Ethical Dilemma in Accounting Essay

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Ethics has been an integral part of the accounting profession since its inception and often has been viewed as the cornerstone of the profession. The accounting profession is continuously evolving and giving rise to complex ethical dilemmas for accountants. This essay will identify two ethical dilemmas based on research performed and analyze the impact on stakeholders as well as provide suggestions to address the dilemmas.

Dilemma 1:

The modern accounting profession has undergone a rapid shift, especially in public practice where accountants are largely being involved not only in traditional services such as audits but increasingly are spreading their services to consulting. Essentially, the accountant’s role has transitioned from ‘bean counter to strategic counsel’ (Blackline, 2020). However, this has led to questions about whether this presents a threat to the fundamental principles of ethics developed by the International Ethics Standards Board for Accountants (IESBA).

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In the last few years, the quality of corporate audits has come under scrutiny largely due to the perceived notion that audit firms were subsidizing their revenue by shifting their focus on consulting work with their audit clients. The consulting function is known to generate more revenue as compared to the audit function. This inherently presents a threat to the fundamental principles of ethics and has also led to a deterioration in overall audit quality due to the larger focus on consulting. Former Chairman of the corporate regulator ASIC, Greg Medcraft, stated “The quality of Australian corporate audits is appalling and getting worse, potentially leading to an Enron-style corporate collapse” Mr Medcraft added, “At the heart of the problem was a broken auditing business model: firms were not getting paid enough to carry out audits properly and so were cross-subsidising their audit operations with more lucrative consulting work.” (Tadros, 2017)

In 2018 a report by Micheal West reported that “The Big Four global accounting firms have banked $3.1 billion in taxpayer income in the past six years for government consulting. The $3.1 billion represents around 7,300 government contracts. Meanwhile, Big Four revenues shot up by double digits in Australia again last year. Collectively, they posted a total income of $7.8 billion thanks, in good measure to the government outsourcing bonanza.” (West, 2018) One of the major reasons professional services firms have increased their presence in consulting is largely due to the lucrative revenue offerings compared to the more traditional services. However, this inherently raises conflicts of interest as professional services firms also provide services to large corporations on issues such as corporate tax, transfer pricing arrangements, etc.

The impact of poor-quality audit and accounting advice can have wide wide-ranging impact on the various stakeholders as this has the potential to provide misleading financial information in the decision-making process.

Dilemma 2:

Financial statements present valuable information to various stakeholders’ creditors, investors, and regulators alike in the financial system. A survey of audit committee members attending the 4th Annual Audit Committee Issues Conference, published by KPMG in 2008, identified the increased risk of earnings management as a top concern. (KPMG,2008) Earnings management occurs when companies deliberately manipulate their revenues and expenses to inflate (or deflate) figures relating to profits and earnings per share. In other words, it is when companies use ‘creative accounting’ to construct reported figures that show the position and performance that management wants to show. (ACCA)

The professionals involved in preparing financial statements are qualified accounting professionals who use their accounting knowledge and prowess to interpret complex accounting standards. The accounting standards provide a certain degree of flexibility in complex areas of accounting such as accounting estimates. Accounting estimates can be manipulated by accountants using favorable accounting policies to present results desired by senior executives. For example, changing the estimated life of a non-current asset is allowed under financial reporting standards, but if it is done purely to manipulate the depreciation charge (and therefore earnings), then it becomes an example of earnings management. (ACCA)

Understandably accounting professionals face the dilemma as they feel the pressure to present favourable financial information from senior executives and occasionally have their remuneration tied to company performance which provides an incentive to present favourable figures.

The Solution to Ethical Dilemmas:

A distinguishing mark of the accountancy profession is the responsibility to act in the public interest and professional ethics places an expectation on accountants to self-regulate their behavior by the Code of Ethics for Professional Accountants (the Code) developed by the International Ethics Standards Board for Accountants (IESBA) (IFAC). (Gould, 2013)

The following recommendations have been provided as safeguards specifically for the above dilemmas:

Professional accountants should be required to undergo mandatory training in how to deal with ethical dilemmas regularly. This will enhance the understanding of contemporary ethical dilemmas and how to best manage them without compromising the fundamental principles of ethics.

