Week Four Flashcards
Identify the financial reporting obligations of an entity.
The reporting obligations of an entity vary depending on the nature of the entity. Entities with public accountability are required to prepare general purpose financial statements in accordance with approved accounting standards.
What can a financial report include?
Four financial statements:
- a balance sheet
- an income statement (statement of profit and loss)
- statement in changes in equity
- statement of cash flows
Sole traders/partnerships in financial reporting
there is no legal requirement to prepare financial statements as the business are not separate legal entities from their owners.
General purpose financial statements (GPSF)
Financial statements prepared to meet the info needs common to external users who are unable to command the preparation of statements tailored to their needs. Follows generally accepted accounting principles (GAAP)
GAAP
generally accepted accounting principles that are a set of rules and practices that guide financial reporting
Public accountability
entities with securities debt or equity, traded in a public market or entities that hold assets in a fiduciary capacity as their main business activity.
Explain the nature and purpose of the balance sheet.
The balance sheet lists the entity’s assets, the external claims on the assets (the liabilities) and the internal claim on the assets (the equity).
The balance sheet reports the entity’s financial position at a point in time. The financial position of the entity refers to the entity’s: •economic resources (assets) •economic obligations (liabilities) •financial structure •financial solvency.
Investment decisions
Decisions involving the acquisition and sale of investments and productive non-current assets using cash, and lending money and collecting on those loans
Financing decisions
Decisions involving the mix of debt and equity financing chosen by the entity
Liquidity
Ability of an entity to meet its short-term financial commitments
Outline the effect of accounting policy choices, estimates and judgements on financial statements
Even when preparing financial statements in compliance with accounting standards, preparers are given accounting choices and are required to use estimations and judgements. Users of financial statements need to appreciate that accounting flexibility, discretion and incentives exist that may affect preparer’s choices, estimations and judgements, and therefore they need to be aware of the impact of these choices, estimations and judgements on the financial information reported.
Apply the asset definition and recognition criteria.
The essential characteristics for an asset are:
•the resource must be controlled by the entity
•the resource must be as a result of a past event
•future economic benefits are expected to flow to the entity from the resource.
The item does not have to be tangible or exchangeable to be regarded as an asset. To be recognised on the balance sheet, the economic benefits must be probable and capable of being measured reliably.
An entity can always disclose information about an asset that fails the definition or recognition criteria in the notes to the accounts.
Asset recognition
Recording items in the financial statements with a monetary value assigned to them
Monetary concept
Use of money as a the basis of quantifying items in financial statements.
Apply the liability definition and recognition criteria.
The essential characteristics for a liability are:
•a present obligation to another entity
•the present obligation arises as a result of past events
•an outflow of resources embodying economic benefits is expected to flow from the entity as a result of settling the present obligation.
A legal obligation is a liability; however, a non-legal obligation may also be a liability.
To be recognised on the balance sheet, the outflow and resources embodying economic benefits must be probable and capable of being measured reliably.
An entity can always disclose information about a liability that fails the definition or recognition criteria in the notes to the accounts.
Contingent
existence of an asset or liability arising from a past event that may be confirmed only by uncertain future events not controllable the entity
Discuss the definition and nature of equity.
Equity is the residual interest in the assets of the entity after the liabilities have been deducted. The equity balance represents the owner’s or owners’ claims on the entity’s net assets. The equity on the balance sheet comprises capital that has been contributed by owners, and gains (or losses) accruing to the entity that are undistributed.
Describe the format and presentation of the balance sheet.
The balance sheet is usually presented in a narrative format or a T-format. A balance sheet in narrative format lists the assets, liabilities and equity in a column format. The T-format lists the assets on one side, with the liabilities and equity on the other side. It is usual for the balance sheet to report the financial figures for the current period and the corresponding previous reporting period. If an entity has subsidiary entities, then the balance sheet reports the consolidated entity results.
Describe the presentation and disclosure requirements for elements on the balance sheet.
Assets and liabilities are assigned either a current or non-current classification on the basis of when the economic benefits (sacrifices) are expected to occur.
If the benefits (sacrifices) are expected to occur within 12 months of the end of the reporting period or within the entity’s operating cycle, a current classification is appropriate.
For assets (liabilities) where the benefit (sacrifice) is expected to occur beyond the next 12 months or operating cycle, a non-current classification results.
Within the current and non-current sections, assets and liabilities are classified according to their nature or function.
Typical asset classifications include cash; receivables; inventories; investments; property, plant and equipment; intangibles; tax assets; and other assets.
Typical liability classifications include payables; interest-bearing liabilities; provisions; and tax liabilities.
The equity classifications on the balance sheet are capital (contributed equity), reserves, retained earnings, and non-controlling interests.
A breakdown of the items within the various classifications is usually included in the notes to the accounts. The terms given to various elements on the balance sheet, and the extent to which entities aggregate elements for the purposes of balance sheet disclosure, vary according to the entity structure.
Operating cycle
length of time it takes for an entity to acquire and sell goods and collect the cash from the sale.
Cash and cash equivalents
cash held at bank, on hand and in short term deposits
Trade receivables or accounts receivable
Amounts due from customers for the sale of goods or services
Derivative financial asset
Financial asset whose value depends on the value of an underlying security, reference rate or index
Identifiable intangible assets
Intangible assets that can be identified (eg trademarks, brand names etc)