Ethical Obligations and Decision Making in Accounting.docx
1. Ethical Obligations
and Decision Making
in Accounting
Text and Cases Third Edition
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Ethical Obligations
and Decision Making
in Accounting
Text and Cases Third Edition
Steven M. Mintz, DBA, CPA
Professor of Accounting
California Polytechnic State University,
San Luis Obispo
Roselyn E. Morris, Ph.D., CPA
Professor of Accounting
Texas State University–San Marcos
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3. Director, Content Production: Terri Schiesl
Project Manager: Judi David
Buyer: Jennifer Pickel
Cover Image: Dynamic Graphics/Jupiterimages
Compositor: S4Carlisle Publishing Services
Typeface: 10/12 Times New Roman
Printer: Quad/Graphics
All credits appearing on pages or at the end of the book are
considered to be an extension of the copyright page.
Library of Congress Cataloging-in-Publication Data
Mintz, Steven M.
Ethical obligations and decision making in accounting: text and
cases / Steven M. Mintz, DBA, CPA,
Professor of Accounting California Polytechnic State
University, San Luis Obispo Roselyn E. Morris, PhD, CPA,
Professor of Accounting Texas State University-San Marcos. —
Third edition.
pages cm
ISBN 978-0-07-786221-3—ISBN 0-07-786221-X 1.
Accountants—Professional ethics—United States—
Case studies. I. Morris, Roselyn E. II. Title.
HF5616.U5M535 2014
174'.4—dc23
2013011582
The Internet addresses listed in the text were accurate at the
time of publication. The inclusion of a website
does not indicate an endorsement by the authors or McGraw-
Hill Education, and McGraw-Hill Education
does not guarantee the accuracy of the information presented at
these sites.
www.mhhe.com
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v
“Whatever we learn to do, we learn by doing it.”
— Aristotle
We hope this book inspires students to engage
in the learning process, to make ethical choices
in their lives, and always strive for excellence in
whatever they do.
Dedication
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vi
About the Authors
STEVEN M. MINTZ, DBA, CPA, is a professor of accounting
in the Orfalea College
of Business at the California Polytechnic State University–San
Luis Obsipo. Dr. Mintz
received his DBA from George Washington University. His first
book, titled Cases in
Accounting Ethics and Professionalism, was also published by
McGraw-Hill. Dr. Mintz
develops individual courses in professional accounting ethics
for Bisk Education that meet
5. each state’s board of accountancy mandatory requirements for
continuing education in
ethics. He also writes two popular ethics blogs under the names
“ethicssage” and “work-
placeethicsadvice.” Dr. Mintz has received the Faculty
Excellence Award of the California
Society of CPAs and Service Award from the California Board
of Accountancy for his
work on the Advisory Committee on Accounting Ethics
Curriculum.
ROSELYN E. MORRIS, PH.D., CPA, is a professor of
accounting in the Accounting
Department at the McCoy College of Business, Texas State
University–San Marcos.
Dr. Morris received her Ph.D. in business administration from
the University of Houston.
She is a past president of the Accounting Education Foundation
and a member of the
Qualifications Committee of the Texas Board of Public
Accountancy. Dr. Morris has
received the Outstanding Educator Award from the Texas
Society of CPAs.
Both Professors Mintz and Morris have developed and teach an
accounting ethics course
at their respective universities.
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vii
Preface
6. Why Did We Write This Book?
The first edition of Ethical Obligations and Decision Making
in Accounting: Text and
Cases was written in the wake of the dot.com bubble and
accounting scandals at companies
such as Enron and WorldCom. The second edition was written
in the wake of the financial
meltdown of 2007–2008 that was due to high-risk lending and
borrowing practices. The
result of these scandals has been an increased call by
professional and regulatory bodies
for ethics education of accounting students in values, ethics,
and attitudes to support pro-
fessional and ethical judgments and act in the public interest.
We dedicate ourselves to this
goal through our book.
Several states now require their accounting students to
complete an ethics course
prior to certification. Texas was first state to do so, and it
requires accounting students
in Texas and those moving into the state to complete an ethics
course at a Texas uni-
versity or in their home institution. California and Colorado
require separate account-
ing ethics courses; states such as Maryland, New York, and
West Virginia also have
separate ethics course requirements. This book is written to
enable instructors to
address the content material that state boards typically expect to
be covered in qualify-
ing courses.
Ethical Obligations and Decision Making in Accounting was
written to guide students
7. through the minefields of ethical conflict in meeting their
responsibilities under the pro-
fessions’ codes of conduct. Our book is devoted to helping
students cultivate the ethical
commitment needed to ensure that their work meets the highest
standards of integrity,
independence, and objectivity. We hope that this book and
classroom instruction will work
together to provide the tools to help you make ethical judgments
and carry through with
ethical actions.
