Quiz 1 (FAR)
What is the role of the Financial Accounting Standards Advisory Council (FASAC)?
To provide guidance on major policy issues, project priorities, and the formation of task forces.
What is the objective of general purpose financial reporting?
To provide information about the entity useful to current and future investors and creditors in making decision as capital providers.
What is the primary objective of financial reporting?
To provide information that is useful for economic decision making.
If the estimates of an outcome are not equally likely, what is the preferred approach?
To report the most likely estimate, rather than the more conservative estimate.
When relevance and faithful representation conflict
a trade-off is made favoring one or the other
What is the constraint in setting accounting standards?
Cost effectiveness (or cost-benefit)
According to the FASB conceptual framework, the relevance of providing information in financial statements is subject to the constraint of
Cost-benefit.
According to the conceptual framework, the usefulness of providing information in financial statements is subject to the constraint of
Cost-benefit.
Reporting inventory at the lower of cost or market is a departure from the accounting principle of:
Historical Cost
What cost principle does the going concern assumption support for many assets?
Historical Cost
Origination value
Historical cost
Amortized Cost
Historical cost less the accumulated amortization or depreciation of the asset Ex) buildings and equipment are reported at historical cost less accumulated depreciation
GAAP affects what is disclosed in financial statements and in what amount. For example, GAAP requires that many assets be reported at their
Historical cost, rather than at current market value
Concepts Statement
Does not constitute GAAP but is used in the development of GAAP
When a parent-subsidiary relationship exists, consolidated financial statements are prepared in recognition of the accounting concept of:
Economic Entity
During the period when an enterprise is under the direction of a particular management, its financial statements will directly provide information about:
Enterprise performance but not directly provide information about management performance.
What are the four Assumptions
Entity, Going Concern, Unit of measure, and Time period
What does a fresh start measurement do?
Establishes a new carrying value after an initial recognition and is unrelated to previous amounts (e.g., mark-to-market accounting and recognition of asset impairments)
Which approach does the board believe is likely to provide a better estimate of fair value? why?
Expected cash flow approach because it directly incorporates the uncertainty in estimated future cash flows
When are expenses recognized under accrual accounting?
Expenses are recognized when incurred, regardless of the period of cash payment.
The process of developing accounting standards is essentially a closed process (T/F)
F
What are the three parts of the current accounting standard setting mechanism in the united states?
FAF, FASB, and FASAC
Comprehensive income includes all changes in equity
FALSE
Comprehensive income includes all changes in equity. (T/F)
FALSE
Under the FASB Codification there is a hierarchy of GAAP made up of many levels of GAAP (T/F)
FALSE
What body developed generally accepted accounting principles (GAAP)?
FASB
Changes to authoritative GAAP are accomplished through
FASB Accounting Standards Updates (ASU), including amendments to SEC content.
What is the underlying concept that supports estimating a fixed asset impairment charge?
Faithful Representation
Which of the following characteristics means that information is reasonably free from error and bias?
Faithful Representation
All items that affect retained earnings are included in the income statement (T/F)
False
Conservatism in accounting means that the accountant should understate assets and income when possible (T/F)
False
T/F A firm has negative income for a period. The firm experienced a return on capital.
False
T/F A manager uses a company car for both business and personal use. Therefore, the car should not be included among the firm's assets.
False
T/F All expenses are directly matched with revenue.
False
T/F If the going concern assumption were not met, adherence to the historical cost principle would continue to be appropriate.
False
T/F Most assets subsequently adjusted for changes in market value are recorded under the historical cost principle.
False
T/F The accounting assumption of separate entity supports the inclusion of prepaid insurance in total assets.
False
The FASB Conceptual framework is a component of U.S. GAAP (T/F)
False
T/F The measurement issues statement addresses recognition.
False. The statement addresses only measurement issues
T/F Firms can omit disclosures if they are material and mandated by GAAP.
False. They may not omit these
What does FASB stand for?
Financial Accounting Standards Board
What group currently writes the Generally Accepted Accounting Principles?
Financial Accounting Standards Board.
What is the full disclosure principle?
Financial statements should present all information needed by an informed reader to make an economic decision. This principle is sometimes referred to as the adequate disclosure principle.
What is used for nesting paragraphs
Greater than symbols
What is the emerging issues task force (EITF)?
Group formed to consider emerging reporting issues and to accelerate the process of establishing rulings on such issues. Helps reduce diversity in the implementation of GAAP.
What are the seven key components of the general purpose external financial report?
