Attitudes of Students and Accounting Practitioners concerning the Ethical Acceptability of

Earnings Management
Author(s): Marilyn Fischer and Kenneth Rosenzweig
Source: Journal of Business Ethics, Vol. 14, No. 6 (Jun., 1995), pp. 433-444
Published by: Springer
Stable URL: http://www.jstor.org/stable/25072663 .
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of Students

Attitudes
Practitioners

are many ways

There
can

and managers

the

influence

it

of

purpose

as

is known

practicing

students,
concerning

such influ
of reported
The

management.

is to present

this paper

of undergraduate
accountants

surveys

earnings

the

MBA

results

their

of
and

students,

on

attitudes

of earnings management.
the ethical acceptability
Analysis of the survey results reveals how the attitudes
of the three groups differ and what variables are asso
ciated with
these differences. Based on the analysis,
authors

the

curriculum

in accounting
changes
awareness
ethics
programs

education

suggest
and

in business

increase students' and practitioners'

might
to the ethical ramifications
of earnings
sensitivity

which

management.

in accounting
associations
Leading
on ethics
for increased
emphasis
accounting
the National
Reporting
Commission
tion:
should

"The

curricula.
Commission

made

Report)
business

emphasize

their development

called

education

in

For example,
the Report of
on Fraudulent
Financial
known

(commonly

have

and
ethical

with

as the Treadway
this recommenda

accounting
values by

the acquisition

curricula
integrating
of knowl

Professor of Philosophy at
in
Dayton, Ohio. She spe
of Dayton
cializes in workplace ethics, particularly in the nonprofit

Marilyn Fischer,
the University

skills to help prevent,

financial
reporting"

edge and
fraudulent

accounting

reported

Marilyn Fischer
Kenneth Rosenzweig

Management

that accountants

units. When
the amount

results of their organizational

ence is directed at changing
earnings,

the Ethical

Concerning
of Earnings

Acceptability

ABSTPJVCT.

and Accounting

is Assistant

sector, and has published articles in business ethics, and

social and political philosophy.
isAssociate Professor of Accounting
Kenneth Rosenzweig,
at the University of Dayton inDayton, Ohio. He spe
in teaching management accounting, and has
articles in a wide variety of accounting
published
cializes

American

and deter
82). The
has called

to
in accounting
education
to ethical
and social
sensitivity

students'

foster

(page

Association

Accounting
increased
efforts

for

detect,

Asso
(American
responsibilities
Accounting
on
ciation
Committee
the Future
Structure,
of Accounting
and Scope
Education,
Content,

andMiller

1986). Donnelly
ical

support

changing
discussion

(1989) found empir

for
accounting
professors
to include greater
curricula
as recommended
by the

among

accounting
of ethics

Commission.1
Treadway
to address
In order

these

concerns,
specific
need to be iden
Earnings man

in ethics

and accounting
topics
tified for curricular
development.
agement

is one

ambiguities

The
practice.
this paper
is to present
information
from undergraduate
students, MBA
accountants
and practicing
concerning

such

students,
their attitudes
of

this

earnings
consider

of

ethical

the

of

purpose
collected

various

because

topic
with

associated

on

the

of
acceptability
actions.
earnings management
Analysis
information
will
reveal which
types of
activities
management
respondents
to

be

ethical

and
objectionable
the
find
various
groups
respondents
to be most
activities
management
earnings

which

ethically

of

objectionable.
Knowing
management
in
ested

current

attitudes

toward

will

be helpful
for educators
concerns
ethical
integrating
It will

also

earnings
inter
into

be

useful

programs.
accounting
to businesses
and professional
own
their
they
develop

policies,

standards

and

regarding

earnings

educational

programs

management.

areas.

1995.
Journal of Business Ethics 14: 433-444,
? 1995 Kluwer Academic Publishers. Printed in theNetherlands.

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associations

as

434M.
on

Background

and K.

Fischer

investment

management

earnings

Rosenzweig

for the
respect
public
is quite high
fession
compared
confidence
professions,
public

While

has

been

statements

preparing
organizational
fair representations
of
status; they are
trust in our
public's
cial

are

which

the organization's
in effect gatekeepers

finan
of

Therefore,
of
that members

integrity,

is one

management
Earnings
raises
about
suspicion
managers'
ment
has

practice
accountants'

integrity. Although
been
examined

there

is no widely

and/or

purposes
earnings
management.3
we define
earnings management
of a manager
which
ring to actions
increase

