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ACC701 Financial Accounting : Sunshine Limited Operational Models

In your response highlight ethics & governance, accountant’s role in changing depreciation methods, stakeholders and the impact of AASB116?

Sunshine Ltd is a large department store that has used the straight-line depreciation method since the company was first formed. For the year ended
30 June 2015, the company made a record profit and management expected these high profits to continue at least into 2016 and 2017, although economists were generally predicting an economic slowdown and a subsequent fall in profits in 2018 and 2019.
 
The general manager, Kam Sunshine, approached the accountant, Maria Mars, and asked her if she couldfind a way to reduce the profit in the next couple of years and transfer it to 2018 and 2019 when things may not be going so well. ‘This would give us consistent profits over the next few years and keep our shareholders happy,’ said Kam. Although Maria did not feel that Kam’s reason for the change was justified, she was concerned that her contract with the company would not be renewed if she upset the general manager. After some consideration, Maria decided to change the depreciation method from the straight-line method to the sum-of-years’-digits method. Maria did not disclose this change in the notes to the financial statements as she felt that the reason given by Kam would not give a good impression

Answer:

Introduction 

This paper is an analysis of one of the Sunshine Limited operational models. The Sunshine Limited is a large department store in Australia. Since the inception of the company, The Sunshine Limited has been employing straight-line depreciation model in their daily business’ activities. During the company’s financial year that ended in June 2015, the Sunshine Limited made a good profit; a trend that was expected to be maintained by the management team for the at least two more financial years till 2017. This is despite the fact that an economic depression was being anticipated by economists in the near future. As it would be expected, the forecasted economic slowdown would lead to poor profits for industrial players. To meet the expectations of the management, the company accountant decides to switch from the depreciation method from straight-line model to the sum-of-years-digit model. However, the accountant does this without revealing because of the image that the move created. This was due to the fact that the general manager preferred preservation of some profits so that they can be pushed for future years till 2019 in order to impress shareholders despite the poor economic performance that was being anticipated.

Sum-of-years-digits assumed by the accountant may enable the general manager’s suggestion to be met because the method accelerates the calculated asset’s depreciation over years. For instance, suppose the asset was expected to last from 2015 to 2019, in the


case of the Sunshine Limited, each year’s digit is added together then divided by the number of years thus getting the expected yearly depreciation. Thus by assuming this model, the accountant can roll over the 2015 profits to the following years. Inasmuch as the method is acceptable, the intention of the general manager is unacceptable thus violates the code conduct of accounting standards (Board taff of the Australian Accounting Standards, 2015). Besides, the accountant decides not to disclose the change of depreciation method from the straight-line to sum-of-years-digits which is contradictory to what is expected. The Board of Directors and shareholders should access all ‘true’ information in relation to the company’s financial status. Thus in case this kind of move is known, then the company may create dissatisfaction to shareholders besides going against the code of ethics of AASB116 (Board taff of the Australian Accounting Standards, 2015).  

Why the Change of depreciation method? 

Since Sunshine Limited was incorporated, it was using straight-line method. According the 2015 records, the company made huge profit and this profit is expected in both 2016 and 2017. However, due to the forecasted economic depression that will lead to low profits in 2018 and 2019,  the management sees it good to preserve some profit for 2016 and 2017 so that the preserved profit can be rolled over to the

Governance and Ethics

Ethics which are the acceptable code of conduct of an institution (which may be reinforced by the regulatory body(s)) is incorporated in the leadership of any organization to smoothen the management of the organization and relate well with the public (BUSARA, 2012).The scope and direction of governance has some guidelines and controls; a concept that brings in ethics in the whole concept of governance. Going by this framework, the government’s and the entire nation’s standards are upheld (Dellaportas, et al., 2005). Putting in place some guidelines upon which all the players in in a certain confine abide by provide pivotal effort of sovereignty. It is the conduct of individuals in the general public that makes it either an efficient social host or an inefficient social host. The importance of governance and ethics extends its importance to the accountancy and auditing positions in businesses.

