1111 Intermediate Accounting, Ninth Edition Kieso and Weygandt Prepared by Catherine Katagiri, CPA...

1111

Intermediate Accounting,Ninth Edition

Intermediate Accounting,Ninth Edition

Kieso and WeygandtKieso and Weygandt

Prepared byPrepared by

Catherine Katagiri, CPACatherine Katagiri, CPA

The College of Saint RoseThe College of Saint Rose

Albany, New YorkAlbany, New York

John Wiley & Sons, IncJohn Wiley & Sons, Inc..

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CHAPTER 1 FINANCIAL ACCOUNTING &ACCOUNTING STANDARDS

After studying this chapter you should be able to:After studying this chapter you should be able to:• Describe the essential characteristics of accounting.

• Identify the major financial statements and other means of financial reporting.

• Explain how accounting assists in the efficient use of scarce resources.

• Identify some of the challenges facing accounting.

• Identify the objectives of financial reporting.

• Explain the need for accounting standards.

• Identify the major policy-setting bodies and their role in the standard-setting process.

• Explain the meaning of generally accepted accounting principles.

• Describe the impact of user groups on the standard-setting process.

• Understand issues related to ethics and financial accounting.

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• The identification, measurement,

and communication of financial

information about economic

entities to interested parties.

• Accountants serve as

“preparers” to external and

internal users.

Accounting: Service Enterprise

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Accounting: Service Enterprise`

• Financial Accounting- Intermediate Accounting I & II

– Primary perspective is to inform external users of

financial information.

– Preparation of the financial statements.

– Conformance to generally accepted accounting

principles (GAAP).

– Follows accrual based accounting.

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• Environmental factors impacting accounting:

– Social --The general type of social structure will affect

perceived needs, acceptable goals, methods and so on.

– Economic --Economic structure will affect how resources

are reported on and how resources flow.

– Legal --In many ways laws and regulations will affect

acceptable accounting theory.

– Political --Accounting does not operate in a vacuum and will

be influenced by the political environment.

– Religious --Accounting will be affected by the basic values

of society and individuals which will help determine the

allocation of resources.

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• As a discipline accounting tends to be reactive not

proactive.

– Generally, since accounting can not

experiment with individual firms or the

economy as a whole, problems are

addressed as they develop rather than

anticipating them.

– With the increased emphasis on research

and early analysis of possible areas of

concern, problems can be addressed in a

more timely manner.

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• Accounting:

– Follows the separate entity concept. It is

assumed the business is separate and distinct

from its owners.

– Has a standard unit of measure. Transactions

will be measured in stable dollars.

– Has become increasingly important with the

separation of ownership and control in a

corporation. There needs to be an

independent, reliable means of reporting to the

owners since they are not usually involved in

the normal operations of the large corporation.

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Challenges Facing Accounting

• Present state of the United States economy is strong due, in part, to the

high quality of accounting information and timely reporting.

• Challenges facing Accounting:

– Non-financial Measurement: To adequately assess

performance, liquidity and stability, other non-financial

forms of information will need to be available.

– Forward-looking information: Accounting relies on, as

more reliable, past events (historical costs) rather than

expected or projected values or events. Some

consideration of tomorrow will have to be considered to

enhance the usefulness of accounting information.

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Challenges Facing Accounting

– Soft-assets: Assets besides “hard” property, plant

and equipment groupings will need to be considered

farther. Human resource accounting, valuing a

trained, dedicated work force, the entrepreneurial

spirit, are not presently valued on the financial

statements today.

– Timeliness: Financial statements have been

prepared only quarterly, and audited fianancials

provided only annually. Little or no real-time

financial statement information has been available.

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• Objectives of Financial Accounting:

– Information (disclosure) to a “reasonable person” through the

use of accrual accounting.

– To aid in investment, credit decisions.

– To supply information to help assess the amounts, timing and

uncertainty of future cash flows.

–To provide information on

resources and claims on those

resources.

–The accrual basis of

accounting provides a better

analysis tool than a simple

analysis of cash receipts and

disbursements. More objective.

