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Financial Reporting

Chapter 1

Intermediate Accounting
16E
COPYRIGHT © 2007
Thomson South-Western, a part of The Thomson Corporation. Thomson, the Star logo, and South-Western are trademarks
used herein under license.
 Learning Objectives
1. Describe the purpose of financial reporting
and identify the primary financial
statements.

2. Explain the function of accounting

standards and describe the role of the
FASB in setting those standards in the
United States.

3. Recognize the importance of the SEC,

AICPA, AAA and IRS to financial reporting.
 Learning Objectives (cont.)
4. Realize the growing importance and relevance of
international accounting issues to the practice of
accounting in the United States and understand
the role of the IASB in international accounting
standard setting.
5. Understand the significance of the FASB’s
conceptual framework in outlining the qualities of
good accounting information, defining terms such
as asset and revenue, and providing guidance
about appropriate recognition, measurement, and
reporting.
6. Identify career opportunities related to
accounting and financial reporting and
understand the importance of personal ethics in
the practice of accounting.
 Definition of Accounting
“Accounting is a service activity. Its function is
to provide quantitative information, primarily
financial in nature, about economic entities
that is intended to be useful in making
economic decisions—in making reasoned
choices among alternative courses of action.”
(Statement of the Accounting Principles Board
No. 4, p. 8)
 Key Features
Accounting:
• Provides a vital service in today’s
business environment.
• Uses quantitative financial information in
conjunction with qualitative evaluations
to help make decisions.
• Helps in decision making for scarce
resources.
• Impacts economic decisions about the
future by analyzing past information.
Users of Accounting Information
• Stakeholders are all parties interested
in the financial health of a company.
• Internal users make decisions that
directly affect the internal operations
of the company.
• External users make decisions
concerning their relationship to the
enterprise.
 Branches of Accounting
• Management accounting deals with
financial reporting for internal users-
especially management.

• Financial accounting focuses on creating

and communicating financial information
for external users.
 Financial Reporting
The
The balance
balance The income
sheet
The income The
sheet The statement
statement of of
reports,
reports, as statement
as of aa
statement
of reports,
cash
cash flows
reports, flows reports,
reports,
certain
certain point
pointforin
for aa specified
in specified for
for aa specified
specified time
time
time, Accounting
time, the
the interval,
interval, the
resources
resources estimates
the net
period,
period, the
net and
the amount
amount
judgments
of
of aa company
company aregenerated
assets
(the
assets
(the outlined
generated of
of cash
cashingenerated
the notes
generated
assets),
assets), the
the through
through business
businessand
and consumed
consumed by
by aa
to financial statements.
company’s operations
company’s operations company
company through
through
obligations(revenues),
obligations (the
(revenues),
(the the
theoperating,
net
operating,
net financing,
financing,
liabilities), assets
liabilities), and
and theconsumed
the
assets consumed and
and(the
investing
(the
investing
equity
equity ofof theexpenses),
theexpenses), andandactivities.
the
activities.
the
owners.
owners. net
net income.
income.
 Auditor’s Role
• Auditors working independently of a
company’s management and internal
accountants examine the financial
statements
• They issue an auditor’s opinion about
the fairness of the statements and their
adherence to proper accounting
principles.
 Securities Exchange
Commission (SEC)
• 1929 stock market crash blamed on
nonstandard accounting.
• 1933 Securities Act established SEC to
standardize accounting.
• Created to protect the interests of investors by
ensuring full and fair disclosure.
• Granted legal authority to dictate GAAP.
• Has tended to defer setting GAAP to the
accounting profession.
Financial Accounting Standards
Board (FASB)
• A private sector body responsible for the
US accounting standards (also known as
GAAP).
• Seven full-time members comprise this
independent body.
• Issues Statements of Financial Accounting
Standards.
• Determines GAAP by “due process.”
• Works within the Conceptual Framework.
American Institute of Certified
Public Accountants (AICPA)
• Professional organization of practicing
CPAs in the United States
• Responsibilities include:
– certification
– continuing education
– quality control
– standard setting
 Internal Revenue Service
• The Internal
Revenue Service
(IRS) has the
primary goal of
equitable collecting
revenue.
• Although not the
same, there are
many areas where
tax and financial
accounting are
related.
 International Accounting
Standards Board (IASB)
• Formed in 1973 to harmonize conflicting
worldwide standards.
• Similar to FASB, IASB develops
pronouncements after feedback sessions.
• Board members are representatives from
the US, UK, France, Germany, Sweden,
Canada, Australia, South Africa and Japan.
• IASB standards are called International
Financial Reporting Standards (IFRSs).
 Conceptual Framework
• Concepts guide the field in developing
new accounting policies for a
changing business world.
• When accountants face issues not
covered by GAAP, they are to look to
the conceptual framework as a guide.
• This framework can be traced to early
AAA publications in 1936.
 Objectives of Financial
Reporting
• Usefulness.
• Understandability.
• Target audience: investors and
creditors.
• Assessing future cash flows.
• Evaluating economic resources.
• Primary focus on earnings.
 Qualitative Characteristics of
Accounting Information
• Benefits
greater than
cost
• Relevance
• Reliability
• Comparability
• Materiality
 Recognition
• Recognition- Taking all the estimates and
judgments into one number and using that
number to make a journal entry.
• Recognition Criteria- For an item to be
formally recognized, it must meet one of the
definitions of the elements of the financial
statements.
– For example, revenue must meet the definition
of revenue to be recorded and reported on the
income statement.
• Disclosure- Skipping the journal entry and
just relying on the note to convey the
information to users.
 Measurement
• Five attributes of measurement:
1. Historical cost
2. Current replacement cost
3. Current market value
4. Net realizable value
5. Present (or discounted) value
 Reporting
• To meet the objectives of financial
reporting, a full set of financial statements
should include:
1. Financial position at the end of the period
2. Earnings (net income) for the period
3. Cash flows during the period
4. Investments by and distributions to
owners during the period
5. Comprehensive income for the period
 Traditional Assumptions
• Underlying assumptions not
addressed in the framework:
1. Economic entity
2. Going concern
3. Arm’s-length transactions
4. Stable monetary unit
5. Accounting period
Careers in Financial Accounting

1. Public
Accounting
2. Corporate
Accounting
3. User (analyst,
banker,
consultant