(decrease)
for which

the unit

of

as refer
serve

to
of

earnings
reported
the manager
is responsible
a corresponding
increase

without

generating
in the long-term
economic
(decrease)
can be
of
the
Such
actions
unit.4
itability
into

this

current

two

those

types:
methods
accounting

and

accounting
of reserves,
income. Offering

changing
amounts

thereby

of
the

managers

may

managerial
legitimate
their
responsibilities
shareholders.
management
which
mislead
There

are

view

these

tools, useful
to maximize

as
practices
for fulfilling
returns

others
view
However,
as involving
distortion
users
ethical

of financial
reasons

to

earnings
in ways

statements.
to

be

of

wary
Stakeholders
practices.
earnings management
rely
on financial
current
statements
that
assuming
are indicative
of long-term
earnings
For
stockholders
and
example,
profitability.
use these statements
in
investors
making
potential
reported

performance
resources
cerning
When
earnings

the

so

on.
in

them

Managers
to evaluate
units

level

con

decisions
to them.5

allocated

are managed
so that financial
reflect the economic
accurately

statements

do not

health

the company,
Stakeholders

of

to

utilize

and make
to be

to

refer

may
decisions.

lower

their

trust

stakeholders'
make

is

decisions

may
to their own best interest, which
contrary
they
not have made,
would
had they had undistorted
Understood
in this context,
figures.
earnings
to the "Standards
is contrary
of
management
Ethical Conduct
for Management
Accountants"
accountants
which
have a
states, "Management
.
.
. disclose
to
responsibility
fully all relevant
to
information
that could reasonably
be expected
an intended

user's understanding
and

reports,

comments,

sented"

(Institute,
the

recommendations

1983).
discretion

of the
pre

and

judgement
must
managers
accounting
practitioners
to
it is desirable
for them
have knowl
exercise,
of
and
ethical
earnings
edge
regarding
sensitivity
can
There
consider
be
management
practices.6
able

changing
reported
terms to customers

special
at yearend
to advance
sales from next year to this
of earnings management
year is an example
by
means
of an operating
decision.
Some

employees

making
employment
the statements
of

which

concerning
try to attract
and
development,
to

and

those which

example
is adjusting

methods

in making
loan decisions.
in long-term
community

as decisions

such

businesses

Prospective

Given

involve

them

infrastructure

area,

influence

prof
classi

An

decisions.

operating

which

planning,
of
types

them
use

violated.

earnings manage
in many
empirical
definition
of
accepted

paper,

net

the

which

For

changing
involve

it

have a reputation
of solid
profession
and that this reputation
be deserved.

accounting

fied

the

institutions.

important

critically

studies,2

events

by
involving
such as the savings and loan scandal.
of
the crucial
function
perform

accountants,
Accountants

is

rely
Communities

in the profession

recent

shaken

on

Banks

pro
other

accounting
to many

use them to
Suppliers may
to
with.
do
business
companies

decisions.

which

decide

pressure

on

managers

or

accountants

to

an eye
in earnings
With
engage
management.
on the stock market,
may
pressure
employers
accountants
to distort
and managers
quarterly
them look more
favorable. Also,
reports*to make
accountants
and managers
that their
may worry
own

evaluations
will
linked
be
performance
statements
less to the accuracy
of their prepared
than to how favorable
those statements
appear.7
These
the knowledge,
need
practitioners
good
to resist such pres
and moral
courage
judgment
sures. If the educational
of accountants
program
can inculcate
and managers
ethical
sensitivity
to earnings
it can
then
management,
perhaps
to
their
in
reduce
these
engage
help
tendency
practices.8

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Ethical
Research

naire,
Bruns

of a questionnaire
by
to the respondents.
The
question

is adapted from one developed

for general managers,
and Merchant

which

and

control

finance,

such as industrial

means

collected

administered

435

Management

accoun

a wide variety of practicing

membership
tants engaged
in various different
types

design

was

Data

of Earnings

Acceptability

describing
questions
a subordinate
manager

audit

managers,
situations
various

by
and

membership
rate to our
The

includes
in which

in earnings man
engages
to rate the
is
asked
respondent

13 dependent

utilizing
Varimax

accounting,
the Chapter
the response

accounting,
public
etc. Since
accounting,
is approximately
700,
survey was about 38%.

government

of work,

were

variables

analyzed

with
Analysis
were
extracted

Principle-Components
Four factors
Rotation.

than one. The

greater
Eigenvalues
in Table II. The
is presented
factor matrix
account
for approx
taken together,
four factors,
of
the
the
13 depen
variance
62%
of
imately

agement.
of the actions on a five-point
ethical acceptability
to completely
ethical.
scale from totally unethical
are
The
thirteen
questions
earnings management

which

of this paper.
in the Appendix
are listed in
The
three groups of respondents
student
and graduate
Table
I. Undergraduate

dent

(have
highly
four factors.

of
the cooperation
responses were obtained with
course instructors.
In most
classes, questionnaires
were
the same
and collected
distributed
during

have
the factors
the same
indicating
as
the
variables
(i.e., large
directionality
original
an ethical
indicate
values
rating and small values

The

listed

took

class. Students

about

15 minutes

to complete
The
the questionnaire.
were
uates
in
sophomore,
surveyed
senior

level

accounting

courses

on average
or

at the University
them are full-time

of them have full-time

Most
State University.
are enrolled
in the MBA
and
part-time
jobs
were
obtained
Practitioner
responses
program.
by
a
to
means
all
members
mailed
of the
of
survey
of Management
in its
includes

of respondents

Numbers

in different

an unethical

indicate
Bruns

seem

to represent
and Merchant.

