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Transcript of Slides Ch24
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Prepared byCoby Harmon
University of California, Santa Barbara
IntermediateAccounting
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Intermediate Accounting
14th Edition
24 Full Disclosure inFinancial Reporting
Kieso, Weygandt, and Warfield
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24-3
1. Review the full disclosure principle and describe implementationproblems.
2. Explain the use of notes in financial statement preparation.
3. Discuss the disclosure requirements for major business segments.
4. Describe the accounting problems associated with interim reporting.
5. Identify the major disclosures in the auditors report.
6. Understand managements responsibilities for financials.
7. Identify issues related to financial forecasts and projections.
8. Describe the professions response to fraudulent financial reporting.
Learning Objectives
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24-4
Accountingpolicies
Commonnotes
Full Disclosure
Principle
Notes to
Financial
Statements
Disclosure
Issues
Auditors and
Managements
Report
Current
Reporting
Issues
Increase inreportingrequirements
Differentialdisclosure
Specialtransactionsor events
Post-balance-sheet events
Diversified
companies
Interimreports
Auditors
report
Managements
reports
Reporting onforecasts andprojections
Internet financialreporting
Fraudulent
financialreporting
Criteria foraccounting andreportingchoices
Full Disclosure in Financial Reporting
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Full disclosure principlecalls for financial reporting of anyfinancial facts significant enough to influence the judgment
of an informed reader.
Financial disasters at Microstrategy, PharMor, WorldCom,andAIG highlight the difficulty of implementing the full
disclosure principle.
LO 1 Review the ful l disc los ure pr inc ip le and descr ibe implementat ion prob lems.
Full Disclosure Principle
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24-6 LO 1 Review the ful l disc los ure pr inc ip le and descr ibe implementat ion prob lems.
Full Disclosure Principle
Illustration 24-1
Types of FinancialInformation
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24-7
Increase in Reporting Requirements
Reasons:
Complexity of business environment.
Necessity for timely information.
Accounting as a control and
monitoring device.
LO 1 Review the ful l disc los ure pr inc ip le and descr ibe implementat ion prob lems.
Full Disclosure Principle
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Differential Disclosure
LO 1 Review the ful l disc los ure pr inc ip le and descr ibe implementat ion prob lems.
Full Disclosure Principle
Big GAAP versus Little GAAP.
FASB takes the position that there should be one set ofGAAP.
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Notes are the means of amplifying or explaining the itemspresented in the main body of the statements.
LO 2 Expla in the use of notes in f inancia l statement preparation.
Notes to the Financial Statements
Accounting Policies
Companies should present a statement identifying the accounting
policies adopted (Summary of Significant Accounting Policies).
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24-10 LO 2 Expla in the use of notes in f inancia l statement preparation.
Notes to the Financial Statements
Which of the following should be disclosed in a Summary ofSignificant Accounting Policies?
a. Types of executory contracts.
b. Amount for cumulative effect of change in accounting
principle.
c. Claims of equity holders.
d. Depreciation method followed.
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Common Notes
Inventory
Property, Plant, and Equipment
Creditor Claims
Equityholders Claims
Contingencies and Commitments
Fair Values
Deferred Taxes, Pensions, and Leases
Changes in Accounting Principles
LO 2 Expla in the use of notes in f inancia l statement preparation.
Notes to the Financial Statements
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Disclosure of Special Transactions or Events
Related-party transactions
Nature of relationship.
A description of the transactions for each of the
periods for which income statements are presented.
Dollar amounts of transactions for each of the
periods for which income statements are presented.
Amounts due from or to related parties.
Errors and fraud.
LO 2 Expla in the use of notes in f inancia l statement preparation.
Disclosure Issues
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Post-Balance Sheet-Events (SubsequentEvents)
LO 2 Expla in the use of notes in f inancia l statement preparation.
Disclosure Issues
1 - Events that provide additionalevidence about conditions that
existed at the balance sheet date.
2 - Events that provideevidence about conditions that
did not exist at the balance
sheet date.
Illustration 24-3
Time Periods forSubsequent Events
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______ 1. Settlement of federal tax case at a cost considerably in
excess of the amount expected at year-end.
______ 2. Introduction of a new product line.
______ 3. Loss of assembly plant due to fire.
______ 4. Sale of a significant portion of the companys assets.
______ 5. Retirement of the company president.
______ 6. Issuance of a significant number of ordinary shares.
E24-2 (Post-Balance-Sheet Events): For each of the followingsubsequent events, indicate whether a company should (a)adjust the
financial statements, (b)disclose in notes to the financial statements, or
(c)neither adjust nor disclose.