Our book blends ethical reasoning, components of behavioral
ethics, reflection, and
the principles of ethical conduct that embody the values of the
accounting profession.
We incorporate these elements into a framework to consider the
ethical obligations of
accountants and auditors and how to make ethical decisions that
address the following
material:
• The role of moral and cognitive development in ethical
reasoning, ethical judgment, and
ethical orientation
• Professional codes of conduct in accounting
• Ethical corporate governance systems
• Fraud detection and prevention
• Legal and regulatory obligations of auditors
• Whistleblowing obligations of accountants and auditors
• Earnings management issues and the quality of financial
reporting
• Ethical systems, global ethics standards, and corporate
governance considerations in
8. doing business worldwide
Attributes of This Textbook
Ethical Obligations and Decision Making in Accounting is
designed to provide the
instructor with comprehensive coverage of ethical and
professional issues encountered
by accounting professionals. Our material provides the best
flexibility and pedagogical
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viii Preface
effectiveness of any book on the market. To that end, it includes
numerous features
designed to make both learning and teaching easier, such as:
• Ethical reflections that set the tone for each chapter
• 160 discussion questions
• 76 cases (10 per Chapters 1–7 and 6 in Chapter 8), about
one-third of which are from the
SEC enforcement files
• 6 additional major cases that can be used for
comprehensive testing, a group project, a
research assignment, or a capstone to the book
• Dozens of additional cases and instructional resources,
which are available to enrich
student learning
• Links to videos for instructors
9. Pedagogical approach:
• The book is comprehensive enough to serve as a stand-
alone text, yet flexible enough
to act as a co-text or supplementary text across the accounting
curricula or within an
auditing or financial accounting course.
• There is sufficient case and supplementary material to
allow the instructor to vary the
course over at least two to three terms.
• The writing style is pitched specifically to students,
making the material easy to follow
and absorb.
• Group discussions and role-play opportunities using case
studies
• Video links to bring case material to life
The Instructor Edition of the Online Learning Center,
www.mhhe.com/mintz3e,
offers materials to support the efforts of first-time and seasoned
instructors of accounting
ethics. A comprehensive Instructor’s Manual provides teaching
notes, grading sugges-
tions and rubrics, sample syllabi, extra cases and projects, and
guidelines for incorporating
writing into the accounting ethics course; a Test Bank that
provides a variety of multiple-
choice, short answer, and essay questions for building quizzes
and tests; additional cases
that can be assigned, including some that were not carried over
from the first and second
editions; links to videos to enhance the learning experience and
10. bring case discussions
to life; and PowerPoint presentations for every chapter make a
convenient and powerful
lecture tool.
Changes in This Edition
The behavioral approach to ethics leads to understanding and
explaining moral behavior
in a systematic way. We have expanded our discussion of ethics
beyond the traditional
philosophical moral reasoning methods that teach students how
they should behave when
facing ethical dilemmas and now also engage them to
understand their own behavior better
and compare it to how they would ideally like to behave. We
incorporate those discussions
in addressing ethical obligations of accountants and auditors
under professional codes of
conduct and in areas such as whistleblowing considerations
under Sarbanes-Oxley (SOX)
and the Dodd-Frank Financial Reform Act.
This revision also includes:
• Emphasis on values, ethics, and behaviors in a professional
setting
• Expanded coverage of professional codes of conduct and
failure to maintain indepen-
dence, integrity, objectivity, and professional skepticism
• New audit requirements and clarified Statements on
Auditing Standards effective in
2014 that collectively better address financial statement fraud
and the risk of material
misstatements
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Preface ix
• Broadened perspective on earnings management, including
the role of earnings expec-
tations, the use of accruals, income smoothing, risk assessment
and materiality, and
financial restatements
• Public interest and ethical considerations in developing
international financial report-
ing standards, cultural considerations when operating overseas,
corporate governance
systems, and global bribery
• Restoring public trust and confidence in the accounting
profession
This edition of Ethical Obligations and Decision Making in
Accounting has dozens of
new discussion questions. The material that was replaced to
keep the book fresh is avail-
able to instructors in the Instructor’s Manual for testing
purposes. For the first time, we
provide video links to many of the cases in the book in the IM.
In a project of this kind, errors are bound to occur. As authors,
we accept full responsi-
bility for all errors and omissions. We welcome feedback on the
book and suggestions for
improvements. The authors have collectively had more than 30
12. years of experience teach-
ing accounting ethics and welcome the opportunity to share our
insights with you on how
best to use the book and teach ethics to accounting students.
Acknowledgments
The authors want to express their sincere gratitude to these
reviewers for their comments
and guidance. Their insights were invaluable in developing this
edition of the book.
