Financial Reporting and Analysis Flashcards
what best describes the real value of non monetary assets and liabilities in a hyperinflationary environment?
Typically not affected because their local currency denominated values increase to offset the impact of inflation
for subsidiary in a hyperinflationary economy, the functional currency should be:
Parent’s currency - for US GAAP
Under IFRS, the firm would restate the financials for inflation, and then translate under the current rate method
In a Hyperinflationary economy, translation under the current rate method will most likely result in relatively …
Low balance sheet value for long term liabilities and Assets. Translation losses will also occur
To assess the quality of financial reports by answering two questions
Quality of financial reports is assessed by answering two questions: Whether the financial reports are decision useful and GAAP compliant and whether the results quality is high (i.e., earnings provide adequate return on capital and are sustainable).
Aggregate accruals
Aggregate accruals using the cash flow method are calculated as net income minus cash flow from operation minus cash flow from investing activities.:
accrualsCF = NI − CFO − CFI
Accrual ratio
(NOA end - NOA beg)/Avg (NOA end, NOA beg)
Net operating asset
Complete the following sentence. When earnings are relatively free of accruals, mean reversion will occur __________.
relatively slower than usual.
Earnings consist of cash flow and accruals and there is an inverse relationship between accruals and cash flow. When earnings are relatively free of accruals, mean reversion will occur at a slower rate. The opposite is true when earnings are largely comprised of accruals.
Classification shifting results in what?
Classification shifting results in inflation of core or recurring earnings while keeping the total reported income same. This is used to mislead analysts into using a higher number as a basis for generating forecasts of future earnings and cash flows. Such erroneous forecasts would then result in inflated equity and firm valuation.
Aggressive revenue recognition
Aggressive revenue recognition practices would increase accounts receivable, revenues, expenses, income and stockholder’s equity. Ending inventory would decline but by less than the increase in accounts receivable resulting in increase in total assets. Early recognition of revenues also accelerates recognition of expenses (COGS).
The quality spectrum for financial reporting
High to low
- GAAP, decision useful, sustainable and adequate returns
- GAAP, decision useful, but sustainable questionable, low earnings quality
- within GAAP, but biased choices
- Within GAAP, but earnings management (real or accounting)
- non compliant accounting
- fictitious transactions (not result in overstate CFO)
Conservative revenue recognition choice will results in
overstated liabilities
off balance sheet obligation detract from reporting quality by reducing
completeness
management discretion regarding some assumptions that directly affect the value of reported asset and liabilities may detract from reporting quality by reducing
unbiased measurement
