre-class: Complete: Disk Drive Corp (Miniscribe). 26 Global Resources 30 • Revenue recognition - premature or fictitious? 18 •• Boston Scientific - Sales to nonexistent customers 20 •• California Micro Devices - "What's Wevenue?" 21 •• Mercury Finance - Revenues with the stroke of a pen 22 •• Flight Transportation - Insufficient capacity 23 • Revenue recognition cover-up activities 25 • Special terminology - Premature or fictitious revenue 34 •• Sunbeam - Bill and hold 34 •• Bausch & Lomb - Channel stuffing 35 •• Knowledgeware and others - Side letters 36 •• Financial warnings checklist 37 Nov. 6 Aggressive Cost Capitalization Pre-class Read chapter 7, The Financial Numbers Game Complete: Capitalized costs 11 Complete: Cendant / CUC International - capitalized costs 13 Complete: American Software - capitalizing software development costs 27 • Expense or Capitalize? 2 •• The Good Guys - Store preopening costs •• Sun Television & Appliances - Store preopening costs •• Lechters - Store preopening costs •• Value Merchants - A company changes its policies • Guidelines for expense recognition 4 •• O.I. Corporation - Warranty expense 4 •• Top Air Manufacturing - Amortization of patents 5 •• Dynatech - Improvements and R & D 6
  14. 14. Technology Firms: 14 Session Notebook page • Advertising expenditures - Can it be capitalized? 7 •• CPI Corp. - Direct response advertising 7 •• AOL - Direct response advertising 8 • What is aggressive cost capitalization? 12 • How do I recognize aggressive cost capitalization? 18 •• Pre-Paid Legal, Inc. - Capitalized sales commissions 19 •• Medical Disposal Technologies - A host of capitalized costs 21 •• Chambers Development - In hindsight, capitalization was a mistake 22 • Computer software development costs - a special form of R & D 24 • Capitalizing software development costs 25 •• Microsoft - No capitalization 25 •• System Software - capitalizing software development costs 26 Nov. 11 Extended Amortization Periods Pre-class Complete: Micron Technology - Average amortization period 43 Complete: American Software - Software amortization period 44 • Guidelines for choosing an amortization period 30 •• Bausch & Lomb - Depreciation policy 31 •• Cordis Corp. - Depreciation policy 31 •• U.S. Surgical - Depreciation policy 31 • Impact of amortization periods on pretax results 32 •• U.S. Surgical - amortization periods 32 • Differences in the selection of amortization periods - capitalized software development costs 33 •• Bolt Beranek and Newman - Amortization period for software costs 33 •• Autodesk - Amortization period for software costs 33 •• BMC Software - Amortization period for software costs 33 • Brazen steps taken to boost earnings through extended amortization 34 Livent - Amortizing capitalized preproduction costs 34 • What's an extended amortization period? 35 •• Waste Management - Underdepreciation of fixed assets 37 •• Snax, Inc. - Writedown of overvalued assets 39
  15. 15. Technology Firms: 15 Session Notebook page • Calculating the average amortization period for property, plant and equipment 41 •• National Semiconductor - Average amortization period 41 • What's an appropriate amortization period for technology? 43 • New rules for goodwill 45 •• American Standard Co. - Evaluating goodwill for impairment 45 • Financial warnings checklist 46 Nov. 13 Using Operating Cash Flow to Detect Creative Accounting Practices Pre-class: Read chapter 11, The Financial Numbers Game Complete: Men's Wearhouse: Adjusting operating cash flow 13 Complete: Helen of Troy: Adjusting operating cash flow 16 Note: Group Case Assignment 2 is due Dec. 4. Using operating cash flow 2 • Adjusted cash flow to income ratio (CFI) 3 • Creative cash flow reporting 5 • Purchases and sales of trading securities 5 •• WHX Corp. - Trading securities 6 • Reclassifying outstanding checks as accounts payable 8 •• Aviall - Reclassifying outstanding checks 8 • Operating cash flow from discontinued operations 9 •• Cytrx Corp. - Discontinued operations 10 • Adjusting operating cash flow for nonrecurring and nonoperating items 12 •• Microsoft Corp. - tax benefits of stock options 18 Nov. 18 Using Operating Cash Flow to Detect Creative Accounting Practices (cont'd) Pre-class Complete: Tyco International: Acquired operating cash flow 19 Complete: Men's Wearhouse: Adjusting income 23 Complete: Sunbeam Corp.: Using the CFI 29
  16. 16. Technology Firms: 16 Session Notebook page • Using the CFI Ratio 24 •• Xerox Corp.: Using the CFI 26 •• Enron Corp. - Using the CFI 28 • Financial Warnings Checklist 32 Nov. 20 Misreported Assets and Liabilities Pre-class: Read chapter 8, The Financial Numbers Game Complete: Comptronix - a complex fraud 27 Excessive Asset Valuation 2 • When are assets overvalued? 2 • Accounts receivable - NRV represents amounts expected to be collected 4 •• Carco - Keep an eye on economic conditions 4 •• Earthgrains - a bankrupt customer 6 •• Home Nutritional Services - Comparing receivables in days with a competitor's 8 • Inventory - a convenient fiction 10 •• Perry Drug Stores, Inc. - Inventory issues 14 •• Leslie Fay - Inconsistencies between corporate performance and published results 17 • On the wild side - inventory reporting violations 23 •• Bre-X Minerals - "salted" gold samples 23 •• Centennial Technologies - fake inventory 24 •• International Nesmot Industrial - brass bars painted to look like gold 26 Nov. 25 Misreported Assets and Liabilities (cont'd) Pre-class Complete: Babson Tool Works - Lifo 34 • The Lifo Reserve 30 •• John Wiley & Sons - Life reserve 30 •• R.R. Donnelley - Lifo and the fourth quarter earnings surprise 31 •• Winn Dixie Stores - The fourth quarter lifo reserve adjustment 32 •• Compiled statements and the fourth quarter lifo adjustment 33 • Lifo liquidations - a temporary earnings boost 39 •• Cross Co. - lifo liquidations 39
