Submissions without this cover page will NOT be accepted.
Slide
1-1
CHAPTER
1
FINANCIAL REPORTING AND
ACCOUNTING STANDARDS
Intermediate Accounting
IFRS Edition
Kieso, Weygandt, and Warfield
Slide
1-2
Learning Objectives
Slide
1-3
1.
Identify the major financial statements and other means of
financial reporting.
2.
Explain how accounting assists in the efficient use of scarce
resources.
3.
Explain the need for high-quality standards.
4.
Identify the objective of financial reporting.
5.
Identify the major policy-setting bodies and their role in the
standard-setting process.
6.
Explain the meaning of IFRS.
7.
Describe the challenges facing financial reporting.
Financial Reporting and Accounting Standards
Global Markets
Objective of
Financial
Reporting
Financial
statements and
financial reporting
General-purpose
financial
statements
Accounting and
capital allocation
High-quality
standards
Slide
1-4
Capital providers
Entity perspective
Decisionusefulness
Standard-Setting
Organizations
IOSCO
IASB
Hierarchy of IFRS
Financial
Reporting
Challenges
Political
environment
Expectations gap
Significant financial
reporting issues
Ethics
International
convergence
Global Markets
World markets are becoming increasingly intertwined.
Top 20 Global Companies In Terms Of Sales
Slide
1-5
Global Markets
Significant number of foreign companies are found on
national exchanges.
Illustration 1-2
International Exchange
Statistics
Slide
1-6
Global Markets
Financial Statements and Financial Reporting
Characteristics of accounting are:
Slide
1-7
(1)
the identification, measurement, and communication
of financial information about
(2)
economic entities to
(3)
interested parties.
LO 1 Identify the major financial statements and other means of financial reporting.
Global Markets
Economic Entity
Financial Statements
Additional Information
Financial
Information
Statement of
Financial Position
President’s letter
Accounting?
Income Statement
or Statement of
Comprehensive
Income
Identify
and
Measure
Statement of Cash
Flows
and
Communicate
Slide
1-8
Prospectuses
Reports filed with
governmental
agencies
News releases
Forecasts
Statement of
Changes in Equity
Environmental
impact statements
Note Disclosures
Etc.
LO 1 Identify the major financial statements and other means of financial reporting.
Global Markets
Accounting and Capital Allocation
Resources are limited. Efficient use of resources often
determines whether a business thrives.
Illustration 1-3
Capital Allocation Process
Slide
1-9
LO 2 Explain how accounting assists in the efficient use of scare resources.
Global Markets
High Quality Standards
Globalization demands a single set of high-quality
international accounting standards. Some elements:
1. Single set of high-quality accounting standards established by
a single standard-setting body.
2. Consistency in application and interpretation.
3. Common disclosures.
4. Common high-quality auditing standards and practices.
5. Common approach to regulatory review and enforcement.
6. Education and training of market participants.
(Continued)
Slide
1-10
LO 3 Explain the need for high-quality standards.
Global Markets
High Quality Standards
Globalization demands a single set of high-quality
international accounting standards. Some elements:
7. Common delivery systems (e.g., eXtensible Business
Reporting Language—XBRL).
8. Common approach to corporate governance and legal
frameworks around the world
Slide
1-11
LO 3 Explain the need for high-quality standards.
Slide
1-12
LO 3 Explain the need for high-quality standards.
Objective of Financial Accounting
Objective: Provide financial information about the reporting
entity that is useful to
present and potential equity investors,
lenders, and
other creditors
in making decisions in their capacity as capital providers.
Slide
1-13
LO 4 Identify the objectives of financial reporting.
Objective of Financial Accounting
General-Purpose Financial Statements
Provide financial reporting information to a wide variety
of users.
Provide the most useful information possible at the
least cost.
Capital Providers (Investors)
Investors are the primary user group.
Slide
1-14
LO 4 Identify the objectives of financial reporting.
Objective of Financial Accounting
Entity Perspective
Companies viewed as separate and distinct from their owners.
Decision-Usefulness
Investors are interested in assessing the company’s
1. ability to generate net cash inflows and
2. management’s ability to protect and enhance the
capital providers’ investments.
Slide
1-15
LO 4 Identify the objectives of financial reporting.
Objective of Financial Accounting
Review Question
The objective of financial reporting places most
emphasis on:
a. reporting to capital providers.
b. reporting on stewardship.
c. providing specific guidance related to specific
needs.
d. providing information to individuals who are
experts in the field.
