Part 2: Plant Assets Managers of publicly traded companies are under constant pr
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Question
Part 2: Plant Assets
Managers of publicly traded companies are under constant pressure to meet or exceed Wall Street analysts' earnings projections from stockholders and creditors, so that stock prices will increase and thus the value of stock options will be increased. Some corporate officials turn to earnings management practices in order to artificially achieve the desired results. Answer the following questions in regard to these practices: Is changing depreciation methods for plant assets an effective tool for managing earnings? Explain.
References: References and citations should be formatted using current APA guidelines for style and formatting.
Explanation / Answer
Yes, changing depreciation methods for plant assets is an effective tool for managing earnings. A company can change its depreciation method from an accelerated method to a method that will lead to lower annual depreciation charges. This will help the company to shore up its earnings.
A company has to adhere to certain rules when changing the depreciation method. For instance the company should provide a clear justification as to why the depreciation method is being changed and why the new method is preferable.
When depreciation methods are changed so that lower amount of depreciation is reported every year then the financial reports will present an overly positive view of the company’s business activities. For example if a company is using double declining balance method of depreciation and decides to shift to straight line method of depreciation then it will lead to lower amount of depreciation per year. This will result in a higher level of profits for the company, than otherwise would have been reported if it had used double declining balance method.
Reference:
Popular earnings management techniques. Retrieved from http://www.swlearning.com/pdfs/chapter/0324223250_2.PDF