Academic journal article Journal of the International Academy for Case Studies

Big Flicks Studio: A Case Analysis of Equity Structuring Policy and Earnings management.(Instructor's Note)

Academic journal article Journal of the International Academy for Case Studies

Big Flicks Studio: A Case Analysis of Equity Structuring Policy and Earnings management.(Instructor's Note)

Article excerpt

CASE DESCRIPTION

The primary subject matter of this case is an evaluation of the impact on earnings that can result from forming a separate subsidiary joint venture and the use of the equity accounting method. The main objective is to help students realize that there are various ways that management can adjust earnings to provide different outcomes with the same underlying business performance. Secondary objectives include helping students understand the nature and complexity of the structured finance decision and the various conflicting managerial motivations involved in such a decision. Students are also given an understanding of the market effects that may drive earnings management. The case provides a good example of the effects of the equity method of accounting and is suitable for use when presenting the equity method. This case is appropriate for an upper-division undergraduate financial accounting course, an accounting MBA or MAcc course or even a finance course. Level of difficulty would be four or five on a ten scale. The case is designed to be discussed in one and a half hours and should take students no more than two hours of outside preparation.

CASE SYNOPSIS

Corporate structuring has provided management with many opportunities to shape earnings. This case involves the evaluation of a joint venture for funding motion picture production and provides a means for students to see the impact of such a creation on earnings, while staying within the bounds of existing accounting rules. It also provides the instructor with the opportunity to discuss the market and ethical considerations involved in earnings management for a publicly traded firm. Actual situations and accepted practices used in the entertainment industry were used in the case design. Alternative financing choices are demonstrated that impact on the corporate bottom line. Specifically, at issue is whether to set up a joint venture as a basis for improving short-term earnings. Instructors may use this case to provide students with a basic understanding of the use of special purpose entities as a precis for a discussion of the Enron situation.

INSTRUCTORS' NOTES

RELEVANT STATEMENTS ISSUED BY THE FASB AND SEC

Both the FASB and the SEC have had many meeting and discussions on defining what is appropriate for disclosure of consolidated financial statements. The FASB currently has two exposure drafts that address consolidation issues. (Consolidation of Certain Special-Purpose Entities-an interpretation of ARB No. 51; and, Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Guarantees of Indebtedness of Others-an interpretation of FASB Statements No. 5, 57, and 107). . These interpretations attempt to clarify when an SPE should be consolidated. The FASB has also issued several standards regarding the disclosure of certain transactions. For example see SFAS No. 5, Accounting for Contingencies, SFAS No. 57 Related Party Disclosures, and SFAS No. 129, Disclosure of Information about Capital Structure. In addition, the FASB Emerging Issues Task Force (EITF) has issued 13 statements on off-balance sheet financing to help accountants determine the proper financial reporting of transactions.

The accounting literature regarding SPE consolidation is found in materials issued by the EITF: EITF No. 90-15, Impact of Nonsubstantive Lessors, Residual Value Guarantees, and Other Provisions in Leasing Transactions; EITF No. 96-21, Implementation Issues in Accounting for Leasing Transactions involving Special-Purpose Entities; EITF Topic No. D-99, Questions and Answers Related to Servicing Activities in a Qualifying Special Purpose Entity under FASB Statement No. 140, and EITF Topic No. D-14, Transactions involving Special-Purpose Entities.

The SEC is also seriously evaluating disclosure requirements. In a speech before the Committee on Banking, Housing and Urban Affairs, United States Senate, SEC Chairman Harvey L. …

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