Russell Calk
New Mexico State University
Jeffrey Cohen
Boston College
Dan Hubbard
University of Mary Washington
Lorraine Lee
University of North Carolina–Wilimington
Stephen A. McNett
Texas A&M University–Central Texas
Barbara Porco
Fordham University
We also appreciate the assistance and guidance given us on this
project by the staff
of Mc-Graw-Hill Education, including Tim Vertovec, Managing
Director; James Heine,
Executive Brand Manager; Michelle Nolte, Marketing Manager;
Lori Bradshaw, develop-
ment editor; Judi David, project manager; Jennifer Pickel,
buyer; Studio Montage, design
coordinator; and Prashanthi Nadipalli, media project manager.
We greatly appreciate the role
13. of Shyam Ramasubramony, project manager, and Susan
McClung, copyeditor of the book.
Finally, we would like to acknowledge the contributions of our
students, who have pro-
vided invaluable comments and suggestions on the content and
use of these cases.
If you have any questions, comments, or suggestions
concerning Ethical Obligations
and Decision Making in Accounting, please send them to us at
[email protected] and
[email protected]
Steve Mintz
Rosie Morris
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x
Case Descriptions
Case # Case Name/Description
1-1 Harvard Cheating Scandal
Student cheating at Harvard raises questions about
responsibilities of instructors and student
personal responsibilities
1-2 Giles and Regas
Dating relationship between employees of a CPA firm
jeopardizes completion of the audit.
14. 1-3 NYC Subway Death: Bystander Effect or Moral Blindness
Real-life situation where onlookers did nothing while a man was
pushed to his death off a
subway platform.
1-4 Lone Star School District
Failure to produce documents to support travel expenditures
raises questions about the
justifiability of reimbursement claims.
1-5 Reneging on a Promise
Ethical dilemma of a student who receives an offer of
employment from a firm that he wants to
work for, but only after accepting an offer from another firm.
1-6 Capitalization versus Expensing
Ethical obligations of a controller when pressured by the CFO
to capitalize costs that should be
expensed.
1-7 Eating Time
Ethical considerations of a new auditor who is asked to cut
down on the amount of time that he
takes to complete audit work.
1-8 A Faulty Budget
Ethical and professional responsibilities of an accountant after
discovering an error in his sales
budget.
1-9 Cleveland Custom Cabinets
Ethical and professional responsibilities of an accountant who is
asked to “tweak” overhead to
improve reported earnings.
15. 1-10 Telecommunications, Inc.
Concerns about the ethics of engineers who accept free travel
and lodging from a foreign entity
after establishing the criteria for a contract awarded to that
entity.
Case # Case Name/Description
2-1 WorldCom
Persistence of internal auditor, Cynthia Cooper, to correct
accounting fraud and implications
for Betty Vinson, a midlevel accountant, who went along with
the fraud
2-2 Better Boston Beans
Conflict between wanting to do the right thing and a
confidentiality obligation to a coworker.
2-3 The Tax Return
Tax accountant’s ethical dilemma when asked by her supervisor
to ignore reportable lottery winnings.
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2-4 Shifty Industries
Depreciation calculations and cash outflow considerations in a
tax engagement.
2-5 Blues Brothers
Identifying enablers and disablers of ethical action and ways to
convince others of one’s point
of view.
16. 2-6 Supreme Designs, Inc.
Ethical dilemma of an accountant who uncovers questionable
payments to his supervisor.
2-7 Milton Manufacturing Company
Dilemma for top management on how best to deal with a plant
manager who violated company
policy but at the same time saved it $1.5 million.
2-8 Juggyfroot
Pressure imposed by a CEO on external accountants to change
financial statement
classification of investments in securities to report a market
gain in earnings.
2-9 Phar-Mor
SEC investigation of Phar-Mor for overstating inventory and
misuse of corporate funds by
the COO.
2-10 Gateway Hospital
Behavioral ethics considerations in developing a position on
unsubstantiated expense
reimbursement claims.
Case # Case Name/Description
3-1 The Parable of the Sadhu
Classic Harvard case about ethical dissonance and the
disconnect between individual and
group ethics.
3-2 Amgen Whistleblowing Case
Whistleblower’s termination after raising issues about the
company’s underreporting of
complaints and problems with pharmaceutical drugs.
17. 3-3 United Thermostatic Controls
Acceptability of accelerating the recording of revenue to meet
financial analysts’ earnings
estimates and increase bonus payments.
3-4 Hewlett-Packard
Use of false and fraudulent means to obtain confidential
information from members of the
board of directors.
3-5 IRS Whistleblower and Informing on Tax Cheats
Ethics of gathering sensitive information about wrongdoing to
qualify for whistleblower
payouts.
3-6 Bennie and the Jets
Ethical and professional obligations in reporting accounting
wrongdoing to higher-ups in the
organization.
3-7 Exxon-XTO Merger
Alleged breach of fiduciary duties of the board of directors of
XTO Energy that arose from
ExxonMobil’s takeover of XTO.