  17. 17. Technology Firms: 17 Session Notebook page • Other inventory issues 41 •• Topton Manufacturing - Changing inventory mix, a precursor of falling sales?41 •• Crown Crafts - Inventory theft and the unexpected inventory writedown 42 • Investments - available for sale, trading and held to maturity 44 •• SunTrust Banks - A major balance sheet boost to assets and equity 46 •• Presidential Life - What are debt securities worth? 48 •• Johnson Scientific - Equity method accounting can postpone recognition of market value declines 49 •• Bion Environmental - Overvaluation of notes received for stock issued 50 Nov. 27 Work on group projects Dec. 2 Misreported Assets and Liabilities (cont'd) Pre-class: Complete: Haven's Building Supplies 61 Undervaluation of Liabilities 51 • When are liabilities undervalued? 51 • Accounts payable and accrued liabilities 52 •• Collins Industries - Understating accounts payable, overstating net income 54 •• Disk Drive Corp. - underaccrued warranty liability 57 • Low effective tax rate 58 •• Resource Engineering - net operating loss carryforwards 58 • Contingent liabilities 60 •• Lee Pharmaceuticals - failure to accrue for environmental damage 60 • Hidden obligations 65 •• Personal Diagnostics - open futures positions 65 •• Bay Tact Corp. - stocks on margin 65 • Off balance sheet liabilities - commitments 67 •• Marriott - Loan guarantees 68 • Off balance sheet liabilities - Special Purpose Entities (SPEs) 69 •• Enron Corp. - SPEs and the company's restatement 75 • Off balance sheet liabilities - Synthetic leases 82 •• Lexicon Graphics - Synthetic leases and restricted cash 85 •• Cisco Systems - Synthetic leases and restricted cash 86 • Financial warnings checklist 135
  18. 18. Technology Firms: 18 Session Notebook page Dec. 4 Managing Earnings Perceptions and Management Fraud Pre-class Read chapters 9 and 10, The Financial Numbers Game Complete: Basic Industries: Change in accounting principle (Managing Earnings Perceptions section) 40 Complete: Elite Tennis, Inc. - using the checklist (Management Fraud section) 17 Group Case Assignment 2 is due. Creative Statement Structure • Basic income statement structure 3 • Key elements of the income statement 4 • Employing creativity in structuring the income statement 6 •• Advanced Environmental Recycling - fire gains 8 •• Advanced Lighting Technologies - Extraordinary item, early retirement of debt 9 •• Exxon Corp. - Material nonextraordinary item 12 •• Herman Miller - Material charge for litigation and restructuring is not extraordinary 13 • Problematic classification of extraordinary items 14 •• Bio-Rad Laboratories - extraordinary item 14 •• Norwest bank - Treatment of fire-related gain, not extraordinary 15 •• Differing treatments for extraordinary items 16 • Additional examples of income statement creativity 19 •• IBM - Netting gains against operating expenses 19 •• Sherwin-Williams Co. - Netting other income and expense 22 •• Archer Daniels Midland - Netting other income and expense 23 •• Coca-Cola - Gains on sales of bottlers 24 •• Positive labels for not-so-positive events 25 •• W.R. Grace - Including operating expenses in a restructuring charge 27 •• Scientific Atlanta - New disclosure rules for restructuring charges 28 •• Use of materiality 29 Accounting Changes 31 • Changes in accounting principle 31 •• Ameridiscs - adoption of new accounting principle 32 • Changes in accounting estimate 34 •• Blowout Entertainment - Changing the estimated useful lives of videocassette tapes 35
  19. 19. Technology Firms: 19 Session Notebook page • What are discretionary accounting changes? 36 Smoothed Income 43 • What is income smoothing? 43 •• Allied Bancshares - a quote from the treasurer 43 •• Daimler-Benz (Germany) - Storing significant earnings for future years • What's wrong with income smoothing? 46 • Identifying income smoothing 47 •• GE - Unsustainable boost to earnings 48 • The big bath 49 •• Financial Warnings Checklist 51 Management Fraud • Assessing the risk of management fraud 2 •• Survey of audit partners 5 •• Management fraud by industry 6 •• Management fraud by deceptive action 7 •• Level of client personnel involved in fraud • Financial Warnings Checklist 8 • Three necessary ingredients for fraud 8 •• Conducive conditions 8 •• Motivation 10 •• Attitude 12 • Motivation - A closer look at the incentives 14 • Using the Financial Warnings Checklist 14 •• QZ Corp. - Example indicators 15 •• Puritan Technologies - Example indicators 21 • The Auditor's Role in Fraud Detection 22 • The auditor's responsibility to detect and report errors and irregularities 25 • Implications for lenders and investors 26 Final Exam Date – Test 3 Financial Warnings

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