Comprehensive Exam – Fall 2005 Master of Accountancy Program Instructions: There are four parts to this examination. You should allocate one hour for each question. Please put the answer to each question in a separate file titled with your name and the number of the part: John_Smith-Q1.doc (for example). Also include the number of the part and your name at the top of each file. Email a copy to me (firstname.lastname@example.org) and Amber (email@example.com). The time limit is 4 hours with a 15 minute maximum grace period. Balance your time wisely between the four questions since they are equally weighted. Make sure that all four files have arrived and are readable in Amber’s email before you leave. 1. Questions related to accounting information systems – answer all three. a. A noted accounting information system textbook author writes on the subject of accounting information system control goals that: “The first control goal, ensure effectiveness of operations, strives to ensure that a given operations process is fulfilling the purpose for which it was intended…. The next goal, ensure efficient employment of resources, can be evaluated in only a relative sense.” He goes on to state that these goals are likely to be in conflict with each other. Do you agree or disagree with his view? Why or why not? Be sure to cite examples to support your position. b. Consider this quote from a noted finance professional: “Choosing among renting, leasing, and purchasing a computer is strictly a financial decision and should be done by the finance staff.” Do you agree? Discuss fully. c. A noted accounting professional recently stated that” “There are enough software packages on the market today to preclude any organization needing to write another application program.” Do you agree? Explain your position. 2. The Securities and Exchange Commission is currently investigating pension accounting by major corporations, according to a Wall Street Journal article dated November 9, 2005 (Pension Inquiry Shines Spotlight on Assumptions by Deborah Solomon & Lee Hawkins Jr.). “The SEC … is probing whether companies had an eye on their shareholders, not their retirees, when they changed some financial assumptions in recent years …” Many assumptions (discount rate, expected return on plan assets, inflation rate for health care, etc.) are disclosed in the footnotes of companies' financial statements. “On their face, a company's choices are difficult for outsiders to challenge. While an interest rate may look high or low, a company always could argue it made a good-faith estimate. But the SEC is using its subpoena power to dig into the thought processes, to determine if the estimates were made in good faith -- or were results-driven.” For example, at GM, a 0.25% increase in the expected return on assets would lower the pension obligation by $220 million. According to GM’s own disclosures, a one-percentage-point increase in the health-care trend rate would increase its annual expense by $543 million and increase its liability by $8.4 billion. Use the various concepts you’ve learned (agency theory, information asymmetry, externalities, moral hazard, etc.) in your discussion of the following issues: a. Could empirical accounting research be used to determine whether post- retirement benefit assumptions were used to manage earnings? Describe at least two types of studies that might shed light on this topic. Be specific about how hypotheses might be tested. b. Given the extensive disclosures required under GAAP for pensions and other post-retirement benefits, do you believe that skewing the assumptions would be an effective earnings management technique? Explain. c. Explain why a firm’s manager might believe in securities market efficiency and also engage in earnings management. d. According to the article, the FASB may consider requiring companies to adjust a plan's assets and liabilities to "fair value," eliminating much of management’s ability to smooth earnings by biased pension assumptions. Would this “measurement focus” (to use Scott’s terminology) improve financial reporting for external users? How might the change affect the use of net income internally for management compensation and other contractual arrangements? 3. Sarbanes Oxley has changed the environment of auditing substantially. Discuss the following: a. What lead to the passage of Sarbanes Oxley? b. Name four major provisions of SOX and describe their essential content. c. How has SOX changed the environment of auditing? Be specific. d. How has SOX changed how a public company operates? e. How has SOX changed how private companies and not-for-profits operate? f. Describe at least one indirect effect of SOX that was probably an unintended consequence. 4. You are a staff accountant for a CPA firm and involved in the firm’s audit of a small publicly traded company called SwapMeet, Inc. This year, SwapMeet offered its current shareholders the right to double their holdings of SwapMeet capital stock at 5% below the market price on the date the deal was announced. About 40% of the stockholders chose to subscribe. Under the terms of the stock subscription agreement, they paid one- third upon acceptance, another third 120 days later, and the final third 240 days after acceptance. At the end of the year, the balance due (the final third) has been booked as an asset (Notes Receivable – Capital Stock) in the amount of $52,200,000 (a material amount). The due date is almost 4 months after the end of the fiscal year (and later than the date that the audit opinion letter will be issued). Under the terms of the agreement, the shares of capital stock are not issued and do not receive dividends until the amount owed is paid in full. Since the stock has not been completely paid for and does not earn dividends, SwapMeet ignored the unissued shares when it computed earnings per share for the year. SwapMeet has no outstanding options, convertible debt or convertible preferred stock. Its income statement presentation includes basic earnings per share. What problems do you see with SwapMeet’s handling of (1) the notes received account (2) and earnings per share? Provide citations to the authoritative literature but you should interpret the literature that you find on the subject rather than cut & paste long quotations from GAAP. Since you are a staff accountant, address your concerns in the form of a memo to the manager on the audit engagement, Mary Givins. No journal entries or computations are required. Do not invest more than one-hour in answering this question.
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