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Wayne Brasch
Wayne Brasch, Accountant and Business Consultant
Category: Finance
Satisfied Customers: 1298
Experience:  Master of Science in Taxation. Tax experience since 1963.
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If you are the manager of a medium size company. A few ...

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If you are the manager of a medium size company. A few years ago, you convince the owner to base a part of your compensation on the net income the company earns each year. Each December you estimate year-end financial figures in anticipation of the bonus you'll receive. If the bonus is not as high as you would like, you offers several recommendations to the accountant for the year-end adjustments. One of your favorite recommendations is for the controller to reduce the estimate of doubtful accounts.

a. What effect does lowering the estimate for doubtful accounts have on the income statement and balance sheet?

b. Do you think your recommendation to adjust the allowance for Doubtful accounts is within your right as a manager, or do you think this action is an ethics violation? Justify your response.

c. What type of internal control (s) might be useful for this company in overseeing the manager's recommendations for accounting changes
Lowering the estimate for doubtful accounts makes the profit larger by reducing Bad Debt Expense and makes the Balance Sheet look better by overstating Assets since the contra-asset Allowance for Doubtful Accounts would be understated. I think this action is not within the rights of a manager and is an ethics violation. No manager should be able to maneuver anything within the accounting function. This manager can very easily pad his/her bonus by trying to make the accountant make such entries. A manager should manage the business, not the accounting for that business.
Customer: replied 10 years ago.
Reply to Wayne Brasch's Post: Sir, do you know if there are a couple internal controls that could be applied to help prevent this situation from happening?
Company owners should set up control procedures to safeguard the company's assets and to ensure that the accounting records may be relied on. Some of these control procedures are: authorization, recording transactions, documents and records, limited access, periodic independent verification, separation of duties, and sound personnel procedures.

In this situation we have here, the ones that may help to keep this manager from influencing his bonus include limited access, periodic independent verification, separation of duties, and sound personnel procedures.

Access to accounting records should be controlled so that someone other than this manager and the accountant can review and make decisions as to what types of entries to make. In other words, have someone else in addition to the manager and the accountant authorize adjusting entries.

If this company would have an independent accountant come in and review the accounting records periodically, this manager and the company accountant would probably not be able to reduce the estimate of doubtful accounts without it being caught by that independent accountant.

The company's organizational plan should separate functional responsibilities. This manager should not be allowed to make the accountant make any kinds of adjusting entries that are not proper or not make necessary and correct adjusting entries.

Sound personnel procedures should include having this manager bonded. This manager's activities should be properly supervised by someone higher up in the chain of command in the company's knowing that this manager's bonus depends on the profit of the business.

Hopefully, this will give you some ideas as to how to keep this situation from happening in the future.
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