Accounting Mirrors and Representation of Economic Reality

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9th Jun 2020 Business Assignment Reference this

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A representation is a thing which is recognized as standing for another job. Representation resembles “reality.” It takes excellent features of the world and presents them as a constructed “version of reality.” According to (Cooper 1992), representation translates the world in particular ways Abbreviation, Displacement, and Remote Control. In accounting the information of a company can be represented as “Classification and recording of the monetary transaction of an entity in accordance with established concepts, principles, accounting standards, and legal requirements and their presentation, by means of income statements, balance sheets and cash flow statements, during and at the end of an accounting period” [CIMA], 2005.  The representation allows the organizations to extend beyond their limitations in space and time. Accounts are kept, and financial reports produced by rules that have become formalized/codifies into internationally adopted quality standards. The reason of these financial reports is to give detail data to the investors to make financial decisions on in the case of investing their money in. Young (2006) stated that the development of the financial statements is essentially founded on the requirement and decisions of the users. To put it, the decision usefulness (Young, 2006) is the focal point of financial accounting. In any case, a few organizations may display their financial accounting statement with false data, and the outcome can lead the investors into wrong path, as the investors thought that the business is thriving. So, it is ideal for the organizations to carefully check their financial statements to limit the fraudulent misstatement from occurring. This would be the accounting scandal; the black hole of Patisserie Valerie is one vivid example. Coming to Patisserie Valerie case where the company shares, and its parent’s company holdings were suspended due to a discovery of a black hole in the company accounts of more than £20 million is due to the lack of internal control and the negligence of the auditors which eventually leads to this fraudulent incident.

Further reports express this was because of the accounting irregularities, rupturing of money related exposure measures just as colossal material misstatement in the organization’s records drives the organization to confront a noteworthy shortfall between its detailed financial status and the current financial position of the business. Kukreja and Gupta (2016) referenced that the association needs to receive the corporate administration culture. With the help of the internal control framework, the organization can anticipate false accounting problems and recognize accounting errors at the earliest opportunity.

Chris Boxall, portfolio manager and one of the Patisserie Valerie’s stock owner, in his interview and mentioned that “Reality looks good – clearly something was going on. I do not think cash can lie, but accounting can!” A faithful accounting representation is complete and objective and should cover detail information in the financial report, such as the operations, cash flow, and so on. Patisserie Valerie failed to monitor and control the accounting representations in a proper way and failed to express the reality. It is believed that accounting expressed the objective economic reality, especially the financial position of a company. “The relationship between accounting mirrors and the economic reality is unidirectional, reflecting or faithfully reproducing relationship” Hines (1991). Hence the accounting mirrors and measures the economic reality on the other hand. Overall, accounting representation mirrors the features of faithfulness, correspondence, and objectivity in economic reality. On the other side, the objectivity of the financial accounting is built on the transactions and trading, which would only raise the interests of the investors which were not taken into consideration. So, the faithful accounting representation is not compatible with the economic reality, because the process of identifying the value is subjective.

Concept of accountability in business organizations

Accountability is how individuals and organizations are held to account for their actions. McGrath and Whity (2018) characterized “accountability” as the obligation of people and associations for ensuring an errand that is finished in a satisfactory manner. Though some contends that accountability includes a commitment to respond in due order regarding one’s decision and actions when authority to act on behalf is transferred from one party to other

“The practice of accounting institutionalizes the notion of accountability; it institutionalizes the right of some people to hold others to account for their actions.” [Roberts & Scapens (1985: 447-448)]. Standard costing and budgeting which are used as a tool of accountability, accounting standardizes accountability in the way of first reconnaissance monitoring; at the point, people are held accountable for their performance by attempting to clarify and ultimately increase it. It tries to utilize accountability as a method for expanding proficiency inside the organization.

Accountability is classified into two different forms, i.e., Hierarchical relation where the people who govern hold the governed accountable and Socializing form of accountability which lies between those at the same level as professionals, managers, with external experts and work teams. Hierarchical form of accountability, which “serve to produce and reproduce and individualized sense of self” and socializing form which “flourish in the informal spaces of organizations and which confirm self in a way that emphasizes the interdependence of self and others” Roberts (1991). Both forms of accountability have a distinct effect on the relationship of actors within the organization. In the hierarchical form, ranking and performance measures were used to value the performance of the organization and measured according to what is perceived as ideal. Also, hierarchical form affects the relationships of actors in the way of what Roberts describes as individualization. By this, the person will not be able to show their uniqueness but tries to perform in a way which the employer considers as ideal and without considering the values of the organization.

On the other hand, the socializing form works on the interaction between the actors. In this form, individuals are encouraged to interact with other people, being active, and getting to know what is happening in the organization through sense-making talks. Where in hierarchical difference are not resolves as the top-level opinions have a higher value than others?

In Patisserie Valerie fraud, the hierarchical form of accountability is used, as someone who is on the top (Chief Financial Officer, The Chairman, Chief Executive Officer) monitors the performance of those people who are below them.

Who is accountable for the company’s misstatement?

From the above discussion, we figure out that the Patisserie Valerie’s chain lies within the hierarchical form of accountability. Since different people were involved in this case, and the case is still under investigation, I will try to identify the parties who are accountable for the company’s misstatements.