Government and regulatory bodies should focus on providing regular and up-to-date guidance on contemporary issues.

Governments and regulators should engage in regular monitoring of activities to identify any discrepancies or irregularities and take necessary steps to address any unethical conduct.

Organizations should focus on the design and implementation of strong control frameworks.

Leadership within the organization should provide specific emphasis on ethical dilemmas surrounding the organization and how to deal with them ethically.

Remuneration policies within the organization should be reviewed and designed in a manner that promotes ethical behavior.

Ethical dilemmas have always been part of the accounting profession, however, professional accountants along with respective stakeholders such as government and regulatory bodies, professional bodies, companies, and investors have a responsibility to safeguard against threats to the fundamental principles.

Sustainability- Challenges and Solutions

Sustainability is a contemporary issue that has made its place in the agenda of most business operations. Limited resources, a growing population, and the wide-ranging impact of climate change have made the issue of sustainability ever more important in recent days. The world approach to environmental concerns was first expressed in the Brundtland Report which urged nations to adopt the approach of sustainable development, which it defined as ‘development that meets the needs of the present without compromising the ability of future generations to meet their own needs. (Martin et al. 2010)

The accounting profession has an important role to play in sustainability reporting. In IFAC’s Accounting for Sustainability guide, there is a call for “accountants…to consider how, through their work and positions of influence, they can contribute to business resilience and influence organizations to integrate sustainability matters into strategy, finance, operations, and communications”. The current landscape of sustainability reporting is changing, due to the IFRS Foundation’s International Sustainability Standards Board (ISSB) which was announced at COP26 in Glasgow. (IPA)

The accounting profession will inevitably play a greater role in sustainability reporting in the coming days however, at this stage of adoption it does present some challenges. The two challenges identified for this essay are described below:

Hesitancy from senior executives and investors due to initial impact on profitability: Adoption of sustainability reporting will require organizations to adhere to certain standards and commitments in their day-to-day operations. For businesses seeking to be a part of the environmental, social, and governance (ESG) movement, several aspects will be impacted. Investment decisions will need to be revaluated for example sourcing of raw materials from ethical sources or renewed emphasis on better working conditions for employees. Whilst this shift in the business model has the potential for better outcomes both in environmental and financial terms, could lead to lower returns on investments in the short term due to the initial investments and cost associated.

New PwC research, conducted in September 2021, sheds light on this dilemma. While their survey suggests that a majority of respondents (investors and executives) are willing to adopt better practices to address ESG issues, a large number are reluctant to accept lower returns due to the adoption. Most (75%) of the investors surveyed by PwC said they thought it was worth companies sacrificing short-term profitability to address ESG issues. On the other hand, a similar percentage (81%) said they would be willing to accept, in pursuing those goals, only 1 percentage point or less of a haircut on their investment returns. Nearly two-thirds of that group was unwilling to accept any reduction in return (Chalmers et.al, 2021)

This presents a real challenge for accountants in the profession; however, accountants also find themselves in a favorable position as they can communicate the benefits of non-financial information and the impact it can have on long-term profitability.

To overcome the above challenge accountants can prepare and communicate the long-term benefits both environmental and financial to stakeholders to help them in their decision-making. Encouraging the adoption of ESG objectives in the corporate strategy will help to shape the tone at the top. The C-suite executives chief are usually well-positioned to communicate the importance of ESG to all stakeholders—including customers, employees, and shareholders—while making difficult resource-allocation trade-offs associated with ESG initiatives. (Chalmers et al. 2021)

Lack of personnel with expertise in sustainability reporting: As noted earlier, sustainability reporting is a fairly new concept. While a lot of companies have adopted sustainability reporting voluntarily the reporting has been far from universal.

