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Corporate Governance and Ethics
1. (LO 1 – Corporate governance)
2. (LO 1 – Corporate governance)
3. (LO 2 – Internal control and COSO)
4. (LO 2 – Internal control and control environment)
5. (LO 2 – Internal control and control activities)
6. (LO 3 – Elements of ethics programs)
7. (LO 3 – Ethics)
8. (LO 4 – Stakeholder analysis)
9. (LO 4 – Responsibility to stakeholders)
10. (LO 5 – Codes of ethics)
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11. (LO 6 – Responses to ethics violations)
12. (LO 7 – Fraud)
13. (LO 7 – Fraud)
14. (LO 8 – The fraud triangle)
15. (LO 8 – The fraud triangle)
16. (LO 1 – Forces that shape corporate governance)
Student responses will vary.
17. (LO 1 – Corporate governance)
Students should not agree with this statement. One set of corporate governance
processes will not be appropriate for all companies. A company should tailor
governance processes to fit the particular circumstances.
18. (LO 2 – Internal control and control environment)
The control environment captures the attitude about internal control held by a
company’s owners and managers. The control environment is important because
it indicates how owners and management are likely to address control-related
matters and overall operational decisions.
19. (LO 2 – General authorization vs. specific authorization and Internal control)
General authorizations occur for recurring and routine transactions such as
inventory reordering, establishing credit limits for new customers and so forth.
Specific authorizations occur on a case-by-case basis as circumstances warrant.
Examples might include the purchase of a large and expensive production
machine or the granting of a special discount to a customer.
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20. (LO 2 – Information technology and risks)
Information technology has increased risks because a company is exposed to
more risks related to its reliance on technology. Examples of threats to a
company include unauthorized access to data, sabotage by employees,
customer impersonation, etc.
21. (LO 3 – Forces that shape corporate governance)
Student responses will vary.
22. (LO 4 – Stakeholder analysis)
A stakeholder analysis approach enables a company to identify important
stakeholders, understand their needs and the company’s responsibilities to those
stakeholders, and carefully evaluate decision alternatives while considering
social, ethical, legal and economic matters.
23. (LO 5 – Mission statement vs. corporate philosophy statement)
A mission statement asserts a company’s commitment to its various
stakeholders, while a philosophy statement outlines in broad terms the principles
that guide a company in its business activities.
24. (LO 5 – Purposes of codes of ethics)
Codes of ethics serve several purposes. First, they can reduce the likelihood that
matters of right and wrong will be left to individual discretion. Second, a code can
establish the tone for a company and instill in employees a sense of how to
behave in the absence of specific guidance. Third, a code can be a consensusbuilding tool for employees. Fourth, the code can convey the values and beliefs
that are important to a business.
25. (LO 6 – Response to ethics violations)
Fairness in a company’s response to ethical violations is important because
continuing employees may feel as though unfair treatment is overly harsh.
Excessive punishment, as perceived by other employees, can lead to resentment
within the workforce and can create a culture in which employees may adopt an
―us versus them‖ mentality.
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26. (LO 7 – Fraud)
Fraud is a false representation of a material fact made by one party to another
with the intent to deceive and induce the other party to justifiably rely on the fact
to his or her detriment. In a business context, fraud is usually considered to
include internal deceptions by management, the manipulation of financial data,
and the misappropriation of an organization’s assets.
27. (LO 7 – Definition of fraud)
Kiting is the improper recording of bank transfers between accounts. The result is
a temporary overstatement of the cash balance. The scheme is often used to
cover-up embezzlement or check frauds being conducted by an employee.
28. (LO 7 – Lapping)
Lapping is accomplished when cash received from one customer is applied to
another customer’s account balance. The process continues with later customer
cash receipts being applied to other customers’ account balances. The scheme
is used to cover-up embezzlement or check frauds being conducted by an
29. (LO 8 – The fraud triangle)
The fraud triangle consists of situational pressures and incentives, opportunities,
and personal characteristics and attitudes. Situational pressures and incentives
relate to the motivation for employees to commit fraud. Opportunities are the
conditions or circumstances that allow employees to commit fraud. Personal
characteristics and attitudes influence the psychological mind-set that employees
rely on to justify fraud.