Income statement Balance sheet Statement of cash flows Statement of retained earnings Statement of comprehensive income Footnote disclosures Auditor's opinion
Predictive value
Information is useful in predicting future events
Verifiability
Information that different knowledgable and independent observers could use to reach similar conclusions based on the information
Neutral
Information that is free from any bias intended to attain a pre-specified result or to encourage or discourage certain behavior.
Understandability
Information that the user can comprehend within the decision context at hand. Users are assumed to have reasonable understanding of business and accounting and are willing to study the information with reasonable diligence.
Materiality
Information that will impact a user's decision.
The purpose of financial accounting is to provide information primarily for which of the following groups?
Investor and Creditors
What is an example of fresh start measurement?
Mark to Market accounting and recognition of asset impairments
What does PCC stand for?
Private Company Council
The FASB is a(n):
Private sector body
Accounting Principles
Revenue Recognition, Expense recognition, Measurement, full Disclosure (REMD)
Which of the following statements includes the most useful guidance for practicing accountants concerning the FASB Accounting Standards Codification
The Codification is the sole source of U.S. GAAP, for nongovernmental entities.
What purpose does the Financial Accounting Standards Board (FASB) Accounting Standards Codification serve?
The FASB Accounting Standards Codification is the compilation of authoritative U.S. generally accepted accounting principles for NONgovernmental entities.
What comprises the conceptual framework for financial accounting?
The FASB's Statements of Financial Accounting Concepts, as amended
The section level is the primary research level because?
The accounting guidance is in the form of paragraphs
Relevance includes
predictive value, confirmatory value, materiality
Liabilities
probable future sacrifices of economic benefits arising from present obligations of an entity to transfer assets or provide services to other entities as a result of past transactions or events
Revenue Recognition Principle
requires that companies recognize revenue in the accounting period in which the performance obligation is satisfied
GAAP definition
the rules of financial reporting for business enterprises (AKA accounting standards)
Gains arise from peripheral transactions and revenues arise from
the sale of goods and services
Net realizable value
used to approximate liquidation value or selling price. it is the net value to be received after the cost of sale are deducted from the current market value. Ex) Lower cost or market for inventory valuation uses NRV (Accounts Receivable)
expected cash flow approach
uses a risk free rate as the discount rate; uses expectations about all possible cash flows instead of a single most likely cash flow.
Firm managers are referred to as
Preparers or preparer firms
Which technique is often the best to estimate fair value?
Present value measurement; If the fair value of an asset or liability is available use the available fair value. However, if it is not, the present value measurement is often the best technique to estimate what fair value would be if it existed.
According to the FASB conceptual framework, which of the following attributes would not be used to measure inventory?
Present value of future cash flows.
What are the two types of qualitative characteristics of accounting
Primary and enhancing
Net Book Value
cost - accumulated depreciation (Plant and Equipment)
Based on 2000 sales of compact discs recorded by an artist under a contract with Bain Co., the artist earned $100,000 after an adjustment of $8,000 for anticipated returns.In addition, Bain paid the artist $75,000 in 2000 as a reasonable estimate of the amount recoverable from future royalties to be earned by the artist. What amount should Bain report in its 2000 Income Statement for royalty expense?
$100,000
Young & Jamison's modified cash-basis financial statements indicate cash paid for operating expenses of $150,000, end-of-year prepaid expenses of $15,000, and accrued liabilities of $25,000. At the beginning of the year, Young & Jamison had prepaid expenses of $10,000, while accrued liabilities were $5,000. If cash paid for operating expenses is converted to accrual-basis operating expenses, what would be the amount of operating expenses?
$165,000; This answer is correct because it subtracts the yearly change in prepaid expenses from and adds the yearly change in accrued liabilities to the cash operating expenses to arrive at accrual-basis operating expenses. The cash paid for operating expenses is $150,000. Because prepaid expenses increased by $5,000 (end of year of $15,000 less beginning of year $10,000), this amount is not included in accrual-basis expenses. The accrued liabilities increased from $5,000 at beginning of the year to $25,000 at the end of the year, indicating that an additional $20,000 of liabilities were incurred and not yet paid. To convert to accrual-basis operating expenses, the cash paid of $150,000 is adjusted by subtracting the increase in the prepaid expense account, and adding the increase in accrued liabilities. ($150,000 - 5,000 + 20,000 = $165,000).