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• Development of Standards

– To enhance the ability to evaluate information and

performance within and between firms, over time. To

communicate information that is consistently prepared and

comparable.

• Standards developed in a very consensual manner. No “ivory tower” approach to rule development. Due process followed (more later).

– To help fulfill Accounting’s fiduciary duty to report to public.

– To develop a single set of financial statements, ”taken as a

whole.”

• Income Statement

• Balance Sheet

• Statement of Retained Earnings

• Statement of Cash Flows


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• Body of rules-GAAP (Generally Accepted Accounting

Principles)-uniform theory. “Generally Accepted” means

accepted as appropriate by the weight of theory and

universality of application.

• Historical Perspectives

– Industrial Revolution

– Before 1900-B/S primary; unsophisticated; Income not

reported publicly.

– 1913 -Income Tax Act

– 1929 -Stock Market Crash

– 1933-34 -Securities and Exchange

Commission Acts (more later)

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• Parties Involved in Standard Setting--AICPA

– CAP-Committee on Accounting Procedure 1939-

1959

• Part-time, volunteer, appointed.

• Issued ARBs (Accounting Research Bulletins)

listed on text inside front cover.

• Not thorough or involved enough-piecemeal

approach.

• No basic theory established.

Parties Involved in Standard Setting

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– APB- Accounting Principles Board 1959-1973

Senior Committee of the AICPA.

• Issued Opinions, listed on text inside front

cover.

• Formed to settle problems and do research.

• More authority than CAP.

• 18-21 members, part-time and poorly paid.

Challenged early on from various

constituencies.

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Wheat Committee formed to address need for coherent approach to

theory and practice. Recommended the formulation of:

– FASB-Financial Accounting Standards Board (1973-present)

• Seven highly paid, full-time members from various

constituencies (practice, research, users). 5-year terms.

• Independent of AICPA, under the auspices of the Financial

Accounting Foundation (FAF).

–The FAF selects the members of the FASB.

–The FAF oversees the Financial Accounting Standards

Advisory Council (FASAC) which has the responsibility to

consult with the FASB on major policy and technical issues.

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– FASB has broader representation than CAP or APB.

• Member need not be a CPA.

– FASB issues:

•Standards

•Interpretations

•Concepts

•Technical Bulletins

•Industry Guides

•Please see figure 1-5 House of GAAP (text).

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• DUE PROCESS: To develop standards (GAAP)

(page 10, text)

– A topic or project is identified and placed on

FASB’s agenda.

– A task force is assembled to define problems,

issues and alternatives.

– Research is conducted by FASB technical staff.

– A discussion memorandum is drafted and

released.

– Public hearings are held in a timely manner.

– The FASB committee analyzes and evaluates

public response.

– The FASB committee deliberates and prepares

and exposure draft.

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– Again, public hearings are held in a timely manner,

comments taken.

– The FASB committee evaluates the public comments

and revises the draft as necessary.

The full board of FASB

reviews final draft and, if

approved by a vote of at

least 5 of 7, issues a

Standards Statement.FASB

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• Public versus Private regulation of profession. The Accounting

Profession seeks to govern itself directly rather than have the

government directly draw up the GAAP to be followed.

• Should Securities and Exchange Commission exercise direct

oversight?

• Congressional Actions:

– Metcalf-Moss-Revised due process procedures.

– Dingell Committee (1985)-Standard setting

process sufficient.

– Trueblood Committee-Set up Accounting Change

Commission.

FASB: A Look to the Future

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• Standards Overload v. Timely Guidance

– Big GAAP-Complex registrants.

– Little GAAP-Nonregistrants, smaller firms.

– Very specialized standards--Too complex or

complex issues?

– Standard overload-A quick look at textbook inner

covers for dates demonstrates how numerous

and complex new standards have become!

– Timely guidance-Due process too long? If faster

will issues be adequately addressed?

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• FASB response:

– Set up two sets of standards?: OCBOA-Other Comprehensive Basis

of Accounting-problems, comparability, consistency.

– Increased use of EITF-Emerging Issues Task Force-to prioritize

concerns.

• Emerging Issues Task Force:

– Set up by FAF to advise FASB.

– 16 members -no user representation!

