Ethical standards in case study analysis

Health South was under pressure to meet certain revenue goals to satisfy investor expectations. In retrospect, its actions to show that it was doing so exhibited clear 'accounting red flags.' One of its fraudulent methods was understating its reserves for receivables. An inventory reserve should be deducted from a company's earnings, as its purpose is to pay for future anticipated costs regarding current inventory, such as shipping costs, storage costs, labor-related costs in terms of tending to the inventory, etcetera (What are the generally accepted accounting principles for inventory reserves, 2010, Investopedia). HealthSouth listed such funds as profits. This is not consistent with GAAP (generally accepted accounting practices).

Another HealthSouth 'trick' to inflate its income that was its method of capitalizing expenses. Capitalizing expenses is not inherently against GAAP: it is a common practice of delaying or spreading out the recorded expense of new equipment or other materials over time. Such equipment is supposed to 'give back' to the company in value, defraying the initial outlay cost. Because of the long-term value accrued, companies record the cost of the investment over a specified period of time. However, capitalizing regular operating expenses like HealthSouth is a blatant violation of GAAP, as such expenses are merely drains upon revenue, and do not 'give back' anything to the company in terms of enhanced value over the long-term (Capitalize definition, 2010, Investopedia).

Extending the useful life of equipment was another trick used by HealthSouth. Although depreciation costs reduce a company's tax burden, HealthSouth overstated the useful life of its equipment in the interests of boosting short-term revenue. For tax purposes, and to enhance accurate reporting to shareholders, companies must deduct the costs of the depreciation of company assets, given that these assets may mean that the company is less productive because of necessary repair costs, wear and tear to equipment, and technological obsolesce (Kelley 2010). HealthSouth did not do this.

Q2. The reasons that few people came forward at HealthSouth to reveal its fraud often came down to simple self-interest: although earnings seemed too good to be true, no one wanted to lose his or her bonus -- or job -- in revealing this fact to authorities. Earnings were strong for employees as well as shareholders. Many employees owned stock or were dependent upon a rising balance sheet to ensure that they received their bonus and salary. Additionally, as at HealthSouth, there can be kind of a 'groupthink' effect, where people assume that something is 'okay' because everyone else, including powerful upper-level managers, are 'doing it.'

There are a number of laws that protect whistleblowers. The Dodd-Frank Wall Street Reform and Consumer Protection Act was established to encourage individuals to report financial fraud to the SEC (Securities and Exchange Commission). Recognizing the profound financial sacrifice many whistleblowers make, Section 922 of the Dodd-Frank Act mandates that the SEC reward individuals who provide original information that results in sanctions in excess of $1 million in civil or criminal proceedings against the offending company (Oswald & Zuckerman 2010).