A cash flow of $200,000 may be received by Lydia Nickels, Inc. in one year, two years, or three years, with probabilities of 20%, 50%, and 30%, respectively. The rate of interest on default risk-free investments is 5%. The present value factors are PV of 1, at 5%, for 1 year is.95238PV of 1, at 5%, for 2 years is.90703PV of 1, at 5%, for 3 years is.86384 What is the expected present value of Lydia Nickels' cash flow (in whole dollars)?
$180,628
A company provides the following information: Year 1 Year 2 Year 3 Cash receipts from customers: From year 1 sales $95,000 $120,000 From year 2 sales 200,000 $ 75,000 From year 3 sales 50,000 225,000 What is the accrual-based revenue for year 2?
$275,000 ($200,000+$75,000)
A firm sells $40,000 worth of goods during the year, and collects $30,000 on the resulting accounts receivable. There is no uncertainty regarding the collection of the remaining $10,000. Under the CASH basis, how much revenue would be recognized for the year? Next year?
$30,000; $10,000
A firm sells $40,000 worth of goods during the year, and collects $30,000 on the resulting accounts receivable. There is no uncertainty regarding the collection of the remaining $10,000. Under the ACCRUAL basis, how much revenue would be recognized for the year? Next year?
$40,000; no additional revenue; The accrual basis provides a more comprehensive measurement of the change in value of the firm resulting from income producing activities for a period because it does not limit the recognition of resource changes to the cash flows for that period
At December 31, year 2, Cobb Company had a $695,000 balance in its advertising expense account before any yearend adjustments relating to the following: Included in the $695,000 is $80,000 for printing sales catalogs for a January year 3 sales promotional campaign. Television advertising spots telecast during December year 2 were billed to Cobb on January 2, year 3. The invoice cost of $45,000 was paid on January 11, year 3. Cobb's advertising expense for the year ended December 31, year 2, should be
$660,000 ($695,000 - $80,000 + $45,000)
What are the five steps to allocate the components of revenue?
-Identify the contract with the customer -identify if there is more than one performance obligation -determine the transaction price -allocate the transaction price to the separate performance obligations -recognize revenue when each performance obligation is satisfied
User groups influence the outcome of FASB standards by:
-Making their views public through the financial press -providing input during the due process procedures -putting pressure on the SEC directly to change a proposed standard or through the US Congress
What is authoritative GAAP?
-The ASC (Codification) which is composed of pronouncements issued by FASB, APB, and CAP -SEC Guidance
In promulgating GAAP, the FASB applies the following principles:
-accounting standards should be unbiased -the needs and views of the economic community should be considered -the process of developing standards should be open to the public and allow dues process to provide opportunity for interested parties to make their views known -the benefits of accounting standards should exceed their cost.
What are the three aspects of Assets?
-resources that have probable future benefits to the firm -controlled by management -resulting from past transactions
There are 16 sections in each subtopic. What are these sections?
00 Status 05 Overview and Background 10 Objectives 15 Scope and Scope Exceptions 20 Glossary 25 Recognition 30 Initial Measurement 35 Subsequent Measurement 40 Derecognition 45 Other Presentation Matters 50 Disclosure 55 Implementation Guidance and Illustrations 60 Relationships 65 Transition and Open Effective Date Information 70 Grandfathered Guidance 75 XBRL Definitions
An ASU is a separate document posted on the FASB website and incorporated in the codification. The ASU will:
1) summarize the key aspects of the update (2) detail how the Codification will change (3) explain the basis for the update.
What are the areas and their numeric identifiers?
1. General principles (100); 2. Presentation (200) (does not address recognition or measurement); 3. Assets (300); 4. Liabilities (400); 5. Equity (500); 6. Revenue (600); 7. Expenses (700); 8. Broad transactions (800) (transactions involving more than one area such as interest, and subsequent events); 9. Industry (900) (special industry accounting).
Mission of the FASB
1. Improve the usefulness of financial reporting 2. Maintain current accounting standards 3. Promptly address deficiencies in accounting standards 4. Promote international convergence of accounting standards 5. Improve the common understanding of the nature and purposes of information in financial reports.
distributions to owners
DECREASES in equity (net assets) of an entity from transfers of ASSETS, PROVISION OF SERVICES, or INCURRENCES OF LIABILITIES by the enterprise to owners.
Are all items that affect retained earnings included in the income statement?
No
Adam Co. reported sales revenue of $2,300,000 in its income statement for the year ended December 31, year 2. Additional information was as follows: 12/31/Y11 2/31/Y2 Accounts receivable: $500,000 $650,000 Allowance for uncollectible: (30,000) (55,000) Uncollectible accounts totaling $10,000 were written off during year 2. Under the cash basis of accounting, Adam would have reported year 2 sales of
2,140,000 (650,000 - (500,000 + 2,300,000) + 10,000)
The FASB operated with seven board members from its inception in 1973 until 2008 when the board was reduced to _____ members.