on

Number
Group
122

Undergraduate
accounting
MBA

students

students

113

respondents

accounting

practitioners
Total

500

265

the
are

The

first

two

load

and Merchant
the second

(OPEREXP and OPERREV)

the

by
factors

highly
called

two

factors

load on variables

deci
of operating
they called manipulation
to
sions. With
the accounting
respect
manipula
on all
loaded highly
tion factors,
INVMANIP
that

ACCMANIP
variables, while
inventory
change
that could be
loaded highly on all other variables
as
of accounting
different
forms
interpreted
For
the
operating
manipulation.
manipulation
on
those
loaded
highly
while
that changed
expenses,
on those operating
loaded highly
revenues.
In this regard,
that changed

OPEREXP

decisions

there was

one

able #1,

Paint

Vari
slightly anomalous
finding.
ahead of schedule,
loaded mod
on OPERREV
than on
highly

erately more
even
OPEREXP,
tion of an expense.

it involves manipula
though
it has a substantial
However,
on OPEREXP
clas
and it was therefore

loading
sified with
Four

Accounting

of

correlations

and INVMANIP)

related while

decisions
of

one

Furthermore,
rating).
dimensions
discussed

that Bruns

variables

operating
OPERREV
groups

load

variables
on

positive,

factors,

TABLE I

of the dependent

large correlations)
All of the large

(ACCMANIP

all of
of Dayton.
Virtually
the ages of 18 and 22. The
between
students
students
taking MBA
surveyed were
graduate
courses
at the University
and Wright
of Dayton

of the Institute
Dayton
Chapter
That
Accountants.
organization

All

variables.

factors

undergrad
junior,

had

rotated

that factor.

normalized

factor

scores were

calculated

Raw
factor scores
by SPSS for each respondent.
are a linear
13
combination
of the original
coef
the
variables
respective
utilizing
dependent
ficients

in Table

II. After

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their

calculation,

the

436

M.

and K.

Fischer

Rosenzweig

TABLE II
Rotated

factor matrix
name

Factor

Accounting
manipulation
Var#

var name

Dependent

Paint

Defer

Defer

ahead of schedule

10
11
12
13

expend-month

Write
Write
Delay

Variance
print

raw factor
the mean
deviation
normalized
a standard

coefficients

0.59951
0.27353
-0.00577
0.00471

0.09524
0.08844
0.03296
-0.00801

0.63007

0.27530

0.21716

0.52467
0.90216
0.86899
0.17408

17.56%
indicate

dependent

deviation

of one.

These
normalized
as dependent
variables
in
the
of
analysis
place
original
variables.

are utilized

in the subsequent
thirteen
dependent

scores
to analyzing
the normalized
factor
in the paragraph
mentioned
above, we examined
of the original
13 earnings manage
the means
Prior

variables,

grouped

by

they loaded highly. Table

responses

to these

earnings management
the variable means
Merchant's
accounting
ethically

-0.07746
0.05224
-0.01085
-0.04354
0.07273

15.60%

are highly

earnings

(1990)
methods
to

the factors

on which

III lists the mean

thirteen
original
dependent
and the mean
variables
of
for

each

factor.

Bruns

and

that manipulating
finding
is much
less acceptable

respondents

than

manipulating

-0.00888

-0.05860
0.08019

correlated

with

by means

of

13.16%
the respective

factors.

is

decisions

operating
our data.

Furthermore,
strongly
supported
by
within
the operating
decision manipulation
area,
our respondeats
felt that manipulation
of deci
sions

which

the
changed
was
somewhat

(OPEREXP)
ethically
revenue

than
timing

of

timing
more

expenses

questionable

which

manipulation

changed
In the accounting
(OPERREV).
there was
little difference
area,

manipulation
between
respondents'
ratings
of manipulation
acceptability

Findings

ment

-0.03885 0.03572
0.05152
0.17370

15.48%

variables which

OPERREV

0.37999
0.38895
0.93490
0.14084
0.13049
0.92547
0.32273
-0.00023
0.00577
0.67378
0.09603
0.78812
0.14547
0.63606

0.17613

scores are normalized

by subtracting
and dividing
the result by the standard
of the raw factor scores. The
resultant
of zero and
factor scores have amean

scores

factor

0.10903

0.17294
0.23840
0.82781
0.78630

expl

OPEREXP

-0.02350
-0.01924

0.04986

up inv-prod dev
up inv-profit targ
consult inv-small
consult inv-large

Delay

INVMANIP

0.04465

Sell excess assets-profit

Prepay next yr exps
Write
down inventory

8
9

manipulation

-0.09561

expend-year
Record
supplies next yr
Pull sales-liberal terms
to max ships.
Overtime