Slide
1-16
LO 4 Identify the objectives of financial reporting.
Objective of Financial Accounting
Review Question
General-purpose financial statements are prepared
primarily for:
a. internal users.
b. external users.
c. auditors.
d. government regulators.
Slide
1-17
LO 4 Identify the objectives of financial reporting.
Standard-Setting Organizations
Two Major Organizations:
International Accounting Standards Board (IASB)
Issues International Financial Reporting Standards
(IFRS).
Standards used on most foreign exchanges.
Standards used by foreign companies listing on U.S.
securities exchanges.
IFRS used in over 115 countries.
Slide
1-18
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Standard-Setting Organizations
Two Major Organizations:
Financial Accounting Standards Board (FASB)
Issues Statements of Financial Accounting
Standards (SFAS).
Required for all U.S.-based companies.
Slide
1-19
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Standard-Setting Organizations
International Organization of Securities
Commissions (IOSCO)
Does not set accounting standards.
Dedicated to ensuring that global
markets can operate in an efficient
and effective basis.
http://www.iosco.org/
Slide
1-20
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Standard-Setting Organizations
International Accounting Standards Board (IASB)
Composed of four organizations—
International Accounting Standards
Committee Foundation (IASCF)
International Accounting Standards
Board (IASB)
http://www.iasb.org
Standards Advisory Council
International Financial Reporting
Interpretations Committee (IFRIC)
Slide
1-21
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Standard-Setting Organizations
Illustration 1-4
International Standard-Setting Structure
Slide
1-22
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Standard-Setting Organizations
Review Question
IFRS stands for:
a. International Federation of Reporting Services.
b. Independent Financial Reporting Standards.
c. International Financial Reporting Standards.
d. Integrated Financial Reporting Services.
Slide
1-23
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Standard-Setting Organizations
Review Question
The major key players on the international side are
the:
a. IASB and FASB.
b. SEC and FASB.
c. IOSCO and the SEC.
d. IASB and IOSCO.
Slide
1-24
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Standard-Setting Organizations
Review Question
Which body from the U.S. side is similar to the IASB?
a. SEC.
b. FASB.
c. FASC.
d. FAF.
Slide
1-25
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Due Process
The IASB due process has the following elements:
1. Independent standard-setting board;
2. Thorough and systematic process for developing
standards;
3. Engagement with investors, regulators, business leaders,
and the global accountancy profession at every stage of
the process; and
4. Collaborative efforts with the worldwide standard-setting
community.
Slide
1-26
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Due Process
Illustration 1-4
International
Standard-Setting
Structure
Slide
1-27
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Due Process
Review Question
Accounting standard-setters use the following process in
establishing international standards:
a. Research, exposure draft, discussion paper, standard.
b. Discussion paper, research, exposure draft, standard.
c. Research, preliminary views, discussion paper,
standard.
d. Research, discussion paper, exposure draft, standard.
Slide
1-28
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Types of Pronouncements
Issued by the IASB:
International Financial Reporting Standards.
Framework for financial reporting.
International financial reporting interpretations.
Slide
1-29
LO 5 Identify the major policy-setting bodies and
their role in the standard-setting process.
Types of Pronouncements
Hierarchy of IFRS
Companies first look to:
1. International Financial Reporting Standards;
2. International Accounting Standards; and
3. Interpretations originated by the International Financial
Reporting Interpretations Committee (IFRIC) or the
former Standing Interpretations Committee (SIC).
Slide
1-30
LO 6 Explain the meaning of IFRS.
Types of Pronouncements
Review Question
IFRS is comprised of:
a. International Financial Reporting Standards and FASB
financial reporting standards.
b. International Financial Reporting Standards, International
Accounting Standards, and international accounting
interpretations.
c. International Accounting Standards and international
accounting interpretations.
d. FASB financial reporting standards and International
Accounting Standards.
Slide
1-31
LO 6 Explain the meaning of IFRS.
Financial Reporting Challenges
IFRS in a Political Environment
Slide
1-32
Illustration 1-6
User Groups that Influence the
Formulation of Accounting Standards
LO 7 Describe the challenges facing financial reporting.
Financial Reporting Challenges
The Expectations Gap
What the public thinks accountants should do vs. what
accountants think they can do.
Significant Financial Reporting Issues
Non-financial measurements
Forward-looking information
Sort assets
Timeliness
Slide
1-33
LO 7 Describe the challenges facing financial reporting.