5; the board membership increased back to seven in early 2011
Approximately how many Topics are across the nine areas?
90
Each of the following statements is correct regarding the Financial Accounting Standards Board except: A. It develops principles and attributes that allow organizations to understand the necessary elements to ensure a robust system of internal control. B. It is recognized as authoritative by the United States Securities and Exchange Commission and the American Institute of Certified Public Accountants. C. It establishes accounting concepts and standards for financial accounting and reporting and provides guidance on implementation of standards. D. It provides a conceptual framework that helps to increase understanding of, and confidence in, financial information on the part of users of financial reports.
A
example of cost constraint
A firm would not report its entire inventory subsidiary ledger in the footnotes or financial statements. The reporting of total inventory cost is sufficient. Reporting more detailed information is not worth the cost of doing so.
Recognition
A recognized item is recorded in an account and ultimately affects the financial statement. (indicated that the item is recorded on the financial statements) (When an item is recorded)
Is the FASB conceptual framework a component of U.S. GAAP
No
AICPA timeline
AICPA ---> CAP 1939 ---> APB 1959 ---> Wheat Committee 1971 ---> FASB 1973 (The FASB is not affiliated with the AICPA)
Which of the following accounting literature is included in the FASB Accounting Standards Codification?
AICPA Statements of Position. FASB Statements. Accounting Research Bulletins.
ASU's are not authoritative which means?
ASUs are a vehicle to update the codification and are not permanent in their own right, but a way to amend the codification.
What group has incorporated the expected cash flow approach?
Accounting for Assets Retirement Obligations
Comprehensive Income
Accounting income (transaction based) plus certain holding gains and losses and other items. It includes all changes in equity other than investments by owners and distribution to owners.
What kind of accounting does GAAP focus on?
Accrual; meaning it is more concerned with recognition than realization.
When converting from cash pretax income to accrual, you would
Add the increase in trade accounts receivable
What does AICPA stand for?
American Institute of Certified Public Accountants
Which of the following statements best describes an operating procedure for issuing an Accounting Standard Update (ASU) by the Financial Accounting Standards Board?
An ASU is issued only after a majority vote by the members of the FASB
According to the FASB conceptual framework, which of the following is an essential characteristic of an asset?
An asset provides future benefits.
A present value measurement that fully captures the economic differences between various estimates of future cash flows would include?
An estimate of future cash flows expectations about variations in amount or timing of those cash flows time value of money as measured by the risk-free rate of interest the price for bearing the uncertainty inherent in the asset or liability any other relevant factors
Measurements Issues
Applies to initial recognition, fresh start measurements, and amortization techniques based on future cash flows.
What is the role of the Financial Accounting Foundation (FAF)
Appoints member of FASB, ensures adequate funding for the FASB, Exercises oversight over the FASB.
What is the highest level in the codification?
Area
The codification has what overall structure?
Areas - Topics - Subtopics - Sections - Subsections - Paragraphs
What are the elements that appear in a financial report?
Assets Liabilities equity investments by owners distributions to owners comprehensive income revenues expenses gains losses
Unit-of-Measure Assumption
Assets, liabilities, equities, revenues, expenses, gains, losses, and cash flows are measured in terms of the monetary unit of the country in which the business is operated. Price level changes cause the application of this assumption to weaken the relevance of certain disclosures.
Measurement
At the time of ORIGINATION, assets and liabilities are recorded at the market value of the item on the date of acquisition, usually the cash equivalent. Plant assets and intangibles are disclosed at historical cost less accumulated depreciation or amortization
List the elements included in a full set of financial statements.
Balance sheet (Financial position at year end) Income statement (earnings for the year) Statement of comprehensive income (comprehensive income for the year- total nonowner changes) Statement of cash flows (cash flows during the year) Statement of owner's equity (Investments by and distributions to owners during the year)
The Codification provides four different ways for researching an issue:
Browse the structure (illustrated above) in the menu provided; Search by key word(s); this mode allows narrowing of a search both by related term and by major area within the Codification structure; Enter the specific Codification location (using the numerical system within the Codification); this is designed for users who know their topic and section of interest; Search by previous GAAP standard number (e.g., by FAS 13).
How are amendments incorporated into the FASB Accounting Standards Codification?