4
5
6
7

Bold

ACCMANIP

decision

Operating

adjusting
inventory
other
forms
of

valuations

the

of
by

ethical

means

(INVMANIP)

accounting

of
and

manipulation

(ACCMANIP).
among groups of respondents. For each
Differences
a one-way
of the earnings management
factors,
was
to determine
ANOVA
calculated
if there
were

significant
of the
responses

differences
three

the ANOVA

indicated

existed, Tukey
if each pair of

tests were
group

groups

the mean
among
of respondents.
If

significant

differences

performed
means
was

to determine

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significantly

Ethical

of Earnings

Acceptability

437

Management

TABLE III
Mean
Form

scores of earnings management

of earnings

variables,

grouped

Var

Factor

management

by factors1
Mean

of factor
variable means

Mean

var name

Dependent
9 Write

down

(Std dev)
1.79

inventory

(1.13)
10 Write

INVMANIP

dev

up inv-prod

1.89

1.75

(1.17)
11 Write

up inv-profit

1.57

targ

(1.09)
ACCOUNTING
4

Record

supplies next yr

1.73

(1.01)
8

Prepay next yr exps

2.04

(1.20)

ACCMANIP
12

consult

Delay

inv-small

1.78

2.11

(1.11)
13

consult

Delay

1.25

inv-large

(1.07)
1

Paint

ahead of schedule

3.80

(0.52)
2

OPEREXP

Defer

3.02

expend-month

3.18

(1.02)
3

Defer

2.71

expend-year

OPERATING
DECISION

(1.25)
5

Pull

sales-liberal

terms

3.30

(0.94)
6

OPERREV

to max

Overtime

3.58

ships.

3.49

(0.75)
7

Sell excess

3.59

assets-profit

(0.80)
4 = ethical;

different.
confidence
Table

3 = questionable;

AU

tests were

2 = moderate;

1=

at the 95%

performed

level.
IV presents

=
serious; 0
totally unethical.

The
all

the mean

for ACCMANIP,
manipulation
means
of accounting
methods,

of the factor

scores

of

by
earnings
broken
down

in
of respondents
groups
by the three main
our study. As can be seen, accounting
practi
as ethi
tioners view
accounting
manipulation
than do students.
cally much more
objectionable

four survey questions

involved

violations

practice.
Accounting
the greatest
knowledge

of

(#4, 8, 12 & 13)

standard

practitioners
of what

accounting
have
would

these

standards

students
the least. Also,
of
because
are; MBA
their experience
with
measurements,
accounting
and to a lesser extent
practitioners,
accounting
are aware of the opportu
students,
accounting
nities for distortion
of accounting
and
numbers,

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438
M.

and K.

Fischer

Rosenzweig

TABLE IV
in means

Differences
practitioners,

in means

Differences

among
and

students,

undergraduate

graduate
Group

TABLE V

of ACCMANIP

practitioners,

of INVMANIP

students

graduate

Mean

Mean

Group

Accounting
MBA

0.1011

Undergraduate

students

accounting

MBA

INVMANIP1

-0.3374

practitioners

practitioners

students

0.5347

-0.2470
0.0539

0.4894

Undergraduate

students

and

students

ACCMANIP1
Accounting

among

students,

undergraduate

students

accounting

Tukey

test indicated all pairs of groups are signifi

at the 0.05 level.
different
cantly
1 =
mean of responses; positive numbers indicate a
0
more ethical rating; negative numbers indicate amore
unethical
rating.

test indicated all pairs of groups are signifi

Tukey
at the 0.05 level.
different
cantly
1 =
mean of responses; positive numbers indicate a
0
more ethical rating; negative numbers indicate amore
unethical
rating.

the deleterious
effects
of such
may
recognize
distortions.
MBA
with
their more
students,
courses
in accounting
limited
and
background

are more

this awareness.

lack

practices, may
Table V presents
for INVMANIP,

the means
earnings

scores

of the factor

management

of

also

by means
broken

tioners

by means

view

manipulation
more
much
tory
changes
adversely
students.
Practitioners'
experience

than
with

hand,

well

valuation

do
the

little

change
by it. It is interesting
repelled
the case of general
accounting

MBA

students

are more

that,

sensitive

contrary

to

manipulation,
to the ethical

than are
manipulation
For
students.
accounting
example,
undergraduate
as
to question
students
with
#9, MBA
respect
is
that judgment
know
managers
experienced
the size of the writedown
inevitable
because
dubiousness

of

upon
depends
current market

inventory

assessments
appropriate
value of inventory which

of

the

can vary
as a result of their

It appears
that,
considerably.
in
business,
experience
practical

MBA

loaded highly on ACCMANIP

are less

known.

scores
VI presents means
of the factor
for OPERIEXP,
of
manipulation
earnings
by
means
of operating
alter the
decisions
which
Table

with
such
experience
are
and
thus less
opportunities

have

as a source of oppor
managers
some of
for earnings manipulation,
while
other
of accounting
forms
manipulation
business

which

valuation
effects of inventory
distorting
changes
on accounting
numbers may sensitize
them to the
on
unethical
dimension
of this practice.
Students,
the other

students
than undergraduate
changes
accounting
in
who
have
limited
business.
experience
is apparently well known
Inventory manipulation

the

inven

of

of the opportunities
for earnings
means
of
valuation
inventory
by

management

among
tunities

valuations,
inventory
altering
of respondents
down by the three main
groups
our
to
in
the findings
for account
study. Similar
in general,
practi
ing manipulation
accounting

aware

students

down
broken
incurrence,
timing of expense
by
In
in our
the three respondent
groups
study.
contrast
to the findings
for the two accounting
students
view
factors,
operating
manipulation
more
than
much
expense manipulation
harshly
do

accounting
attitudes
toward

practitioners
students.

and

the undergraduate

Several
these
work
more

interpretations
One
could
findings.
in business,
common

either
alternate
present

students'

expense manipulation
operating
the middle
between
the accounting

in

fall

MBA

practitioners.

