Question

You have recently been hired as the assistant controller for Stanton Temperton Corporation, which rents building space in major metropolitan areas. Customers are required to pay six months of rent in advance. At the end of 2018, the company's president, Jim Temperton, notices that net income has fallen compared to last year. In 2017, the company reported before-tax profit of $330,000, but in 2018 the before-tax profit is only $280,000. This concerns Jim for two reasons. First, his year-end bonus is tied directly to before-tax profits. Second, shareholders may see a decline in profitability as a weakness in the company and begin to sell their stock. With the sell-off of stock, Jim's personal investment in the company's stock, as well as his company-operated retirement plan, will be in jeopardy of severe losses. After close inspection of the financial statements, Jim notices that the balance of the Deferred Revenue account is $120,000. This amount represents payments in advance from long-term customers ($80,000) and from relatively new customers ($40,000). Jim comes to you, the company's accountant, and suggests that the firm should recognize as revenue in 2018 the $80,000 received in advance from long-term customers. He offers the following explanation: “First, we have received these customers' cash by the end of 2018, so there is no question about their ability to pay. Second, we have a long-term history of fulfilling our obligation to these customers. We have always stood by our commitments to our customers and we always will. We earned that money when we got them to sign the six-month contract.”

Discuss the ethical dilemma you face:

1. What is the issue?

2. Who are the parties affected?

3. What factors should you consider in making your decision?

4. What is the stance you will take?

Required: 1) Reach a consensus concerning the answers to the four questions.

2) Write a memo to the company’s controller discussing the issue and the stance that your group is taking.

Answer 1

Issue Involved & Parties affected :

In the given situation, the profit of the company has fallen from $330,000 in year 2017 to $280,000 in year 2018. Mr. Jim president is very concerned about it as his year-end bonus and his value of stocks in company would decline as shareholder will sell the stock. So, Mr. Jim want to recognize the advance received from the long-term customer which is in the deferred revenue account of $80,000 as income for current year as he says it is received from long term customer.

Factors to be considered :

Principle of revenue recognition : One should only record revenue when it has been earned, not when the related cash is collected. For example, Rent for providing Parking lot service charges standard fee of $100 daily. If he receives advance rent for 3 months amounting to $9000 it does not mean it is his income for that day.

Accrual basis of Accounting : Under accrual syaytem of accouting, payment/ income relating to relevant period should be recognised as expense/ income. Any Income pertaining to future periods should be deferred as liability since necessary conditions/obligations required to earn that income are not fulfilled.

Conclusion :

Mr. Jim is not correct at his position as he wants to recognize the revenue for which his company has not done the work yet, which is against revenue recognizing principle and will lead to false picture of the corporation. Further it leads to violation of Accrual system of accouting. The persons affected will be the stakeholders of the corporation & leads to fraud. As the assistant controller of the corporation I can’t allow such thing to be done.