FAR SEC 1 Flashcards
Financial Statements
Financial statements are the primary method of communicating to external parties information about the results of operations, financial position, and cash flows.
Financial vs. Managerial Accounting
Management accounting information assists management decision making, planning, and control. It is primarily for internal use. It need not follow GAAP but is often derived from financial accounting records.
Securities and Exchange Commission (SEC)
The SEC has the legal authority to establish financial reporting requirements for publicly traded companies (referred to as issuers) in the United States. Issuers are firms that issue stocks and bonds.
The SEC delegated this authority to the FASB.
The SEC enforces those principles by ensuring that issuers meet certain periodic reporting requirements for the disclosure of financial and other information.
Financial Accounting Foundation (FAF)
The FAF is an independent body established by the accounting profession in 1972. FAF overseas the FASB, FASAC, PCC, and EITF.
Financial Accounting Standards Advisory Council (FASAC)
The Financial Accounting Standards Advisory Council (FASAC) advises the FASB on priorities and proposed standards and evaluates its performance.
Financial Accounting Standards Board (FASB)
The Financial Accounting Standards Board (FASB) establishes financial accounting and reporting standards (i.e., U.S. GAAP) for public and private companies and not-for-profit organizations. The FASB’s Accounting Standards Codification (ASC) is the single source of U.S. GAAP. The FASB updates U.S. GAAP by issuing Accounting Standards Updates (ASUs).
Accounting Standards Codification (ASC)
The FASB’s Accounting Standards Codification (ASC) is the single source of U.S. GAAP.
Accounting Standards Updates (ASUs)
The FASB updates U.S. GAAP by issuing Accounting Standards Updates (ASUs).
The Private Company Council (PCC)
Proposes exceptions to and modifications of U.S. GAAP for private companies and
Advises the FASB on private company issues before new pronouncements are issued.
The Emerging Issues Task Force (EITF)
The Emerging Issues Task Force (EITF) addresses new and unusual accounting issues that require prompt action to avoid differences in accounting treatments. Many consensus positions of the EITF have been included in Accounting Standards Updates (ASUs).
Exposure Draft
An Exposure Draft is published to solicit broad stakeholder responses before voting on the final draft proposal. In some projects, a Discussion Paper also may be issued at an early stage to seek input during the process of drafting the proposal.
ASU to ASC
The FASB votes on a final draft proposal. If a majority of the seven board members approves, an ASU is issued to amend the Accounting Standards Codification (ASC). When an ASU has been incorporated into the FASB’s ASC, it has the status of U.S. GAAP.
Governmental Accounting Standards Board (GASB)
The GASB is a private, not-for-profit, nongovernmental organization established by the FAF as the primary standard setter for state and local governmental entities. (The GASB does not establish GAAP for the federal government.)
Federal Accounting Standards Advisory Board (FASAB)
The FASAB establishes accounting principles for the federal government and issues Statements of Federal Financial Accounting Standards.
FASB’s conceptual framework
The FASB’s conceptual framework is a set of interrelated objectives, qualitative characteristics, elements, and other fundamental concepts. It is described in the Statements of Financial Accounting Concepts (SFACs).
Statements of Financial Accounting Concepts (SFACs)
The FASB’s conceptual framework is a set of interrelated objectives, qualitative characteristics, elements, and other fundamental concepts. It is described in the Statements of Financial Accounting Concepts (SFACs). But SFACs are not authoritative and are not included in the ASC. Instead, they are intended to guide the development and application of U.S. GAAP.
The objective of general-purpose financial reporting
The objective of general-purpose financial reporting is to provide financial information about the reporting entity that is useful to existing and potential investors and creditors in making decisions about providing resources to the entity.
Primary users of financial information
Primary users of financial information are current or potential investors and creditors who cannot obtain it directly. Management and regulators are not primary users.
Importance of Future Net Cash Inflows
Primary financial information users’ decisions depend on the expected return. Accordingly, primary users need information that helps them assess the amount, timing, and uncertainty of the entity’s future net cash inflows.
Fundamental Qualitative Characteristics (2 elements)
The two fundamental qualitative characteristics are Relevance and Representational Faithfulness.
