Introduction
According to the Institute of Management Accountants (IMA), professional ethics in accounting refers to the adherence to the strict code of conduct in the practice of accounting. The IMA in the ethical code of conduct requires managerial accountants to adhere to professional ethics. This means that in the practice of accounting, managerial accountants have to depict high levels of integrity, objectivity, confidentiality and competence (IMA 1983).
To curb unethical practices in accounting, Fisher and Rosenzweig (1995) sharply criticized the narrow focus of academics towards teaching professional code of conduct in the practice of accounting. He suggested the accounting academia should mobilize enough resources in an effort to identify approaches towards teaching. In line with their argument, they suggested that when students lack ethical academic basics, it serves as a draw back as they cannot apply critical thinking skills to face professional ethical dilemmas. Such ethical dilemmas can be solved when accounting programs gain the recognition of the importance of ethics and offer quality ethics courses (Fisher and Rosenzweig 1995).
Recent times have seen widely publicized accounting scandals. This puts the point straight that the ethical conduct of accounting managers lacks the standards which are inherent in quotations which are foregoing. The wall street journal, in its article named “scandal scorecard” derives a description of accounting frauds (12 egregious frauds) in which public owned business enterprises were involved. In this article, a larger percentage of the fraud involved the financial officer, chief accounting officer, controller and many other accountants who worked at the enterprise. These, among other scandals have established the need for controls. The federal Sarbanes-Oxley Act (SOX) of 2002 was therefore enacted. Through this act, the Public Company Accounting Oversight Board was established in an attempt to regulate the conduct of public-practice managing accountants and those in business enterprises which are publicly owned. Despite the above measures, it has been suggested that there is still need for a much clearer focus towards streamlining professional ethics in accounting (Schipper 2009, Hamilton 2007, Schneider 1995).
Main Body
Ethical Challenges Facing the Profession
The ethical challenges which the accounting profession faces involve fraud which may take the form of intentional fraud and fraudulent financial reports, deception of users of financial statements through intentional misstatements or omissions of amounts or disclosures in financial statements (Corner 1986). Fraudulent financial reports may take the form of manipulation, falsification, changing support documents or account documents which are used to prepare financial statements (Leung and Cooper 1995, Healy and Whalen 1999, Chow et al. 1988). It may also involve misrepresentation of information, intentional omission from financial statements of events or transactions or misapplication of accounting principles with relation to amount, disclosure or the manner of presentation (Nouri 1994, Sayre et al. 1998).
Usually, fraud involves undue pressure or incentives and a perceived opportunity to engage in fraud. For example fraudulent financial reports may occur as a result of the management being under pressure to achieve a target of earnings which are unrealistic for the organization (Sayre et al. 1998, Schneider and Sollenberger 2003). Other cases may take the form of falsified documentation including forgery and concealing misstatements by making fictitious invoices. This can be done in collusion or through being driven by personal interests (Fox 1997, Schilt 1997, Hepworth 2009).
Professional Accountancy Bodies & Action Taken to Address Challenges and Enforcement of Codes of Ethics
The International Federation of Accountants (IFAC), American Institute of Certified Public Accountants (AICPA), Institute of Internal Auditors (IIA) and Institute of Management Accountants (IMA) are some of the major professional accountancy bodies which strive to enforce the code of ethics in managerial accounting (Schipper 2009). In this section of the paper, the professional accountancy bodies & actions taken to address challenges and enforcement of codes of ethics is addressed from a global perspective.
The Chartered Institute of Management Accountants (CIMA) which was formed in 1919 is the largest body for professional management accountants. Its core operations entail businesses in sectors such as industry, commerce, non-profit organizations and the public sector. CIMA partners directly with employers and is engaged in activities like sponsorship of high level research. While undertaking the its mandate, the Chartered Institute of Management Accountants engages in constant updates of its qualifications, needs of professional experience and sustained professional development which places it in a firm position as a choice of employers during the recruitment of business leaders who are professionally trained.
In aspects of management accountancy, the CIMA commits itself to uphold standards which are high, ethical and professional and sustain the confidence of the public in managerial accounting practices. Its operations are underpinned in the belief that sustainability is a core factor to many organizations in the world and its activities are geared towards supporting its members, both professional and students to combat ethical challenges during their practice (Schneider and Sollenberger 2003).