30. (LO 1 – Corporate governance)
Corporate governance is embodied in the processes that companies use to
promote corporate fairness, complete and accurate financial disclosures, and
management accountability. In other words, corporate governance serves to
make management more accountable to employees, stockholders, and others
interested in the company. The company should embrace the processes that
improve its performance and its accountability to all of its constituents even
though it is a private company.
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31. (LO 1 – Corporate governance and internal vs. external forces)
One likely reason the company’s president is more concerned with internal forces
is that the company might be privately owned with little need to provide financial
information to external parties. Consequently, she may be more focused on
providing the necessary information to owners and other internal parties.
32. (LO 1 – Internal control procedures)
Management should implement additional monitoring activities over the
controller’s work performance. In addition, this situation may afford management
an excellent opportunity to realign some of the controller’s responsibilities in a
more effective way while simultaneously improving the company’s internal
33. (LO 2 – Internal controls in a technology intensive environment)
Dolly may face internal control risks such as protecting the privacy and security
of customer information, dealing with bogus customers, the destruction, alteration
and rerouting of data, denial of service attacks, etc. Sabotage by former
employees and by competitors is also a risk.
Internal controls which can reduce or eliminate the risks of e-business providers
include passwords to limit access to computer systems, firewalls to limit access
to networks by screening traffic and controlling access to critical information,
encryption of data so that it is readable only by persons with a decryption key,
using a separate server for critical data, shutting off computers during nonbusiness hours, and using up-to-date technology.
34. (LO 2 – Five elements of internal control)
The five elements are:
Control environment – Owners’ and management’s attitudes and general
philosophy about internal control and accountability are evidenced by
company policies and procedures. Collectively these policies and procedures
represent the control environment.
Risk assessment – A company should take steps to identify and evaluate risks
that can adversely affect its ability to successfully conduct business.
Constantly changing economic, industry, regulatory, and operating conditions
make it necessary for management to regularly assess risks posed by those
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Control activities – Control activities are comprised of a company’s policies
and procedures that aim to reduce risks identified by the company. These
activities commonly relate to segregation of duties, transaction authorization,
safeguarding of assets, and independent reviews of work.
Information and communication – The information and communication
component of internal control relates to the company’s accounting information
system, which is used to initiate, record, process, and communicate the
company’s transactions to managers via performance reports and
stockholders and others through financial statements.
Monitoring – A company should periodically assess the effectiveness of its
internal controls. The periodic assessments relate to both the sufficiency and
performance of internal control systems.
35. (LO 2 – Internal control systems and procedures)
The controller should confirm her understanding of the company’s policy
regarding expense reimbursement. She may ask Cindy for copies of receipts if
that is appropriate. If there is no such requirement, Lori should consider
suggesting to management that such a policy be implemented to keep
employees from padding their expense reimbursements.
36. (LO 2 – Internal control systems and procedures)
Warren’s comment does not sufficiently describe the nature of an internal control
system, its purpose, and what a good internal control system encompasses.
Balanced books are not an indicator of good internal controls. Balanced books
do not, for example, indicate that transactions were recorded properly and
completed with proper authorization. For example, recording a fraudulent sale on
account will still balance the books although both revenue and assets will be
37. (LO 2 – Internal control policy)
Such a policy establishes an environment in which conflicts of interest are
carefully monitored. This should make employees more aware of the potential
for conflicts of interest.
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38. (LO 2 – Internal control procedures)
Without the use of statements sent directly to customers for past due amounts,
salespeople could simply pocket any money collected without reporting the
collection from the customer. The use of statements would improve control over
the collection of accounts receivable because the statements would be reviewed
by the customers who could verify information such as invoice numbers, date of
delivery, price and credit terms and, most important, any previous payments
made on the account. Ideally, the responsibility for collections should be
segregated from the sales function.
39. (LO 2 – Internal control weaknesses: segregation of duties)
The primary weakness is poor internal control over cash, caused by a lack of
segregation of duties. The bookkeeper records payments on account, makes the
bank deposits, controls the cash, prepares the bank reconciliation, disburses
funds and records other transactions in his/her duties as bookkeeper. If at all
possible, some of these duties should be reassigned to other personnel so that
the same person does not record cash transactions and handle cash. If this is
not possible, at a minimum bank reconciliations should be prepared by another
person, customer account balances should be verified, two signatures should be
required on all checks, and an inventory count should be performed routinely by
someone other than the bookkeeper.
