INTRODUCTION:

The Financial Statements (FSs) are prepared by the corporates to inform stakeholders (which are directly or indirectly connected to the business) regarding their activities for the purpose of to take their decisions more wisely on the basis of information. The information supplied by the firms are uses by the investors to invest in a company by taking their eyes on the profit of the company. However, sometimes companies use this statement to mislead the stakeholders by disseminating the false or window dressing information for taking the benefits. Every stakeholder facing the problem due to misleading or inadequate information supplied by the companies. The frauds such as “Enron, World Com, Sahara Group, P.N.B.” occurred in the corporate world and many more are on the way. Because, “manipulated FSs” create the new dimension of “financial crimes” in the corporate world. Every decision that are taken by the investors are totally depends on the information which is supplied by the corporates.

The FSs create curiosity for the users as to “what is going in the next financial report” whether it will “good or bad”. However, the FSs not always present the true picture of a company. Sometime, the results are presented by the accountants according to desire of the firm. “The presentation of the FSs at the requirement of the management are prepared, to provide the picture of the firm as desired is known as creative accounting”.

The “accounts manipulation term for the first time used by Copeland (1968)”. He showed that through manipulating accounts, a firm increase or decrease the figures of FSs. The study of Breton and Stolowy (2000) describe the two aspects of accounts manipulation on the basis of “systematic and financial risk” and used two diverse terms as “earning management and creative management which today are being used as synonyms”. Creative accounting is more commonly used in “Europe”. There are several terms also used as synonym of creative accounting as “financial engineering, cosmetic accounting, window dressing, innovative accounting, and income smoothing” (Susmus and Demirhan, 2013).

Creative accounting denotes as “new ways to present accounts, which deviate from accounting rules, to share a positive picture of the financial health of a firm”. After the collapse of significant corporations in the United States, “creative accounting” has been the most widely discussed topic, and unexpectedly, creative accounting was the primary cause of each firm’s collapse, whether it was “Enron, World.com, or Arthur Anderson”. It was
“creative accounting and its consequences that paved the way for rules like SOX to be passed and implemented” (Garg, 1992; Zimmerman, 2015; Saleh et al., 2021). Despite the fact that several measures have been taken, companies are still willingly or unwillingly promoting and confronting these frauds for simple reasons: “public companies want to increase the value of their shares and bonds, while private companies want to reduce their tax liability by reducing profits and dividend distribution”.

“Creative accounting, or playing with numbers, is not a modern job; it dates back to the beginning of accounting, as Luca Pociolo correctly stated. Creative accounting also known as a synonym for deceptive accounting/earning management where it is known for a complex mechanism that is based on motives, leading to manipulation of A/C’s information disclosed and how they are actually manipulated”. Business corporations and their management are constantly under pressure to provide a positive image to the FS user, and this pressure can bring out the best or the worst in the makers. Several factors may influence the manipulation of FS, including “economic pressure, reputation, and increased competitiveness”, all of which can lead an individual or a company to engage in creative accounting.

Lee et al. (2013) provided information regarding the first use of the term “CA in Mel Brooks’ 1968 film” “The Producers”. “Griffiths, the City Editor of the London Evening News, popularized the word CA in his book in 1986, bringing it to the attention of the broader public”. He revealed the many methods for manipulating accounts (James, 2011). Griffiths discussed how deviations were taken from the FSs initial figures and showed a new and improved version of the same to mislead “FSs” users in his book.

Hence, it can be said that creative accounting is “when accountants do not actually follow the accounting standards laid by the governing bodies. It is not illegal but unethical as it is against the rules laid down by reporting standards. The techniques of creative accounting simply change accounting standards, which are used to change the financial information for the usage by the company in their own way. Simply it can be said that creative accounting is just to use the loopholes available in the accounting practices and rules to enhance the figures in FSs to give a lucrative financial ratio of the firm leading to a march toward financial crimes. It is also seen that auditors, mainly external, usually ignore the creative accounting as it is not illegal but, yes, it is unethical”.

“The Concept of Creative Accounting”

According to Bhasin (2016), creative accounting is basically account manipulation activity in which the accountant deviates from “accounting principles” in order to portray a more favorable image of the “FSs to the stakeholders by using loopholes in the norms and regulations”. According to “Merchant and Rockness (1994)”, it is also a sequence of steps used by “management” to influence “FS reports”, which do not present the true image but rather provide the intended outcomes for “management”.