By releasing an accounting standards update
Choose the correct statement about GAAP. A. GAAP are laws. B. Only publicly traded companies must comply with GAAP. C. It is a violation of SEC regulations for publicly traded companies to depart from GAAP. D. Firms may not restate financial statements previously issued.
C
Realized
Cash or near cash (AR) is received (Economic Concept)
capital maintenance concept
Capital is said to be maintained when the firm has positive earnings for the year, assuming no changes in price levels. When a firm has income, it has recognized revenue sufficient to replace all the resources used in generating that revenue (return of capital), and has resources left over in addition (income, which is return on capital). That income could be distributed as dividends without eroding the net assets (capital) existing at the beginning of the year. GAAP is based on the concept of "financial" capital maintenance. As long as dividends do not exceed earnings, and earnings is not negative, financial capital has been maintained.
How are ASUs designated?
Chronologically by year. Ex) ASU 2014-12 refers to the twelfth ASU issued by the FASB in 2014
According to the FASB conceptual framework, which of the following is an enhancing quality that relates to both relevance and faithful representation?
Comparability
What are the enhancing qualitative characteristics?
Comparability, Verifiability, Timeliness, and Understandability
Measurement
Concerns the dollar amount assigned to an item (How much an item is recorded)
Confirmatory Value
Confirms or changes past (or present) expectations based on previous evaluations.
What is the underlying concept governing the Generally Accepted Accounting Principles pertaining to recording gain contingencies?
Conservatism.
According to the FASB Conceptual Framework, which of the following relates to both relevance and faithful representation?
Consistency and Verifiability
The conceptual framework is a _______ for developing specific GAAP.
Constitution
Losses
DECREASES in EqUiTy (net assets) from PERIPHERAL or INCIDENTAL Transactions. (Provides no benefit to the firm)
Expenses
DECREASES in AsSeTs or INCREASES (incurrences) in LiaBiLiTiEs of an entity by providing goods or services. Expenses provide a benefit to the firm. (normal debit balance, reduces net income)
Who is the target audience of financial statements?
Decision makers; mainly potential investors, creditors, and regulators
White Co. wants to convert its year 1 financial statements from the accrual basis of accounting to the cash basis. Both supplies inventory and office salaries payable increased between January 1, year 1, and December 31, year 1. To obtain year 1 cash basis net income, how should these increases be added to or deducted from accrual-basis net income? Supplies inventory and accrued expense
Deducted; Added
What criteria must be met for the measurement and recognition of items in a financial report?
Definition Measurability Relevance Faithful Representation
Which of the following is not covered by SFAC 7, Using Cash Flow Information and Present Value in Accounting Measurements?
Determining WHEN fresh-start measurements are appropriate.
Current replacement cost
How much you would have to pay to replace an asset. Represents current market value from the buyer's perspective Ex) Also used in inventory valuation
Revenues
INCREASES in AsSeTs or SETTLEMENTS of LiaBiLiTiEs of an entity by providing goods or services
Gains
INCREASES in EqUiTy (net assets) from PERIPHERAL or INCIDENTAL Transactions.
Investments by Owners
INCREASES in equity (net assets) of an entity from transfers to it by EXISTING OWNERS or parties seeking ownership interest
Going Concern Assumption (Continuity Assumption)
In the absence of information to the contrary, a business is assumed to have an indefinite life, that is, it will continue to be a going concern. Therefore, we do not show items at their liquidation or exit values.
General purpose external financial reporting of a corporation focuses primarily on the needs of which of the following users?
Investors, Creditors, and their advisors
What does the Securities and Exchange Commission (SEC) do?
It administers the U.S. securities laws, most notably the Securities Act of 1933 and the Securities Exchange Act of 1934 as well as others.
What would happen if an overly conservative estimate was accrued in the current year for the allowance of uncollectible accounts receivable?
It would lead to lower net income and assets in the current period, but would over report income in subsequent years
What is addressed in the concept statement on cash flows and fair value accounting measurements?
Measurement methods at initial recognition interest method of amortization expected cash flow approach determines HOW to measure items at present value
Fresh Start Measurement
Measurements in periods following initial recognition that establish a new carrying amount unrelated to previous amounts and accounting conventions
expected cash flow approach
Method of calculating present value that uses a range of cash flows and incorporates the probability of those cash flows to provide as accurate as possible measure of expected future cash flows.
Which of the following assumptions means that money is the common denominator of economic activity and provides an appropriate basis for accounting measurement and analysis?