Financial Reporting Challenges
Ethics in the Environment of Financial Accounting
Companies that concentrate on “maximizing the bottom
line,” “facing the challenges of competition,” and
“stressing short-term results” place accountants in an
environment of conflict and pressure.
IFRS does not always provide an answer.
Doing the right thing is not always easy or obvious.
Slide
1-34
LO 7 Describe the challenges facing financial reporting.
Financial Reporting Challenges
International Convergence
In 2002 the IASB and the FASB formalized their commitment
to the convergence of U.S. GAAP and international
standards. The Boards agreed to:
1. Make their existing financial reporting standards fully
converged as soon as practicable, and
2. Coordinate their future work programs to ensure that
once achieved, convergence is maintained.
Slide
1-35
LO 7 Describe the challenges facing financial reporting.
Financial Reporting Challenges
Review Question
The expectations gap is:
a. what financial information management provides and
what users want.
b. what the public thinks accountants should do and what
accountants think they can do.
c. what the governmental agencies want from standardsetting and what the standard-setters provide.
d. what the users of financial statements want from the
government and what is provided.
Slide
1-36
LO 7 Describe the challenges facing financial reporting.
Slide
1-37
The fact that there are differences between IFRS and U.S. GAAP
should not be surprising because standard-setters have developed
standards in response to different user needs.
IFRS tends to be simpler and more flexible in its accounting and
disclosure requirements.
The U.S. SEC recently eliminated the need for foreign companies
that trade shares in U.S. markets to reconcile their accounting with
U.S. GAAP.
Appendix
1A
THE U.S. STANDARD-SETTING ENVIRONMENT
Organizations responsible for developing financial
accounting standards (GAAP) in the United States:
Slide
1-38
1. Securities and Exchange
Commission (SEC).
http://www.sec.gov/
2. Financial Accounting
Standards Board (FASB).
http://www.fasb.org/
Securities and Exchange Commission
Established by federal government
Accounting and reporting for public companies
Securities Act
of 1933
Securities Act
of 1934
Encouraged private standard-setting body
SEC requires public companies to adhere to GAAP
SEC Oversight
Enforcement Authority
Slide
1-39
LO 8 Identify the major policy-setting bodies and their
role in the standard-setting process.
Financial Accounting Standards Board
Wheat Committee’s recommendations resulted in the creation of a the
Financial Accounting Standards Board (FASB) in 1973.
Slide
1-40
Financial
Accounting
Foundation
Selects members of the FASB
Funds their activities
Exercises general oversight.
Financial
Accounting
Standards Board
Mission to establish and improve
standards of financial accounting
and reporting.
Financial Accounting
Standards Advisory
Council
Consult on major policy issues.
LO 8 Identify the major policy-setting bodies and their
role in the standard-setting process.
Financial Accounting Standards Board
Missions is to establish and improve standards of financial
accounting and reporting. Differences between FASB and
APB include:
Smaller Membership
Full-time, Remunerated Membership
Greater Autonomy
Increased Independence
Broader Representation
Slide
1-41
LO 6 Identify the major policy-setting bodies and their
role in the standard-setting process.
Financial Accounting Standards Board
Due Process
FASB relies on two basic premises:
Responsive to entire economic community
(2) Operate in full view of the public
(1)
Step 1 = Topic placed on agenda
Step 2 = Research conducted and Discussion Memorandum issued.
Step 3 = Public hearing
Step 4 = Board evaluates research, public response and issues
Exposure Draft
Step 5 = Board evaluates responses and issues final Statement of
Financial Accounting Standard
Slide
1-42
LO 8 Identify the major policy-setting bodies and their
role in the standard-setting process.
Financial Accounting Standards Board
Types of Pronouncements
Standards, Interpretations, and Staff Positions.
Financial Accounting Concepts
Emerging Issues Task Force Statements
Slide
1-43
LO 8 Identify the major policy-setting bodies and their
role in the standard-setting process.
Financial Accounting Standards Board
U.S. Generally Accepted Accounting Principles
Principles that have substantial authoritative support.
Major sources of GAAP:
FASB Standards, Interpretations, and Staff Positions
APB Opinions
AICPA Accounting Research Bulletins
When the Board approves a new standard, staff position, etc., the results are
included in the Codification through an Accounting Standards Update.
Slide
1-44
LO 8 Identify the major policy-setting bodies and their
role in the standard-setting process.