As per the study of Bhasin (2016) creative accounting as a “double-edged weapon” that can always benefit the firm if utilized properly, but may be dangerous for any firm in the legal run if messed with, with “Enron” being the most famous example. According to Shah (1998) creative accounting as “a systematic process taken into account by the managers, which find the loopholes of the accounting rules to show or depict the FSs in the desired manner”. According to “Shahid and Ali (2016)”, it is mainly playing with financial numbers in order to give the firm a “positive financial position”, which can be accomplished through “overestimation of asset value, boosting the value of inventory, and changing income and expenditure to meet the need”.

“Karim et al. (2016)” also put a focus on firms finding the “loopholes in the system” to boost or lower figures, which will provide the company an advantage and gain in the short-term, but will stifle the firm's growth and even lead to bankruptcy in the long-run. That was (Bhasin, 2016), who put a lot of focus on “forensic accounting” and even claimed that it would be the best job option in the future (Table I).

“Meaning and Definitions”

“Financial crime” refers to “the crime that has been given a new dimension and meaning where money laundering, corruption, bribery, terrorist financing, insider trading, breach of trust and cyber-attacks on banks, different service providers and the users are known as financial crime”.

Creative accounting is “an accounting practice that may or may not follow the letters of rules of accounting but they are the methods which deviate from the rules and regulations, it is excessive complication and use of innovative ways to visualize income, assets and liabilities, it is an innovative and aggressive way of reporting FSs, it is a systematic misrepresentation of the true and fair FSs”.

Creative accounting is defined by “Naser (1992) and Gowthorpe and Amat (2005a)” as “deliberately made changes by the accountants while preparing FS to communicate between firms and shareholders, providing them with the information they want to communicate, by simply keeping everything as per law and using the loopholes provided in the same”.

The study of “Shafer et al. (2013)” laid emphasis on “professionals finding different loopholes in the accounting rules and standards so that the presentation of FS is done in accordance with their choices”.

The study of “Naser (1992)” describe creative accounting as “a process of changing the FSs figures in such a way that they present the picture required by the management taking into account the advantages of loopholes in the existing rules or ignoring some of them. He further defined creative accounting in two steps:

a) The process of manipulating accounting figures, using the weak links of the rules and taking advantage of the same in its favor as required by the management; and

b) Manipulating the figures in such a way that the result is obtained in the desired way”.

Pasqualini describe “creativity as an advantage in the hands of the accountants as to when applied to the accounts, it gives strength to the imagination so that it can be used for continuous growth and diversification of the market”.

“Techniques of Creative Accounting”

According to “Saluja (2016)”, the investor’s hard-earned money is at risk when organizations lure him or her to invest by delivering distorted financial statements. Accounting ethics are established by accounting bodies. Account manipulation cannot be totally eliminated; however, it can be decreased in order to control the use of creative accounting. There are some commonly used approaches that are employed:

· “Big bath accounting”: “It’s a managerial strategy to get rid of all the bad news in one go”.

· “Manipulation of inventories”: Firms can engage into inventory manipulation “by either manipulating the quantity of the inventory or by valuing it”.

· “Recognizing Premature or Fictitious Revenue”:

The “creative accounting practices often begin with revenue recognition, because of its direct impact on earnings. “Premature” revenue recognition is recognition of revenue for a legitimate sale in a period prior to that called for by Generally Accepted Accounting Principles (GAAP)”. On the contrary, “fictitious” revenue recognition is the recording of revenue for a non-existent sale.

· “Using Cookie Jar Reserves”: It refers to “over-provisioning for accrued expenses when revenues are high, so that profits can be brought down to a level that is safe to maintain in the future”.

· “Abuse of Materiality Concept”: It includes “misusing the concept of materiality by intentionally recording errors within a defined percentage ceiling”.

· “Being Generous with Bad Debts”: “Companies, which are based on credit sales, make provisions for bad and doubtful debts based upon their personal judgment. Thus, when they want to increase their profits, Managers can forecast that there will be a very low-level of non-payment”.

