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Mystery Books Co.: Measuring Performance through Accounting Policy Choices
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Reference: IVEY-W27858-E
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Year: 2021
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Number of pages: 8
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Geographic Setting: United States
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Publication Date: Apr 12, 2022
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Source: Ivey Business School (Canada)
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Type of Document: Exercise
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Industry Setting: Information, Media & Telecommunications
Description
In January 2021, the co-founder of Mystery Books Co. (Mystery Books) was evaluating the company’s 2020 performance under the leadership of his daughter as the new chief executive officer. His daughter had ambitions of securing Walmart Inc. as a key client, so the co-founder had promised her an additional performance bonus of 5 per cent of his 30 per cent ownership of common stock if she grew the company’s net income by 20 per cent over the previous year. Throughout his thirty years of managing the company as chief executive officer, the co-founder had maintained very conservative accounting policies, some of which had been modified under his daughter's management. After reviewing the 2020 financial information, the co-founder harboured several concerns: Should he have specified more conditions for his daughter's performance incentive? Would the accounting policy changes pass the scrutiny of the company’s external auditors? And how should he proceed with regard to the suspicious sales activity he noticed? With these questions at the front of his mind, the co-founder of Mystery Books thought that perhaps he should have somehow left more reporting guidance for the company prior to leaving.
Learning Objective
This case can be used midway through a managerial accounting course at the undergraduate or graduate level. Students should have a basic understanding of accounting policy choices and generally accepted accounting principles (GAAP), and a familiarity with financial statements. After working through the case and assignment questions, students will be able to do the following:
- Explain how earnings management can inflate a company’s earnings performance without actual improvements in the business’s operating cash flows.
- Identify management’s motives for earnings management, and its implications on different users of financial statements.
- Analyze accounting policy changes that might arouse concern from stakeholders.
- Identify changes in governance and compensation structures that can be implemented to prevent financial statement manipulation.