Relevance
Relevance is one of two fundamental qualitative characteristics. Information is relevant if it can make a difference in user decisions. To do so, it must be material and have predictive value and/or confirmatory value.
Predictive Value
Information has predictive value if it can be used to generate predictions as an input in a predictive process.
Confirmatory Value
Information has confirmatory value for prior evaluations if it provides feedback that confirms or changes (corrects) them. Predictive value and confirmatory value are interrelated. For example, current revenue may confirm a prior prediction and also be used to predict the next period’s revenue.
Materiality
Information is material if it is probable that an omission or misstatement of an item in a financial report will affect the judgment of a reasonable person who relies on this information. Materiality is entity-specific, whereas relevance is a general idea about what information is useful to investors. Materiality has no specific quantitative threshold. The dollar amount of an item, without regard to the nature of the item, generally is not a sufficient basis for a materiality judgment.
Faithful Representation (3 elements)
Useful information faithfully represents economic events. A perfectly faithful representation has the following characteristics:
Completeness (containing what is needed for user understanding)
Neutrality (unbiased in its selection and presentation)
Freedom from error
Completeness
Completeness (containing what is needed for user understanding)
Neutrality
Neutrality (unbiased in its selection and presentation)
Freedom from Error
Information that is faithfully represented is not necessarily accurate in all respects. Free from error means no errors or omissions exist in the Descriptions of the phenomena and Selection and application of the reporting process.
The process for applying the fundamental qualitative characteristics (3 elements)
The process for applying the fundamental qualitative characteristics is to
(1) IDENTIFY USEFULNESS. Identify what may be useful to users of the financial reports,
(2) IDENTIFY RELEVANCE. Identify the relevant information, and
(3) DETERMINE INFORMATION QUALITY. Determine whether the information is available and can be faithfully represented.
Relevance Pneumonic (3 elements)
Relevance predicts or confirms materiality.
Faithful Representation Pneumonic (3 elements)
A Faithful Representation is complete, neutral, and error free.
Enhancing Qualitative Characteristics (4 elements)
The following enhance the usefulness of Relevant and Faithfully Represented information: Comparability, Verifiability, Timeliness, and Understandability.
Comparability
Comparability (Enhancing Characteristic). Information should be comparable with similar information for (a) other entities and (b) the same entity for another period or date. Thus, comparability allows users to understand similarities and differences. Consistency is a means of achieving comparability over time and between periods. It is the use of the same methods (e.g., accounting principles) for the same items.
Consistency
Consistency is a means of achieving comparability over time and between periods. It is the use of the same methods (e.g., accounting principles) for the same items.
Verifiability
Verifiability (Enhancing Characteristic). Information is verifiable (directly or indirectly) if knowledgeable and independent observers can reach a consensus (not necessarily unanimity) that it is faithfully represented.
For example, consensus-based fair value (e.g., transaction price) is verifiable.
Besides a point estimate, a range of possible amounts and their related possibilities can also be verified.
Timeliness
Timeliness (Enhancing Characteristic). Information is timely when it is available in time to influence decisions.
Understandability
Understandability (Enhancing Characteristic). Understandable information is clearly and concisely classified, characterized, and presented. Information should be readily understandable by diligent users who have a reasonable knowledge of business and economic activities but should not be excluded because of its complexity. The general public is thus not the target audience of financial reporting.
Enhancing Characteristics Pneumonic
Enhancing Comparability Verifies Timely Understanding.
Cost Constraint
Cost is a pervasive constraint on the information provided by financial reporting. The benefits of reporting specific information must justify the costs incurred to provide and use that information.
Financial Statements
Financial statements are the primary, but not the only, means of communicating financial information to external parties.
Notes
Notes supplement or further explain financial information on the face of the statements. Examples of such information are descriptions of the accounting policies used and other disclosures required by GAAP.
Restrictions on Notes
Notes may not be used (1) to correct an improper presentation in the statements or (2) as a substitute for recognition in the statements. Notes can be used for certain GAAP required disclosures, but they can’t substitute for those recognitions that are required to appear on the statements under GAAP.
The notes should contain information about (3 elements)
The notes should contain information about: 1) Financial statement line items. 2) The reporting entity. 3) Unrecognized past events and current circumstances that can affect cash flows.
