Topic: Capital Budgeting
Characters: George, a recent M.B.A. who is the only cost accountant at a manufacturing plant which is the largest employer in Cedar Valley, a town of about 20,000 people; Arthur, the plant manager
Arthur: “George, come into my office for a few minutes. You know that the company brass want to increase the amount of automation in some of our factories. I just got word that this plant will be the first to be automated.”
George: “But the cost and accounting analyses we sent to headquarters last fall showed that it wouldn’t be profitable to make changes like that in this plant. Why did they pick this one?”
Arthur: “Apparently, top management wants to try robots and all the high-tech gadgets at one factory, to see if they increase product quality and pay for themselves. They think that in the long run, stockholders will benefit from automation. Anyway, the decision has been made, and it’s our job to make it work. We’re going to have to sell the work force and the community on the decision.”
George: “That won’t be easy. Hundreds of people are going to lose their jobs. There isn’t much else that they can do around here, either.”
Arthur: “Some of the factory people will be able to stay on, if they get some additional training. We can convince the workers and the people in town that the decision was necessary, if we can show them accounting and cost information to justify the decision. If they see good, sound reasoning for the action, they’ll be less likely to resist and cause trouble. We need for them to maintain productivity and efficiency until the new equipment is here. I want you to work on a cost summary we can release to the employees and the town newspaper, showing why automation is a good idea.”
George: “But the net present value and other analyses I did earlier showed this plant should stay the way it is.”
Arthur. “When we were working on the analyses, you said yourself that the benefits of automation are hard to identify and assign numbers to. You had to make several assumptions in order to do those analyses. If you change some of your assumptions, you can make the numbers look better. Try a longer useful life for the new equipment, or change some of the projected cost information. As soon as you have the new numbers, bring them to me to look at.”
Author: Sue Atkinson, Assistant Professor, Tarleton State University
What Are the Relevant Facts?
- Company management has decided that the Cedar Valley plant is to be automated.
- Automation of the plant means that hundreds of jobs will be lost. The people who lose their jobs will have trouble finding new ones.
- The decision to automate the plant has been made, even though net present value and cost analyses do not justify automation.
- George has been asked to prepare new analyses showing that automating the plant will be profitable. The new analyses will be used to help explain the decision to employees and townspeople.
- George has been asked to play with the numbers from the original report to come up with favorable findings.
What Are the Ethical Issues?
- It is fair and reasonable to use technical accounting information to communicate with plant employees and town residents who probably don’t know very much about accounting?
- Is it ethical to change assumptions in order to make an accounting analysis turn out the way a manager wants it to?
- Should accounting information be created and used to justify a decision which has already been made?
- Capital budgeting procedures such as net present value require an accountant to make several assumptions. Under what conditions should the accountant change those assumptions?
Who Are the Primary Stakeholders?
- The employees who will lose their jobs or have to learn new skills
- Residents of Cedar Valley
- Company management
- Stockholders of the company
1. What Are the Possible Alternatives?
- George could refuse to prepare the new accounting numbers.
- George could change some of his assumptions about costs and asset lives and prepare a report that supports the plant automation.
- George could go to Arthur and suggest that the decision should be communicated to employees and Cedar V alley residents without using accounting terminology and calculations to justify the decision.
What Are the Ethics of the Alternatives?
From a utilitarian perspective, what costs and benefits would there be if George complies with Arthur’s request?
- Are there any identifiable costs or benefits for the employees who will lose their jobs?
- Will there be economic benefits to the company and its stockholders? Employees may be less likely to question the decision if they think there are good reasons for it.
- What would the consequences be for George if he refuses to do what Arthur wants.
From a “rights” perspective, what do the different stakeholders have a right to ?
- Do the employees and town residents have a right to know the real background behind the decision to update the plant?
- What rights do stockholders have in this case?
- Do the rights of employees and stockholders conflict in this situation?
- Who are the most important stakeholders in this case?
- To whom does George owe his loyalty?
- Is it right for George to be asked to prepare analyses supporting a decision he may not agree with?
- How would the alternative actions affect George’s self-respect?
- How should the decision be communicated to employees, to show respect for them and their rights?
From a “justice” perspective, will the action taken by George affect the distribution of benefits and burdens in this case?
- Which alternative will benefit George?
- Which alternative would be most beneficial for stockholders?
- Are the employees harmed in any way if George does what Arthur wants him to do?
What Are the Practical Constraints?
1. George has already prepared a report that rejects the economic validity of automating the plant. What if this is found out by labor and civic groups?
2. George can”t change or influence the decision about automating the plant; he may be able to influence how the decision is communicated to employees and townspeople.
What Actions Should Be Taken?
- What action should George take?
- What factors should George consider in deciding what to do?
- Which ethical theory (utilitarian, rights, justice) best fits this case?