Chapter 8 - Financial Accounting and Reporting Flashcards
Global accounting standards are ____________-based while US accounting standards are _____________-based
Principles
Rules
IFRS Characteristics
Relevance
Materiality
Faithful Representation
Comparability
Verifiability
Timeliness
Understandability
Completeness
Relevance – value to decision makers
Materiality – must have significant impact on the financial position
Faithful representation – should represent the reported transactions
Comparability – allows analysis across other firms and prior periods
Verifiability – neutral and unbiased
Timeliness – presented to make sure decision makers can make decisions on time
Understandability – must be able to be comprehended
Completeness (Cost Constraint) – must be complete
SEC Regulation S-X
Outlines reporting requirements
Additional guidance comes from SEC decisions
SEC Regulation G
Implements SOX
Reconcile pro-forma financial information to financial statements
What created the PCAOB?
SOX
What is the SEC’s general philosophy regarding accounting standards?
Private sector retains the initiative for establishing and improving accounting standards
US GAAP Measurement Principle
Items are measured at historical cost
Some items are measured at fair value
US GAAP Revenue Recognition Principle
Revenue is recognized when the customer gains control of a good or service
US GAAP Expense Recognition Principle
Matching principle
US GAAP Full Disclosure Principle
Any information that may influence decision should be disclosed
Earnings Management
Take advantage of the latitude allowed in timing revenues and expenses to maximize revenue
Estimates must be consistent in application
Professional Service Firms primarily use which method of accounting?
Modified cash basis
Key Differences for IFRS vs. GAAP
(General)
IFRS does not allow LIFO
IFRS uses single step for asset write-downs instead of two; more likely to write-down items under IFRS
IFRS requires capitalization of development costs once certain qualifying criteria are met
US GAAP generally requires development costs to be expensed, except software which requires a set of criteria
Two areas where IFRS and GAAP have had more convergence recently?
Leases
Revenue recognition
One area where IFRS and GAAP still differ?
Derivatives and hedge accounting
What did the Staff of the SEC’s Office of the Chief Accountant note in its 2012 report?
Adopting IFRS as authoritative guidance in the US is not supported by the participants
Is the ability to generate revenues from assets and control costs something that can be determined from reviewing financial statements?
Yes
What is the board primarily concerned with when reviewing financial statements?
Assess performance
Set strategies
Reward employees
Who assesses financial statements for creditworthiness?
Customers and creditors
Overview of New Requirements from SOX
Disclose code of ethics applicable to senior financial officers in annual report (Fork 8-K if there are changes or they waive the code)
Disclose in annual reports whether the audit committee has a financial expert
Establish and maintain adequate internal controls
Audit committee must pre-approve all audit and non-audit services provided by the external audit firm
Audit committee must also be brief on accounting methods, including alternative approaches
SOX vs. Securities Acts of 1930s for Financial Statements
Securities Acts of 1930s required financial statements to be included
SOX required the statements to be audited
Who develops GAAS?
ASB – Auditing Standards Board
AICPA
Does an auditor’s opinion comment on the financial fitness of the entity?
No
Is the concept of materiality similar between US GAAS and ISA?
Yes
What do auditors provide to the board at the end of the audit?
Summary of items that arose of interest
Significant accounting policies and estimates used
Difficulties encountered during the audit
Four Types of Audit Opinions
Unqualified
Qualified
Adverse
Disclaimer
Who is required to have financial statement audits in the US?
(There is more than one)
Publicly traded companies
Regulatory requirements
Debt requirement (covenant)
Nonfinancial assets are recorded at ____________ cost?
Historical
Liability vs. Debt
Liability – amount owed
Debt – obligations that require interest payments
Operating Income is also known as what?
EBIT
Common measure of profitability that more accurately reflects cash operating profit?
EBITDA
Two Financial Statements where Comprehensive Income can be reported
Changes in shareholder’s equity
Separate statement of comprehensive income
Indirect Method Differences between US GAAP and IFRS
(How are investment dividends treated?)
US GAAP – Dividends received from investing activities are operating
IFRS – Dividends received from investing activities can be operating or investing
Primary purpose of the statement of cash flows?
Prove the entity is a going concern
Which financial statement is inspected closely by lenders, creditors, and investors?
Statement of Cash Flows
Ability to generate cash flow to repay financial obligations
US GAAP and IFRS Standards for Derivatives & Hedging
US GAAP
**ASC 815 – Derivatives and Hedging
**ASC 820 – Fair Value Measurement
**ASC 825 – Financial Instruments
IFRS
**IFRS 9
FV Hedge vs. Cash Flow Hedge
Fair Value = income statement
Cash Flow Hedge = OCI and then income statement
Net Investment Hedge
Hedging net investment in foreign operations
Similar treatment as cash flow hedge
Differences between US GAAP and IFRS for Hedge Accounting
IFRS is less explicit on what to do with the ineffective portion of a hedge
US GAAP has stricter hedge effectiveness tests
IFRS requires companies to assess and report hedge ineffectiveness
FX Translation Accounting IAS 21 Steps
Determine the functional currency of the subsidiary
Report any foreign currency transactions in the functional currency of the subsidiary
Translate the functional currency financial statements of the subsidiary into the reporting currency of the parent company
ASC 830 / IAS 21
Guidance related to foreign currency transactions and translating financial statements of foreign operations
Where are balance sheet exchange differences from the translation process reported?
Comprehensive income
Where are differences resulting from the remeasurement of foreign currency monetary items or foreign currency non-monetary items booked?
Net income or comprehensive income
Which rate is used for the following remeasurements?
- Foreign currency monetary
- Nonmonetary items at historical cost
- Nonmonetary items at fair value
Foreign currency monetary – statement date FX rate
Nonmonetary items at historical cost – historical rate
Nonmonetary items at fair value – date of fair value measurement
Which rate is used for the following translations?
- Assets and Liabilities
- Income and Expenses
Assets and Liabilities – closing statement rate
Income and Expenses – exchange rates on the dates the transactions occurred
If a foreign currency amount is part of a net investment hedge, where would subsequent FX remeasurements be booked?
OCI and then eventually in the income statement
Translation Steps (According to CTP Exam)
Translate foreign currency items to functional currency
Translate functional currency to reporting currency
PAY ATTENTION TO WHICH TRANSLATION IT IS ASKING FOR
Equity becomes known as what for G/NFPs?
Fund balance
Net worth/assets
G/NFPs Reporting is focused on what?
Compliance and accountability
Home Currency
The currency of the country in which an entity’s headquarters are located
Earnings Manipulation vs. Earnings Management
Earnings Manipulation = intentionally distorting income
Earning Management = taking advantage of latitudes provided with estimates to maximize income
EBITDA vs. EBIT vs. Income Before Taxes
EBITDA – ability to service debt; used with heavy machinery
EBIT – firm’s ability to generate operating profits and meet financial and tax obligations
Income before taxes – operating income, adjusted for other income and expenses
What is the primary purpose for which governmental and not-for-profit organizations are organized?
To serve a collective group
Which type of owner is most likely to use financial statements to set targets for executive management?
Private equity
