Dot-com companies grew rapidly in the late 1990s. Many opened up “shopping malls” through which they serve as a portal into several different companies. The SEC has expressed concerns about revenue recognition at a variety of dot-com companies. Explicitly, the SEC is concerned that some companies:

• Inflated their total revenue by “including in their revenue figures the total revenues for product sales when they merely are distributing products on behalf of other companies.”The SEC felt the companies should recognize only the commission received on distributing the goods as revenue.

• Were booking revenue for “free services” provided to customers.

• Recognized revenue on bartered transactions in which they swapped advertising with other companies.

Required

a. Assuming that some of the items would not increase net income, what is the motivation for the accounting treatment? What is the management incentive to inflate revenues?

b. If the auditor believed the accounting treatments met GAAP, but did not personally concur that they were the best GAAP alternative, what is the auditor’s responsibility to communicate that judgment to other parties?

c. Would analytical review procedures have been effective in identifying the risks associated with revenue recognition as identified above? Explain.

d. Are the transactions described fraudulent financial reporting? Explain.