Show- Me- the- Money Inc. is a medium- sized bank. The banksstock is owned primarily by residents in the city where the bankoperates. During the last decade, the bank lent money for numerousreal estate developments. Most of the loans went to developers whoconstructed office space and expected to repay the loans fromoffice rent. Aggressive lending and building practices resulted inoverbuilding. A downturn in the local economy drastically reduceddemand for office space. As a result, many of the buildings are nowlargely empty. Rent from the facilities is insufficient to payinterest on several of the banks larger loans. The bank haspermitted several borrowers to restructure their loans, providing alonger period of repayment and lower interest rates. The marketvalue of the property backing these loans has decreasedapproximately 40% since its construction. The banks proposed year-end balance sheet reports loans in the banks long- term investmentportfolio at $ 43 million. This amount is net of a loan lossreserve of $ 5 million. The balance sheet also includes $ 18million of property among the banks assets. This property wasacquired through foreclosures on several loans. The property isvalued at the present value of the original loan payments,including interest the bank expected from the original borrowers.The bank is collecting rent from tenants and expects to sell theproperty when real estate values return to higher levels. The bankstotal assets are $ 80 million, and total stockholders equity is $10 million. The banks proposed income statement for the yearreports profits of $ 6 million. The year- end audit is nowunderway, and the banks auditors are reviewing the proposedfinancial statements. They have questioned management about itsloans and property values. The auditors believe that the currentmarket value of the loan portfolio is about $ 35 mil-lion. They areless sure about the value of the property. The banks managers arearguing that the current market value of the loans is not relevantbecause they do not expect to sell the loans. Instead, they expectto hold the loans until they mature. Also, they do not plan to sellthe property until they can recover the amount the bankinvested.
Required: Do you believe the investors and creditors of the bank will be well served by the financial statements that the banks management proposes to report? Explain.Do you see any ethical problems with the way the banks managers want to report its assets? Why? What problems may arise for the bank if it reports its loans at current market value?