Did anyone attempt the Management of earnings question?

There is a lot of queries on the meaning of earnings management. I think the question does mention that it’s the process of smoothing the profit/loss by the company, obviously to make the results and position look good to the market & shareholders. One of the many ways to do that is by reporting “below the line” i.e reserve accounting. As regards the question, by reclassifying financial asset to Available for Sale category, then this gains/losses pass through STGRL i.e accounted through reserves. By doing, the performance on ordinary activities will look better wth respect to key ratios. Hope that helps. But I still think I failed as it was a very testing and time pressured paper.

paulng is right….. It was actually that how reclassification of financial instruments allowed under IAS 32, can be used in “creative accounting”….. I THINK SO.

Possible answer for Q1b:
The candidates should discuss briefly the amendment to IAS 39 ‘Financial Instruments: Recognition and Measurement’ on 13 October 2008: “The amendment 1) permits an entity to reclassify non-derivative financial assets (other than those designated at fair value through profit or loss by the entity upon initial recognition) out of the fair value through profit or loss category in particular circumstances. 2) The amendment also permits an entity to transfer from the available-for-sale category to the loans and receivables category a financial asset that would have met the definition of loans and receivables (if the financial asset had not been designated as available for sale), if the entity has the intention and ability to hold that financial asset for the foreseeable future.”
Secondly, the candidates have to discuss how these rules could lead to ‘management of earnings, specifically, how the above 2 permissions affect the classification of gains and losses in the Statement of Comprehensive Income, i.e. profit or loss section or other comprehensive income section.
Of course, the amendment may attract earnings management theoretically, but the candidates have to discuss such possibility from a practical perspective. For example, what re the ‘particular circumstances’? What are the thresholds in measuring the entity’s intention and ability. Finally, how far will the comprehensive income statement give a clearer picture to investor in income of an entity.

Possible answer for Q1c:
The nature of earnings management:
Earnings management manipulates two directions for accounting, that is, borrowing income from the future through increase in current revenue and/or decrease in current expenses, and banking income for the future through decrease in current revenue and increase in current expenses. It could be achieved as a matter of accounting policy or as a matter of short-term application of accounting that will reverse. the former is done by a choice between conservative accounting policy, which yields expected ‘return on net operating assets’ greater than the cost of capital when operations add no value, and liberal accounting policy, which yields expected RNOA less than the cost of capital when operations add no value. The latter approach is a choice betwwen aggressive accounting and big bath accounting.

The incentive of earnings management:
(1) Is perceived as less risky by investors
(2) Makes it easier for analysts/investors to predict future earnings
(3) Assures customers/suppliers that business is stable
(4) Reduces the return that investors demand (i.e. smaller risk premium)
(5) Promotes a reputation for transparent and accurate
reporting
(6) Conveys higher future growth prospects
(7) Achieves or preserves a desired credit rating
(8) Clarifies true economic performance
(9) Increases bonus payments

Ethical?
The candidate should discuss it in light of the purpose of financial reporting and the financial consequences of earnings management (Don’t think that the finance manager must be ethically bad in earnings management. You can interpret it from the incentive above.)