The North Face Inc Synopsis Accounting Essay

In the winter months, you will frequently happen college pupils have oning windbreaker, slipovers, or long-sleeved jerseies that sport the North Face label. Over the past four decennaries, North Face has established itself as a taking provider of dress for “ run-of-the-mine ” out-of-doorss “ types. ” The company besides markets a broad scope of dress and featuring cogwheel for more adventuresome psyches including mountain climbers, white water madcaps, ski rotters, and the similar.

Despite North Face ‘s prominence in the two markets that it serves, the company has had an “ up and down ” history. Assorted faux pass made by the many direction squads that North Face has had over the old ages have resulted in inconsistent operating consequences and subjected the company ‘s executives to public ridicule. During the late ninetiess, a concern periodical included North Face among the five “ worst-managed ” corporations in the United States. A few old ages subsequently, North Face ‘s executives were crimson one time more when the Securities and Exchange Commission ( SEC ) revealed that the company had embellished its reported operating consequences.

This instance examines the accounting catchs North Face executives used to heighten the company ‘s grosss and net incomes. These catchs chiefly involved misdemeanors of the gross acknowledgment regulation for certain swap and consignment minutess arranged by the company ‘s main fiscal officer ( CFO ) and vice-president of gross revenues. Deloitte served as North Face ‘s hearers during the period when the company ‘s operating consequences were manipulated. The SEC ‘s probe revealed that forces of the outstanding accounting house altered North Face ‘s audit workpapers to hide a critical judgement mistake made by a Deloitte audit spouse.

The North Face, Inc.-Key Facts

1. North Face was founded in the mid-1960s by Hal Klopp who wanted to supply a beginning of high-quality hike and bivouacing cogwheel for devouring outdoorsmen-and outdoorswomen.

2. A new squad of executives that took over control of North Face in the mid-1990s failed to run into aggressive gross and net incomes ends they had established for the company.

3. To hide the company ‘s existent operating consequences, North Face ‘s CFO and vice-president of gross revenues recorded a series of deceitful gross revenues minutess.

4. In December 1997, North Face ‘s CFO negotiated a big deceitful swap dealing to “ pump up ” the company ‘s grosss and net incomes for both that twelvemonth and the undermentioned twelvemonth.

5. In late 1998, North Face ‘s vice-president of gross revenues arranged two big minutess with little jobbers, minutess recorded as consummated gross revenues although they were really cargos.

6. Deloitte served as North Face ‘s independent hearer during the clip frame that the company ‘s operating consequences were being misrepresented.

7. During the 1997 North Face audit, the Deloitte audit battle spouse documented in the client workpapers that the company had improperly accounted for the big swap transaction-although he ne’er discovered that the dealing was deceitful.

8. That audit spouse proposed an adjusting entry for the barter dealing but so “ passed ” on the accommodation after reasoning that it had an immaterial impact on North Face ‘s fiscal statements.

9. The person who became the North Face audit battle spouse in early 1998 allowed the company to improperly account for that part of the big swap dealing recorded in January 1998.

10. This 2nd spouse so instructed his subsidiaries to do undocumented alterations in the 1997 audit workpapers to hide the fact that the old audit spouse had contested North Face ‘s accounting intervention for the 1997 part of the barter dealing.

11. The SEC sanctioned the two North Face executives who had masterminded the fraud and the Deloitte spouse who had instructed his subsidiaries to do the undocumented alterations in the 1997 audit workpapers.

12. In May 2000, North Face ‘s disruptive history as a public company ended when it was purchased by VF Corporation, the universe ‘s largest dress company.

Instructional Aims

1. To show the demand to document each of import determination made during an audit battle in the audit workpapers and to keep that certification for the benefit of future audit engagement squads.

2. To show the demand for hearers to thoroughly investigate questionable or leery minutess and to non trust entirely on a co-worker ‘s sentiment sing the proper intervention of such minutess.

3. To let pupils to discourse the application of the gross acknowledgment regulation to nonstandard gross revenues minutess.

Suggestions for Use

The importance of keeping the unity of audit workpapers and other audit-related certification is the cardinal subject of this instance. See holding your pupils discuss the undermentioned conjectural state of affairs: What would they make if a senior audit spouse instructed them to change sentiments expressed in a set of anterior twelvemonth audit workpapers and told them non to document that those changes had been made?