According to CPA body, Australia, ethics and governance play a key role in the management of professional accountants (Anon., 2017). Being very important decision makers in any firm, it is crucial for accountants to be fully informed on regulatory authority, requirements relating to compliance and laid down mechanisms that foster governance in order to ensure that all lawful and corporate behavior and operations are effectively adhered to (Anon., 2017).  Thus it is important for any accounts to have a better understanding of roles and responsibilities in relation to the ethics and corporate governance frameworks.

It is also important to note that the issue of ethics and governance is becoming increasingly important because of the sensational business scandals that is continuously being observed in many countries (Senaratne, 2011). The crack-down operations by responsible government agencies being undertaken to ensure that laid down principles and code of ethics are adhered to (Leung & Cooper, 2005). Thus it is important for the company to clearly understand pertinent issue underlying the code of ethics and governance that has been put in place by the regulator ensure that they obey legal formalities in order to sustain their legal operations in the industry (Leung & Cooper, 2005).

Thus the method employed by Maria Mars to meet the demands of the general manager was acceptable. However, the intention of the general manager and the reason of Maria Mars was unethical and is not in line with ethical governance. The general manager wanted to give a false image to the stakeholders that the company was performing well, even if the anticipated economic slowdown was to be experienced (Taylor & Taylor, 2013). On the other hand, the accountant took a step of changing the model because she wanted to protect her job; which is an evidence of poor governance. Besides, the move to keep the new method of analyzing company’s depreciation secret is unethical. It is important reveal all the relevant financial models to relevant stakeholders (Taylor & Taylor, 2013).

Accountant’s Role in Changing Depreciation Methods

In accounts, depreciation is an accounting approach that enables assignment of assets that are tangible over its respective useful life (Anon., 2017). In normal accounting processes, the value of the business depreciates its long term assets for various purposes; where the main purposes are normally for accounting and tax. Normally for businesses to meet tax needs, they discount the cost of the assets that are tangible that they purchase as business expenses. However, according to Internal Revenue Service, IRS, a business need to depreciate the tangible asset as per the instituted rules on how these deductions may be carried out (Anon., 2017). Various businesses assume different methods to model depreciation. These include Straight-line method and sum-of-years-digits. The Sunshine Limited switched from the straight-line method to sum-of-years-digit method.

Straight-line method is the commonest method modeling depreciation. This method makes of acquisition price, salvage value and total estimates life of the asset. This can be expressed mathematically.  For example, an asset worth 1 million dollars whose approximated life is 10 years and salvage value of $10000. Its depreciation can be modeled as follows. 

Sum-of-years-digits method accelerates the calculated asset’s depreciation over years. For instance, suppose the asset was expected to last from for ten years, each years’ value is added together and then divided by the ten years (Sabina-Cristiana, 2007). This is expressed mathematically as

Firms are free to switch from one method to another but the means and reasons should be in line with code of ethics and principles that has been put in place.

The Sunshine Limited has decided to switch from the straight-line method to sum-of-years-digits. In order to achieve this, the general manager has turned to the company’s accountant, Maria Mars (Sabina-Cristiana, 2007). The main intention of the Sunshine Limited is to cut down the profits for the coming two years in order that those profits may be distributed to the year 2018 and 2019; in case the predicted economic slowdown is experienced. Based on the scenario at hand, Sunshine’s accountant need to come in to provide a quick professional advice and formulate a depreciation model that fits the company’s interest. This is exactly what was done by the accountant Maria Mars. Mars turned to sum-of-years-digits for the process of because of quickening ability (Sabina-Cristiana, 2007). Thus turning from straight-line to a quickened method of assessing depreciation of the profits hence spreading to the two years as required by the general director (Jun, n.d.).

Maria Mars, the Sunshine Limited’s accountant, played her role clearly and she is an epitome of the accountant’s role in change of depreciation methods. Based on the needs of the company when it comes to the depreciation expenses, it is the role and responsibility of an accountant to formulate an appropriate and relevant method of modelling (Sabina-Cristiana, 2007). Thus Maria managed to change the pace of depreciation’s accumulation thus influencing the conveying value.

