With respect to information given in Issue 1, discuss the potential ethical conflicts which may arise in respect of the lease arrangement and the…

As per Ind AS 116, Leases, at the inception of a contract, an entity shall assess whether the contract is, or contains, a lease. A contract is, or contains, a lease if the contract conveys the right to control the use of an identified asset for a period of time in exchange for consideration. In accordance with the above definition, Subham Ltd. must recognise a right-of-use asset representing the property and a corresponding lease liability for the obligation to make lease payments. At the commencement date, the right-of-use asset so recognised would include: The amount of the initial measurement of lease liability.Any initial direct costs.Any costs to be incurred for dismantling or removing the underlying asset or restoring the site at the end of the lease term. The liability for the lease obligation would be measured as the present value of future lease payments including payments that would be made towards any residual value guarantee, discounted using the rate implicit in the lease or the incremental rate of borrowing of the lessor, whichever is available. The fact that there is no ‘invoice' evidencing transfer of the asset cannot be a reason to avoid recognition of the right-of-use asset. In fact, what is being recognised is not an asset, since ownership rights are not transferred. What is sought to be recognised under Ind AS 116 is the right to use the asset in the manner required by the lessee Subham Ltd. Further, since the lease represents an obligation to pay lease rentals in the future, a corresponding lease liability should be recognised. Not recognising the right-of-use asset or lease liability would not only be a violation of Ind AS 116, Leases, but would also be an incorrect presentation of the financial position, which is critical given that Subham Ltd. is interested in taking a loan for its operations. Ethical issues: The managing director's threat to the finance manager results in an ethical dilemma for the finance manager. This pressure is greater because the finance manager is new. Threats to fundamental principles The fact that the position of the finance manager has been threatened if the treatment suggested by the managing director is not followed indicates that there is an intimidation threat to the fundamental principles of objectivity and integrity. Further, as the managing director has flagged the risk that the company may not obtain loan financing if the lease obligation is recorded in the balance sheet, there is an advocacy threat because the finance manager may be compelled to follow an incorrect treatment to maximise the chances of obtaining the loan. This pressure again is greater because the finance manager is new. Professional competence When preparing the financial statements, the finance manager should ensure that the fundamental principle of professional competence should be followed, which requires that accounts should be prepared in compliance with Ind AS. Thus, since the arrangement meets the Ind AS 116 criteria for a lease, the right-of-use asset and a corresponding lease liability should be recognised, as otherwise the liabilities of Subham Ltd. would be understated. The ICAI Code of Ethics sets boundaries beyond which accountants should not act. If the managing director refuses the application of Ind AS 116, Leases, the finance manager should disclose this to the appropriate internal governance authority, and thus feel confident that his actions were ethical. If the finance manager to bend under pressure and accept the managing director's proposed treatment, it would contravene Ind AS 116 and breach the fundamental principle of professional competence. In such a case, he would be subject to professional misconduct under Clause 1 of Part II of Second Schedule of the Chartered Accountants Act, 1949, which states that a member of the Institute, whether in practice or not, shall be deemed to be guilty of professional misconduct, if he contravenes any of the provisions of this Act or the regulations made thereunder or any guidelines issued by the Council. As per the Guidelines issued by the Council, a member of the Institute who is an employee shall exercise due diligence and shall not be grossly negligent in the conduct of his duties.