kieso 14e powerpoint ch24

24-1

Prepared by Coby Harmon

University of California, Santa Barbara

Intermediate Accounting

24-2

Intermediate Accounting

14th Edition

24Full Disclosure in Financial Reporting

Kieso, Weygandt, and Warfield

24-3

1. Review the full disclosure principle and describe implementation

problems.

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 auditor’s report.

6. Understand management’s responsibilities for financials.

7. Identify issues related to financial forecasts and projections.

8. Describe the profession’s response to fraudulent financial reporting.

Learning ObjectivesLearning ObjectivesLearning ObjectivesLearning Objectives

24-4

Accounting policies

Common notes

Full Disclosure Principle

Notes to Financial

Statements

Disclosure Issues

Auditor’s and Management’s

Report

Current Reporting

Issues

Increase in reporting requirements

Differential disclosure

Special transactions or events

Post-balance-sheet events

Diversified companies

Interim reports

Auditor’s report

Management’s reports

Reporting on forecasts and projections

Internet financial reporting

Fraudulent financial reporting

Criteria for accounting and reporting choices

Full Disclosure in Financial ReportingFull Disclosure in Financial ReportingFull Disclosure in Financial ReportingFull Disclosure in Financial Reporting

24-5

Full disclosure principle calls for financial reporting of any

financial facts significant enough to influence the judgment

of an informed reader.

Financial disasters at Microstrategy, PharMor,

WorldCom, and AIG highlight the difficulty of implementing

the full disclosure principle.

LO 1 Review the full disclosure principle and describe implementation problems.

1. Full Disclosure Principle1. Full Disclosure Principle1. Full Disclosure Principle1. Full Disclosure Principle

24-6 LO 1 Review the full disclosure principle and describe implementation problems.

Full Disclosure PrincipleFull Disclosure PrincipleFull Disclosure PrincipleFull Disclosure Principle

Illustration 24-1Types of FinancialInformation

24-7

Increase in Reporting Requirements

Reasons:

Complexity of business environment.

Necessity for timely information.

Accounting as a control and

monitoring device.



24-8

Differential Disclosure



“Big GAAP versus Little GAAP”.

FASB takes the position that there should be one set of

GAAP.

24-9

Notes are the means of amplifying or explaining the items

presented in the main body of the statements.

LO 2 Explain the use of notes in financial statement preparation.

2. Notes to the Financial Statements2. Notes to the Financial Statements2. Notes to the Financial Statements2. Notes to the Financial Statements

Accounting Policies

Companies should present a statement identifying the accounting

policies adopted (Summary of Significant Accounting Policies).

24-10 LO 2 Explain the use of notes in financial statement preparation.

Notes to the Financial StatementsNotes to the Financial StatementsNotes to the Financial StatementsNotes to the Financial Statements

Which of the following should be disclosed in a Summary of

Significant 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.

24-11

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


Notes to the Financial StatementsNotes to the Financial StatementsNotes to the Financial StatementsNotes to the Financial Statements

24-12

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.


3. Disclosure Issues3. Disclosure Issues3. Disclosure Issues3. Disclosure Issues

24-13

If a business entity entered into certain related party transactions, it

would be required to disclose all the following information except the

a. nature of the relationship between the parties to the

transactions.

b. nature of any future transactions planned between the parties

and the terms involved.

c. dollar amount of the transactions for each of the periods for

which an income statement is presented.

d. amounts due from or to related parties as of the date of each

statement of financial position presented.


Disclosure IssuesDisclosure IssuesDisclosure IssuesDisclosure Issues

24-14

Post-Balance Sheet-Events (Subsequent Events)



1 - Events that provide additional

evidence about conditions that

existed at the balance sheet date.

2 - Events that provide

evidence about conditions that

did not exist at the balance

sheet date.

Illustration 24-3Time Periods forSubsequent Events

24-15

______ 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 company’s 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 following

subsequent 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.



a

c

b

b

c

b

24-16 LO 2 Explain the use of notes in financial statement preparation.


______ 7. Loss of a significant customer.

______ 8. Prolonged employee strike.

______ 9. Material loss on a year-end receivable because of a

customer’s bankruptcy.

______ 10. Hiring of a new president.

______ 11. Settlement of prior year’s 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 following

subsequent 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.

24-17

Reporting for Diversified Companies

LO 3


Investors and investment analysts income statement, balance

sheet, and cash flow information on the individual segments

that compose the total income figure.

Illustration 24-5Segmented IncomeStatement

24-18

Objective of Reporting Segmented Information

LO 3 Discuss the disclosure requirements for major business segments.


To provide information about the different types of business

activities in which an enterprise engages and the different

economic environments in which it operates.

Meeting this objective will help users:

a) Better understand the enterprise’s performance.

b) Better assess its prospects for future net cash flows.

c) Make more informed judgments about the enterprise as a

whole.

24-19

Basic Principles



GAAP requires that general-purpose financial statements

include selected information on a single basis of segmentation.

A company can meet the segmented reporting objective by

providing financial statements segmented based on how the

company’s operations are managed (management

approach).

24-20

Identifying Operating Segments



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

company’s chief operating decision maker.

c. For which discrete financial information is available.

24-21

Quantitative Materiality Test: Must satisfy one to 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

company’s 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



24-22

Quantitative Materiality Test: In applying these tests, the

company must consider two additional factors.

1. Segment data must explain a significant portion of the company’s

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 the

number of segments that a company must disclose.

LO 3




24-23

Materiality Test Illustration

LO 3


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 24-6Data for Different PossibleReporting Segments

24-24 LO 3



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 24-6Data for Different PossibleReporting Segments

24-25

Segmented Information Reported



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.