LO 2 Expla in the use of notes in f inancia l statement preparation.
Disclosure Issues
a
c
b
b
c
b
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24-16 LO 2 Expla in the use of notes in f inancia l statement preparation.
Disclosure Issues
______ 7. Loss of a significant customer.
______ 8. Prolonged employee strike.
______ 9. Material loss on a year-end receivable because of a
customers bankruptcy.
______ 10. Hiring of a new president.
______ 11. Settlement of prior years litigation.
______ 12. Merger with another company of comparable size.
c
c
a
c
a
b
E24-2 (Post-Balance-Sheet Events): For each of the followingsubsequent events, indicate whether a company should (a)adjust the
financial statements, (b)disclose in notes to the financial statements, or
(c)neither adjust nor disclose.
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Reporting for Diversified Companies
LO 3
Disclosure Issues
Investors and investment analysts income statement, balance
sheet, and cash flow information on the individual segments
that compose the total income figure.
Illustration 24-5
Segmented Income
Statement
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Objective of Reporting Segmented Information
LO 3 Discuss the disc los ure requirements for major business segments.
Disclosure Issues
To provide information about the different types of business
activitiesin which an enterprise engages and the different
economic environmentsin which it operates.
Meeting this objective will help users:
a) Better understand the enterprises performance.
b) Better assess its prospects for future net cash flows.
c) Make more informed judgments about the enterprise as a
whole.
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Basic Principles
LO 3 Discuss the disc los ure requirements for major business segments.
Disclosure Issues
GAAPrequires that general-purpose financial statements
include selected information on a single basis of segmentation.
A company can meet the segmented reporting objective byproviding financial statements segmented based on how the
companys operations are managed (management
approach).
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Identifying Operating Segments
LO 3 Discuss the disc los ure requirements for major business segments.
Disclosure Issues
An operating segment is a component of an enterprise:
a. That engages in business activities from which it earns
revenues and incurs expenses.
b. Whose operating results are regularly reviewed by the
companys chief operating decision maker.
c. For which discrete financial information is available.
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Quantitative Materiality Test: Must satisfy oneto determine
whether the segment is significant enough to warrant actual
disclosure.
1. Its revenue is 10 percent or more of the combined revenue of all
the companys operating segments.
2. The absolute amount of its profit or loss is 10 percent or more of
the greater, in absolute amount, of (a) the combined operating
profit of all operating segments that did not incur a loss, or (b) the
combined loss of all operating segments that did report a loss.
3. Its identifiable assets are 10 percent or more of the combined
assets of all operating segments.
LO 3
Disclosure Issues
Identifying Operating Segments
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Quantitative Materiality Test: In applying these tests, the
company must consider two additional factors.
1. Segment data must explain a significant portion of thecompanys business. Specifically, the segmented results must
equal or exceed 75 percent of the combined sales to
unaffiliated customers for the entire company.
2. The FASB decided that 10 is a reasonable upper limit for thenumber of segments that a company must disclose.
LO 3
Disclosure Issues
LO 3 Discuss the disc los ure requirements for major business segments.
Identifying Operating Segments
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Materiality Test Illustration
LO 3
Disclosure Issues
10%*2150=215 c,d,e meet test
10%x90=9 (note 5 loss is ignoredA,C,D,E meet this test
10%x 970 =97 ,c,d,e meet this test
Reporting segments are therefore A, C, D, and E, assuming that these four
segments have enough sales to meet the 75 percent of combined sales test.
Illustration 24-6
Data for Different PossibleReporting Segments
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24-24LO 3
Disclosure Issues
LO 3 Discuss the disc los ure requirements for major business segments.
Materiality Test Illustration
The 75 percent test is computed as follows.
75% of combined sales test: 75% x $2,150 = $1,612.50. The sales of A,
C, D, and E total $2,000 ($100 + $700 + $300 + $900); therefore, the 75
percent test is met.
Illustration 24-6
Data for Different PossibleReporting Segments
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Segmented Information Reported
LO 3 Discuss the disc los ure requirements for major business segments.
Disclosure Issues
1. General information about operating segments.
2. Segment profit and loss and related information.
3. Segment assets.
4. Reconciliations.
5. Information about products and services and geographic
areas.
6. Major customers.
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24-26 LO 3 Discuss the disc los ure requirements for major business segments.
Disclosure Issues
Revenue of a segment includes
a. only sales to unaffiliated customers.
b. sales to unaffiliated customers and intersegment
sales.
c. sales to unaffiliated customers and interest
revenue.
d. sales to unaffiliated customers and other revenueand gains.
