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  • Subject Name : Management

Short-Term Management Earnings Forecasts

Six months ago, Miranda McNeill has been appointed as the management accountant of the mobile phone division of Thunderphone Ltd. Miranda was excited about this new appointment as it seems the company has a perfect future. The company’s vision and mission are to be the leading mobile phone company in the country. High product quality and innovation are the critical goals of the company.

Miranda is pleased with the pay, and besides the salary, she will get division’s shared cash bonus. Also, she likes the working environment, and her co-workers make her feel part of a team that was making a difference in the Australian electronic industry. 

Recently, the division has been working on a project to develop a new mobile phone: TP 30s, which has very advanced technology. Besides everything was running well, there is one thing that makes her sleepless. Jo Daiko, her boss, had asked her to ‘refine’ the figures on the division’s latest project—TP 30s. The original estimates called for an investment of $21.5 million and projected annual profit of $1.56 million. TP-Products required an ROI of at least 12% for new project approval. So far, TP 30s rate of return was nowhere near that hurdle rate. Jo encouraged her to show increased sales and decreased expenses to get the projected profit above $2.58 million. Miranda asked for a meeting with

Jo to express her concerns.

MIRANDA:

Jo, I’ve gone over the figures for the new project and can’t find any way to get the profit above $2.58 million. The prediction of sales and expenses and revenue figures and production are mostly accurate. 

JO:

Miranda, those figures are just projections. Sales don’t know what the revenue will be. When I talked with Sarah Harris our sales manager, she said that sales could range from $1.5 million to $3.8 million. Use the higher figure. I’m sure this product will justify our confidence in it!

MIRANDA:

I know the range of sales was that broad, but Sarah felt with the current market competition the $3.8 million estimates were pretty unlikely. She thought that during the first three years or so that TP 30s sales would stay in the lower end of the range

JO:

Again, Sarah doesn’t know for sure. She’s just predicting. Let’s go with the higher estimate. We need to get the approval to produce this product to expand our product line and to give our division a chance to increase the bonus pool. If

TP 30s sells at all our bonus pool will grow. 

MIRANDA:

I am not sure Jo; I have little confidence in this project. 

JO:

please prepare the report. I’ll back you up.

You are required to write a report by answering the following questions:

  1. Please justify whether it is acceptable to revise the predictions of sales and expenses to meet the company’s required rate of return? Are there any acceptable ways that Jo could justify increasing or decreasing sales and expenses?

It is not acceptable to fabricate the sales forecast to meet the required rate of return. Although manipulating and exaggerating the figures shown in the forecast will lead to getting a green signal to proceed with the project, it will also entail a significant amount of pressure on the team undertaking the project (Luo, 2019). This increases the risk of mistakes as the targets set will be higher than the realistically achievable limits leading to a higher chance of backfiring of plans which poses reputation risk for the company (Luo, 2019). Jo can justify decreasing sales and expenses by highlighting the fact that the projected forecast is a short-term anomaly and should be considered as it shows a lot of promise in the longer run where there is a high chance the project will compensate for a previous short term underachievement. Thus, this project may be treated as an exception and approved to proceed. 

  1. Explain what Jo Daiko’s motivation in refining the projected sales and expenses? Is that because of meeting the hurdle rate or any other factor?  

Jo's motivation in refining the projected sales and expenses is affected not only because it does not meet the hurdle rate but also because of ethical grounds. The hurdle rate is a very important factor that helps companies evaluate the prospect returns from a project and also facilitates the decision of whether or not to consider proceeding with a particular project (Ridha, 2019). As inferred from the case, Jo feels that the project in question is currently not even close to matching up with company's hurdle rate which means that the scope of return on capital employed will decrease if the project is done anyway and that impacts a company in the longer run. Also, the intent of receiving team bonus on the pretext of making adjustments in sales forecast is unethical and if in future the team eventually does not achieve the declared figures, Jo might be held responsible and accountable for the consequences.

Reference List for Thunderphone Ltd Case Study

Luo, B. (2019). Short-term management earnings forecasts and earnings management through real activities manipulation. Asian Review of Accounting, 28(1), 110–138. Retrieved from https://www.emerald.com/insight/content/doi/10.1108/ARA-09-2018-0168/full/html.

Ridha, M.A. (2019). Hurdle Rate and Adverse Selection on Escalation of Commitment. Shirkah: Journal of Economics and Business, 3(2). Retrieved from http://shirkah.or.id/new-ojs/index.php/home/article/view/202/52.

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