Financial Accounting Standards Board
Illustration 1A-2
The
Codification
Framework
Slide
1-45
LO 8 Identify the major policy-setting bodies and their
role in the standard-setting process.
International Accounting Convergence
Improvements in Accounting Standards
IASB and FASB have set up an extensive work plan to achieve
one set of international standards.
Illustration 1A-3
IFRS Adoption Timeline
Slide
1-46
LO 8 Identify the major policy-setting bodies and their
role in the standard-setting process.
International Accounting Convergence
SEC Work Plan
Sufficient development and application of IFRS.
Independent standard-setting for the benefit of investors.
Investor understanding and education.
Regulatory environment.
Impact on large and small financial statement preparers.
Human capital readiness.
Slide
1-47
LO 8 Identify the major policy-setting bodies and their
role in the standard-setting process.
Copyright
Copyright © 2011 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.
Slide
1-48
Chapter
2-1
CHAPTER
2
CONCEPTUAL FRAMEWORK FOR
FINANCIAL REPORTING
Intermediate Accounting
IFRS Edition
Kieso, Weygandt, and Warfield
Chapter
2-2
Learning Objectives
1.
Describe the usefulness of a conceptual framework.
2.
Describe efforts to construct a conceptual framework.
3.
Understand the objective of financial reporting.
4.
Identify the qualitative characteristics of accounting information.
5.
Define the basic elements of financial statements.
6.
Describe the basic assumptions of accounting.
7.
Explain the application of the basic principles of accounting.
8.
Describe the impact that constraints have on reporting
accounting information.
Chapter
2-3
Conceptual Framework For Financial Reporting
Conceptual
Framework
Need
Development
Overview
First Level: Basic
Objective
Second Level:
Fundamental
Concepts
Qualitative
characteristics
Basic elements
Third Level:
Recognition,
Measurement, and
Disclosure
Concepts
Basic assumptions
Basic principles
Constraints
Summary of the
structure
Chapter
2-4
Conceptual Framework
Conceptual Framework establishes the concepts
that underlie financial reporting.
Need for a Conceptual Framework
Rule-making should build on and relate to an
established body of concepts.
Enables IASB to issue more useful and consistent
pronouncements over time.
Chapter
2-5
LO 1 Describe the usefulness of a conceptual framework.
Conceptual Framework
Development of a Conceptual Framework
IASB and FASB are working on a joint project to
develop a common conceptual framework
Framework will build on existing IASB and FASB
frameworks.
Project has identified the objective of financial
reporting (Chapter 1) and the qualitative
characteristics of decision-useful financial reporting
information.
Chapter
2-6
LO 2 Describe efforts to construct a conceptual framework.
Conceptual Framework
Overview of the Conceptual Framework
Three levels:
First Level = Basic objective
Second Level = Qualitative characteristics and
elements of financial statements
Third Level = Recognition, measurement, and
disclosure concepts
Chapter
2-7
LO 2 Describe efforts to construct a conceptual framework.
ASSUMPTIONS
PRINCIPLES
CONSTRAINTS
1. Economic entity
1. Measurement
1. Cost
2. Going concern
2. Revenue recognition
2. Materiality
3. Monetary unit
3. Expense recognition
4. Periodicity
4. Full disclosure
Third
level
5. Accrual
QUALITATIVE
CHARACTERISTICS
1. Fundamental
qualities
2. Enhancing
qualities
Illustration 2-7
Framework for Financial
Reporting
Chapter
2-8
ELEMENTS
1. Assets
2. Liabilities
3. Equity
4. Income
5. Expenses
OBJECTIVE
Provide information
about the reporting
entity that is useful
to present and potential
equity investors,
lenders, and other
creditors in their
capacity as capital
Providers.
Second level
First level
LO 2 Describe efforts to construct
a conceptual framework.
First Level: Basic Objective
OBJECTIVE
“To provide financial information about the reporting entity
that is useful to present and potential equity investors,
lenders, and other creditors in making decisions in their
capacity as capital providers.”
Chapter
2-9
Provided by issuing general-purpose financial statements.
Assumption is that users have reasonable knowledge of business
and financial accounting matters to understand the information.
LO 3 Understand the objectives of financial reporting.
Second Level: Fundamental Concepts
Qualitative Characteristics of Accounting
Information
IASB identified the Qualitative Characteristics of
accounting information that distinguish better (more
useful) information from inferior (less useful)
information for decision-making purposes.