· “Getting Creative with the Income Statement”: It includes the “practice of communicating a different level of earning power using the format of the income statement rather than through the manner in which transactions are recorded. For example, companies may report a non-recurring gain as other revenue, a recurring revenue caption, or a recurring expense might be labeled as non-recurring. This will result in higher apparent levels of recurring earnings without altering total net income”.

· “Problems with Cash-flow Reporting”: Another way for companies to communicate a higher earning power is “reporting higher and more sustainable cash flow”.

“Prevention of Creative Accounting”

The “management and auditors” are truly aware of the working and the numerous ways in which the creative accounting are done. As a result, the following measures can be taken into consideration and worked on in order to completely eliminate or at least decrease the problem:

· “Proper maintenance of accounts;

· Following standards;

· Recognizing the role of internal and external audits;

· Use of red flags;

· Reporting of any unfair practice (red flags and whistleblowing);

· Consistency in accounting policies;

· Change in audit rules;

· Hiring independent directors and members of the audit committee;

· Proper rewards for whistle-blowers;

· Following of ethics;

· Proper implementation of forensic accounting; and

· Penalty options are should be available”.

“Ethical Responsibility of Professional Accountants”

As to “Costuleanu et al. (2013)”, “ethics are the essential grounds of the civilized society. Every individual, irrespective of their caste, creed, color and sex, is believed to be loyal to their job and society”. “Ethics are usually founded on an individual’s religious, cultural, social, and principles of the individuals”. When it comes to ethics, “Michael Josephson” believes the following points should be considered: “Honesty; Integrity; Honoring the promises made; Fidelity; Fairness; Care; Respect; Citizenship; Responsibility; and Perfection when it comes to jobs and taking responsibility for one’s actions”.

When discussing the “ethics of professional accountants”, firstly must separate them into the following sections:

a) “Establishment of essential principles that are written in such a way that they are adhered to by concerned professionals.

b) Establishing pre-defined conditions in which professionals adhere to a fixed standard in a specific approach.

c) In a particular case, the best judgment policy is applied to determine the best option”.

The following considerations must be made in order to achieve the above targets: “Knowledge, Ethics, Authenticity, Quality of service and Perfection in one’s work”.

“Breton and Stolowy (2000)” added a new element to creative accounting by analysing it from three separate viewpoints: “professional, academic, and creative”.

“Smith (1998)” defined accounting firms as “structured or unstructured” based on their audit methodologies. His basis for such a statement was based on his study of “large auditing firms” in the United States, where he concluded that “accounting income"” was much higher in “structured accounting firms than in unstructured accounting firms”. Smith provided 12 manipulative strategies often used to impact the FS of the firms to back up his claim.

According to Blake and Salas (1996) the creative accounting was obvious in the UK, as well as its multifaceted impacts. The study was conducted in Spain and the UK compare the creative accounting practices after receiving “29 per cent response against 100 questionnaires sent in the survey from auditing firms”, and the results were on the predetermined basis where “30% of auditors from both countries considered creative accounting to be a legitimate tool for accounting while others thought it was a problem”. Auditors believe that the problem of 28 per cent in Spain and 95 per cent in the United Kingdom may be solved.

Creative disclosure is a type of disclosure in which information is presented, even altered, as verbal or numerical data that is used to formalize the following:

a) “creating a language of presentation in such a way that it is not easily understood;

b) using positive words to depict a positive picture of the firm in the eyes of users;

c) manipulating the presentation in such a way to provide the numbers which gave a very positive picture of the firm; and

d) use the best suitable benchmarks which provide a greener picture on the carpet for the firm showing positive results of the same”.

In summary, the given information explains how to use the “Pollyanna Principle by Hildebrand and Synder, 1988”.

The majority of Rabin’s (2005) discussion focused on auditors' attitudes toward “creative accounting and auditors’ ethical conduct”. Every
audit report is based on the auditor's ethical code, the organization's policies, and the individual’s self-judgmental rules”. Every FS judgment made by an auditor should always be in conformity with GAAP rules and should never be contrary to the rules. He also emphasized the following issues that an auditor should examine when drafting a report:

a) “rules should be obeyed in conformity with regulatory bodies' principles;

b) to determine the applicability and validity of the norms established for the presentation of FSs; and

c) to give reports in such a way that the FS analysis is in line with the management objectives”.