Monetary Unit
In the FASB Codification, is the listing of topics uniform across all sections
NO
Is there a hierarchy of U.S. GAAP made up of many levels of GAAP in the FASB Codification
NO
On December 31, 20X2, Brooks Co. decided to end operations and dispose of its assets within three months. At December 31, 20X2, the net realizable value of the equipment was below historical cost. What is the appropriate measurement basis for equipment included in Brooks' December 31, 20X2, Balance Sheet?
Net realizable value
The FASB has maintained that:
New GAAP should be neutral and not favor any particular reporting objective.
Paragraph numbers do not change over time. Instead,
New paragraphs will use a letter extension
Are FASB Statements separately published?
No
Compared to the accrual basis of accounting, the cash basis of accounting understates income by the net decrease during the accounting period of Accounts receivable and/or accrued expenses?
No; Yes
What are the parts of the conceptual framework?
Objective of financial reporting; Qualitative characteristics of accounting information; Accounting assumptions; Basic accounting principles; Cost constraint; Elements of financial statements.
According to the FASB's conceptual framework, comprehensive income includes which of the following?
Operating income
The Codification does not include accounting guidance related to:
Other Comprehensive basis of accounting Cash basis accounting Income tax basis accounting Regulatory accounting principles (e.g., insurance) Governmental accounting standards International accounting standards
What topics does the Financial Accounting Standards Board (FASB) Accounting Standards Codification not include?
Other comprehensive basis of accounting Cash basis Income tax basis Regulatory accounting principles
Overly conservative estimates can be misleading. What would be the result of this?
Over reporting in subsequent periods
What is the standard setting process?
Project is added to the Agenda ---> Conduct research/ issue discussion memorandum ---> public hearing ---> issue exposure draft ---> modify exposure draft ---> finalize and issue ASU
According to the FASB conceptual framework, for financial reporting to be useful, it must
Provide information useful for making business and investment decisions.
According to the conceptual framework, the process of reporting an item in the financial statements of an entity is:
Recognition
GAAP is a set of reporting rules to address what three aspects of financial reporting?
Recognition, Measurement, and Disclosure
According to the FASB's conceptual framework, predictive value is an ingredient of
Relevance
What is the concept that supports the issuance of interim reports?
Relevance
Primary Qualitative Characteristics of useful accounting information
Relevance and Faithful representation
How long is the term of a FASB member?
Renewable for one additional term and staggered 5 year terms.
According to the FASB conceptual framework, certain assets are reported in financial statements at the amount of cash or its equivalent that would have to be paid if the same or equivalent assets were acquired currently. What is the name of the reporting concept?
Replacement cost
Equity
Residual interest in the firm's assets (AKA net assets. Primarily comprised of past investor contributions and retained earnings.
What are revenues?
Revenues are increases in assets or extinguishment of liabilities stemming from delivery of goods or from providing services—the main activities of the firm.
When should a company recognize revenues?
Revenues are recognized when they are earned and collectibility is reasonably assured.
What does SEC stand for?
Securities and Exchange Commission
The online nature of the Codification and its internal structure were designed to achieve the following goals:
Simplify the structure and accessibility of authoritative GAAP; Provide all authoritative literature in a single location; Reduce the time and effort required to research an accounting issue; Reduce the risk of noncompliance with GAAP; Facilitate updating of accounting standards; Assist the FASB with research and convergence (IFRS) efforts.
Which of the following accounting literature is not included in the FASB Accounting Standards Codification?
Statements of auditing standards
A deferred revenue is a liability account. (T/F)
T
Accounting standards are not laws (T/F)
T
Accrual accounting much more fully reflects the economic substance of transactions. T/F
T
Private sector bodies that contribute to the formulation of GAAP have no enforcement authority (T/F)
T
SEC does have the authority to penalize firms and managers subject to its jurisdiction when financial statements do not comply with GAAP. Public companies are violating the securities laws if they publish financial statements that materially depart from GAAP. (T/F)
T
The Accounting Principles Board was the standard-setting body that immediately preceded the FASB. (T/F)
T
The Conceptual Framework is not GAAP. (T/F)
T
The FASB Accounting Standards Codification presents relevant SEC guidance for publicly traded firms. (T/F)
T
Useful information includes information about:
The amount, timing, and uncertainty of an entity's cash flows; Ability of the entity to generate future net cash inflows; An entity's economic resources (assets) and claims to those resources (liabilities) which provides insight into the entity's financial strengths and weaknesses, and its liquidity and solvency; The effectiveness with which management has met its stewardship responsibilities; The effect of transactions and other events that change an entity's economic resources and the claims to those resources.
