The North Face Inc Accounting Essay

The northwesterly expect Inc Accounting EssayFinancial accountants and mugwump analyseors commonly face repugn technical and ethical dilemmas while carrying out their lord responsibilities. This case profiles an moderns report and fiscal reporting fraud orchestrated by the political boss monetary officer (CFO) of a major public companion and his subordinates. The CFO, who was a CPA, took total measures to conceal the fraud from his companys study committee and independent auditors. Despite those measures, the independent auditors identified suspicious entries in the companys accounting records that were a result of the CFOs double-faced scheme but did non properly investigate those items. Shortly in front the fraud was publicly revealed, a partner of the companys audit firm instructed his subordinates to motley prior year audit workpapers for the node to conceal improper decisions figure out by himself and his firm.HistoryHap Klopp founded uniting lay out in the mid-1960s to twisting up a ready source of hiking and camping gear.In 1970, North typesetters case began designing and manufacturing its own line of products after opening a miserable factory in nearby Berkeley.In 1980, North display case began sponsoring mountain-climbing expeditions crosswise the globe. And North Face became the only supplier in the United States to offer a comprehensive collection of richly- dressance outerwear, skiwear, sleeping bags, packs and tents.ChallengesSales product vs. Quality ControlBy the mid-1980s, North Faces overburdened manufacturing facilities could non gratify the steadily growing demand for the companys merchandise or maintain the high quality production standards established by management.New EraIn July 1996, a in the altogether management team took North Face public, itemisation the companys common stock on the NASDAQ deepen.The management team established a goal of reaching annual exchanges of $1 billion by 2003.Later when the a ctual revenues and profits of North Face failed to meet managements expectations, the companys chief financial officer (CFO) and vice president of sales booked a series of fraudulent sales achievements.Barter for Success at North FaceIn declination 1997, North Faces CFO Christopher Crawford negotiated a $7.8 meg sale of excess inventory to a avocation company in exchange for apportion impute.Crawford knew that the authoritative accounting literature mostly precluded the experience of revenue on much(prenominal) effects.Crawford, however, structured the dealings to recognize a profit on the trade credits.An Oral Side AgreementCrawford involve the trading company to pay a instalment of the trade credits in cash.To further obscure the true nature of the cock-a-hoop exchange transaction, Crawford split it into 2 parts.1. On December 29,1997, a $5.15 one thousand thousand sale recorded($3.51 million in cash $1.64 million trade credit)2. On January 8, 1998, the stay $2. 65 million portion of the barter transaction was booked.ConsignmentsIn the third and 4th quarters of fiscal 1998, Todd Katz, North Faces vice president of sales, arranged two large sales to inflate the companys revenues, transactions that were rattling consignments rather than fulfil sales.The first of these transactions involved $9.3 million of merchandise sold to a small, app arel wholesaler in Texas.Katz negotiated a similar $2.6 million transaction with a small California wholesaler a few months later.Erasing the asideRichard Fiedelman served for several years as the advisory partner for the North Face audit engagement and during early 1998 served for a brief time as the audit engagement partner.During the 1997 audit, the Deloitte audit engagement partner proposed an adjustment to change by reversal the portion of the $7.8 million barter transaction recorded in December 1997 because he realized that the profit could not be recognized on a barter transaction when the seller is give exclusively in trade credits.The Deloitte audit partner passed on the proposed adjustment since it did not pee a material effect on North Faces 1997 financial statements. mend supervising the review of North Faces financial statements for the first quarter of 1998, Fiedelman allowed the company to improperly recognize profit on a portion of the $7.8 million barter transaction booked in January 1998 for which North Face was paid exclusively in trade credits.During the planning phase of the 1998 audit, Fiedelman convinced the new audit engagement partner that the prior year workpapers were wrong and that the introductory audit partner had not concluded that it was not permissible for North Face to recognize profit on the 1997 portion of the barter transaction that involved strictly trade credits.As a result of Fiedelmans guidance, the new audit partner did not propose an adjustment to reverse the January 1998 portion of the barter transaction that had been approved by Fiede lman.Fiedelmans subordinates altered the 1997 workpapers to change the goal expressed by the 1997 audit engagement partner that North Face was not entitled to record profit on a sales transaction in which it was paid inherently in trade credits.ConsequencesThe moment sanctioned North Faces CFO, the companys vice-president of sales, and Richard Fiedelman for their roles in the North Face fraud.Questions1. Should auditors insist that their leaf nodes play all proposed audit adjustments, even those that have an immaterial effect on the given set of financial statements? Defend your answer.No.Clients are not prone to adopting auditors proposed audit adjustments, which forces auditors to abouthow determine on an aggregate base the impact that proposed and/or passed audit adjustments have on a clients financial statements. The most common reason for a client not to make a proposed audit adjustment is that the client disagrees with the need for the