– Prioritizes issues and treatment:

• General consensus there is preferable treatment-no further study.

• No consensus but problem narrow-no further action.

• No consensus but agreement important--FASB attention.

– Is it usurping the FASB’s role?

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• Preparer dominance in setting GAAP (resource allocation)?

– Vested interest in simplicity and “work product”.

– Reduced SEC involvement lately.

– Some wish to change focus of reports from public to

management!

– Preparers have severely criticized the FASB-not “blue

ribbon”.

• To prevent abuse Users should remain active!

– Greater SEC involvement; preparers

lose most by direct regulation.

– Careful selection of FASB

board members.


Members of the FAF selected carefully (independent).

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• SEC-Securities and Exchange Commission

– First group to draw up professional standards.

– 1933 Act--Set up commission and governed initial

issuance of shares.

– 1934 Act--Governed subsequent trading in shares.

– Statutory power to govern profession-uses “veto

power”.

– Issues :

• FRR (Financial Report Releases)

• Regulation S-X which contains instructions and

forms for filing financial statements.

• Decisions on cases coming before the SEC.

Other Important Rulemaking Bodies

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• Need for regulation arose chiefly out of the corporate characteristic

of the separation of ownership and control. Regulation of Securities

in the U.S. (federal)

– Federal Trade Commission Act (Interstate commerce)

– Clayton Act (Interstate commerce)

– Early attempts at regulation failed-no “big problem”

yet.

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• Regulation of Securities in the U.S. (state)

– Kansas 1911-by 1913 22 states had regulatory laws-”blue sky” laws.

– Not terribly effective.

• Abuses in 1920’s

– Price manipulation “wash sales”.

– Purchase on “margin”.

– Insider trading.

• Establishment of the SEC

– Charged to ensure “full and fair disclosure”, concern for fraud and

securities registration.

– Accused of self-interest and accumulating power-- hopefully it

serves the public.


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• Growth of SEC

– From tentative acceptance SEC has grown and become more

involved.

– 1962-market disruption brought amendments-Exchange Act.

– 1977-Foreign Corrupt Practices Act-Criminal penalties possible for

management and accountants; adequacy of internal control.

– 1984-Insider Trader Sanctions Act-increased penalties.

• Question still remains as to how effective SEC is in regulating capital

markets.

– Exercises veto power over accounting profession

although vested with direct authority (as discussed

before).

– Regulated filings adequate?


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• Organizational Structure of SEC:

– Office of the Chief Accountant is the most powerful in the United

States!

• Responsible for administration of laws.

• Works with the FASB.

• Works with many other organizations (e.g., major stock exchanges).

• Enforcement by SEC:

– Letter of deficiency used if there are

questions, irregularities that arise in the

financial statements, reports. If the

problems persist, a “stop order” will

be issued. Criminal charges are possible.

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• GASB-Governmental Accounting Standards Board -

1984

– Under the auspices of the FAF.

– Operational structure similar to the FASB.

– Deals with state and local governmental issues.

– Unclear its relationship to FASB-do we need

two?

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• Primary Purpose of Financial Accounting: Financial

statements that shall not mislead the reader.

• GAAP-Rule 203-Code of Professional Conduct--

Lends enforceability to GAAP.

• “Expectations Gap” This is the difference between

what the public expects accountants will be able to

do and be responsible for and what the accounting

profession is willing and able to assume

responsibility for.

Issues in Financial Reporting

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Issues in Financial Reporting

• International Accounting Standards Committee (IASC)

– Formed in 1973 to improve standards (as much as possible) in the

preparation of the financial statements.

– SEC has indicated international companies may use IASC

standards in the US if the IASC meets 3 conditions.

• The standards constitute a comprehensive, generally

accepted basis of accounting

• The standards are of high quality and

• They be rigorously interpreted and applied.

• We will be considering several ethical issues or cases during

the course of the semester. Along with other references,

please see pages 19 & 20 of your text for the basic steps in the

process of enhancing ethical awareness.

1111 Intermediate Accounting, Ninth Edition Kieso and Weygandt Prepared by Catherine Katagiri, CPA...

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