Alex Rembol is the CEO of Antura Corporation, a company that manufactures and sells contact lenses, lens cleaning and wetting solutions, and other miscellaneous eye care products. Alex's annual bonus depends on meeting a profit target of $6,500,000,but late in the fourth quarter the CFO brought Alex the bad news that, based on current orders, it appeared that earnings would be closer to $5,500,000.To deal with the situation, Alex and the CFO decided on the following strategies:
1. The company has firm orders for $2 million of merchandise to be delivered in January and February of next year (the company's fiscal year ends on December 31).
Alex proposes that the goods be shipped in December to a warehouse where they will be held until required by customers. Customers will be billed in December and receive a special 15 percent discount for accepting ownership upon shipment to the warehouse. Antura will pay for storage and insurance until the goods are actually delivered to customer locations.
2. The company had taken a $6 million restructuring charge in the prior year with cash payments of $2 million and a $4 million reserve. Alex and the CFO have decided that the cost of the restructuring was overestimated and, accordingly, $1 million should be taken back into income (with a corresponding reduction of the reserve) in the current year.
3. The company has a claim against a shipping company that had an accident on Highway 5, destroying $1,200,000 of Antura's merchandise. The shipping company claims it is not at fault and that liability relates to the driver of another vehicle who, unfortunately, did not have insurance. At this point, ultimate collection of the claim is not clear. However, Alex has directed that a receivable for $1,200,000 be recorded along with a reduction of current-period expenses.
Required:
a. Do you believe that the three strategies constitute manipulation of earnings?
b. Comment on why a comparison of net income versus cash flow from operations may reveal that these actions were undertaken.
c. Do you consider the three strategies to be consistent with ethical business behavior?