Accounting Fraud, Earnings Manipulation, and Creative Accounting Research Paper

Accounting Fraud, Earnings Manipulation, and Creative Accounting - Research Paper Example financial reporting process, and also put into doubt the role played by management, regulators, auditors, and analysts in preventing accounting fraud. Businesses employ deceptive or fraudulent accounting practices such as creative accounting to match the expectations. Accounting fraud refers to an intentional and inappropriate falsification of a company’s accounting records such as the stating of sales revenue and/or expenses. Accounting fraud is geared towards making a company’s financial performance (operating profit) appear better than it is. The motivation for misrepresentation of accounting records hinges on the profit motive and sourcing a favorable financing and dodging debt obligations. Companies commit accounting fraud through activities such as failing to record prepaid expenses or other incidental assets, failing to show certain classifications of current assets and/ or liabilities, or collapsing both short-term and long-term debt into a single amount (Jones 3). Overstatement of sales revenue is one of the techniques employed in committing accounting fraud. Overstatement of sales arises from activities such as channel stuffing and delaying recording of products returned by clients. This is directed at avoiding recognition of those offsets against sales revenue within the current year. Other means by which businesses commit accounting fraud include under-recording expenses such as depreciation expense. In some instances, businesses fail to record the cost of goods sold expenses in order to make gross margins appear higher (Rezaee and Riley 82). Similarly, accounting fraud occurs when a business fails to state asset losses that ordinarily should be identified such as uncollectible accounts receivable or not writing down inventory under the lower of cost or market rule. In addition, a business may fail to record the full amount of liability for an expense. Accounting fraud may also feature abuse of corporate funds and overstating of the co rporate assets (Tirole 300). Creative Accounting Creative accounting (aggressive accounting) details accounting practices that are not necessarily considered illegal, but which are potentially misleading to investors and considered as unethical, regardless of the fact that the strategy is well within the letter of the law (Shah, Butt and Tariq 531). The resultant financial statements do not reflect the â€Å"true and fair† view of the company accounts. For instance, a firm may want to paint a perception that it is financially stronger whereas it has achieved little or no growth at all. Most businesses use creative accounting to enhance desire for stock issued so as to drive up the value of the shares and amass benefits to the business. Examples of creative accounting include off balance sheet financing, overoptimistic revenue recognition or application of overstated nonrecurring items. Motivations for Accounting Fraud The prominent cited motivations for accounting fraud encom pass the urge to meet internal or external earnings expectations. Thus, there is an attempt to conceal an entity’s deteriorating financial condition. In addition, financial fraud is motivated by the need to raise a company’s stock price as well as the urge to bolster a company’s financial performance owing to a pending equity or debt financing. Similarly, accountants engage in financial fraud so as to enhance management compensation based on financial results. The two most common techniques employed in fraudulently misstating the financial statements encompass improper revenue recognition and asset overstatements, primarily by overvaluing the present assets or capitalizing expenses. Other tricks employed in committing financial fraud include understatement of expenses and liabilities,