40. (LO 3 – Internal control systems and procedures)
Although the tickets and refreshments seem like a nominal favor, one could
question whether Heather’s receipt of the freebies constitutes a conflict of
interest and undue influence. Heather might use her position as vice-president to
circumvent credit union policies in favor of those providing the tickets and
refreshments. This would be an example of erosion of the internal control
41. (LO 4 – Stakeholders)
The primary stakeholders include the employees at the local manufacturing
facility, suppliers who might be affected by the transfer of production, the local
community and the community to which the company is thinking of relocating
some of its manufacturing, government agencies such as the unemployment
commission or group responsible for paying unemployment benefits to displaced
workers, and possibly a union if the company’s employees are unionized.
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42. (LO 5 – Codes of ethics)
Madge might suggest that the code of ethics really serves multiple purposes. A
well-written code of ethics can reduce the likelihood that matters of ―right and
wrong‖ will be left to individual interpretation. Of course, a company must take
care to avoid leaving employees with the impression that behaviors not
specifically prohibited by the company’s code are permitted. A code can establish
the tone of the business environment and instill in employees a sense of how to
behave even in the absence of specific guidance. A code of ethics serves
business interests because unethical behaviors increase the likelihood of
government or media scrutiny along with potential legal or reputation costs. A
code of ethics also serves as a consensus-building tool that employees can look
to for guidance when they believe improper demands are being made of them.
Lastly, a code of ethics can be useful in conveying values and beliefs that are
important to a company’s management or owners. That is, a code can explain
the company’s reason for being.
43. (LO 6 – Ethical behavior and communication)
You would likely be concerned that the unethical behavior of the former
employees was not clearly inappropriate. That is, if the company were to tell
employees about the inappropriate behavior then employees would be less likely
to engage in such behavior in the future. By communicating clearly with the
other employees, the company can clearly establish boundaries for acceptable
behavior and explain the consequences for engaging in unacceptable behavior.
44. (LO 7 – Definition of fraud)
Fraud is generally defined as a knowingly false representation of a material fact
made by a party with the intent to deceive and induce another party to justifiably
rely on the representation, to his or her detriment. You should note the two
critical elements of this definition—knowledge and intent. Because most business
decisions are risky and can have unintended consequences the law defines fraud
in this way. Otherwise, stockholders could claim that managers had defrauded
45. (LO 7 – Types of fraud)
Fraudulent financial reporting is the intentional misstatement of or omission of
material, very significant, information from a company’s financial statements. This
type of fraud is often called management fraud because it generally requires
management’s active involvement. Misappropriation of assets involves the theft
of a company’s assets. Usually these frauds are committed by lower level
employees and involve small amounts that do not have a significant impact on a
company’s financial statements. The types of fraud differ on two primary
dimensions: their potential impact on the financial statements and the likely
parties that commit them.
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46. (LO 8 – Causes of fraud)
b. situational pressure and incentive
c. personal characteristic and attitude
d. personal characteristic and attitude
f. situational pressure and incentive
47. (LO 1, 2, 3, and 5 – Fraud, internal control procedures and ethics)
A. Middle managers often are faced with situational pressures related to meeting
performance goals and may face economic pressure, which make fraudulent
activity more likely. In addition, middle managers may have more opportunity
for fraudulent behavior than either high level managers or lower level
employees. Good internal controls can reduce opportunity. Formal codes of
conduct can make employees at all levels more aware of their ethical
responsibilities. Changing the reward structure can reduce situational
B. Student responses will vary, but will likely include some discussion of the
need to establish sound corporate governance practices and an awareness of
the importance of ethics in business.
C. A company’s commitment to fraud is likely evidenced to middle managers
through two primary mechanisms. First, the company is likely to have a well
established ethics program with the necessary elements such as a code of
conduct, ethics training, and an ethics hotline. Second, such a company will
also likely have carefully designed internal controls procedures to provide
oversight of employees and create necessary accountability.
