Assignment Sample on AFE-7-FRE Financial Reporting
Introduction
Every organization needs to focus on its financial strategy to increase the value of profit. Tesco is one of the popular retail organizations in UK. The accounting scandal affects the brand reputation of Tesco effectively. Therefore, the study is going to discuss the motive of earning management and methods utilized by organizations to manage earnings. In a firm, real earning management aims to dim true economic performance through changing accounting estimates and methods. On the other hand, accrual management is focused on developing quality of data on financial statements through adding effective information. There are two different kinds of earning management such as efficient earning management and opportunistic earning management. The study will focus on corporate governance mechanisms effectively in this report.
Motives of earnings management and methods utilized by organizations to manage earnings
Motives of earnings management
The earning management of Tesco assists to focus on profit effectively by utilizing multiple techniques, schemes, policies, and devices. As per the opinion of Sri et al. (2021), earning plays a significant role in the development of an organization and increases future opportunities. Earning management in an organization can be defined as legal and reasonable management decision-making intended to gain predictable and stable financial results. Majority of organizations prefer earning management to maintain the growth of earnings steadily (Siekelova et al. 2020). There are multiple determinants of earning management such as managerial propriety, dividend policy, board chair roles, indebtedness, performance, firm size.
In Tesco, there is a requirement of effective earning management in order to manage the profit and earning effectively. For instance, the authority and executives of Tesco have treated their suppliers as sources of their profit. The accounting scandal of the firm ruined the reputation in the market and the relationship with suppliers (belfasttelegraph.co.uk, 2021). Since Tesco is a popular and largest supermarket chain in UK, there is a requirement for healthy relationships with suppliers in order to increase the productivity level and demand of products.
Figure 1: Earning management motivations
(Source: Bao, and Lewellyn, 2017)
Earning management in an organization acts as a strategic tool for reducing risks and maximizing firm value. Brand reputation and quality of products assist an organization to increase the value of profit. In a firm, earning management occurs while management uses judgments in structuring transactions and financial reporting. As per the opinion of Cudia, and Dela (2018), the motive of earning management relies on managing the financial data of a firm effectively. Earning management assists to improve and develop profit effectively. The financial management of Tesco needed to focus on earning management in order to achieve the goal of profit and avoid accounting scandals. Earning management is focused on internal targets, external expectations, and income smoothing.
Methods utilized by organizations to manage earnings
Earning management plays a significant role to manage earnings, increase profit, and develop brand value. As per the opinion of Toumeh et al. (2020), it does not focus on any kind of illegal activities that the management uses to manage earnings. The management of an organization can gain earnings from operating decisions and accounting choices. There are multiple techniques used in earning management such as cookie jar reserve techniques, big bath techniques, a big bet on the future techniques, flushing the investment portfolio, write off of long-term operating assets.
Cookie jar reserve techniques
The technique is focused on the calculation of future events. The management of a firm needs to record and estimate obligations which can be paid in future. This technique occurs while expenses are relying on estimates (Siahaya et al. 2021). There are multiple examples of estimation in order to manage earnings such as sales allowances and returns, estimates of write-downs and bad debt, estimating warranty costs, terminating pension plans, and estimating pension expenses.
Big bath techniques
The technique is also known as 1 time events and unethical accounting tactics. As per the opinion of Alzoubi (2018), the technique occurs in a firm when the sales are effectively down. As per the technique of big bath, in case the management has to report bad news like loss in profit, it will be better for the management to report all at one time.
Big bet on the future techniques
The management of an organization needs to focus on big bets when an acquisition occurs. As per the Generally Accepted Accounting Principles (GAAP) regulations acquisition has to be reported as purchase. The authority of an organization can boost future and current earnings with the techniques of big bet.
“Flushing” the investment portfolio
The management of a firm buys share of other organizations to incest excess funds, and achieve strategic alliance. As per the opinion of Alzoubi (2018), the management of a firm can maintain their earning by changing of holdings from the availability of sales security to security of trading and vice versa. The technique assists an organization in managing its investment portfolio.
Write off of long term operating Assets
The technique is used to record amortization, depletion expense, and depreciation. As per the opinion of Alzoubi (2018), the management of an organization has the ability to select write-off period, write-off method, and estimated salvage value. The methods assist management to focus on finance, investment, and loss.
Role of corporate governance mechanisms in constraining earnings management
There is an importance of effective corporate governance in case a firm is focused on achieving its strategic goals. As per the opinion of Houqe et al. (2017), the structure of corporate governance combines policies, guidelines, and controls that drive a firm to its objectives and maintain satisfaction of stakeholders’ needs. Corporate governance structure often can be a combination of multiple mechanisms such as internal mechanisms, external mechanisms, and independent audits. Internal mechanisms monitor the activities and progress of an organization and focus on effective actions to improve services (Bao, and Lewellyn, 2017). The objectives of internal mechanisms include performance measurement systems, effectively defined reporting lines, and smooth operations. Internal mechanisms include board of directors and their responsibility, independent internal audits, segregation of policy and control development.
Figure 2: Corporate governance mechanisms
(Source: García-Sánchez et al. 2019)
External mechanisms include financial institutions, trade unions, regulators, and government. Corporate governance in an organization ensures accountability, transparency, and fairness with the relationship of all stakeholders. As per the opinion of García-Sánchez et al. (2019), the board of directors in an organization is the main body of decision making and has an effective impact on reported earnings. The board of directors has the ability to make decisions on work progress and financial management. Monitor of work process and implementation of financial strategies assist to constraint eating management.
The number of board directors assists organizations to monitor the entire work process. As per the opinion of Khanh and Nguyen (2018), board meetings assist the directors to discuss issues and difficulties related to the organization. The impact of potential fraud can be reduced in case the directors of an organization identify the challenges and resolve them effectively. Appropriate management of an organization plays a significant role in the development of an organization and reduces the impact of accounting scandals (Alareeni, 2018). The board of directors and management need to focus on work structure and financial management in order to develop the value of profit.
The management and board of directors are essential to managing the work process and finance effectively. As per the opinion of Khanh and Nguyen (2018), the management of Tesco needs to analyze their work planning and structure in order to avoid accounting scandals. Appropriate work processes assist to increase the number of opportunities and develop the rate of profit. Earning management aims to improve the financial position of an organization. The authority of a firm needs to focus on board characteristics, audit committee characteristics, ownership structure, and external audit for constraining earning management (Bao, and Lewellyn, 2017). There is a requirement for effective relationships among stakeholders to maintain and evaluate profit. Corporate government mechanisms in a firm need to focus and analyze the work structure effectively for constraining earning management.
Conclusion
Based on the above discussion it can be concluded that there is a retirement of effective management to reduce the impact of the accounting scandal. Tesco is one of the most famous and largest retail organizations in UK. The accounting scandal decreased the brand value and reputation of the market. There is a requirement for effective quality of products and customer trust in order to increase future opportunities. Appropriate management and structure of board of firm support in improving financial position in the market.
Earning management plays a significant role in improving financial position. The study has discussed the role of corporate governance mechanisms in constraining earnings management. There are multiple methods that are used in earning management such as big bath techniques, write-off of long-term operating assets big bet on the future techniques, cookie jar reserve techniques, flushing the investment portfolio. Hence, it can be stated that based on the above discussion, there is a requirement of effective board structure, management, and relationship with stakeholders in constraining earnings management.
References
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