"more

lose

are

accounting

consistent

with

that as people
argue
idealism
the ethical

they
students
and become
among
or
more
An
realistic"
"calloused."

on the ambiguity
focuses
explanation
in the survey's questions
oper
regarding

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Ethical

of Earnings

Acceptability

TABLE VI
in means

Differences
practitioners,

among

students,

undergraduate

possible

on

OPEREXP1

stakeholders.

culture
-0.6149

Undergraduate
students
accounting
MBA

Accounting

test indicated all pairs of groups are signifi

at the 0.05 level.
different
cantly
1 =
mean of responses; positive numbers indicate a
0
more ethical rating; negative numbers indicate amore

Accounting
have read

the latter

practitioners
these questions

and MBA

have

their

of

are
students
practitioners
accounting
more
aware of the legitimate
discretion
needed
in order to conduct
effec
business
by managers
therefore

may

have

unwilling
the manager who had responsibility
for making
the decision.
We
could find no significant differences
among
our groups
to the
with
of respondents
respect

on earnings by
manipulation
the timing of revenues.
As is
means
it
the
had
III,
highest
that all
for its high
indicating
loading variables,
in finding
of respondents
concurred
few
groups
its use.
ethical problems with

factor, OPERREV,
means
of altering
in Table
indicated

(1990)
study confirms Bruns and Merchants'
a
in
all
the
that
have
groups
surveyed
findings
for
tolerance
expense manipu
greater
operating
lation

than

accounting

manipulation.

The

fol

ethics.

if it is not

problematic
- one
does

not break

in it. Several

of the

anal
accounting
practice, while
exist
for
standards
do not
the
in

described

manipulation
questions.
view
has this rule-based
she would

the operating
If a respondent
of ethics, he or

judge accounting
manipulations
since
unethical,
they violate
rules, while
manipula
operating

as more

explicit
tions do not.
However,

a stakeholder

using

whether

open question
is more
unethical

by operating

it is an

perspective,

accounting

manipulation

than

statement

Financial

operating
manipulation.
users may be misled
as much

as by accounting

manipulation.

has a longer
accounting
profession
concern
of
codes
and
for
ethical
history

(2) The

than does manage

practices
standardizing
as an organized
ment
Deserved
profession.
or not,
a
has
for
accounting
reputation
more
"cut
and
than
does
being
dry"
managing.
Being
be the outcome
concern.
ethical

zations'

Our

of

is not
something
one need not worry
on this view, earnings

is not

more
of

economic

tutionalization
honesty.
sitivity
reflect

"cut
a

and dry" may

of ethical
history

is a fundamental
"Honesty"
value.
standards,
Accounting
to ensure
that financial
reports

adopted
give an accurate

of findings

Commandments
codes

of
or

questions
accounting
regarding
a violation
involved
of

ogous
situations

to

been

guess

Interpretation

organizational
assume
that if

survey's

questions

questions
the
experience,

and MBA

tively
second

explicit

our

list

manipulation

interpretation.
students may

as involving
so than

more

of good management,
of ethics.
Because

and

such

accepted

taken

may

rules,

explicitly
prohibited
any rules by engaging

rating.

cases could be
(#1, 2, 3). These
ating expenses
man
as
either
interpreted
involving
questionable
or
ethics.9 The
agement
practices
questionable
students

this

in

Many
people
as a
ethics

as the Ten

management

Tukey

unethical

of

expressly prohibited,
about ethics. Based

0.4391

practitioners

think

They

-0.0308

students

of

interpretations

(1) Those
surveyed may have had a rule-based
view of ethics,
rather than one based on
ethical assessments
of the decision's
effects

Mean

Group

two

finding.

and

students

graduate

are

lowing

of OPEPJiXP

439

Management

an

reflection

of

health,
of
ethical

reflect

Respondents'
to accounting
this history.