Chapter
2-10
LO 4 Identify the qualitative characteristics of accounting information.
Second Level: Fundamental Concepts
Illustration 2-2
Hierarchy of Accounting
Qualities
Chapter
2-11
LO 4 Identify the qualitative characteristics of accounting information.
Second Level: Fundamental Concepts
Fundamental Quality – Relevance
Relevance is one of the two fundamental qualities that make
accounting information useful for decision-making.
Chapter
2-12
LO 4 Identify the qualitative characteristics of accounting information.
Second Level: Fundamental Concepts
Fundamental Quality – Faithful Representation
Faithful representation means that the numbers and
descriptions match what really existed or happened.
Chapter
2-13
LO 4 Identify the qualitative characteristics of accounting information.
Second Level: Fundamental Concepts
Enhancing Qualities
Distinguish more-useful information from less-useful
information.
Chapter
2-14
LO 4 Identify the qualitative characteristics of accounting information.
ASSUMPTIONS
PRINCIPLES
CONSTRAINTS
1. Economic entity
1. Measurement
1. Cost
2. Going concern
2. Revenue recognition
2. Materiality
3. Monetary unit
3. Expense recognition
4. Periodicity
Third
level
Basic
Elements
4. Full disclosure
5. Accrual
QUALITATIVE
CHARACTERISTICS
1. Fundamental
qualities
2. Enhancing
qualities
Illustration 2-7
Framework for Financial
Reporting
Chapter
2-15
ELEMENTS
1. Assets
2. Liabilities
3. Equity
4. Income
5. Expenses
OBJECTIVE
Provide information
about the reporting
entity that is useful
to present and potential
equity investors,
lenders, and other
creditors in their
capacity as capital
Providers.
Second level
First level
LO 4
Second Level: Basic Elements
Chapter
2-16
LO 5 Define the basic elements of financial statements.
Second Level: Basic Elements
Exercise 2-4: Identify the qualitative characteristic(s) to be used
given the information provided.
Characteristics
(a) Qualitative characteristic being
employed when companies in the
same industry are using the same
accounting principles.
Relevance
(b) Quality of information that confirms
users’ earlier expectations.
Neutrality
(c) Imperative for providing comparisons
of a company from period to period.
Timeliness
(d) Ignores the economic consequences
of a standard or rule.
Understandability
Chapter
2-17
Faithful representation
Predictive value
Confirmatory value
Completeness
Verifiability
Comparability
LO 5
Second Level: Basic Elements
Exercise 2-4: Identify the qualitative characteristic(s) to be used
given the information provided.
Characteristics
(e) Requires a high degree of consensus
among individuals on a given
measurement.
Relevance
(f) Predictive value is an ingredient of this
fundamental quality of information.
Confirmatory value
(g) Qualitative characteristics that
enhance both relevance and faithful
representation.
Completeness
Faithful representation
Predictive value
Neutrality
Timeliness
Verifiability
Understandability
Comparability
Chapter
2-18
LO 5
Second Level: Basic Elements
Exercise 2-4: Identify the qualitative characteristic(s) to be used
given the information provided.
Characteristics
(h) Neutrality and completeness are
ingredients of this fundamental quality
of accounting information.
Relevance
(i) Two fundamental qualities that make
accounting information useful for
decision-making purposes.
Confirmatory value
(j) Issuance of interim reports is an
example of what enhancing
ingredient?
Timeliness
Faithful representation
Predictive value
Neutrality
Completeness
Verifiability
Understandability
Comparability
Chapter
2-19
LO 5
Third Level: Recognition, Measurement, and
Disclosure Concepts
These concepts explain how companies should recognize,
measure, and report financial elements and events.
Recognition, Measurement, and Disclosure Concepts
ASSUMPTIONS
PRINCIPLES
CONSTRAINTS
1. Economic entity
1. Measurement
1. Cost
2. Going concern
2. Revenue recognition
2. Materiality
3. Monetary unit
3. Expense recognition
4. Periodicity
4. Full disclosure
5. Accrual
Illustration 2-7
Framework for
Financial Reporting
Chapter
2-20
LO 6 Describe the basic assumptions of accounting.
Third Level: Assumptions
Basic Assumptions
Economic Entity – company keeps its activity separate from
its owners and other business unit.
Going Concern – company to last long enough to fulfill
objectives and commitments.