An even more crying illustration of improper changes of audit workpapers is documented in the NextCard instance. In that instance, an audit spouse instructed two audit directors to do extended alterations in a set of anterior twelvemonth workpapers that were subsequently scrutinized by a squad of federal research workers. In add-on to changing the workpapers, one of the audit directors was instructed by the spouse to alter the electronic clip cast on them to hide the fact that they had been altered. The spouse in that instance was finally sentenced to one twelvemonth in gaol for his injudiciousnesss. Of class, in the Enron instance the shredding of audit workpapers and related paperss proved to be a critical trip on the portion of the company ‘s Andersen audit squad that contributed to the eventual death of that outstanding house. I typically use these extra illustrations to convey to pupils the “ holiness ” of audit workpapers and the serious effects that hearers can confront if they make undocumented alterations in, or destroy, workpapers.

Suggested Solutions to Case Questions

1. The professional criterions urge hearers to be cautious when they are sing “ uncorrected misstatements ” in a client ‘s fiscal statements. AU Section 312 discusses such points at length. Following is an extract from that treatment.

If the hearer concludes that the effects of uncorrected misstatements, separately or in the sum, do non do the fiscal statements to be materially misstated, they could still be materially misstated because of farther misstatements staying undetected. As the sum misstatements approach materiality, the hazard that the fiscal statements may be materially misstated besides increases ; accordingly, the hearer should besides see the consequence of undetected misstatements in reasoning whether the fiscal statements are reasonably stated. [ AU 312.65 ]

AU Section 312 notes that if the hearer concludes that the client ‘s fiscal statements are materially misstated, so “ the hearer should bespeak direction to do the necessary corrections ” ( 312.64 ) . This subdivision goes on to discourse the certification criterions for “ uncorrected misstatements ” ( see paragraphs 69-70 ) . For illustration, hearers must document in their workpapers “ whether uncorrected misstatements, separately or in the sum, do or make non do the fiscal statements to be materially misstated, and the footing for that decision. ”

In drumhead, hearers ‘ lives would be well less complicated if clients would fix an adjusting entry for each proposed audit accommodation, even those that are immaterial. However, it is non sensible for hearers to “ take a firm stand ” that clients enter seting entries for immaterial proposed audit accommodations.

2. To the greatest extent possible, hearers should non supply clients with entree to the critical parametric quantities or aspects of audit battles, including materiality bounds. Similar to what transpired in this instance, unethical client forces can utilize that information to overthrow the purpose of single audit processs or even the unity of the full audit battle. However, it is frequently non executable to hide information such as materiality bounds from client forces. For illustration, to extenuate the cost of an audit, hearers typically have client forces “ pull ” paperss, prepare assorted agendas to which audit processs will be applied, and execute other of import audit-related undertakings. In finishing these undertakings, client forces can frequently find the hearer ‘s purpose and/or the range or materiality bound of a given audit trial. Likewise, clients have entree to the professional auditing literature and professional publications that discuss the general guidelines that hearers use in doing of import strategic determinations during the class of an audit, including the choice of materiality bounds for single histories or fiscal statement points.

3. Statement of Financial Accounting Concepts No. 5, “ Recognition and Measurement in Financial Statements of Business Enterprises ” ( pre-codification ) established a bipartite gross acknowledgment regulation for comptrollers to follow in make up one’s minding when to enter grosss. Before gross is recognized ( recorded ) in an entity ‘s accounting records, it should be both realized and earned, harmonizing to the following extract from SFAC No. 5.

Grosss and additions are realized when merchandises ( goods or services ) , ware, or other assets are exchanged for hard currency or claims to hard currency. . . . grosss are considered to hold been earned when the entity has well accomplished what it must make to be entitled to the benefits represented by the grosss.

By and large, for swap minutess affecting the reception of trade credits, it is frequently highly hard to find the just value or finally realizable value of the trade credits. As a consequence, any net income on such minutess should by and large be deferred until the trade credits are efficaciously “ cashed in. ” [ Note: You might mention your pupils to the undermentioned article that discusses the proper accounting intervention for swap minutess that include the exchange of “ trade credits ” : “ Accounting for Barter Transactions Involving Barter [ trade ] Credits ” ( Journal of Accountancy, May 2004, pp. 101-102 ) . ]

As pointed out in a footer appended to several of the SEC enforcement releases issued for this instance, Statement of Financial Accounting Standards No. 48 ( pre-codification ) , “ Revenue Recognition When Right of Return Exists, ” prohibits a marketer from acknowledging gross ( or net income, of class ) when the given client can return the merchandise and the ultimate payment to be received by the marketer hinges on the client reselling the merchandise. Both characteristics of the gross acknowledgment regulation were violated by the determination of North Face to enter the big cargo gross revenues: there was non a true exchange since the two clients did non pay for the ware and the given minutess were non finalized until the clients resold the ware.

