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Copy of Ethics Challenge

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Yazmin Monique Reynaga

on 19 May 2014

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Transcript of Copy of Ethics Challenge

Chapter 2: Ethics Challenge
design by Dóri Sirály for Prezi
Solequin Corporation
Cristin Madison has recently been transferred to the Appliances Division of Solequin Corporation. Shortly after taking over her new position as divisional controller, she was asked to
develop the division's predetermined overhead rate for the upcoming year
accuracy of the rate
is important:
it is used throughout the year
overapplied/underapplied overhead is closed out to the Cost of Goods Sold at the end of the year.
Solequin Corporation (cont.)
To compute the predetermined overhead rate
Christen divided her
estimate of the total manufacturing overhead for the coming year
by the production manager's e
stimate of the total direct labor hours for the upcoming year
She took her computations to the division's general manager for approval but was quite surprised when he suggested a modification in the base.
Required: Step 1
Explain how shaving 5% off the estimated direct labor-hours in the base for the predetermined overhead rate usually results in a big boost in the net operating income at the end of the fiscal year.
Step 2 Response
The End
Cristin should discuss this situation with her immediate supervisor in the controller’s office at corporate headquarters. This step may bring her into direct conflict with the general manager of the division, so it would be a very difficult decision for her to make.
Group 1: Kurt B. Goette Carmen Kevorkian
Jonathan Jacinto Simon Liu
Kellan Karanzias Yazmin M. Reynaga

Thank You For Your Time
Solequin Corporation uses
direct labor-hours
in all of its divisions as the allocation base for manufacturing overhead.
Step 2 Response
Required: Step 2
Her conversation with the general manager of the Appliances Division, Lance Jusic, went like this:
C. Madsen
Here are my calculations for the next year's predetermined overhead rate. If you approve, we can enter the rate into the computer on January 1 and be up and running in the Job order costing system right away this year.
L. Justic:
Thanks for coming up with the calculations so quickly, and they look just fine. There is, however, one slight modification I would like to see. Your
estimate of the total direct labor-hours for the year
110,000 hours
How about cutting that to about 105,000 hours
C. Madsen:
I don't Know if I can do that. The production manager says she will need about 110,000 direct labor-hours to meet the sales projections for next year. Besides, there are going to be over 108,000 direct labor-hours during the current year and sales are projected to be higher next year.
L. Justic:
Cristin, I know all of that. I would still like to reduce the direct labor-hours in the base to something like 105,000 hours. You probably don't know that I had an agreement with your predecessor as a divisional controller to shave 5% or so off the estimated direct labor-hours every year. That way, we kept a reserve that usually resulted in a big boost to net operating income at the end of the fiscal year in December. We call it our Christmas Bonus. Corporate headquarters always seemed pleased as punch that we could pull of such a miracle at the end of the year. This system has worked well for many years, and I don't want to change it now.
Step 1 Response
Explain how shaving 5% off the estimated direct labor-hours in the base for the predetermined overhead rate usually results in a big boost in the net operating income at the end of the fiscal year.
Shaving 5% off the estimated direct labor-hours in the predetermined overhead rate will
result in an artificially high overhead rate
, which is likely to
result in overapplied overhead for the year
The cumulative effect of overapplying the overhead throughout the year is all recognized in December when the balance in the Manufacturing Overhead account is closed out to Cost of Goods Sold.
If the balance were closed out every month or every quarter, this effect would be dissipated over the course of the year.
Should Cristin Madsen go along with the general manager's request to reduce the direct labor-hours in the predetermined overhead rate computation to 105,000 direct labor hours?
(1/3) Focusing on the question
This question may generate lively debate.

Where should Cristin Madsen’s loyalties lie?
Is she working for the general manager of the division or for the corporate controller?

Is there anything wrong with the “Christmas bonus”?

How far should Cristin go in bucking her boss on a new job?
What Should Christen Do?

(2/3) Indisputable facts & Unreliable Data
The practice of understating direct labor-hours results in
inflating the overhead rate.
Effectively inflating the cost of goods sold figures in all months prior to December and overstating the costs of inventories.
(This is why, in December, the adjustment for overapplied overhead provides a big boost to net operating income.)
As a result, the "Christmas bonus" practice causes distortions in the pattern of net operating income over the year. Since all of the adjustment is taken to Cost of Goods Sold, inventories are still overstated at year-end. This means that retained earnings is also overstated.
Step 2 Reponse
(3/3) Moral Obligations and Responsibility
The Credibility standard states that
management accountants have a responsibility to “disclose all relevant information that could reasonably be expected to influence an intended user’s understanding of the reports, analyses, or recommendations.”
While Cristin is in an extremely difficult position, her responsibilities under the IMA’s Statement of Ethical Professional Practice seem to be clear.
Full transcript