Monetary Unit – money is the common denominator.
Periodicity – company can divide its economic activities into
time periods.
Accrual Basis of Accounting – transactions are recorded in
the periods in which the events occur.
Chapter
2-21
LO 6 Describe the basic assumptions of accounting.
Third Level: Assumptions
E2-8: Identify which basic assumption of accounting is best
described in each item below.
(a) The economic activities of FedEx Corporation
(USA) are divided into 12-month periods for the
purpose of issuing annual reports.
Periodicity
(b) Total S.A. (FRA) does not adjust amounts in its
financial statements for the effects of inflation.
Monetary
Unit
(c) Barclays (GBR) reports current and non-current
classifications in its statement of financial
position.
Going Concern
(d) The economic activities of Tokai Rubber
Industries (JPN) and its subsidiaries are merged
for accounting and reporting purposes.
Economic
Entity
Chapter
2-22
LO 6 Describe the basic assumptions of accounting.
Third Level: Principles
Principles
Measurement
Cost is generally thought to be a faithful representation of the
amount paid for a given item.
Fair value is “the amount for which an asset could be exchanged,
a liability settled, or an equity instrument granted could be
exchanged, between knowledgeable, willing parties in an arm’s
length transaction.”
IASB has taken the step of giving companies the option to use fair
value as the basis for measurement of financial assets and
financial liabilities.
Chapter
2-23
LO 7 Explain the application of the basic principles of accounting.
Third Level: Principles
Revenue Recognition – revenue is to be recognized when it
is probable that future economic benefits will flow to the company
and reliable measurement of the amount of revenue is possible.
Illustration 2-3
Timing of Revenue Recognition
Chapter
2-24
LO 7 Explain the application of the basic principles of accounting.
Third Level: Principles
Expense Recognition – outflows or “using up” of assets
or incurring of liabilities (or a combination of both) during a
period as a result of delivering or producing goods and/or
rendering services.
Illustration 2-4
Expense Recognition
“Let the expense follow the revenues.”
Chapter
2-25
LO 7 Explain the application of the basic principles of accounting.
Third Level: Principles
Full Disclosure – providing information that is of sufficient
importance to influence the judgment and decisions of an
informed user.
Provided through:
Financial Statements
Notes to the Financial Statements
Supplementary information
Chapter
2-26
LO 7 Explain the application of the basic principles of accounting.
Third Level: Principles
BE2-9: Identify which basic principle of accounting is best
described in each item below.
(a) Parmalat (ITA) reports revenue in its income
statement when it is earned instead of when the
cash is collected.
Revenue
Recognition
(b) Google (USA) recognizes depreciation expense for
a machine over the 2-year period during which that
machine helps the company earn revenue.
Expense
Recognition
(c) KC Corp. (USA) reports information about pending
lawsuits in the notes to its financial statements.
Full
Disclosure
(d) Fuji Film (JPN) reports land on its balance sheet at
the amount paid to acquire it, even though the
estimated fair market value is greater.
Measurement
Chapter
2-27
LO 7 Explain the application of the basic principles of accounting.
Third Level: Constraints
Constraints
Cost – the cost of providing the information must be weighed
against the benefits that can be derived from using it.
Materiality – an item is material if its inclusion or omission
would influence or change the judgment of a reasonable
person.
Chapter
2-28
LO 8 Describe the impact that constraints have on
reporting accounting information.
Third Level: Constraints
E2-11: What accounting constraints are illustrated by the
items below?
(a) Willis Company does not disclose any
information in the notes to the financial
statements unless the value of the information
to users exceeds the expense of gathering it.
Cost
(b) Beckham Corporation expenses the cost of
wastebaskets in the year they are acquired.
Materiality
Chapter
2-29
LO 8 Describe the impact that constraints have on
reporting accounting information.
Summary of
the Structure
Chapter
2-30
The existing conceptual frameworks underlying U.S. GAAP and IFRS
are very similar.
The converged framework should be a single document, unlike the two
conceptual frameworks that presently exist.
Both the IASB and FASB have similar measurement principles, based
on historical cost and fair value. However, U.S. GAAP has a concept
statement to guide estimation of fair values when market-related data is
not available (Statement of Financial Accounting Concepts No. 7,
“Using Cash Flow Information and Present Value in Accounting”). The
IASB is considering a proposal to provide expanded guidance on
estimating fair values.
Chapter
2-31
Copyright
Copyright © 2011 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.
