ACCO 310 Chapter 1

Companies following ASPE in Canada (Private companies only) must provide the following financial reports:

1.Statement of Financial Position (Balance Sheet) 2. Income Statement 3. Statement of Cash Flows (Cash Flow Statement) 4. Statement of Retained earnings

Theory of Moral Hazard?

People will do whatever is in their best interests if they can get away with it - regardless of whether this is in the company's best interests and regardless of whether it harms the public or other stakeholders. Management bias - may result in overstating assets and revenues if a manager's bonus is at stake by adopting aggressive accounting policies

What is Ethics for Accountants?

- Accountants are entrusted by the public and expected to be ethical - Often this means ignoring biases and pressures and reporting things correctly, in spite of the consequences. Some ethical issues are straight forward while others are not.

Role of an Accountant in the Capital Allocation Process?

- Financial information (including financial statements) determines which companies' lenders and investors will invest or loan money to. Which companies survive and which ones don't. - Accountants have a serious responsibility to the public to provide relevant and reliable information to assist potential stakeholders in this process - Accountants also have a stewardship obligation to the stakeholders. That is, they must ensure that company assets are safeguarded and put to the best possible use. - They may also have a broader responsibility (fiduciary responsibility) to the public, e.g. when working for public companies pension plans etc... - Auditors: add credibility to financial statements through an independent verification of the company's accounting records and practices. Auditors can't verify every single transaction (thus there is always audit risk). Unethical managers may deliberately choose to keep auditors in the dark about certain things. - A stakeholder of a company is someone who stands to lose something if the company fails or performs poorly

Financial Reporting

-Process of preparing financial reports (statements) for external and internal users -The primary objective of financial reporting is to aid current and potential stakeholders in their decision making, particularly with respect to lending money or investing in the company

Impact of Technology?

-The internet has made timely financial information available to just about everyone, at a low cost to the company. But will everyone have equal access to this information? -Since this information is often unaudited, is it reliable? Will real-time information become more accessible to all? If so, how will this change our role as accountants? We want to embrace technology but maintain the quality of traditional financial reporting.

The 4 types of Management Biases are?

-Use of financial statements to evaluate managers' performance -Use of financial statements to determine compensation (e.g. bonus) -Use of financial statements to influence stock price (analysts) and whether a company will gain access to capital markets. -Use of financial statements to determine whether debt covenants have been violated. Management should avoid such pressures and behave ethically and record transactions according to their substance, not their own personal motivations.

For the IASB, primary sources are?

1. IFRS Standards. 2. IAS (pre-IFRS) Standards 3. IFRIC (International Financial Reporting Interpretations Committee) Under both ASPE & IFRS, all other sources of GAAP are considered "other" or secondary These include: -Background information by AcSB or IASB -Pronouncements by other standard setting bodies -Draft Primary Sources -Research studies -Textbooks -Industry Practice Sometimes there is no guidance for a given accounting issue - in this case, professional judgement is applied.

In Canada, public companies must follow International Financial Reporting Standards (IFRS)

Canadian companies will follow U.S. GAAP but this will be quite rare. Canadian companies trading on U.S exchanges may apply U.S GAAP or IFRS (IFRS is acceptable for foreign companies listed on U.S. stock exchanges). Non-public with a fiduciary responsibility (i.e. a responsibility to the public) such as pension funds and mutual funds must also follow IFRS. In Canada, private companies may apply Accounting Standards for Private Enterprises (ASPE) or IFRS.

What is a Market Oversight?

Due to scandals like Enron and Worldcom, the Sarbanes Oxley (SOX) Act was passed in the U.S. in 2002, giving much more policing authority to the SEC for public companies. Key elements of SOX include: -Stronger independence rules for auditors -Creation of an oversight board. -CEOS and CFOs must sign off on the statements and if there is a restatement, they risk losing their bonuses. -Audit committees must have independent members with financial expertise. -Companies must disclose their code of ethics.

What is a Integrated Reporting?

Financial reporting is one aspect of reporting a company's performance - an important one - but not the only one. The International Integrated Reporting Committee (IIRC) has been established to put forth a more comprehensive model of reporting, one that includes areas such as management information, sustainability, governance and compensation in addition to the financial reporting. The idea is to see financial information as part of a bigger picture

What is Standard Setting?