D. This is a difficult question to answer. If the company had a code of ethics,
then it is possible that managers would be ―on notice‖ that the company is
committed to a certain standard of behavior. On the other hand, many
companies that have codes of ethics also have employees who engage in
fraudulent behavior. Essentially, a code of ethics is only as effective as the
company wants it to be. If the company treats violations seriously, then the
code is more likely to be effective at encouraging ethical behavior.
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48. (LO 2, 3, and 4 – Risk and ethics)
A. Failure to comply with applicable laws and regulations could result in fines
and possible court action and severe penalties for the company. This could
lead to loss of jobs and closure of the company altogether. Owners and
management could be held criminally and civilly liable, punished financially
and possibly given prison time.
B. Student responses will vary, but should include investors, employees,
members of the local community, government officials, and government
49. (LO 2 and 8 – Fraud and internal control procedures)
A. The store needs better controls over cash and inventory. Electronic
surveillance of cash registers and inventory would be useful. The use of bar
codes on inventory would be helpful. Authorization of sales returns should
be made by someone other than sales clerks with access to the cash
register. Supervised cash counts should be made. Perpetual inventory
records should be kept up to date and verified periodically.
B. Student responses will vary.
50. (LO 3, 6, 7, and 8 – Fraud and ethics)
A. No, Terry did not act appropriately.
B. It is unclear whether Terry truly intended to deceive others within the
company. She may have because she wanted to ―make her friend look
better.‖ On the other hand, she may have simply concluded that there was an
accounting error. If that were the case, then Terry should have spoken with
her friend and made some inquiries regarding the increase.
C. It is not clear whether Terry committed fraud. There are two basic
requirements for fraud to have occurred. First, Terry must have knowingly
made false representations. Second, she must have intended to deceive
someone. The facts as presented do not allow us to conclude whether Terry
either knew of the falsity of the information or intended to deceive others.
D. Terry should have reviewed and recalculated the figures used to prepare the
production report and investigated any variances using appropriate
techniques and personnel. Terry might also have compared Tracy’s product
costs to costs incurred in previous periods to see if any other unusual
fluctuations had occurred in the past. Terry could also review the data of the
other product lines for accuracy and reasonableness and to see if their costs
were higher this period.
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51. (LO 1, 2, 3, and 5 – Corporate governance, ethics and internal control)
A. Private and public companies benefit from internal control. Both types of
companies are concerned with employees following established policies and
procedures, complying with laws and regulations, and generating accurate
and complete financial statements. So, internal control is equally important to
both private and public companies.
B. As Janco will operate in a more technology intensive environment, the
company should take steps to limit access to data and applications to
authorized employees only, ensure proper training of employees on the use
of the ERP system, and consider emerging risks such as those related to
Internet commerce and changes in technology. Of course, the company will
have to consider many more issues based on the specific elements and uses
of the ERP system.
C. Gordon is aware of the need for stronger internal control at Janco, a positive
sign for the company. Given his scientific background it is likely that he can
be persuaded of the benefits of establishing policies and procedures for
employees to follow. In addition, his scholarly background is also likely to
have sensitized him to the need for research ethics. This understanding can
be leveraged to develop an ethics program for Janco.
D. Janco should establish an ethics program for the same reasons that many
companies establish such programs. For example, ethics programs
communicate management expectations about behavior and conduct. Ethics
programs also formalize a company’s approach to conflicts of interest and
establish procedures for addressing conflicts that arise. Finally, the federal
sentencing guidelines call for reduced penalties for companies that have
established ethics programs when the company or its employees violate
various federal laws. Janco should consider utilizing all elements of an ethics
program. At the very least, a code of ethics should be developed. Ethics
training would probably be beneficial as well given the immature state of the
company’s corporate governance system. Finally, the company should also
establish procedures for employees to register complaints about unethical
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Group and Internet Exercises
52. (LO 1, 2, 3, 6 and 8 – Fraud and ethics – internet search)
Student responses will vary based on the company and the fraud selected.
Instructors may wish to assign certain companies to various groups to obtain a
more diverse group of assignments.
53. (LO 3 and 5 – Ethics programs and codes of ethics – internet search)
Student responses will vary