24-26 LO 3 Discuss the disclosure requirements for major business segments.


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 revenue

and gains.

24-27 LO 3 Discuss the disclosure requirements for major business segments.


The profession requires disaggregated information in the

following ways:

a. products or services.

b. geographic areas.

c. major customers.

d. all of these.

24-28

Interim Reports

LO 4 Describe the accounting problems associated with interim reporting.


Cover periods of less than one year.

Two viewpoints exist:

1. Discrete approach

2. Integral approach

Companies should use the same accounting principles for

interim reports that they use for annual reports.

24-29

Unique Problems of Interim Reporting

LO 4 Describe the accounting problems associated with interim reporting.


(1) Advertising and similar costs

(2) Expenses subject to year-end adjustment

(3) Income taxes

(4) Extraordinary items

(5) Earnings per share

(6) Seasonality

24-30 LO 4 Describe the accounting problems associated with interim reporting.


In considering interim financial reporting, how does the

profession 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.

24-31

Illustration 24-13Auditor’s Report

Auditor’s and Management’s ReportsAuditor’s and Management’s ReportsAuditor’s and Management’s ReportsAuditor’s and Management’s Reports

Auditor’s 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

24-32 LO 5 Identify the major disclosures in the auditor’s report.


Certain circumstances, although they do not affect the

auditor’s unqualified opinion, may require the auditor to add

an explanatory paragraph to the audit report.

Going Concert

Lack of Consistency

Emphasis of a Matter

Auditor’s Report

24-33

Qualified opinion contains 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.


LO 5 Identify the major disclosures in the auditor’s report.

Auditor’s Report



Management’s Report

The SEC mandates inclusion of management’s discussion

and analysis (MD&A).

Management highlights favorable or unfavorable trends

related to liquidity, capital resources, and results of

operations.



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.

24-36 LO 6 Understand management’s responsibilities for financials.


Management’s Responsibilities for Financial Statements

The Sarbanes-Oxley Act requires the SEC to develop

guidelines for all publicly traded companies to report on

management’s responsibilities for, and assessment of, the

internal control system.

24-37 LO 7 Identify issues related to financial forecasts and projections.

Current Reporting IssuesCurrent Reporting IssuesCurrent Reporting IssuesCurrent Reporting Issues

Reporting on Financial Forecasts and Projections

Financial forecast is a set of prospective financial statements

that present, a company’s expected financial position, results of

operations, and cash flows.

Financial projections are prospective financial statements

that present, given one or more hypothetical assumptions, an

entity’s expected financial position, results of operations, and

cash flows. Regulators have established a Safe Harbor Rule.



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 projection

presents 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.



Internet Financial Reporting

A large proportion of companies’ websites contain links to their

financial statements and other disclosures.

Allows firms to communicate more easily and quickly with

users.

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.

24-40 LO 8 Describe the profession’s response to fraudulent financial reporting.


Fraudulent Financial Reporting

Intentional 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 Tyco indicate that more must be

done to address this issue.




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).




Causes of Fraudulent Financial Reporting

Common opportunities for fraudulent financial reporting

► Absence of a board of directors or audit committee.

► Weak or nonexistent internal accounting controls.

► Unusual or complex transactions.

► Accounting estimates requiring significant judgment.

► Ineffective internal audit staffs.

24-43 LO 9 Understand the approach to financial statement analysis.

Perspective on Financial Statement Analysis

A 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 statement

analysis will have a logical direction and purpose.

APPENDIXAPPENDIX 24A BASIC FINANCIAL STATEMENT ANALYSIS

24-44 LO 9 Understand the approach to financial 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


24-45 LO 10 Identify major analytic ratios and describe their calculation.

Ratio Analysis


24-46

Illustration 24A-1

LO 10 Identify major analytic ratios and describe their calculation.

Ratio Analysis


24-47

Illustration 24A-1


Ratio Analysis


24-48

Illustration 24A-1


Ratio Analysis


24-49

Illustration 24A-1


Ratio Analysis


24-50 LO 11 Explain the limitations 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 company’s financial statements.

Limitations of Ratio Analysis


24-51 LO 12 Describe techniques of comparative analysis.

Illustration 24A-2Comparative Analysis


24-52 LO 13 Describe techniques of percentage analysis.

Percentage (Common Size) Analysis


Illustration 24A-3

24-53 LO 13 Describe techniques of percentage analysis.

Percentage (Common Size) Analysis


Illustration 24A-4

24-54

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 of financial 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 under IFRS 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.

24-55

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.

24-56

Which of the following is false?

a. In general, IFRS note disclosures are more expansive

compared to GAAP.

b. GAAP and IFRS have similar standards on subsequent events.

c. Both IFRS and GAAP require interim reports although the

reporting frequency varies.

d. Segment reporting requirements are very similar under IFRS

and GAAP.

IFRS SELF-TEST QUESTION

24-57

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 auditor’s opinion.

d. Authorization date of the financial statements.


24-58

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 year’s financial statements.

d. recognized on a prospective basis from the date of declaration.


24-59

Copyright © 2012 John Wiley & Sons, Inc. All rights reserved.

Reproduction or translation of this work beyond that permitted in

Section 117 of the 1976 United States Copyright Act without the

express written permission of the copyright owner is unlawful.

Request for further information should be addressed to the

Permissions Department, John Wiley & Sons, Inc. The purchaser

may make back-up copies for his/her own use only and not for

distribution or resale. The Publisher assumes no responsibility for

errors, omissions, or damages, caused by the use of these

programs or from the use of the information contained herein.

CopyrightCopyrightCopyrightCopyright