Financial accounting as a forensic tool: This time, investigating restructuring projects
Many analysts and investors have a hard time, grasping the reasons behind why companies, especially those that are publicly traded, announce bigger layoff plans than is financially warranted.
Laying off employees is almost always one of the first acts companies undertake in their restructuring efforts. Nonetheless, these restructuring projects may be utilized to smooth earnings. Do you know how? Try to solve the following example:
Assume that the automaker Alliance planned to lay off 200 people and published the developments accordingly. The company offers $60,000 severance package for each person who is going to be laid off.
In fact, laying off only 100 people would have sufficed; however, the company chose to announce a bigger number, i.e. 200 people, and stated the relevant accounts as if it had laid off 200 people.
Why would it do so? How will this restructuring charge affect current period’s operating profit?
How would the operating profit change if the company were to restate the relevant accounts and release the related reserve accounts to reflect the real number associated with these layoffs, i.e. 100 people rather than initially stated 200 people, in the following quarters?