Generally Accepted Accounting Principles (GAAP). Authoritative pronouncements/standards or commonly accepted practices.

Principles vs. Rules ?

Rules-based bodies are very large (look at the Tax Act - a rule for everything!)

Does the price of a stock reflect all of the information about a stock?

The efficient market hypothesis says it does. But this is not always the case. Those in the know (such as managers) will often use insider information to capitalize on information before the public can

Theory of Adverse Selection?

This theory states that where information asymmetry exists, capital markets will attract the wrong type of company - companies that stand to gain by hiding information. Companies that fully disclose all information may have their share prices discounted and may thus be discouraged from entering the capital markets in the first place.

What is the importance of U.S. GAAP?

U.S. GAAP is largely rules-based (i.e. they try to have a rule for every situation) whereas IFRS and ASPE are principles-based, allowing for more leeway and judgement. U.S. GAAP is often the "fall-back" for Canadian companies following IFRS or ASPE and can't find the guidance they need for their situations under these standards.

The Politics of Standard Setting?

Who should influence accounting standards? Lobby groups? Vocal stakeholders? Standard-setting bodies like the IASB have an obligation to remain impartial and do what's best for the economy, and be ethical and unbiased. To accomplish this, the IASB ensure that the funding it receives is broad-based, "strings-free" and from multiple nations to minimize the likelihood of favouring any one user group.

Standard setting in Canada?

1. Canadian Accounting Standards Board (AcSB): Part of the CICA. Responsible for ASPE. (Part II of the CICA Handbook), pension plans and private not-for-profit entities. 2. International Accounting Standards Board (IASB): Responsible for IFRS (Note that the IFRS standards are effectively Part I of the CICA Handbook). Public companies in Canada have adopted IFRS since January 1, 2011.

What are the U.S. Accounting Standards?

1. Federal Accounting Standards Board (FASB) - responsible for U.S. GAAP. Note that U.S. GAAP standards are already converged with IFRS. The eventual goal is full convergence, but that may or may not happen. The U.S isn't likely to give up its right to determine its own accounting rules to the IASB! 2. Securities & Exchange Commissions: These are provincial bodies in Canada with the largest being the Ontario Securities & Exchange Commission. In the U.S., the Securities & Exchange Commission (SEC) is a federal body. Securities & Exchange Commissions are not responsible for creating Accounting standards but they will occasionally comment on standards put forth by FASB (U.S.) or the IASB or AcSB.

For the AcSB, primary sources are?

1.CPA Handbook 2.Accounting Guidelines &Appendices.

Companies following IFRS (public or private companies) must provide the following financial reports:

1.Statement of Financial Position (Balance Sheet - just like ASPE) 2.Statement of Comprehensive Income (Net Income + Other Comprehensive Income (OCI) 3.Statement of Cash Flows (Cash Flow Statement - just like ASPE) 4.Statement of Changes in Equity (Reconciliation of beginning and ending balances for all shareholder equity amounts - not just Retained Earnings) 5. Notes to the financial statements.

What is the Canadian Public Accountability Board (CPAOB)?

Is Canada's answer to SOX and has legislation similar to SOX.

What is a GAAP Hierarchy?

Under both IFRS and ASPE, there is a hierarchy to GAAP. Sources of GAAP are either primary or other.

Stakeholders that have an interest in a company's results:

-Investors -Management -Securities Commissions & Stock exchanges (public companies) -Analysts -Auditors -Standard Setters

Limitations of Financial Statements?

1. Based on or up to a period in the past. Past information may or may not be indicative of future events (and thus may or may not be relevant) 2. Not geared towards a specific stakeholder - general purpose financial statements are provided to satisfy all stakeholders, not just shareholders. A company's assets are seen as separate and distinct from those of the stakeholders. This is the entity approach to financial reporting. A proprietary perspective would gear the financial statements towards one specific group. But this is not done, as it is unethical and unfair to the other stakeholders and may introduce bias in forming accounting policies

Information Asymmetry?

In a perfect world, we'd all have the same information about a company at the same time, and we'd have a level playing field Typically insiders have more information than does the public. The internet reduces the gaps between who knows what. Still, insiders will usually know something before the public will.