The attitude of the auditors toward creative accounting was unrelated to the factors, but it did have a “negative impact on the reports and management requirements”.

“Cosmin (2010)” examined the numerous methods used by managers to get intended outcomes in the FSs by employing various methods to achieve a distinct result (Table II).

Using Romania as an example, Matis et al. (2009) demonstrated that, while cash is the lifeblood of a firm, and we can simply falsify “FS of profit and loss and balance sheet using creative accounting”, it is much more difficult to “manipulate cash flow statement”. As a result, when working with a “cash flow statement”, creative accounting might be challenging. As a result, managers all around the world are attempting to follow suit. “Foreign exchange and interest risk management” can be used to manipulate cash flow.

Table II: Effect of Creative Accounting on Financial Statements

Factors	Usage	Effect on Financial Statement
Tangible assets	Taking back of an asset on the lease after selling to someone known or family	Impact on funds of the firms
Tangible assets and equity	Revaluation of tangible assets	Change in asset value Positive change in equity
The interest of minority holders	Investment options in equity and debts	Change in debt and equity
Loans	In substances defeasance arrangement by transfer of assets to show change in ownership	Change in interest rate Change in financial profitability

Table III: Actions of Creative Accounting in Cash Flow

Areas	Actions of Creative Accounting in Cash Flow
Manipulation of accounts payable	Manipulation of a cheque issued not presented and use of the same cash somewhere else or not deducting the same amount from accounts payable
Non-operating cash rotation	Every cash transaction of the non-operating transaction of the firm shown along with effect the same and increase the volume of cash from operations
Expenses being capitalized	If the production expenses which are of regular nature are capitalized to depict a negative cash flow of investment activities. Though the total cash flow won’t get affected the role of cash flow individually will get affected and depict a manipulated picture as per the requirement of the management.
Accounts receivable either sold or bought	Also known as securitizing when a company either sells its account receivable to another party or buys of another firm. The result is that the selling firm will get instant cash by selling it but the amount received is much less than the actual amount which they would have actually received. The only reason why the companies sell their A/R’s is to cover up for showing a positive operating cash flow column.

Concluding Remarks:

“Financial crimes” are one of the most widely discussed and debated topics among “accounting and legal bodies and organizations”. Numerous measures are being considered in order to reduce the problem, which has been attempted to amend and work on. With the growth of the economy, “creative accounting” has become increases and commonly employed to conduct frauds and crimes at the business level, and strategies to combat this are being investigated. The “journey of creative accounting has been long and has evolved and grown with time from throwing ink on the books to the evolution of the digital world when every act is just a single click away”. The same has to be observed more clearly and effectively, as human oversight has mostly ceased. Despite the fact that various “acts, provisions, rules, and laws” have been enacted and are being amended on a regular basis, the situation remains uncontrollable. After carefully examining the work of several researchers and organizations, it can be concluded that “the ethical issue, as well as the professional rivalry between firms and the large targets pursued by them, are the real reasons why these crimes are becoming more common, and that the implementation of professional ethics is the only way to solve the problem”.

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Received on 08.09.2021 Modified on 04.12.2021

Asian Journal of Management. 2022;13(1):41-46.

DOI: 10.52711/2321-5763.2022.00008

S. No.	Reference	Factor Responsible
1.	Gowthorpe and Amat (2005b)	Flexibility in the rules of the regulatory body
2.	Akenbar (2012)	Increasing the share value of the company artificially
3.	Sanusi et al. (2012)	Different sources of revenue Untimely asset revaluation and amortization policies
4.	Yadav (2013)	Changing of depreciation methods regularly to decrease the value of assets and decreasing the tax liability Changing/valuation of goodwill Valuation of tangible assets Valuation of a construction contract to change the revenue pattern
5.	Agarwal (2008)	Different inventory methods used at different inflation times Change of different valuation of depreciation methods Excessive manipulation of revenue sources Valuation of goodwill for changing the FS Different methods for lease
6.	Shah (2011)	Disclosed the different valuation of inventory methods Different provision for asset valuation Treatment of contingent liabilities and assets Change in the value of capital