Harnischfeger Corporation

Question 1:

Identify all the accounting policy changes and accounting estimates that Harnischfeger made during 1984. Estimate, as accurately as possible, the effect of these on the company's 1984 reported profits.

1. Inclusion in the net sales products purchased from Kobe Steel.

* In 1984 such sales aggregated $28 million.

* This change influenced the quality of earnings. Profit margin dropped from 1.55% to 1.44%. It resulted in change in profit margin of 7.1%.

2. Using the straight-line depreciation method for all U.S. operating plants.

* This change increased net income by $11 million.

3. Increasing the economic life of assets.

* This change increased net income by $3.2 million.

4. Changing the fiscal year for some foreign subsidiaries from July 31 to September 30.

* This change resulted in increasing net sales by $5.4 million.

5. Liquidation of LIFO inventory quantities.

* The effect of this liquidation increased net income by $2.4 million.

6. Allowance for doubtful accounts was reduced from 10% to 6.7%.

* The change resulted in a $2.9 million increase in operating income.

7. Changing the minimum pension benefit.

* This change reduced pension expense by $4 million.

* Net income increased by $3.9 million.

* Positive cash flow.

Question 2:

What do you think are the motives of Harnischfeger's management in making the changes in its financial reporting polices? Do you think investors will see through these changes?

The changes in the accounting and financial reporting polices have been done in order to get back on track after the financial crisis of 1982. The worldwide recession caused a huge drop in Harnischfeger's sales. Unfortunately, this drop happened just after a period of strong growth in which the company also increased its debt. Once the crisis hit, those high debts created a serious financial instability for Harnischfeger Corporation. As a result, the changes in the accounting policies, the pension fund structure, as well as the cost cutting in the R&D department were all done for the following reasons:

1. For achieving the certain net after-tax objective, 14 senior executives were to receive an incentive compensation ($2,159,066 in 1984).

2. Most