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24-27 LO 3 Discuss the disc los ure requirements for major business segments.
Disclosure Issues
The profession requires disaggregated information in thefollowing ways:
a. products or services.
b. geographic areas.
c. major customers.
d. all of these.
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Interim Reports
LO 4 Descr ibe the account ing p roblems assoc iated with inter im report ing.
Disclosure Issues
Cover periods of less than one year.
Two viewpoints exist:
1. Discreteapproach
2. Integralapproach
Companies should use the same accounting principles forinterim reports that they use for annual reports.
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Unique Problems of Interim Reporting
LO 4 Descr ibe the account ing p roblems assoc iated with inter im report ing.
Disclosure Issues
(1) Advertising and similar costs
(2) Expenses subject to year-end adjustment
(3) Income taxes
(4) Extraordinary items
(5) Earnings per share
(6) Seasonality
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24-30 LO 4 Descr ibe the account ing p roblems assoc iated with inter im report ing.
Disclosure Issues
In considering interim financial reporting, how does theprofession conclude that such reporting should be viewed?
a. As a "special" type of reporting that need not follow
generally accepted accounting principles.b. As useful only if activity is evenly spread throughout the
year so that estimates are unnecessary.
c. As reporting for a basic accounting period.
d. As reporting for an integral part of an annual period.
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Illustration 24-13
Auditors Report
Auditors and Managements Reports
Auditors Report
Unqualified Opinion
auditor expresses the
opinion that the financial
statements are presented
fairly in accordance with
GAAP. Other opinions:
Qualified
Adverse
Disclaim
LO 5
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24-32 LO 5 Identify the major disclosures in the auditors report.
Auditors and Managements Reports
Certain circumstances, although they do not affect the
auditors unqualified opinion, may require the auditor to add
an explanatory paragraphto the audit report.
Going Concert
Lack of Consistency- apple to apple
Emphasis of a Matter-
Auditors Report
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Qualified opinioncontains an exception to the standard
opinion. Usual circumstances may include:
1. Scope limitation.
2. Statements do not fairly present financial position or
results of operations because of:
a. Lack of conformity with GAAP.
b. Inadequate disclosure.
Auditors and Managements Reports
LO 5 Identify the major disclosures in the auditors report.
Auditors Report
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24-35 LO 5 Identify the major disclosures in the auditors report.
Auditors and Managements Reports
The MD&A section of a company's annual report is to cover the
following three items:
a. income statement, balance sheet, and statement of
owners' equity.
b. income statement, balance sheet, and statement of cash
flows.
c. liquidity, capital resources, and results of operations.d. changes in the stock price, mergers, and acquisitions.
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24-36 LO 6 Understand managements responsibilities for financials.
Auditors and Managements Reports
Managements Responsibilities for FinancialStatements
The Sarbanes-Oxley Act requires the SEC to develop
guidelines for all publicly traded companies to report on
managements responsibilities for, and assessment of, the
internal control system
----Management have the responsibility what GAAP they
want to choose.
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24-37 LO 7 Ident i fy issues related to f inancia l forecasts and project ions.
Current Reporting Issues
Reporting on Financial Forecasts andProjections
Financial forecastis a set of prospective financial statements
that present, a companys expected financial position, results of
operations, and cash flows.
Financial projectionsare prospective financial statements
that present, given one or more hypothetical assumptions, an
entitys expected financial position, results of operations, andcash flows. Regulators have established a Safe Harbor Rule.
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24-38 LO 7 Ident i fy issues related to f inancia l forecasts and project ions.
Current Reporting Issues
Which of the following best characterizes the difference between a
financial forecast and a financial projection?
a. Forecasts include a complete set of financial statements, while
projections include only summary financial data.
b. A forecast is normally for a full year or more and a projectionpresents data for less than a year.
c. A forecast attempts to provide information on what is expected to
happen, whereas a projection may provide information on what is
not necessarily expected to happen.d. A forecast includes data which can be verified about future
expectations, while the data in a projection is not susceptible to
verification.
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24-39 LO 7 Ident i fy issues related to f inancia l forecasts and project ions.
Current Reporting Issues
Internet Financial ReportingA large proportion of companies websites contain links to their
financial statements and other disclosures.
Allows firms to communicate more easily and quickly withusers.
Allow users to take advantage of tools such as search
engines.
Can help make financial reports more relevant by allowing
companies to report expanded disaggregated data.
