Financial Reporting Environment Flashcards
Explain FASB due process system
- topics are identified and placed on agenda
- research is done and preliminary pros and cons issues
- public hearing on standard
- exposure draft
- accounting standard update
What is FASB Codification
provides all authoritative literature related to a topic
simplifies user access to all authoritative US GAAP
eliminates nonessential info
organized into one online system
replaces “house of GAAP”
how is codification organized
Topic –> subtopics –> sections —> paragraphs
Why is reliable financial reporting important
helps investors to compare income and assets of different companies. Also helps investors to assess amounts, timing and uncertainty of future cash flows from dividends, interest & proceeds
overall, it allows investors to assess risk & reward–> use resources more efficiently
What is the SEC
securities and exchange commission: administers many acts, requires companies to have file audits
can prescribe accounting practices and standards
relays to FASB for all
objective of financial reporting
to provid financial info that is useful to present to equity investors, lenders and other creditors in making decisions about providing resources
Purpose of general purpose of financial statements
provide users who have some basis of financial knowledge some information about financial status of an econ entity
qualitative characterisitcs
distinguish better information from less useful information
fundamental qualities
relevance and faithful representation
Relevance
must be capable of making a difference in a decision
Ingredients of relevance
predictive value, confirmatory value, materiality
predictive value
helps users form own expecations about future ex/ uses pasts income performance to predict the amount, timing and uncertainty of future cash flows
confirmatory value
helps users confirm or correct prior expectations ex/ year end financial statements help confirm or change past expectations
materiality
info that is omitting or misstating would influence decision making- must make a difference - assessing is difficult bc size and importance (relative size)
faithful representation
numbers and descriptions match what actually happened
Ingredients of faithful representation
completeness, neutrality, free from error
Completeness
all the info that is necessary is provided ex/ omission causes information to be false or misleading - failing to provide correct info on assets
Neutrality
company can not select info to favor one party over another ex/ in notes suppressing info about lawsuits
free from error
accurate (faithful) representation of a financial item
Enhancing qualities
comparability, verifiability, timeliness, understandability
Comparability
enables users to identify real similarities and difference in econ events between companies
Consistency- when company applies same accounting treatment to similar events from period to period
what must a company do if it wants to change accounting methods?
demonstrate why adopted method is preferable, disclose in notes, nature and effect of accounting change, what period it was changed, justification for it
Verifiability
when independent measurers obtain similar results ex/ two auditors arrive at same quantity for inventory
Timeliness
having information available to decision-makes before it loses its capacity to influence decisions
Understandability
Quality of information that lets reasonably informed users see its significance - must have some reasonable knowledge
FASB 10 elements
assets, liabilities, equity, investment by owners, distributions to owners, comprehensive income, revenues, expenses, gains, losses
Assets
provides, or will provide future economic benefit - obtained or controlled by company
Liabilities
probable future sacrifices of econ benefit from present obligations - ex/ lawsuit , unearned revenue (obligation to provide services)
Equity
residual interest in assets of an entity after deducting liabilities
Balance sheet accounts
assets, liabilities, equity
FASB two distinct groups
resources and claims at a moment in time: assets, liabilities, equity
affects a company during a period of time:
investment by owners, distributions to owners, comprehensive income, revenues, expenses, gains, losses
Equity accounts
owners investment, owner distribution, comprehensive income
owner investments
owners are contributing something of value for which owners receive something of value, could be cash for stock, or could be land
Owner distributions
decrease of equity resulting in transfers to owners: most often cash dividends - but could be property dividends
Comprehensive income
change in equity during a period, except investment by owners and distributions by owners
ex Gains and losses, pension plan, foreign currency adjustments, other investments: these are not reported on income statement
income statement elements
revenues, expesnes, gains, losses
revenues
inflows or enhancement of assets, settlements of its liabilities
expenses
using up of assets, incurring liabilities
Using up assets: rent expense . decrease in inventory,
Occurrence of liabilities: accounts payable / expensive - expense bc we have an obligation to pay
gains
increase of net assets, not core business
losses
decreases of net asset, not core business
economic entity assumption
economic activity is separate and distinct from owners - does not mean legal entity
going concerns assumption
company will have a long life
monetary unit
relevant, simple, universally available -inflation and deflation are ignored
periodicity
company can divide economic activity into artificial time periods
Principles of accounting
measurement, revenue recognition, expense recognition, full disclosure
measurement principle
‘mixed attribute’ that permits uses of various measurement bases: common used are historical cost and fair value
historical cost
beneficial bc it is verifiable - title, deed etc
can also use it for liabilities- agreed upon value for AP, bonds, notes
fair value
market based measure
when would you use fair value over historical cost
- building/ land/ equipment that decline in value
-inv decline in value- fair measure to determine cost
-equity investments
-fair value to measure assets and financial laibiliies- ex/ receivables
fair value has better insight into company asset / liabilities and better as assessing future cash flows
fair value hierarchy lvl 1
obseravable, quoted prices, least subjective
fair value level 2
more subjective- evaluating similar assets in active markets
revenue recognition
when services are provided
expense recognition
matching efforts w/ accomplishments
product costs
material, labor, overhead –> attached to product, carry the cost into future periods
period costs
expense in the immediate period, not attached to revenue
full disclosure
- does it make a difference to users? can you condense it enough to make info understandable?
found in three places: main body of statements, notes in statements, supplementary info
notes to financial statement
explain items in the main body of the statement: can be partially or totally narrative, does not need to be an element
sarbanes oxley act
increased resources for SEC to combat fraud/ poor reporting
-establish overside PCAOB (enforcement and establishing auditing, q control, independence standards, rules)
-CFO/CEO personally certify financial statements are accurate, forfeit bonuses when acct restatemetn
-audit committee must be independent members
-large public companies must document the effectiveness of internal controls
expectation gap
what publci thinks accountants should do vs what accountants think they can do