4. Note: The PCAOB has established the certification demands for the audits of publically owned companies in PCAOB Auditing Standard No. 3, “ Audit Documentation. ” The certification demands that pertain to audits of other organisations can be found in Statement on Auditing Standards No. 103, “ Audit Documentation, ” that became effectual for audits of fiscal statements for periods stoping on or after December 15, 2006.

SAS No. 103:

This criterion has been integrated into AU Section 339. Paragraph.03 of AU 339 provides the following general counsel to independent hearers.

“ The hearer must fix audit certification in connexion with each battle in sufficient item to supply a clear apprehension of the work performed ( including the nature, timing, extent, and consequences of audit processs performed ) , the audit grounds obtained and its beginning, and the decisions reached. Audit certification:

a. Provides the chief support for the representation in the hearer ‘s study that the hearer performed the audit in conformity with by and large accepted auditing criterions.

B. Provides the chief support for the sentiment expressed sing the fiscal information or the averment to the consequence that an sentiment can non be expressed. ”

Paragraph.32 of AU 339 notes that the “ hearer should follow sensible processs to retain and entree audit certification for a period of clip sufficient to run into the demands of his or her pattern and to fulfill any applicable legal or regulative demands for records keeping. ” This paragraph goes on to observe that the keeping period for audit certification “ should non be shorter than five old ages from the study release day of the month. ”

PCAOB No. 3:

This criterion defines audit certification as “ the written record of the footing for the hearer ‘s decisions that provides the support for the hearer ‘s representations, whether those representations are contained in the hearer ‘s study or otherwise ” ( parity. .02 ) . “ Examples of audit certification include memorandums, verifications, correspondence, agendas, audit plans, and letters of representation. Audit certification may be in the signifier of paper, electronic files, or other media ” ( parity. .04 ) .

PCAOB No. 3 notes that there are three cardinal aims of audit certification: “ demonstrate that the battle complied with the criterions of the PCAOB, back up the footing for the hearer ‘s decisions refering every major relevant fiscal statement averment, and demonstrate that the underlying accounting records agreed or reconciled with the fiscal statements ” ( parity. .05 ) .

Application to this instance:

The aims of obtaining audit certification ( workpapers ) identified by the ASB and the PCAOB were undercut by the determination of the Deloitte hearers to change North Face ‘s 1997 audit workpapers. For illustration, by modifying the 1997 workpapers and non documenting the given alterations in those workpapers, the Deloitte hearers destroyed audit grounds that provided an expressed record of of import issues considered and cardinal determinations reached on the 1997 audit. The change of the 1997 workpapers besides destroyed grounds that demonstrated that the 1997 audit squad had complied with professional auditing criterions.

5. AU Section 316.07 identifies the three conditions that are by and large present when an accounting fraud occurs. One of those conditions is the “ incentive ” of direction or other employees to perpetrate deceitful Acts of the Apostless. Clearly, major strategic bloopers by client direction can make an environment in which client executives and their cardinal subsidiaries have a strong inducement to falsify their entity ‘s accounting records and fiscal statements. More by and large, the overall quality of top direction ‘s determinations affects the “ built-in hazard ” nowadays during a given audit. For illustration, a factor that increases built-in hazard is the possible for technological developments that would ensue in a given audit client ‘s stock list or other assets going disused. One would surely anticipate that a “ high-quality ” direction squad would be more capable of calculating such possible developments and taking the appropriate stairss to extenuate the hazard posed by those developments than would a “ low quality ” direction squad. So, I would propose that although you will probably non see “ Assess the quality of cardinal determinations made by client executives ” as an expressed audit process within an audit plan, hearers need to be cognizant of the competency of top direction and the wide-ranging deductions of that competency, or deficiency thereof, to all aspects of an audit.


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