Pharmaceutical company, budgeting, ethics

Chris Jackson was recently promoted to Controller of Research and Development (R&D) for BrisCor, a Fortune 500 pharmaceutical company that manufactures prescription drugs and nutritional supplements. The company's total R&D cost for 2013 was expected (budgeted) to be $5 billion. During the company's midyear budget review, Chris realized that current R&D expenditures were already at $3.5 billion, nearly 40% above the midyear target. At this current rate of expenditure, the R&D division was on track to exceed its total year-end budget by $2 billion!
In a meeting with CFO Ronald Meece later that day, Jackson delivered the bad news. Meece was both shocked and outraged that the R&D spending had gotten out of control. Meece wasn't any more understanding when Jackson revealed that the excess cost was entirely related to research and development of a new drug, Vyacon, which was expected to go to market next year. The new drug would result in large profits for BrisCor, if the product could be approved by year-end.
Meece had already announced his expectations of third-quarter earnings to Wall Street analysts. If the R&D expenditures weren't reduced by the end of the third quarter, Meece was certain that the targets he had announced publicly would be missed and the company's stock price would tumble. Meece instructed Jackson to make up the budget shortfall by the end of the third quarter using "whatever means necessary."
Jackson was new to the controller's position and wanted to make sure that Meece's orders were followed. Jackson came up with the following ideas for making the third-quarter budgeted targets:

a. Stop all research and development efforts on the drug Vyacon until after year-end. This change would delay the drug going to market by at least 6 months. It is possible that in the meantime a BrisCor competitor could make it to market with a similar drug.
b. Sell off rights to the drug Martek. The company had not planned on doing this because, under current market conditions, it would get less than fair value. It would, however, result in a one-time gain that could offset the budget shortfall. Of course, all future profits from Martek would be lost.
c. Capitalize some of the company's R&D expenditures, reducing R&D expense on the income statement. This transaction would not be in accordance with GAAP, but Jackson thought it was justifiable because the Vyacon drug was going to market early next year. Jackson would argue that capitalizing R&D costs this year and expensing them next year would better match revenues and expenses.

Required:
1. Referring to the "Standards of Ethical Behavior for Practitioners of Management Accounting and Financial Management," Exhibit 1- 7 (page 18), which of the preceding items (a–c) are acceptable to use? Which are unacceptable?
2. What would you recommend Jackson do?

1. The overarching principles of the IMA Statement of Ethical Professional Practice are Honesty, Fairness, Objectivity and Responsibility. The statement's corresponding "Standards for Ethical Conduct…" require management accountants to

• Perform professional duties in accordance with relevant laws, regulations, and technical standards.
• Refrain from engaging in any conduct that would prejudice carrying out duties ethically.
• Communicate information fairly and objectively.
• Disclose all relevant information that could reasonably be expected to influence an intended user's understanding of the reports, analyses, or recommendations.

The idea of capitalizing some of the company's R&D expenditures is a direct violation of the IMA's ethical standards above. This transaction would not be "in accordance with relevant laws, regulations, and technical standards." GAAP requires research and development costs to be expensed as incurred. Even if Jackson believes his transaction is justifiable, it violates the profession's technical standards and would be unethical.
The other "year-end" actions occur in many organizations and fall into the "gray" to "acceptable" area. Much depends on the circumstances surrounding each one, however, such as the following:

a. Stop all research and development efforts on the drug Vyacon until after year-end. This change would delay the drug going to market by at least six months. It is also possible that in the meantime a BrisCor competitor could make it to market with a similar drug. While this solution may solve the budget shortfall in this year, it could result in a significant loss of future profits for BrisCor in the long run, especially if a competitor is able to obtain a patent on a similar drug before BrisCor.

b. Sell off rights to the drug, Martek. The company had not planned on doing this because, under current market conditions, it would get less than fair value. It would, however, result in a onetime gain that could offset the budget shortfall. Of course, all future profits from Martek would be lost. Again, this solution may solve the company's short-term budget crisis, but could result in the loss of future profits for BrisCor in the long run.

2. While it is not uncommon for companies to sacrifice long-term profits for short-term gains, it may not be in the best interest of the company's shareholders. In the case of BrisCor, the CFO is primarily concerned with "maximizing shareholder wealth" in the immediate future (third quarter only) but not in the long term. Because this executive's incentive pay and even employment may be based on his ability to meet short-term targets, he may not be acting in the best interest of the shareholders in the long run.
Jackson definitely faces an ethical dilemma. It is not unethical on Jackson's part to want to please his new boss, nor is it unethical that Jackson wants to make a good impression on his first days at his new job; however, Jackson must still act within the ethical standards required by his profession. Taking illegal or unethical action by capitalizing R&D to satisfy the demands of his new supervisor, Ronald Meece, is unacceptable. Although not strictly unethical, I would recommend that Jackson not agree to slow down the R&D efforts on Vyacon or sell off the rights to Martek. Each of these appears to sacrifice the overall economic interests of BrisCor for short-run gain. Jackson should argue against doing this but not resign if Meece insists that these actions be taken. If, however, Meece asks Jackson to capitalize R&D, he should raise this issue with the chair of the audit committee after informing Meece that he is doing so. If the CFO still insists on Jackson capitalizing R&D, he should resign rather than engage in unethical behavior.