The Prince’s Accounting for Sustainability and International Integrated Reporting Committee (IIRC) is a body which engages and focuses on management information as a basic requirement to develop better reporting mechanisms in the corporate arena. Its operations are guided by the notion that conventional accounting records and reports are likely to focus on the short-term performance of a company. Their concern may broaden to the extent of concern over factors like the sustainability of the business model or the social or environmental impacts of the organization (Horngren etal. 2002). Another initiative, The Accounting for Sustainability (A4S) initiative, is an initiative where CIMA plays a seeking role in an attempt to create a model which is widely connected and integrated with regard to aspects of reporting. The CIMA (Chartered Institute of Management Accountants) are better placed in terms of collection and presentation of vital data, most of which is core to activities of information management which is a routine activity in CIMA. Thus the ethical code of CIMA calls for objective, responsible and independent presentation of accounting information, regardless of the intra-organizational or extra-organizational challenges which may attempt to distort accounting facts or information deemed unpalatable to them (Schneider and Sollenberger 2003, Zimmerman 2000).
The International Integrated Reporting Committee (IIRC) was established with a global network agenda. It is an initiative which composes a collaboration of accountancy institutions, corporate governance leaders and standard setters who focus on business sustainability and ethical accounting practices. However, there is no established global standard where aspects of environmental, governance and social performance can be determined. The IIRC attempts to address ethical concerns and ensure the code of ethics is enforced through activities which may include response to concise, clear comparable and comprehensive frameworks of reporting which are integrated and structured in line with the strategic objectives, business model and governance of the organization through managing material which is financial or non-financial (Schneider and Sollenberger 2003). Other measures for addressing ethical challenges include initiatives such as: The Global Reporting Initiative (GRI) which is an organization that is network oriented and is credited with the pioneering of a sustainability reporting framework which is globally used. In addition, the GRI’s operations are entrenched by a commitment of continuous world wide application and improvement..GRI framework sustainability reports have been widely used in areas which require a demonstration of organizational commitment towards sustainable development, periodic comparison of organizational performance and areas where codes, norms or laws exist (Schneider and Sollenberger 2003).
Organization for Economic Co-operation and Development Guidelines for Multinational Enterprises: These are recommendations to multinational corporations by governments which stipulate voluntary principles and standards for ethical conduct in areas of the environment, human rights, bribery, consumer interests, information disclosure, competition, taxation and science and technology. These have proven to be more comprehensive guidelines especially in modern-day corporate responsibility which multilaterally protect governments from unethical practices (Schneider and Sollenberger 2003).
. United Nations Principles for Responsible Investment (PRI): Environmental, Social and Corporate governance (ESG) concerns have implications on the returns on investment and this has caused increasing concerns within the investment profession. To address this issue, the portfolio of the PRI lays down a framework that assists investors to consider the above mentioned factors which concern them. Though the principles are not prescriptive, they enlist possible actions which can oversee the incorporation of ESG concerns into major investment, decision making and ownership. Application of the above principles reduce unethical practices as they lead to a closer alignment of societal objectives and those of institutional investors, thus leading to long-term financial returns which benefit all stakeholders (Schipper 2009, Dechow 2000).
Ethical Issues Faced by Accounting Managers and Monitoring Behavior
Replacement of Existing Assets- like estimation of equivalent units, replacement of existing assets entails investment decisions in which the return on investment is used as a measure of performance. Under such circumstances the organizations’ volume of assets are defined in terms of the book value and in the denominator of the return on investment. For example a proposal for a company to invest in machinery is a benefit in the long-term. However, this would reduce the current rate of investment of the participant since the acquisition of the new machinery is more costly than the costs incurred for maintaining the current machinery and state of technology (Merchant 1990, Rogerson 1992)..
According to Horngren et al. (2002), managers tend to maximize the return on investment or the residual income since they “want a low-investment base. Managers in firms using net book value tend to keep old assets with their low book value.” (Horngren et al. 2002, p. 415-6). In addition, the likelihood for net book value to instill an increasing trend which is misleading on the return on investment has timely and serious ramifications on investment centered managers and their investments (Hilton et al. 2000). The centers of investment which have low assets depict a higher return on investment in comparison to those which have relatively new assets. In turn, this is a likely cause of discouragement for investment center accounting managers as they are blocked from investments in new equipment (Hilton et al. 2000, p. 844). This is in line with Kaplan and Atkinson’s argument that many accounting managers cannot be expected to manipulate their return on investment in a very transparent manner. However they can improve on their return on investment measures by sustaining operations with almost or nearly fully value-depreciated assets and by pushing ahead new opportunities for investment in assets (Kaplan and Atkinson 1998, p. 518).
