ANDAL, MARY GRACE L.

Corporate Governance, Business Ethics,

BS ACCOUNTANCY 2-A Risk Management and Internal Control

Case 1:

Steve Ramos owns apartment building in Baguio City, and. Tagaytay City. Each
property has a manager who collects rent, arranges for repairs and runs
advertisements in the local newspaper. The property managers transfer cash to
Ramos monthly and prepare their own bank reconciliations. The manager in Baguio
City has been stealing sums of money. To cover the theft, he understates the
amount of the outstanding checks on the monthly bank reconciliation. As a result,
each monthly bank reconciliation appears to balance. However, the balance sheet
reports more cash than Ramos actually has in bank. In negotiating the sale of
Baguio City property, Ramos is showing the balance sheet in prospective investors.

1.1 Identify two parties other than Ramos who can be harmed by this theft. In
what ways can they be harmed?

Answer: In this case, I have identified two parties who may be harmed as a result
of theft: the lender (bank) and the potential buyer (investor). Assuming that these
two parties are at risk of financial loss as a result of a fraudulent financial
statement. The act done by the Baguio City manager in covering the theft by
understating the amount of the outstanding check will have an impact on the asset
disclosure. Furthermore, I see it as a risk for investors who rely solely on financial
statements to decide whether or not to invest. As a primary user, the prospective
investor in Baguio City property is making a decision based on a false statement,
putting himself in a difficult situation and exposing himself to further losses. On the
other hand, the bank may be put at risk as a result of inaccurate and highly
manipulated bank reconciliation. Mr. Ramos appears to have more cash than he
actually has in the bank, according to the balance sheet. As a result, if the bank
granted a loan based on Mr. Ramos' ability to pay, there is a good chance that the
bank will suffer a loss if he fails to pay due to a lack of financial capacity. In this
sense, we can conclude that such financial statement manipulation has a significant
impact on the primary user group, which relies solely on such data to make
decisions.
ANDAL, MARY GRACE L. Corporate Governance, Business Ethics,
BS ACCOUNTANCY 2-A Risk Management and Internal Control

1.2 Discuss the role accounting plays in this situation

Answer: This sort of situation is extremely difficult to prevent, given that record
manipulation is evident not only in Mr. Steve Ramos' case, but also in any other
organization. In light of this, I am convinced that accounting plays a critical role in
developing an effective and up-to-date internal control system that can aid in
mitigating the risk of theft. In this case, I've noticed that the scope of managers'
responsibilities, which include collecting rent, paying repairs, and advertising, gives
them the freedom to commit such acts. Managers can use this situation to claim
repairs that never happened and overestimate repair and advertising costs. As a
result, an internal control system that can eliminate financial statement
misstatement is critical. Implying that accounting internal control procedures can
ensure that the balance sheet account balances are correct. The reconciliation also
helps management and other users detect errors because we can see who is in
charge of preparing the reconciliation and who reviews and approves it.
Furthermore, by requiring all checks to be signed by Mr. Steve Ramos rather than
the property managers, we can eliminate theft. This would enable him to keep track
of all expenses, thereby eliminating theft from these sources.

Case 2:

The Boeing Company, manufacturer of jet air craft is the defendant in numerous
lawsuits claiming unfair trade practices. Boeing has strong incentives not to disclose
these contingent liabilities. However, financial accounting standards require that
companies report their contingent liabilities.
ANDAL, MARY GRACE L. Corporate Governance, Business Ethics,
BS ACCOUNTANCY 2-A Risk Management and Internal Control

2.1 Why would a company prefer not to disclose its contingent liabilities?

Answer: A company like Boejing would prefer not to disclose its contingent
liabilities because it gives the impression that a potential liability may occur in the
future. Furthermore, disclosing contingent liabilities reveals a potential future
problem that could have a negative impact on the company's Statement of Financial
Position. Furthermore, such disclosure will limit a company's ability to attract
investors and lenders to borrow money now and in the future. Besides that, there is
a widespread belief that disclosing a lawsuit can seriously compromise its outcome.
If the plaintiff on the jury sees this information, they may interpret it as the
defendant admitting responsibility for the situation and expecting to lose the
lawsuit.

2.2 Describe how a bank could be harmed if a company seeking a loan did not
disclose its contingent liabilities?

Answer: A contingent liability, in general, exposes a company to risk. In this

regard, if a contingent liability is not reported, a bank may suffer because it will
assume that the company is at low risk. The bank simply believes that it is just right
to grant the company for the amount that it asks. The assumption of the bank will
lead to a loan grant with low interest rate and less complicated terms. Now the
difference in this case are, if the bank is aware that there is a non-disclosure of
contingent liability most probably the bank will think harder whether to grant the
loan or not. Moreover, if the bank has knowledge that the company has a contingent
liability and still push through with granting loans there will be adjustment with
regards to the interest rate and a more tightened terms of payment. Ultimately, the
worst-case scenario here is that the bank is in a very difficult position of potentially
losing funds because it lends money to a company that is experiencing financial
incapacity. The bank's decision would be flawed because it is based on incomplete
and misleading information.
ANDAL, MARY GRACE L. Corporate Governance, Business Ethics,
BS ACCOUNTANCY 2-A Risk Management and Internal Control

2.3 What is the ethical tightrope that each company must walk when it reports
its contingent liabilities?

Answer: A company must report contingent liabilities in accordance with GAAP and
IFRS. Having said that, it is critical to understand that contingent liabilities are
reported based on subjective judgment. It is crucial to highlight that a contingent
liability should not be reflected on the balance sheet if it is remote or has a less than
50 percent chance of occurring. Furthermore, any contingent liabilities that are
questionable prior to determining their value should be disclosed. Having all these
as a guide means that disclosure of contingent liabilities (if there is any) must be
done in good faith. In all means and ways possible, all companies must hold on to
this ethical tightrope, to always act in good faith in reporting contingent liabilities. It
should be a core value of a company to avoid misrepresenting complex situations by
exercising reasonable judgment, and distorting facts should never be an option.