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greater

organi
an insti

concern
ethical

manipulation

for
sen
may

440M.
there were

Although
groups with

differences

to operating

means

have

felt

by
revenue.

ethically
is almost

earnings
the

earnings
For

not

have

been

information
of

students
methods

on
management
The
question

the part of operating

of how and where

to address

riculum

ethical

the

year.

taught

in a separate

course

have

some

trust

to maintaining

and

in the

accounting
profession,
should seek to
that accounting
educators
to earnings
increase
ethical
students'
sensitivity
For
management
undergrad
example,
practices.
uate

students
accounting
aware of the "real world"
make

managers
to appreciate

need

context

within

decisions.

business
that

to be made

creativity

more
which

need
They
effectiveness

and

some
require
decision-making
to rely on
that it is undesirable
such as those designed
restrictions,
explicit policy
to prevent
of
earnings management
by means
in managerial
and
latitude,

restricting
decisions.
to be
integrity
business

the
This

acutely
are

available

choices

the need

underscores
aware

that

ethics

in operating
for students
and

personal
in everyday
intertwined
deeply
the law and explicit
decisions.
Following
be a sufficient

is not and cannot

policies
is ethical.
behavior
that
one's
guarantee

business

earnings
in which

practices

manage
earnings

However,

many

to lead a
involved.

course

in business
ethics
Alternatively,
specific
can be valuable
with
in acquainting
students
to
about
and
them
ethical
think
inviting
theory
issues in a wider
societal
and ethical
business
context.

the public
the authors

believe

ethics.10
to
equipped

of

arise.

to questionable
management
earnings
uneven.
level
is
Given
the
of
sensitivity
practices,
the
of
how
accurate,
important
availability
to
is both
information
and reliable
relevant
success

on business

accounting
ill-equipped
professors
sustained discussion
of the ethical issues

sen

sitivity

business

earnings
managers.
in the cur

feel

business

ethical

educated

of
implications
to be addressed.

are well

professors
the methodology
contexts
and
the

management

that while

Further

management
earnings
There
is an ongoing
debate about whether
ethics
or
courses
into business
should
be integrated

ethically
if it simply

Implications
show

be

in choos

of deterring

needs

explain
ment

results of this study

students and practitioners

should

to be

need

more,
accounting
in organizational

Accounting

The

to

in a fair and undis

stress
standards. Particular
accounting
on
for
distortion
placed
opportunities
valuations.
ing alternative
inventory

be

earnings management
unacceptable
drew sales from the subsequent
accounting

ethical

accountants

More

aware

to be

management
a sales pro

but would

the

students need
specifically,
the
available
opportunities
clearly
for earnings management
and earnings distortion
even
within
the
of
parameters
acceptable

timing

example,
in the
conducted

made,

curricula

on

greater
emphasis
of managers
and

torted manner.

last month
campaign
would
of the accounting
be
year
accept
ethically
otherwise
able if it created new sales that would

motion

and MBA

accounting

responsibilities
report financial

of distinguishing
ethically
from
enhancement
programs

inappropriate
impossible.

In general,
to place

that any restrictions

risk damaging
organiza
Furthermore,
they may

might

revenue

appropriate

with

Rosenzweig

need

may
respondents
revenues
is a vital

controlling
and
function

competitiveness.
the task
felt

have

our

among

altering

Our

that

managerial
on that function
tional

of

and K.

expense manip
that
concurred

respect
all respondents
ulation,
virtually
no
there was
ethical
problem

management
of operating

Fischer

most

However,

who

people

teach

and the
ethics, primarily
philosophers
do not
and
lack
expertise,
ologians,
accounting
to
needed
and experience
have the knowledge
man
in which
the context
understand
earnings

business
'

arise. To resolve
this problem,
pressures
to become
and
ethics
need
accounting
professors
more
the
and
with
tools
perspectives
acquainted
agement

of each
ethics

fields.

others'
and

accounting

to team

is for
teach

courses.11

difficulty with
curriculum
accounting
Commission

alternative

instructors

accounting

One

materials

Another

and

case

ethics into the

integrating
is the scarcity of teaching
studies.
The
Treadway

recommended

incentives
be given
The
such material.

that business

faculty
to develop
and opportunities
Asso
American
Accounting

on Professionalism
Project
of Management
and the Institute
case
have
studies;
developed
ciation's

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and Ethics,
Accountants
the

American

Ethical

ethics

education

1989,
In

accounting
and Rockness,

(Langenderfer
to

also

implications
indicate
findings

Our

more

to become

means
bling

revenue manipulation.
to become more

operating

business

managers
ethical
responsibilities

with

should
They
such activities

manipulations.
how harmful

trust. With
public
to
need
develop

the

groups
detachment

from

that
sense

such as earnings management.

codes which
include
policies

to issues

real pressures
and
earnings,

that such dissonance

(1967) findings
and like
correlated
with
dissatisfaction
job
the dissonance
lihood of job turnover, decreasing

Sorensen's

be

increase

might

they may
the moral

the

with

practitioners

reported
to resist such pressures.
courage
should
these changes,
To achieve
companies
and
introduce
regarding
procedures
policies
and
A goal of business
earnings management.
should

be
adopted
in the day-to-day
Ethical
analyses of spe

environment.12

could

was

all
awareness,
of personal

the very

to distort

policies
ethical

feel
the dissonance
practitioners
help to decrease
ideals and organiza
their professional
between
to increase
In light of
tional pressures
profits.