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24-40 LO 8 Describe the professions response to fraudulent financial reporting.
Current Reporting Issues
Fraudulent Financial ReportingIntentional or reckless conduct, whether through act or omission,
that results in materially misleading financial statements.
Frauds involving such well-known companies as Enron,WorldCom, Adelphia, and Tycoindicate that more must be
done to address this issue.
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24-41 LO 8 Describe the professions response to fraudulent financial reporting.
Current Reporting Issues
Fraudulent Financial Reporting
Causes of Fraudulent Financial Reporting
Common causes are the desire
to obtain a higher stock price,
to avoid default on a loan covenant, or
to make a personal gain of some type (additional
compensation, promotion).
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24-43 LO 9 Understand the approach to f inancial statement analysis.
Perspective on Financial Statement AnalysisA logical approach to financial statement analysis is necessary,
consisting of the following steps.
1. Know the questions for which you want to find answers.
2. Know the questions that particular ratios and comparisons
are able to help answer.
3. Match 1 and 2 above. By such a matching, the statementanalysis will have a logical direction and purpose.
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
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24-44 LO 9 Understand the appro ach to f inancial statement analysis.
Analysis includes an understanding that
1. Financial statements report on the past.
2. Single ratio by itself is not likely to be very useful.
3. Awareness of the limitations of accounting numbers used in
an analysis.
Perspective on Financial Statement Analysis
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
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24-45 LO 10 Identify major analyt ic ratios and describ e their calculation.
Ratio Analysis
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
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Illustration 24A-1
LO 10 Identify major analyt ic ratios and describ e their calculation.
Ratio Analysis
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
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Illustration 24A-1
LO 10 Identify major analyt ic ratios and describ e their calculation.
Ratio Analysis
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
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Illustration 24A-1
LO 10 Identify major analyt ic ratios and describ e their calculation.
Ratio Analysis
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
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Illustration 24A-1
LO 10 Identify major analyt ic ratios and describ e their calculation.
Ratio Analysis
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
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24-50 LO 11 Explain the limitat ion s of ratio analysis.
Based on historical cost.
Use of estimates.
Achieving comparability among firms in a given industry.
Substantial amount of important information is not
included in a companys financial statements.
Limitations of Ratio Analysis
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
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24-51 LO 12 Descr ibe techniques of comparat ive analysis.
Illustration 24A-2Comparative Analysis
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
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24-52 LO 13 Describ e techn iques of percentage analysis .
Percentage (Common Size) Analysis
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
Illustration 24A-3
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24-53 LO 13 Describ e techn iques of percentage analysis .
Percentage (Common Size) Analysis
APPENDIX24A BASIC FINANCIAL STATEMENT ANALYSIS
Illustration 24A-4
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RELEVANT FACTS
Due to the broader range of judgments allowed in more principles-
based IFRS, note disclosures generally are more expansive under
IFRS compared to GAAP.
GAAP and IFRS have similar standards on post-statement offinancial position (subsequent) events. That is, under both sets of
standards, events that occurred after the statement of financial
position date, and which provide additional evidence of conditions
that existed at the statement of financial position date, are
recognized in the financial statements. Subsequent events underIFRS are evaluated through the date that financial instruments are
authorized for issue. GAAP uses the date when financial
statements are issued. Also, for share dividends and splits in the
subsequent period, IFRS does not adjust but GAAP does.
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RELEVANT FACTS
Like GAAP, IFRS requires that for transactions with related parties,
companies disclose the amounts involved in a transaction; the
amount, terms, and nature of the outstanding balances; and any
doubtful amounts related to those outstanding balances for each
major category of related parties.
Following the recent issuance of IFRS 8, Operating Segments, the
requirements under IFRS and GAAP are very similar.
Neither GAAP nor IFRS require interim reports. Rather, the SEC and
stock exchanges outside the United States establish the rules. In the
United States, interim reports generally are provided on a quarterly
basis; outside the United States, six-month interim reports are
common.
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Subsequent events are reviewed through which date under IFRS?
a. Statement of financial position date.
b. Sixty days after the year-end date.c. Date of independent auditors opinion.
d. Authorization date of the financial statements.
IFRS SELF-TEST QUESTION
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Under IFRS, share dividends declared after the statement of financial
position date but before the end of the subsequent events period are:
a. accounted for similar to errors as a prior period adjustment.
b. adjusted subsequent events, because they are paid from prior
year earnings.
c. not adjusted in the current years financial statements.
d. recognized on a prospective basis from the date of declaration.
IFRS SELF-TEST QUESTION
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