What is an example of unit of measure assumption?
The amounts of all assets are added together even though amounts recorded at different times represent different purchasing power levels.
Entity Assumption
The assumption that there is a separate accounting entity for each business organization
cost-benefit analysis
The constraint in setting accounting standards
According to SFAC 7, Using Cash Flow Information and Present Value in Accounting Measurements, the most relevant measurement of an entity's liabilities at initial recognition and fresh-start measurements should always reflect
The credit standing of the entity.
Definition
The definition of a financial statement element is met
In reference to proposed accounting standards, the term "negative economic consequences" includes:
The inability to raise capital.
Time Period Assumption
The indefinite life of a business is broken into smaller time frames, typically a year, for evaluation purposes and reporting purposes. For accounting information to be relevant, it must be timely. The reliability of the information often must be sacrificed to provide relevant disclosures. The use of estimates is required for timely reporting but also implies a possible loss of reliability.
Relevance
The information to be presented in the financial report is capable of influencing decisions. The information is timely, has predictive ability, provides feedback value, and is material.
According to the FASB conceptual framework, the objectives of financial reporting for business enterprises are based on
The needs of the users of the information
What are the accounting concepts intended to establish?
The objectives and concepts for use in developing standards of financial accounting and reporting
What is an example of Entity Assumption?
The owners own shares in the corporation; they do not own the assets of the firm. The corporation owns the assets. The financial statements represent the corporation, not the owners. A firm cannot own itself. Treasury shares are not assets to the firm—no one owns treasury shares. A firm can sue and be sued. If a firm is sued, the owners are not liable.
Fair Value (Current Market Value)
The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Ex) used to value trading and available for sale securities (Investments)
Expense recognition principle (matching principle)
The principle that matches expenses with revenues in the period when the company makes efforts to generate those revenues.
Comparability
The quality of information that enables users to identify similarities and differences between sets of information. Consistency in application of recognition and measurement methods over time enhances this.
Conservatism (Prudence)
The reporting of less optimistic amounts (lower income, net assets) under conditions of uncertainty or when GAAP provides a choice from among recognition or measurement methods
Which of the following will best protect investors against fraudulent financial reporting by corporations?
The requirement that financial statements be audited
When using a present value measure, what must you consider?
The result should be as close as possible to the fair value if a value could be obtained. the expected cash flow approach is preferred, because present value measurements should reflect the uncertainties inherent in the estimated ash flows.
The premium on a three-year insurance policy expiring on December 31, year 3, was paid in total on January 1, year 1. The original payment was initially debited to a prepaid asset account. The appropriate journal entry has been recorded on December 31, year 1. The balance in the prepaid asset account on December 31, year 1, should be
The same as it would have been if the original payment had been debited initially to an expense account
In calculating present value in a situation with a range of possible outcomes all discounted using the same interest rate, the expected present value would be
The sum of probability-weighted present values.
John Black chose to use Edison Law firm to help settle a lawsuit for his company, Black's Incorporated. Edison Law firm estimated that Black would accrue a contingent liability from the lawsuit at a range between $500,000- $1,000,000 loss. Black chose to accrue the most conservative loss, $1,000,000 in the current period. What will result from this if the loss is settled for amount less than $1,000,000? If the loss was settled for $800,000 what would be the offsetting transaction?
There would be a gain in the subsequent period when the loss is settled. You would debit contingent liability for $1,000,000, credit cash for $800,000 and credit gain on settlement of contingent liability for $200,000.
Enhancing Characteristics
These are complementary to the primary characteristics and enhance the decision usefulness of financial reporting information that is relevant and faithfully represented.
Conceptually, interim financial statements can be described as emphasizing:
Timeliness over faithful representation.
What is the objective of financial accounting?
To aid the decisions of External users
Which of the following is not an objective of using present value in accounting measurements?
To capture the value of an asset or a liability in the context of a particular entity.
What is the role of the FASB?
To establish financial accounting standards, GAAP, for business entities. The FASB is an independent body, subject only to the FAF.
What is the main purpose of the Securities and Exchange Commission (SEC)?
To promote efficient allocation of capital by maintaining open, orderly, and fair securities markets.
In the FASB Codification the listing of topics is NOT uniform across all sections (T/F)
True
Prepaid assets, such as prepaid rent, would not be assets without the assumption of continuity.
True
T/F A firm has income of exactly zero for a year during which both specific and general prices (inflation) have increased. The firm maintained its capital under the financial concept of capital maintenance.
