The following Trueblood case is recommended for use with this chapter. The case provides an excellent opportunity for class discussion, group projects, and writing assignments. The case, along with Professor's Discussion Material, can be obtained from the Deloitte Foundation at its website: www.deloitte.com/us/truebloodcases.

Case 04-7: Lighthouse

This case concerns the appropriate timing of revenue recognition for a bundled product and service.

Data From Case 04-7:

After a decade of consistent income growth, the Cranor Corporation sustained a before-tax loss of $8.4 million in 2011. The loss was primarily due to $10 million in expenses related to a product recall. Cranor manufactures medical equipment, including x-ray machines. The recall was attributable to a design flaw in the manufacture of the company's new line of machines.

The company controller, Jim Dietz, has suggested that the loss should be included in the 2011 income statement as an extraordinary item. “If we report it as an extraordinary item, our income from continuing operations will actually show an increase from the prior year. The stock market will appreciate the continued growth in ongoing profitability and will discount the one-time loss. And our bonuses are tied to income from continuing operations, not net income.”

The chief executive officer asked Jim to justify this treatment. “I know we have had product recalls before and, of course, they do occur in our industry,” Jim replied, “but we have never had a recall of this magnitude, and we fixed the design flaw and upgraded our quality control procedures.”

Required:
Discuss the ethical dilemma faced by Jim Dietz and the company's chief executive officer.