• 10 Marks

CR – Nov 2018 – L3 – Q5b – Regulatory Framework and Ethics

Appraise the ethical issues arising from the email received by Peter Anokye regarding liquidity challenges and lease accounting implications in Nanton Ltd

You are Peter Anokye, a newly qualified accountant and have recently been appointed as the deputy financial controller in Nanton Ltd (Nanton). You report directly to the finance director, Maria Wakasu. Just last week, you received the following email from Maria.

“As you are aware, I have to present some financial information at the board meeting scheduled in two days’ time and I need your help. I should be grateful if you could give me some advice on this issue. I don’t know whether you heard the news that Mamprugo Ltd (Mamprugo), an important customer of ours, is having some liquidity challenges. I think it is a case of not being able to manage their working capital cycle effectively. I know the financial controller of Mamprugo well, and he has mentioned that they have approached Yendi Ltd (Yendi) for credit. Of course, if they are successful, we should have no problems in getting paid. Today, I have received a request from Yendi asking for a credit reference for Mamprugo. I think if you check their credit history you will find they were good payers. Do you think I should mention anything about the liquidity issue to Yendi?

As I mentioned to you yesterday, over coffee, the Chief Executive Officer (CEO) regards leasing as an important method of financing the company. However, you are probably more up to date with the existing accounting requirements than me. The current accounting standard has some significant deficiencies and no longer meets the needs of users of financial statements. On 1 January 2016, we entered into a sale and finance leaseback transaction with our bank. The arrangement involved the sale, at fair value, of a building for GH¢8 million. The book value of the building in the financial statements at that date was GH¢6 million. I know that the CEO is particularly concerned that showing the lease as a finance lease could be detrimental to any loan applications that we might make over the next twelve months. Between you and I, we need to keep him happy: my year-end bonus could be in jeopardy if we get this area wrong. In the medium term, I am worried about the implications of the introduction of IFRS 16: Leases, particularly the effects on the statement of financial position, statement of profit and loss and other comprehensive income, and our key financial ratios. Surely our gearing ratio will be higher. Maybe we can get round the problem of including leases on the statement of financial position by classifying some of them as short-term (i.e., less than twelve months).

Peter, I should be grateful if you could give me some advice on this issue.”

Required:
Appraise the ethical issues arising from the information provided in the mail sent by Maria, and propose and justify appropriate steps that Peter Anokye should take to address them.

  1. Confidentiality of Information (Mamprugo’s Liquidity Issues):
    • The email raises the ethical issue of confidentiality regarding the liquidity challenges of Mamprugo Ltd. Peter is being asked whether to disclose this information to Yendi Ltd, which is requesting a credit reference. Under the ICAG’s Code of Ethics, Peter should maintain confidentiality and not disclose any non-public information unless required by law or with proper authority.
    • Peter should advise Maria not to disclose the liquidity issues of Mamprugo to Yendi Ltd. Disclosure without proper authority or necessity could damage Mamprugo’s reputation and could be considered unethical.
  2. Integrity and Objectivity (Lease Accounting under IFRS 16):
    • Maria’s suggestion to possibly manipulate lease classifications to avoid showing them on the statement of financial position by classifying them as short-term leases (less than twelve months) raises serious ethical concerns regarding integrity and objectivity. This could be seen as an attempt to misrepresent financial information and deceive users of financial statements, particularly lenders.
    • Peter should explain to Maria that IFRS 16 requires the correct classification of leases and any attempt to classify leases incorrectly would be in violation of the standard and could result in penalties or reputational damage to the company. Peter must uphold professional integrity and ensure that the financial statements are true and fair.
  3. Pressure to Mislead (Impact on Bonus):
    • Maria’s comment that her year-end bonus could be in jeopardy if they do not handle the lease issue in a way that satisfies the CEO’s wishes suggests that she may be under pressure to mislead in order to achieve personal gain. This raises ethical concerns about self-interest and pressure to compromise professional standards.
    • Peter should resist any pressure to compromise his ethical standards for personal or organizational gain. He should advise Maria to prioritize ethical behavior and compliance with accounting standards over personal incentives.
  4. Gearing Ratio and Financial Reporting Transparency:
    • The concern over the gearing ratio increasing due to the new lease accounting standard highlights a potential attempt to manipulate financial ratios to present a healthier financial position to lenders. This could be misleading to stakeholders who rely on transparent financial information for decision-making.
    • Peter should emphasize the importance of accurate financial reporting and transparency. He should explain that while the gearing ratio may increase, stakeholders would prefer honest financial statements that comply with IFRS 16 rather than manipulated figures that could damage the company’s credibility.

Proposed Steps for Peter Anokye:

  • Maintain confidentiality regarding Mamprugo Ltd’s liquidity issues and advise Maria not to disclose this information without proper authority.
  • Ensure compliance with IFRS 16 and advise Maria to classify leases correctly in the financial statements. Any attempt to misclassify leases should be resisted.
  • Communicate clearly with the CEO and Maria that professional ethics and financial integrity must not be compromised, even under pressure related to performance bonuses.
  • Peter should document his advice and, if necessary, escalate the issue to a higher authority within the company, such as the audit committee, if Maria insists on unethical actions.
  • Peter could suggest holding a training session on IFRS 16 and its implications to ensure that all stakeholders, including the CEO, understand the importance of proper lease accounting.
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