True
T/F Matching is not an accounting assumption
True
T/F Under the historical cost principle, most assets are recorded at market value on the purchase date.
True
When changes to the codification happen, the FASB updates the Codification and issues the ASU simultaneously. T/F
True
Without the going-concern principle, historical cost would not be an appropriate valuation basis.
True
Net present value
Value determined from discounting the expected future cash flows Ex) Used in many capital budgeting decisions (Bonds)
Materiality and relevance are both defined by
What influences or makes a difference to a decision maker
What is a common use of financial accounting?
Whether to invest in a firm or to lend money to it.
What is non authoritative GAAP?
Widely recognized and prevalent practices, FASB Concept statements, AICPA issued papers, IFRS
Rent revenue collected 1 month in advance should be accounted for as
a current liability; revenue collected 1 month in advance is unearned and, therefore, should be accounted for as a current liability. Current liabilities are obligations whose liquidation is reasonably expected to require the use of existing resources properly classifiable as current assets or the creation of other current liabilities. This includes collections received in advance of delivery of goods or services.
What is the codification?
a searchable database that houses GAAP
Income measurement is based on historical cost of assets because
assets provide value through use, rather than disposal.
Faithful representation includes
completeness, neutrality, free from error
The framework does not constitute GAAP but rather provides
consistent direction for the development of specific GAAP
White Co. wants to convert its year 1 financial statements from the accrual basis of accounting to the cash basis. Both supplies inventory and office salaries payable increased between January 1, year 1, and December 31, year 1. To obtain year 1 cash basis net income, how should these increases be added to or deducted from accrual-basis net income?
deduct supplies inventory and add accrued expenses
The risk of uncertainty is incorporated into either ___________ or ___________, but not both!
discount rate (interest rate) or cash flows
Physical Capital Maintenance
earnings cannot be recognized until the firm has provided for the physical capital used up during the period. To measure the capital used up, changes in price level must be considered.
Economic consequences refers to the
effect of a proposed standard on a firms financial statements (causes earnings to decline, thus reducing the firm's ability to raise capital)
Cost Constraint
financial accounting information is provided only when the benefits of doing so exceed the costs
Faithful Representation
information is complete, neutral, and free from error
Free from error
information that has no omissions or errors
Completeness
information that includes al data necessary to be faithfully representative
Timeliness
information that is received in time to make a difference to the decision maker. This also enhances the faithful representation of information.
Origination value or historical cost
is not changed for many assets and liabilities even though market value changes (used for land)
An alternative concept of capital maintenance is
physical capital maintenance
Unearned revenue would be reported on what financial statement and as a what?
on the balance sheet as a current liability
Under the going concern assumption, revaluation to market value is inappropriate for
plant assets because the value of these assets is derived though use rather than from disposal
Characteristics of Expenses
provide benefit to the firm, have a normal balance of debit and reduce net income
Recognized
recorded on the financial statements (accounting concept)
What are the two primary qualitative characteristics
relevance and faithful representation
Faithful representation replaces ______ as a primary qualitative characteristic
reliability
The concept of relevance indicates that information to be presented in a financial report
should be capable of influencing decisions
When converting from accrual income to cash income, you would
subtract the increase in trade accounts receivable
Firms may be reluctant to report losses. Neutrality requires
that losses, if they are probable and estimable, be reported regardless of any possible effect on the firm
net income is
the difference between revenue and the historical cost of assets used in generating that revenue
Under the accrual accounting, expenses are recognized when
the event takes place
Full Disclosure Principle (adequate disclosure principle)
the financial statements should present all information needed by an informed reader to make an economic decision
Examples of relevance over faithful representation
the pervasive use of accounting estimates (depreciation, bad debt expense, pension estimates)
Examples of faithful representation over relevance
the use of historical cost as a valuation base because it is considered to be less current and therefore less relevant than market value
Measureability
there is an attribute to be measured, such as historical cost
Expenses may be recognized by directly matching them with the revenues they help produce, or
they may be recognized by allocation them to a specific time period if they are not directly matched with revenues
Conservatism is a guideline that is used for what?
to limit the reporting of aggressive accounting information as to avoid misleading internal and external users of the financial statements
Disclosure
unrecognized amounts that are reported in the footnotes to complete the portrayal of the firm's financial position and performance
Traditional Approach (Discounted cash flows)
uses a single most likely cash flow in the computation. The interest rate is used to capture all the uncertainties and risks inherent in a cash flow measure.