Overproduction: As highlighted in the above examples. Accounting managers’ decisions can be driven by the desire to manipulate the company’s earnings. Advocates of absorption costing (full costing) have suggested that there is a higher susceptibility of the net income being manipulated by managers as unit costs can be decreased by increasing production, due to the fact that fixed overhead is a product of the cost (Kaplan and Atkinson 1998). In addition, Zimmerman (2000, p. 496) points out that “Managers rewarded on total profits calculated using absorption costing can increase reported profits by increasing production (if sales are held constant). The major criticism leveled against absorption costing is that it creates incentives for managers to overproduce, thereby building inventories” (Zimmerman 2000, p. 496).
According to Horngren et al. (2002, p. 609) “if the company uses the absorption costing approach, a manager might be tempted to produce unneeded units just to increase reported operating income.” This is best explained by Kaplan and Atkinson (1998, p. 504) by citing a situation where “the division manager had greatly increased production in quarters 2 and 3, with excess production accumulating as finished goods inventory. The much higher rates of production enabled period costs to be absorbed into inventory.” Therefore issues emanating from overproduction may have ethical ramifications for the corporation and its accounting managers either directly and indirectly (Kaplan and Atkinson 1998, p. 504).
Conflict of Interest: This arises when parties with selfish interests use their official capacity to acquire inappropriate benefits. For example, a management accountant might engage in unethical practices like overstating pretax incomes of the corporation in an attempt to gain performance bonuses which are higher. Similarly, he may engage in insider trading activities in an attempt to reduce losses or purchases or sales of securities of the organization. For instance, in the Accounting and Auditing Enforcement Release (AAER) 344 (December 10, 1991), a managerial accountant was denied practice of accountancy in a public owned corporation due to alleged insider trading thus loss evasion of $73,000 on the sale of the corporations common stock. The victim had allegedly colluded with senior management of the company and they overstated the company’s earnings by over $38,000,000 in three years (Nouri 1994).
Cost Allocation: According to Rogerson (1992), companies which engage in contracts with revenues that are cost based are likely to engage in unethical behavior when overhead cost allocations are done. Cost allocation therefore involves the practice of changing allocations of cost in an arbitrary manner so as to obtain higher amounts of revenue on a cost-plus sale of products. In Schneider and Sollenberger (2003, p. 4-19): it has been pointed out that cost-basing and market-basing the prices of goods or services tempts managers to shift overhead costs to those goods or services which are cost based. According to Hilton et al. (2000) “cost-plus contracts give incentives to the supplier of the goods or services to seek as much reimbursement as possible and, therefore, to allocate as much cost as possible to the product for which reimbursement is possible.” “(Hilton et al. 2000, p. 375).This is best explained by the example in industry where manufacturers produce standard goods for commercial customers on a fixed-price contract basis, while producing specialized goods for other customers under cost-plus basis/contracts, thus such industries have heightened revenues (Horngren et al. 2003, p. 535).
Effects of Ethics on Companies
In a study by Schneider and Sollenberger (2003, p. 1-50), five sub-samples of respondents were involved in a study on the probability of engaging in unethical behavior. Of the five sub-samples, four ethical issues were addressed and the probability of engaging in unethical behavior was reported in 38% to 51% of the respondents. In this study, the ethical issue of estimation of units was the only ethical issue which lacked overt conflict of interest. Ethical issues such as overproduction, replacing existing assets and investment and conflicting interests basically portrayed the likelihood of accounting managers decisions to conflict with those of the organization. The ethical issue which involved cost allocation portrayed a conflict of interest of the company with the interests of stakeholders for example the cost plus contractor. On the other hand, ethical issues which entailed estimation of equivalent units would result in occurrences such as overestimation which will likely increase the current earnings of the organization without posing serious ramifications to the organization’s production and investment, a scenario which would be similar for ethical issues which entailed overproduction, replacement of existing assets and investment and conflicting interests (Schneider and Sollenberger 2003, p. 1-50).
Conclusion
The training of accountants plays a crucial role in terms of instilling ethical values in their career. According to Jennings (2004), ethics courses should be included in training accounting students because of the rise in unethical practices portrayed by accounting professionals, for example recent scandals such as Arthur Andersen, Enron and WorldCom. In line with Schipper’s recommendations, on-job training can be included as part of the solution of the rising trends in unethical practice (Schipper 2009).
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