given adjustment.We dont necessit ate to see that audit engagements ultimately become a tug-of-war between client management and auditors over proposed audit adjustments.2. Should auditors take explicit measures to prevent their clients from discovering or becoming aware of the physicalness thresholds used on individual audit engagements? Would it be feasible for auditors to conceal this information from their audit clients?Yes. To the greatest termination possible, auditors should not provide clients with access to the critical parameters or facets of audit engagements, including materiality limits. concord to this case, the CFO used the materiality to subvert the integrity of the entire audit engagement.It is often not feasible to conceal information such as materiality limits from client military group.For example, auditors always have client personnel pull documents, prepare various schedules to which audit procedures will be applied, and perform another(prenominal) important audit-related tasks. In comple ting these tasks, client personnel butt often determine the auditors intent and/or the scope or materiality limit of a given audit test. Likewise, clients have access to the professional auditing literature and professional publications that discuss the general guidelines that auditors use in devising important strategic decisions during the course of an audit, including the selection of materiality limits for individual accounts or financial statement items.3. Identify the general principles or guidelines that dictate when companies are entitled to record revenue. How were these principles or guidelines violated by the $7.8 million barter transaction and the two consignment sales discussed in this case? agree to FASB 605 Revenue RecognitionRevenues and gains are realized when products (goods or services), merchandise, or other assets are exchanged for cash or claims to cash. Revenues are considered to have been acquire when the entity has substantially sueed what it must do to be entitled to the benefits stand for by the revenues.Generally, barter transactions in which a company receives trade credits in exchange for merchandise should be recorded at the fair value of the merchandises given up since the ultimate realizability or sparing value of the trade credits is typically not determinable at the time of the exchange. So, even though the exchange broker of the revenue perception principle is satisfied by such a transaction, the realized element is not necessarily satisfied, meaning that any profit on the transaction should be deferred. In the case at hand, there was clearly some question as to the fair value of the excess merchandise that was cosmos sold to the barter company. A conservative treatment of the transaction index have dictated that a loss or writedown of the merchandise was actually the most discriminate accounting treatment for the transaction.FASB 605-15-25 Sales of Product when full of Return Exists prohibits a seller from recog nizing revenue (or profit, of course) when the given customer roll in the hay return the product and the ultimate payment to be received by the seller hinges on the customer reselling the product. twain features of the revenue recognition restrain were violated by the decision of North Face to record the large consignment sales there was not a true exchange since the two customers did not pay for the merchandise and the given transactions were not finalized until the customers resold the merchandise, meaning that the realized requirement of the revenue recognition rule had not been satisfied.4. Identify and briefly explain each of the champion objectives that auditors hope to accomplish by preparing audit workpapers. How were these objectives undermined by Deloittes decision to alter North Faces 1997 workpapers?According to AICPA AU Section 339. 03, audit documentation serves mainly toa. Provide the principal support for the auditors report, including the re bring ination regard ing observance of the standards of fieldwork, which is implicit in the reference to generally accepted auditing standards.b. Aid the auditor in the conduct and supervision of the audit.Both of these objectives were undercut by the decision of the Deloitte auditors to alter North Faces 1997 audit workpapers.First, by modifying the 1997 workpapers and not documenting the given revisions in those workpapers, the Deloitte auditors destroyed audit evidence, evidence that show that the 1997 audit team had properly investigated the authoritative literature relevant to barter transactions and proposed an audit adjustment consistent with the requirements of that literature.Second, the alteration of the 1997 workpapers affected the decisions make on the 1998 audit. That is, the auditors during the 1998 audit relied on the apparent decisions make during the 1997 audit and then reached an improper decision on the accounting treatment that would be appropriate for the barter transaction recorde d by North Face in January 1998.5. North Faces management teams were criticized for strategic blunders that they do over the course of the companys history. Do auditors have a responsibility to assess the quality of the blusher decisions made by client executives? Defend your answer.Yes.Major strategic blunders by client management can create an environment in which client executives and their key subordinates have a strong incentive to distort their entitys accounting records and financial statements. More generally, the overall quality of top managements decisions affects the inherent risk present during a given audit.Event though assessing the quality of key decisions made by client executives is not often seen as an explicit audit procedure within an audit program, auditors need to be aware that the competence of top management and the wide-ranging implications of that competence to all facets of an audit.