As accountants ourselves, we at LEDGEROO like to believe that all accountants will act ethically and honestly when carrying out their professional obligations. Unfortunately, that’s not always the case. As with any profession, there are always bad apples, and some accountants will succumb to the temptation to “fudge” the numbers in order to make them appear better (or in some cases, worse) than they actually are—sometimes with, sometimes without the explicit consent of superiors.

Let’s break down some of the most common ways accountants can subtly manipulate financial results—and why it matters.

1. Overaccruing Expenses in a Strong Quarter

Accrual accounting requires companies to recognize expenses when they are incurred, even if they haven’t been paid yet. But what happens when a company deliberately overestimates its expenses in a good quarter? By doing so, they create a cushion—an accounting reserve—that can be released in a weaker quarter to artificially boost earnings.

How it works:

💪 A company records excessive reserves for future expenses (e.g., doubtful accounts, warranties, litigation costs).
💪 When a weaker quarter comes, they reduce the reserve and recognize it as income, smoothing out earnings.
💪 Investors and analysts see artificially stable performance instead of natural fluctuations.

2. Recognizing Revenue Before It’s Earned

Revenue recognition is one of the most common areas where companies stretch the truth. Under proper accounting principles, revenue should only be recognized when it’s earned. However, some companies book sales too early, inflating current period earnings.

Examples:

🎯 Shipping products to customers that they haven’t actually agreed to purchase and booking the sale, only to reverse the transaction the following quarter when the “mistake” is discovered.
🎯 Counting revenue from contracts that have not yet been fully performed, such as recording full revenue from annual software subscriptions upfront instead of spreading it over 12 months.

3. Misclassifying Cash Flows to Boost Operating Performance

Cash flow statements provide critical insights into a company’s liquidity and financial health. But they also offer opportunities for manipulation. One trick involves classifying cash inflows and outflows in a way that makes operating cash flow look stronger than it really is.

How it’s done:

🔎 Purposefully misclassifying investing cash inflows, such as asset sales, as operating cash inflows, boosting cash flow from operations.
🔎 Purposefully misclassifying operating cash outflows, such as short-term business expenses, as investing cash flows, boosting cash flow from operations.
🔎 Delaying payments to vendors to artificially boost operating cash flow at quarter-end.

4. Aggressive Depreciation or Capitalization Policies

Depreciation and capitalization policies provide another opportunity for subtle manipulation. Companies can tweak these to alter reported earnings.

Ways they do it:

📊 Extending asset life: Increasing the estimated useful life of an asset reduces annual depreciation expense, boosting profits.
📊 Capitalizing expenses: Instead of properly expensing certain costs immediately, companies capitalize them, shifting expenses to future periods.
📊 Selective impairment: Writing down assets only in bad quarters to offset weak earnings while keeping inflated values during good periods.

Why This Matters

While these tactics may not always be illegal, they distort the economic reality of a business. Investors, lenders, and executives relying on financial statements should be aware of these subtle manipulations to avoid making misguided decisions. If you're looking for more information on the topic, Financial Shenanigans, Fourth Edition: How to Detect Accounting Gimmicks and Fraud in Financial Reports by Howard M. Schilit is one of the best books to read.

At LEDGEROO, we'll teach you not only how to spot these tricks but also how to build financial statements that truly reflect a business’s performance. Transparency and accuracy are the foundation of great accounting. Don’t settle for anything less.

Want to learn accounting and master financial analysis? Join LEDGEROO and level up your accounting knowledge today!