to operating
respect
be able to recognize
are to stakeholders
a

with

employees

seminars

situations
could be
earnings management
as case studies in professional
and busi
included
ness publications.13
these changes
should
Making

to their

sensitive

Company
to attract

awareness

recruitment

cific

and

Accountants

need

feel

that practi
of opportu

aware

ethics

ethical
Explicit
on
management
earnings
a living presence
and made

of reported
for manipulation
by
earnings
trou
It is especially
decisions.
of operating
to
seem to lack sensitivity
that all groups

nities

institute

could

and workshops.
could be revised

our
education,
for accounting

accounting

has

practitioners.
tioners need

and

nizations

and

sensitivity

p. 59).
addition

research

on

seminars

conduct

441

Management

of Earnings

Andersen

and Arthur

Association

Accounting
and Co.

Acceptability

and

satisfaction
high

professional

of

retention
ideals.

Acknowledgement
The

to arrange
of
persons

authors

insightful
refinement

organizations
professional
so that
and practices
their policies
are supported
and encouraged
decency
ordinary
For example,
to act in an ethical manner.
orga

Research
University

greatly
assistance

appreciate
in the

the extensive

and
and

development
this paper of Tom Ferratt, Faculty
for the School of Business,
Coordinator
of Dayton.
of

Appendix
For

management

earnings

Dependent
each

mark
question,
assessment
of the ethical

questions

in pencil
the letter on
nature
of the action,

the General
as supervisor

sheet that best reflects your

Purpose Data
the
General
of
(GM) of the
Manager

division.
|

Ethical;

performance

tenance)
Expected
i 2. The

make

000._

Serious;

E = Totally

Unethical

to be painted
in 1992. But
since profit
to
done
in 1991.
decided
have the work

two questions.
to the following
The GM
ordered
division
employees
applies
all discretionary
travel, advertising,
hiring, mainemployee
(e.g., postpone
expenditures
so the division
its budgeted
could make
into the next accounting
profit targets.
period,
amount

expenditures

quarter

3. The
|

Moderate;

information

to defer

first

was
scheduled
building
headquarters
was way ahead of budget
in 1991, the GM

Amount: $150
This

division's

1. The

B = Questionable;

of deferrals:
were

$150

postponed

000.
from

February

and March

until April

in order

to make

the

target.

were
expenditures
the annual target.

postponed

from November

and December

until

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January

in order

to

442

M.

4. On

December

on December
be

expenses
needed.

for

information

division

would

5. The

GM

the

remainder

policy
GM
learned what
not

department

the fiscal

of

manual

company's
accounting
when
delivered.
The

as an expense
asked the accounting
This

Rosenzweig

and the supplies were

delivered
$3 000 of office
15, a clerk ordered
supplies,
29. This order was a mistake
because
the GM had ordered
that no discretionary

incurred

The

and K.

Fischer

to record

to the following
applies
need
strong performance

year, and the

states that office

were

supplies

are

supplies
and to correct

6. The

had happened,
until February.

a sales program
to implement
liberal payment
offering
occur
next
current
into
the
year
year; customers
normally
to
not
would
the
invoice
for
have
120
pay
quarter
days.

7. The

sold

GM

This

the GM

realized
GM

some

ordered

assets

the division

for a major
$60 000.

expense)
Amount:

excess

and

overtime

realized

in December

terms

trade

show

to be held

accepting

some
in

delivery

so that everything

At

the beginning
targets for
profit
some

to prepay
in March,

controller

to pull

the

possible

of $40 000.

profit

to the following
two questions.
applies
the division would
exceed
its budgeted

information

8. The

to work
manufacturing
the
end
the
of
year.
by

ordered

shipped

the mistake,

In September,
three questions.
the GM
realized
to reach its budget
in the fourth quarter
targets.

decided

GM
be

could

urgently
recorded

invoice

the

sales that would

the fourth

not
to be

1992

of December

1991,

the year.

exhibit
rooms,
expenses
(e.g. hotel
and to book
them as 1991 expenses.

to write
down
the inventory
due to obsolescence
(i.e.,
a corresponding
loss in the income
statement).
By
taking a
was able to identify
the controller
view of future market
$700 000 worth
prospects,
pessimistic
even
of finished
that
conservative
would
the
off
say should be written
goods
accounting
though
GM was fairly confident
still be sold at a later date at close to full price.
the inventory would
9. The

This
of

ordered

GM

controller

the division

its asset value

reduce

and

record

to the following
two questions.
The next year,
a
some interest
customer
and
had
indicated
inventory,

information

applies

the written-off

the division
in buying
to write

the division
the following
controller
year. The GM ordered
inventory
a
to
cost.
in the inventory
full
This
would
involve
000
increase
back
$210
up
tory
a corresponding
to
written
down
due
and
had
been
obsolescence)
(which
previously
net income. The GM's motivation
for recapturing
the profit was:
that

been

This

budgeted

information

straining
division
work

due

delayed

11. To make

to meet
and asked

done

on some
working
to budget
constraints.

to continue

10. To be able
have

profit

applies

product

projects

development

rest of

the

inven

asset value
in

increase

that might

targets.

to the following
The GM
called

budget.
that the firm

but not

important

sold 70%
the

not

send

two questions.
the consulting
an invoice

until

In November,
firm
next

1991,

that was

the division

was

some work
for the
doing
firm
Estimated
The
year.
agreed.

invoiced:

12. $30 000

13. $500 000

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Ethical

Acceptability

of Earnings

Notes
1

is empirical
support for the efficacy
and particularly
liberal arts education

There

education

in making

abilities

increasing cognitive
ments.
See Rest
(1986),

of
in

moral

judg
and Glazer

and Ponemon

(1990).

