Harnischfeger Corporation

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.

One accounting policy change consisted of including the full sale price of construction and mining equipment purchased from Kobe Steel, Ltd. and sold by the corporation in net sales, in order to reflect effectively the nature of Harnischfeger's transactions with Kobe. This increased sales by 28 million in 1984. The second change in accounting policy was the liquidation of LIFO inventory, which increased gross profits by 2.4 million in 1984. Harnischfeger also partially reduced product development selling and administrative expenses because of the agreement with Kobe Steel, Ltd. In addition, Harnischfeger changed its depreciation accounting method from accelerated to the straight-line method, which led to an increase of $11 million in 1984 income. As a result of the review of its depreciation policy, Harnischfeger had changed its estimated depreciation lives and residual values on certain US PPE, which increased net income for 1984 by $3.2 million. Another change in policy included sales to unconsolidated foreign subsidiaries in net sales, which increased net sales by 5.4 million. During 1984, Harnischfeger also terminated the existing Salaried Employees' Retirement Plan and established a new plan, which is identical to the prior plan except for an improvement in the minimum pension benefit. The change in the investment return assumption rates for all US plans, and the Salaried Employees' Plan restructure reduced pension expense by approximately $4.0 million, and the actuarial present value of accumulated plan benefits by approximately $60.0 million.

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

Many of the changes in accounting policy and estimates were motivated by mostly one reason, which was to return to profitability despite the decreased demand and the intense price competition in the global market of the industry that Harnischfeger was in. The company had suffered financial difficulties in 1982 because of reduced sales and high interest payments. The return to profitability was partially induced by the desire to increase the stock price and improving the company image. Another motivation was the Executive Incentive Plan, which provided an incentive compensation opportunity of 40% annual salary for the 11 senior executive officers if the corporation reached a specific net after-tax profit objective and it provided an additional incentive compensation of up to 40% annual salary for seven of eleven of those officers if the corporation exceeded that objective. The accounting changes really improved the companies reported profits in 1984, and investors are bound