Chapter
2-32
Slide
3-1
CHAPTER
3
THE ACCOUNTING
INFORMATION SYSTEM
Intermediate Accounting
IFRS Edition
Kieso, Weygandt, and Warfield
Slide
3-2
Learning Objectives
Slide
3-3
1.
Understand basic accounting terminology.
2.
Explain double-entry rules.
3.
Identify steps in the accounting cycle.
4.
Record transactions in journals, post to ledger accounts,
and prepare a trial balance.
5.
Explain the reasons for preparing adjusting entries.
6.
Prepare financial statement from the adjusted trial balance.
7.
Prepare closing entries.
The Accounting Information System
Slide
3-4
Accounting
Information System
The Accounting
Cycle
Basic terminology
Debits and credits
Accounting equation
Financial statements
and ownership
structure
Identifying and recording
Journalizing
Posting
Trial balance
Adjusting entries
Adjusted trial balance
Preparing financial
statements
Closing
Post-closing trial balance
Reversing entries
Summary
Financial
Statements For
Merchandisers
Income statement
Statement of retained
earnings
Statement of financial
position
Closing entries
Accounting Information System
Accounting Information System (AIS)
Collects and processes transaction data.
Disseminates the information to interested parties.
Slide
3-5
Accounting Information System
Helps management answer such questions as:
How much and what kind of debt is outstanding?
Were sales higher this period than last?
What assets do we have?
What were our cash inflows and outflows?
Did we make a profit last period?
Are any of our product lines or divisions operating at a loss?
Can we safely increase our dividends to shareholders?
Is our rate of return on net assets increasing?
Slide
3-6
Basic Terminology
Slide
3-7
Event
Journal
Transaction
Posting
Account
Trial Balance
Real Account
Adjusting Entries
Nominal Account
Financial Statements
Ledger
Closing Entries
LO 1 Understand basic accounting terminology.
Debits and Credits
An Account shows the effect of transactions on a
given asset, liability, equity, revenue, or expense
account.
Double-entry accounting system (two-sided effect).
Recording done by debiting at least one account and
crediting another.
DEBITS must equal CREDITS.
Slide
3-8
LO 2 Explain double-entry rules.
Debits and Credits
Account
An arrangement that shows the
effect of transactions on an
account.
Debit = “Left”
Credit = “Right”
An Account can
be illustrated in a
T-Account form.
Slide
3-9
Account Name
Debit / Dr.
Credit / Cr.
LO 2 Explain double-entry rules.
Debits and Credits
If Debit entries are greater than Credit entries, the
account will have a debit balance.
Account Name
Debit / Dr.
Credit / Cr.
Transaction #1
$10,000
$3,000
Transaction #3
8,000
Balance
Slide
3-10
Transaction #2
$15,000
LO 2 Explain double-entry rules.
Debits and Credits
If Credit entries are greater than Debit entries, the
account will have a credit balance.
Account Name
Transaction #1
Balance
Slide
3-11
Debit / Dr.
Credit / Cr.
$10,000
$3,000
Transaction #2
8,000
Transaction #3
$1,000
LO 2 Explain double-entry rules.
Debits and Credits Summary
Liabilities
Normal
Balance
Debit
Assets
Credit / Cr.
Normal Balance
Chapter
3-24
Equity
Credit / Cr.
Debit / Dr.
Debit / Dr.
Normal
Balance
Credit
Debit / Dr.
Credit / Cr.
Normal Balance
Normal Balance
Chapter
3-23
Expense
Debit / Dr.
Revenue
Chapter
3-25
Credit / Cr.
Debit / Dr.
Normal Balance
Chapter
3-27
Slide
3-12
Credit / Cr.
Normal Balance
Chapter
3-26
LO 2 Explain double-entry rules.
Debits and Credits Summary
Statement of Financial Position
Income Statement
Asset = Liability + Equity
Revenue – Expense =
Debit
Credit
Slide
3-13
LO 2 Explain double-entry rules.
The Accounting Equation
Relationship among the assets, liabilities and equity of a
business:
Illustration 3-3
The equation must be in balance after every transaction.
For every Debit there must be a Credit.
Slide
3-14
LO 2 Explain double-entry rules.
Double-Entry System Illustration
1. Owners invest $40,000 in exchange for share capital
Assets
+ 40,000
Slide
3-15
=
Liabilities
+
Equity
+ 40,000
LO 2 Explain double-entry rules.