3-8 Disclosure of Steve Jobs’s Health as Apple CEO: A Public
or Private Matter?
Shareholder rights to receive negative information about the
health of its CEO.
Case Descriptions xi
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18. 3-9 Bhopal, India: A Tragedy of Massive Proportions
Evaluation of the decision-making process before, during, and
after the leak of a toxic chemical
that killed or injured thousands.
3-10 Accountability of Ex-HP CEO in Conflict of Interest
Charges
Sexual harassment charges stemming from conflict of interest
between CEO/board chair and
outside contractor.
Case # Case Name/Description
4-1 America Online (AOL)
Internet-based company’s improper capitalization of advertising
costs and the use of
“round-trip” transactions to inflate revenue and earnings.
4-2 Beauda Medical Center
Confidentiality obligation of an auditor to a client after
discovering a defect in a product that
may be purchased by a second client.
4-3 Family Games, Inc.
Ethical dilemma for a controller being asked to backdate a
revenue transaction to increase
performance bonuses in order to cover the CEO’s personal
losses.
4-4 First Community Church
Misappropriation of church funds and subsequent cover-up by a
member of the board of trustees.
4-5 Lee & Han, LLC
19. Alteration of work papers and ethical obligations of auditors.
4-6 Gee Wiz
Ethics of working for employer’s customer on the side and
evaluating the customer’s receivable
account.
4-7 Family Outreach
Questions about validity of expense accounts and ethical
obligations of the state auditor.
4-8 HealthSouth Corporation
Manipulation of contractual allowances to overstate net
revenues, and auditors’ inability to
gather the evidence needed to stop the fraud.
4-9 Healthcare Fraud and Accountants’ Ethical Obligations
Stakeholder considerations and ethical obligations upon
discovering Medicare fraud.
4-10 Independence Violations at PwC
Investigation of PwC independence procedures after self-
regulatory peer review fails to identify
violations.
Case # Case Name/Description
5-1 Computer Associates
Audit committee’s role in identifying premature revenue
recognized on software contracts.
5-2 ZZZZ Best
Fraudster Barry Minkow uses fictitious revenue transactions
from nonexistent business to
falsify financial statements.
20. 5-3 Imperial Valley Thrift & Loan
Role of professional skepticism in evaluating audit evidence on
collectability of loans and going
concern assessment.
xii Case Descriptions
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5-4 Audit Client Considerations and Risk Assessment
Risk assessment procedures prior to deciding whether to submit
a competitive bid for an audit
engagement.
5-5 Krispy Kreme Doughnuts, Inc.
“Round-trip” transactions used to inflate revenues and earnings
to meet or exceed financial
analysts’ EPS guidance.
5-6 Dunco Industries
Role and ethical responsibilities of accounting professionals in
assessing the validity of audit
evidence.
5-7 First Community Bank
Valuation of loan loss impairment and risk assessment.
5-8 Fannie Mae: The Government’s Enron
Comprehensive case covers manipulation in four areas to
project stable earnings—derivatives,
loan fees, loan loss reserves, and marketable securities.
5-9 Royal Ahold N.V. (Ahold)
21. U.S. subsidiary of a Dutch company that used improper
accounting for promotional allowances
to meet or exceed budgeted earnings targets.
5-10 Groupon
Competitive pressures on social media pioneer leads to internal
control weakness and financial
restatements.
Case # Case Name/Description
6-1 SEC v. Halliburton Company and KBR, Inc.
Bribery allegations against Halliburton and the application of
the Foreign Corrupt Practices
Act (FCPA).
6-2 Con-way Inc.
Facilitating payments and internal control requirements under
the FCPA.
6-3 Insider Trading and Accounting Professionals
Insider trading by accounting professionals and providing tips
to friends.
6-4 Anjoorian et al.: Third-Party Liability
Application of the foreseeability test, near-privity, and the
Restatement approach in deciding
negligence claims against the auditor.
6-5 Vertical Pharmaceuticals Inc. et al. v. Deloitte & Touche
LLP
Fiduciary duties and audit withdrawal considerations when
suspecting fraud at a client.
6-6 SEC v. DHB Industries, Inc., n/k/a Point Blank
22. Solution
s, Inc.
SEC action against independent directors and audit committee
members in a securities fraud case.
6-7 Livingston & Haynes, P. C.
Evaluation of ordinary negligence, gross negligence, and fraud
in a securities violation.
6-8 Kay & Lee LLP
Auditor legal liability when foreseen third party relies on
financial statements
6-9 Reznor v. J. Artist Management (JAM), Inc.
Legal liability of manager of lead singer of Nine Inch Nails
based on allegations of mismanagement.
6-10 SEC v. Zurich Financial Services
Complex accounting for reinsurance transactions and transfer of
economic risk.
Case Descriptions xiii