Supplementary Information
Supplementary information, such as management’s discussion and analysis (MD&A) (described in Subunit 1.6), provides information additional to that in the statements and notes.
A full set of financial statements should report the following
Financial position at the end of the period
Earnings for the period
Comprehensive income for the period
Cash flows during the period
Investments by and distributions to owners (changes in owners’ equity) during the period
Elements
Elements are the classes of items in the financial statements.
What are the Elements of the Statement of Financial Position (Balance Sheet) (5 elements)
Elements: Assets, Valuation allowances, Liabilities, Equity, Investments by and Distributions to owners.
Assets
Assets are probable future economic benefits obtained or controlled by an entity as a result of past transactions or events.
Valuation Allowance
Valuation allowances, such as (1) accumulated depreciation, (2) credit losses, or (3) premium on bonds receivable, are part of the carrying amount of the related assets or liabilities; they are not in themselves assets or liabilities.
Liabilities
Liabilities are probable future sacrifices of economic benefits. They are existing obligations of a specific entity to transfer assets or provide services to other entities as a result of previous transactions or events.
Equity
Equity is the residual interest in the assets of an entity after subtracting liabilities. In a business entity, equity is the ownership interest.
What are investments by owners? In what ways can they occur?
Investments by owners are increases in equity of a business entity during a period. They result from transfers by other entities of something of value to increase ownership interests. Assets (e.g., cash or property) are the most commonly transferred items, but services also can be exchanged for equity interests.
Distributions to owners
Distributions to owners are decreases in equity during a period. They result from transferring assets, providing services, or incurring liabilities to owners.
What are the five elements of the Statement of Earnings and Comprehensive Income?
The Statement of Earnings and Comprehensive Income has the following Elements: Revenues, Gains, Expenses, Losses, and Comprehensive Income.
Revenues
Revenues are inflows or other enhancements of assets or settlements of liabilities (or both) from 1) Delivering or producing goods, 2) Providing services, or 3) Other activities that qualify as ongoing major or central operations.
Gains
Gains are increases in equity from peripheral or incidental transactions or other events and circumstances except revenues or investments by owners.
Expenses
Expenses are outflows or other uses of assets or incurrences of liabilities (or both) from 1) Delivering or producing goods, 2) Providing services, or 3) Other activities that qualify as ongoing major or central operations.
Losses
Losses are decreases in equity from peripheral or incidental transactions or other events and circumstances except expenses or distributions to owners.
Comprehensive income
Comprehensive income includes all the changes in equity of a business entity during a period except those resulting from investments by owners and distributions to owners (owner sources).
Basic Measurement Approaches (2 elements)
There are two basic measurement approaches:
1) the initial amount. The initial amount is determined at the time of the transaction or event.
2) The remeasured amount. The remeasured amount reflects conditions on the financial statement date and is new carrying value not based on the prior amounts reported.
Note: there are more than two measurement approaches, but the basic distinction is between initial measurement and remeasurement.
Initial Amount
An initial amount reflects a transaction date. It is a price or amount assigned when an asset was acquired or a liability was incurred, including later modifications derived from the initial amount (e.g., depreciation or impairment).
Remeasured Amount
A remeasured amount reflects conditions on the financial statement date. It is a new carrying value not based on prior amounts reported. Remeasured amounts are appropriate for 1) Financial assets (assets to be converted to cash) and 2) Liabilities for which the timing and amount of payments is uncertain.
Measurement Attributes/Methods (4 elements)
The Measurement Attributes (or “methods”) are Historical Cost, Fair Value, Replacement Cost, and Settlement Amount.
Historical cost
Historical cost is (a) the price paid to acquire an asset or (b) the amount received for the incurrence of a liability in an actual exchange transaction.
Fair value
Fair value is the price that would be (a) received to sell an asset or (b) paid to transfer a liability in an orderly transaction between market participants at the measurement date.
Replacement cost
Replacement cost is the price that would be paid to acquire an asset with equivalent service potential in an orderly market transaction at the measurement date.
Settlement amount
Settlement amount is the amount at which (a) an asset could be realized or (b) a liability could be liquidated with the counterparty, other than in an active market.
Assumptions of Accounting (4 elements)
The four assumptions of accounting are Economic-entity, Going-concern, Monetary-unit, and Periodicity.