For the accounting and finance profession, the most significant development was the IFRS Foundation's announcement of the creation of the International Sustainability Standards Board (ISSB) and the IFRS Foundation's planned consolidation of the Climate Disclosure Standards Board (CDSB) and the Value Reporting Foundation (VRF), which houses the Integrated Reporting Framework and the Sustainability Accounting Standards Board standards, by June 2022 (Tho, 2021).

Given the relative infancy of sustainable reporting, there is a lack of personnel with direct expertise in reporting ESG matters. Sustainability reporting is mostly based on reporting non-financial figures that were not part of the traditional financial reporting process. Until recently ESG reporting was also not part of the accounting education which has further contributed to the issue.

However, professional accountants possess the required skills and expertise required to enhance sustainability reporting within organizations. Inherently accountants are skilled in the art and science of reporting figures and metrics, managing risk, interpreting standards, and communicating results. Accountants, with their extensive skills and training, are well placed to bring sustainability issues into the established financial reporting structure, as they can show clear links between sustainability and financial and other performance. (ACCA)

To overcome the above challenge professional bodies such as the International Federation of Accountants (IFAC) Chartered Accountants Australia and New Zealand (CA ANZ), and CPA Australia have a leading role to play. The commitment of the professional associations to provide leadership in embedding accounting for sustainability within their organizational strategies and operations and to drive thought leadership – increasing understanding of good sustainability practices – is timely and significant. (Martin et al. 2010)

As part of their continuous development program, accountants should also focus their attention on upskilling themselves on ESG matters through accessing available resources and training programs.

References

    1. https:www.accaglobal.commyenstudentexam-support-resources professional-exams-study-resourcesp7technical-articles massaging-the-figures.html
    2. https:www.accaglobal.comhkenstudentsaprofessional-skills masterclass-sustainability-reporting.html
    3. Accounting for Sustainability, IFAC, https:www.ifac.orgsystemfilespublicationsfilesIFACJ3441_Accounting_for_sustainability_FINALWEB.pdf
    4. Blackline. (2020). The six skills accountants need to survive the robot uprising. Blackline.
    5. Chalmers J., Cox E., Picard N., (October 28, 2021), The economic realities of ESG, https:www.pwc.comgxenissuesreinventing-the-future take-on-tomorrowdownloadsbpwc-2021-10-28-Economic-realities-ESG.pdfCooper C, (April 2020) Corporate sustainability and ESG: counting on accountants, In the Black, CPA Australia, https:intheblack.cpaaustralia.com.auethics-and-governance accountant-role-corporate-sustainability-msg
    6. Gould S, (December 2013) How Best to Respond to Ethical Challenges in Business, https:www.ifac.orgknowledge-gateway building-trust-ethicsdiscussionhow-best-respond-ethical-challenges-business
    7. Martin A., Steele F., (March 2010) Sustainability in Key Professions: Accounting http:aries.mq.edu.auprojectsaccountancySustainability_in_Accounting.pdf
    8. Recession-Related Risks, a Top Concern for Audit Committees, KPMG Audit Committee Institute Survey, 2008.
    9. Sustainability for accountants, https:www.publicaccountants.org.auresourcessustainability-for-accountantsTadros E, (October 2017) Appalling' audit quality could lead to next Enron: ASIC's Greg Medcraft, https:www.afr.comcompaniesprofessional-service appalling-audit-quality-could-lead-to-next-Enron-asics-Greg-medcraft-20171030-gzb5q2, Financial Review
    10. Things you need to know: sustainability reporting, https:www.accaglobal.comhkenstudentsaprofessional-skills masterclass-sustainability-reporting.htmlTho A. (November 2021) What COP26 commitments mean for accounting and finance, https:www.fm-magazine.comnews2021novwhat-cop26-commitments-mean-accounting-finance.html, Financial Management
    11. West M, (September 2018), Big Four: government’s binge on consultants goes ballistic, https:michaelwest.com.aubig-four-governments-binge-on-consultants-goes-ballistic
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