Patisserie Valerie has commented on this case and claims that the fraud involved “manipulation of balance sheet and profit and loss account” and “thousands of false entries” in its ledgers, but more details were not provided. In the report which is taken on by PwC for the accounting, irregularities include five names and supplier who gave them fake invoices. Luke Johnson, the chairman of this café chain and who owns 37% stake, was not one among those five people. BBC News gave us the information that the chain has raised £25m in total that is £10m injections were from Luke Johnson who helps the chain to survive and continue its businesses and the chain the other £15m by issuing the new shares. However, I believe that he should be accountable. Even though he owns 37% of the business, it is his responsibility to detect the accounting misstatements, which turns a £24m profit in to -£10m in just one day. In Sunday Times, Mr. Johnson ironically wrote an article on how to prevent fraud in the business, but let his company go bankrupt.

Grant Thornton LLP will be examined next to check if they are accountable for this misstatement or not. David Dunkley, who is the chief executive of Grant Thornton, stated that he did not look for fraud when carrying out audits which angered competitors and MPs. Labour MP Peter Kyle stated that “if an audit company is not picking up of fraudulent, what is the point of audit in the first place.” However, Bonney believes that it would require several months of misrepresentations in the ledger accounts to the amounts of cash. So, if this fraud is sophisticated, then we cannot blame audit team, but if it was not as sophisticated as David Dunkley thinks and if the audit team fails to investigate further then it will be their fault as well.

Finally, from the brief discussion of the Patisserie Valerie case from the BBC news, Chris Marsh the chief financial officer of the company was arrested under the suspicion of fraud but got released on bail without any charges and was later suspended from his role. Usually, CFO is responsible for rectifying this kind of fraud and protecting the company. Instead, without shareholder knowledge, millions worth of shares were given to both CFO Chris Marsh and CEO Paul May (Skouling, 2008).

From the above, I conclude that it is hard to point out whose is responsible for this fraud, but we can say that these are the people who should be responsible for detecting the misstatement and preventing from happening.

Accounting Control Systems

Control is a system whose purpose is to point out the mistake, rectify them and prevent from recurring” Fayol (1949). Recent finding and researchers demonstrated that the control framework is known as the adequate way to deal with the efficiency and adaptability in an organization. Cybernetic control is one of the widely recognized since the model delivers productivity in organizations (Brownell, 1987). Just with the standardized techniques, enforced usage, and best collaboration, the efficiency can be guaranteed (Taylor 1911). Taylor

figured out how to make managers begin focusing predominately on efficiency, and this influenced the advancement of accounting control frameworks throughout the years.

Standard costing was presented in the early years of this century and depended on the principle that expenses can be controlled; with the goal that directors efficiently and scientifically know the value of any item manufactured. Miller and O’Leary (1987) proposed that standard costing formed a standardized mean to track down the costs of the items in production. They additionally contended that standard costing and budgeting gave a method of expressing in money terms the commitment of people to the aggregate proficiency of the enterprise. Afterward, Cybernetic control was introduced in the 1960s and has been generally connected with conveying efficiency in mechanism organizations (Brownell, 1987) by standardized procedures, routines, operations, and estimating system performance. It happens when a shut system manages itself utilizing a feedback loop.

In light of the above theoretical literature, Armstrong (2002) introduced the system of activity-based cost management. In this activity-based management model, the staff time and hardware utilization are recorded. Consequently, activity-based costing is utilized to trace the production activity and its indirect costs to control these expenses. Under this situation, staff action would be compelled to lessen with routine administration as it were. Managers extreme focus on ‘efficiency’ had prompted the circumstances that the employers focus on the short-run cost, profitable activity is lost, eventually leading to long-term negative impact.

Understanding and Implementation of control

Accounting control is the combination of strategies and methods that are actualized by a firm to help guarantee the legitimacy and precision of its financial statements. The accounting controls do not assure consistency with laws and rules, yet instead, are intended to empower an organization to go along. Among this, internal control turns into a valid judgment in an organization. Internal control not only covers the issues concerning financial accounting and the practices of the auditors yet, besides, administrative requests and business operations in general (Power, 2004). A sound control system would be an acceptable means to crisis management for accounting practitioners and researchers. The technique which is used by the organizations to execute policies and procedures to discover financial risks in business activity and to anticipate the risk from reoccurring is referred to as Risk control. In good governance and management, organizations would be able to recognize the risk ahead of time. With the assistance of risk control management, it would be easier for the accounting practitioners and researchers to avoid financial risk by illustrating the risk management plan and providing favorable feedback.

Coming up next are pieces of advice in the implementation of the risk control management plan, which the accounting practitioners and researchers can take: 1) Organizations has developed a new framework called the check and balance system where several shareholders will be able to monitor and control the financial transactions. All the receivables, expenses and purchases are constrained by an authorized individual who will directly report to the check and balance system on a day-to-day basis (Vasile & Croitoru, 2012); 2) More consideration should be given by the top management to the bank reconciliation, where deposits and withdrawals are investigated on a monthly basis. By giving more attention to the bank reconciliation statement, it would be easier to distinguish the fraud if there is any misrepresentation in an organization, the balance appeared in the bank would reveal distinctive information. At this point, when misrepresentation occurs, it is conceivable that the organization does not have precise internal control to verify financial transactions. In this way, it is critical to welcome an independent party out of irreconcilable circumstance to do the bank reconciliation; 3) The responsibility of verifying the financial transactions lies within the top-level management. At the point when a transaction occurs, it is essential to ensure any transactions are recorded and able to find the key individual who is responsible (Vasile & Croitoru, 2012).

References

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  • Fayol, H. (1949). General and Industrial Management. New York:  PitmanPublishing.pp.107–109.
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  • https://www.youtube.com/watch?v=_ikLT7BwWoE
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