Unit 4: Generally Accepted Accounting Principles (GAAP)
When does a public accounting firm prepare an auditor's report? (3)
a public accounting firm prepares an auditors report following an audit, a review or a compilation.
a qualified opinion can be either (2)
a qualified opinion can be: - an adverse opinion (the financial statements did not materially comply with the GAAP) - a disclaimer (the auditor is unable to express an opinion and does not accept any responsibility for the reliability of the financials)
Review
a review only provides limited evaluation of a co.'s financial statements
industry practices contraint
in financial reporting, widely used industry practices may be applied in conjunction with GAAP (if no specific GAAP applies)
Matching principle
the matching principle requires that expenses incurred be matched with the corresponding revenues earned.
conservatism constraint
the more conservative method applies when more than one way of reporting financial information can be used (results in a lesser amount of income or assets)
Compilation
unlike an audit and review, a compilation does not involve any level of assessment of a company's financial statements.
Qualified auditor's opinion v. unqualified auditor's opinion
unqualified - the auditor accepts the maximum degree of responsibility for thoroughly auditing all the financials and finding them in good order qualified - the auditor accepts the maximum degree of responsibility for thoroughly auditing all the financials except for the items explained in the qualification
materiality constraint
GAAP may be avoided if such avoidance has no material effect on the interpretation of financial data
Revenue/Expense Recognition principle
revenue is recognized when earned. An expense is recognized when it actually contributed to revenue. exceptions apply
GAAP Principles (4)
1. Full disclosure 2. Historical Cost 3. Matching 4. Revenue/Expense Recognition
GAAP Assumptions (4)
1. Separate Entity 2. Stable Monetary Unit 3. Fixed Time period 4. Going Concern
GAAP Constraints (4)
1. conservatism 2. cost-benefit 3. materiality 4. industry practices
When is a Review usually conducted ?
1. quarter end financials statements of public companies 2. some private companies
2 types of unaudited financial statements
1. review - the financials were reviewed and the auditor performed limited inquiry & analytical procedures 2. compilation - the financials were prepared and compiled but does not include any review or verification procedures (the CPA assumes no responsibility for accuracy)
Fixed Time Period Assumption
Fixed Time Period Assumption provides that financial statements can be prepared in different but specific time periods, such as monthly, quarterly or annually.
Generally Accepted Accounting Principles (GAAP)
Generally Accepted Accounting Principles are principles, rules, and standards to be followed in preparing and reporting financial statements which are the primary source of information in financial analysis.
Stable Monetary Unit Assumption
Items must be recorded in their monetary value and a stable currency
Full disclosure principle
The Full disclosure principle asserts that all relevant financial information must be disclosed
Separate Entity Assumption
The Separate Entity Assumption provides that the financials of a business be kept separate from the owner's personal finances
Public companies are require to have their financials audited by a public accounting firm (T/F) ?
True
Going Concern Assumption
a business is assumed to operate for a long time. if liquidation is imminent, a company may cease to be a going concern.
Audit
a comprehensive examination of a co.'s financial statements
Historical Cost principle
assets and expenses are reported in their original or acquisition cost.
cost-benefit constraint
costs incurred in maintaining an account system must not exceed the benefits derived from it (allows companies to expect benefits that exceed incurred costs)
When is only an audit or compilation usually done?
for small private companies