For example, see Mendenhall

and Nichols
and
and
Rockness
Merchant
Jones (1991),
coming).
3
McNichols
two

for

income
come

and Wilson

alternative

of

test
in

income-reducing

be unusually
income
accruals
they choose
increasing
to be low. Bonus
income is expected
related
that managers
will
earnings management
predicts

high
when

income would

and

related. With

choose

managers

smoothing,

accruals when

(forth

management:

earnings

bonus

and

smoothing

discuss

(1988)

forms

(1988),

otherwise

and

choose

accruals

income-decreasing

earn

whenever

to be either unusually high or low.

ings are expected
When
attempt
earnings are unusually high, managers
to reduce earnings because
their bonus plans have
bonus
and managers
already generated maximum
desire to shift some income to future years when addi
tional bonus could be earned. When
earnings are
have often foregone
low, managers
any
unusually
bonus in the current year and they therefore attempt
to shift earnings
to a future year when
additional
bonus could be earned. This phenomena
is commonly
as the "big bath." McNichols
known
and Wilson
found

evidence

earnings

Trueman
rationale

in their

management'but

and Titman

for

smoothing

study
not

for

income

bonus

related

smoothing.

(1988) discuss management's

earnings.

Managers

interest

This

rates

are

lowered).

is consistent
with
Bruns
and
use
Merchants'
of
the
it is
term, although
(1990)
never explicitly
in their study. Our defini
defined
tion
is consistent
with
the definition
in
given
Merchant
Rockness
and
(forthcoming).
5
See Griffiths, Creative Accounting (1986), a highly
readable account of market pressures to engage
in
definition

creative accounting
techniques,
earnings
including
It includes a description
of the effects
management.
on users of financial informa
of creative accounting
tion and the general public (1986, pp. 5, 11-13).
6
In "Virtues and Business Ethics," Desjardins
(1990)
of the ambiguities
inherent
gives a clear explanation
in ethical

decision-making.

He

argues

or rules have limited applicability,

ethical principles
ethics is amatter requiring "practical wisdom." Hence
possessing virtuous character traits is critical to making
wise ethical decisions.
7
See Merchant
and Rockness
for
(forthcoming)
reasons
additional
have explored
researchers
for
managers'
8
We

that because

in

engaging
can

understand

in earnings

engage

management.

earnings

on

pressures

accountants

as one

management

to

manifestation

of "the professional's
dilemma." Members
of profes
sions are noted for their loyalty to the professional
standards of their disciplines.
These
standards relate
both to the knowledge
base of the professional's dis
cipline and ethical standards with respect to the per
of services for clients. Often
formance
there is a
conflict

between

those professional
standards and the
on
the
placed
by bureaucratic
professional
Decisions
which
advance
the interests
organizations.
of the organization,
such as profit maximization,
may
demands

be

to

contrary

distorted

reports.

earnings

un
requiring
Sorensen
example,

standards

accounting

For

examines
and bureaucratic
conflicting
professional
of accountants working
orientations
in large public
firms
and
finds
that
dissonance
between
accounting
accountants'

the

expectations

and

their

actual

work

environment with regard to these orientations,

often
leads to lowered job satisfaction and increased likeli
hood of job turnover (Sorensen, 1967).
9
"Good ethics" and "good management"
may not
be conceptually
For
ideas.
discussions
of the
separable
view that good ethics is an integral part of good man
agement, see Solomon and Hanson
(1985), and Pastin

(1986).
10

See Loeb

smooth

earnings in order to reduce claimants' estimate of the

volatility of the underlying earnings of the enterprise.
Claimants associate less volatile earnings with reduced
risk and therefore the cost of capital is reduced (i.e.,

443

Management

teach

ethics

11

(1988)
to

for a discussion

of how

best

to

students.

accounting

and Rockness
Langenderfer
(1989) discuss the
of
ethics
the accounting
into
importance
integrating
curriculum
and offer a method
for doing so. For an
assessment of the strengths and weaknesses
of this
see Armstrong
method,
(1990).
12
See Hill, et al. (1992) for a discussion of what needs
to be done to make an ethics code a
living presence.
13
For discussions of how ethical considerations
can
be

integrated

into

an

organizations's

structure,

and Mathews
Goodpaster
(1982), Hoffman
Buchholz
and
(1989),
(1988).
Murphy

see

(1980),

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