Changing Depreciation Method and Stakeholders

An organization and stakeholder are two elements that cannot be separated. The firm exists because of the stakeholders. Consequently, stakeholders of any organization play a major in the significant performance its activities and how informed viewpoints are given out. In most cases the achievements of a firm are normally owed to the stakeholders instead of the representatives of the stakeholders. Stakeholders in a number of times give advisory services relating to the profitability and general performance of the company. Because of the importance of this relationship: firm-stakeholders relationship, it is very important for the decisions made by the company not to contract the interest of the partners. Consequently, it is important for the management of the firm to comprehend various variables that are associated with satisfaction of the partners’ interests in relation to the company.

Changing the depreciation method from straight-line to sum-of-years-digits by the Sunshine Limited has an effect on the stakeholders that is very significant. For instance, to regulators, the method employed and reason for the change of the method of modelling depreciation is of concern. On the other hand, since depreciation valuation has an effect to profitability, shareholders and government are affected in terms of dividends and taxes, respectively. Besides, the image to the general public of the company may be at risk of being tainted. The idea and intention of the general manager may be seem unorthodox and give wrong impression to the public. And that is why Maria Mars, the company’s accountants, comes up with an appropriate approach to achieving the general manager’s requirement without making it public. Consequently, the intentions of the general manager are achieved without contravening the AASB16’s standards that have been put in place. This is because the sum-of-years-digits is accepted by AASB16.

Conclusion

The Sunshine Limited ability to see what the future may mean to the performance of the company is commendable. Besides, the accountant’s ability to come up with appropriate methods to implement management’s policies should be applauded. However, it is important that all the operations of any firms meet the requirements of the regulator and all policies act in the interest of all relevant stakeholders. Thus the move by the management to hold back some profits in order to miss-present the image of the company in 2018 and 2019 is unethical and does not symbolize good governance. This applies to the reason behind accountant’s action-protecting her job position.

Consequently, it can be recommended that the company come up with appropriate measures to relatively sustain its financial performance without lying to the public about the profit it will be making; while abiding by the code of conduct of accounting.

References

Anon., 2017. Ethics and Governance. [Online]Available at: https://www.cpaaustralia.com.au/cpa-program/cpa-program-candidates/your-enrolment/ethics-and-governance [Accessed 16 May 2017].

Anon., 2017. Financial Accounting - Depreciation. [Online] Available at: https://www.tutorialspoint.com/accounting_basics/financial_accounting_depreciation.htm [Accessed 15 May 2017].

Board taff of the Australian Accounting Standards, 2015. Obtaining copies of Accounting Standards, Victoria: AASB 116.

BUSARA, E., 2012. AUDITING GOVERNANCE & FINANCIAL ANALYSIS. 1st ed. London: EMILIAN BUSARA.

Dellaportas, S. et al., 2005. Ethics, Governance and Accountability: A Professional Perspective. 1st ed. New York: Wiley.

Jun, J., n.d. [Online] Available at: https://www.oldschoolvalue.com/blog/valuation-methods/straight-line-and-accelerated-depreciation-methods/ [Accessed 15 May 2017].

Leung, P. & Cooper, B., 2005. Accountants, Ethical Issues and the Corporate Governance Context. WileyOnlineLibrary, March, 15(35), pp. 79-88.

Sabina-Cristiana, M., 2007. The Accounting Decisions and Their Modelling. The International Journal of Digital Accounting Res, Vol 7(13), pp. 27-51.

Senaratne, S., 2011. The role of ethics in accounting. [Online] Available at: https://www.cimaglobal.com/Pages-that-we-will-need-to-bring-back/Old-site-pages1/Old-site-pages/Thought-leadership/Newsletters/Regional/The-CIMA-Edge-South-Asia-and-Middle-East/20111/July--August-2011/The-role-of-ethics-in-accounting/ [Accessed 15 May 2017].

Taylor, J. & Taylor, J., 2013. Corporate Governance, Ethics and CSR. 1 ed. London: Kogan Page.

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