Double-Entry System Illustration
2. Disburse $600 cash for secretarial wages.
Assets
– 600
=
Liabilities
+
Equity
– 600
(expense)
Slide
3-16
LO 2 Explain double-entry rules.
Double-Entry System Illustration
3. Purchase office equipment priced at $5,200, giving a
10 percent promissory note in exchange.
Assets
+ 5,200
Slide
3-17
=
Liabilities
+
Equity
+ 5,200
LO 2 Explain double-entry rules.
Double-Entry System Illustration
4. Received $4,000 cash for services rendered.
Assets
+ 4,000
=
Liabilities
+
Equity
+ 4,000
(revenue)
Slide
3-18
LO 2 Explain double-entry rules.
Double-Entry System Illustration
5. Pay off a short-term liability of $7,000.
Assets
– 7,000
Slide
3-19
=
Liabilities
+
Equity
– 7,000
LO 2 Explain double-entry rules.
Double-Entry System Illustration
6. Declared a cash dividend of $5,000.
Assets
=
Liabilities
+ 5,000
Slide
3-20
+
Equity
– 5,000
LO 2 Explain double-entry rules.
Double-Entry System Illustration
7. Convert a long-term liability of $80,000 into ordinary
shares.
Assets
=
Liabilities
– 80,000
Slide
3-21
+
Equity
+ 80,000
LO 2 Explain double-entry rules.
Double-Entry System Illustration
8. Pay cash of $16,000 for a delivery van.
Assets
=
Liabilities
+
Equity
– 16,000
+ 16,000
Note that the accounting equation equality is
maintained after recording each transaction.
Slide
3-22
LO 2 Explain double-entry rules.
Financial Statements and Ownership Structure
Ownership structure dictates the types of accounts that
are part of the equity section.
Proprietorship or
Partnership
Corporation
Capital account
Share capital
Drawing account
Share premium
Dividends
Retained Earnings
Slide
3-23
LO 2 Explain double-entry rules.
Financial Statements and Ownership Structure
Statement of Financial Position
Illustration 3-4
Equity
Share Capital
Retained Earnings
(Investment by shareholders)
(Net income retained in business)
Net income or Net loss
Dividends
(Revenues less expenses)
Income Statement
Retained Earnings Statement
Slide
3-24
LO 2 Explain double-entry rules.
The Accounting Cycle
Illustration 3-6
Transactions
9. Reversing entries
1. Journalization
8. Post-closing trail balance
2. Posting
7. Closing entries
3. Trial balance
6. Financial Statements
Work
Sheet
4. Adjustments
5. Adjusted trial balance
Slide
3-25
LO 3 Identify steps in the accounting cycle.
Identify and Recording Transactions
What to Record?
An item should be recognized in the financial
statements if it is an element, is measurable,
and is relevant and a
faithful representation.
Slide
3-26
LO 3 Identify steps in the accounting cycle.
1. Journalizing
General Journal – a chronological record of transactions.
Journal Entries are recorded in the journal.
September 1: Shareholders invested $15,000 cash in the
corporation in exchange for ordinary shares.
Illustration 3-7
Slide
3-27
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
Posting – the process of transferring amounts from the journal
to the ledger accounts.
Illustration 3-7
Illustration 3-8
Slide
3-28
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
Posting – Transferring amounts from journal to ledger.
Illustration 3-8
Slide
3-29
LO 4
2. Posting
Expanded Example
The purpose of transaction analysis is
(1) to identify the type of account involved, and
(2) to determine whether a debit or a credit is required.
Keep in mind that every journal entry affects one or more of the
following items: assets, liabilities, equity, revenues, or expense.
Slide
3-30
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
1. October 1: Shareholders invest $100,000 cash in an
advertising venture to be known as Pioneer Advertising
Agency Inc.
Illustration 3-9
Oct. 1
Cash
100,000
Share capital – ordinary
Cash
Debit
100,000
Slide
3-31
100,000
Share Capital – Ordinary
Credit
Debit
Credit
100,000
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
2. October 1: Pioneer Advertising purchases office equipment
costing $50,000 by signing a 3-month, 12%, $50,000 note
payable.
Illustration 3-10
Oct. 1
Office equipment
50,000
Notes payable
Office Equipment
Debit
50,000
Slide
3-32
Credit
50,000
Notes Payable
Debit
Credit
50,000
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
3. October 2: Pioneer Advertising receives a $12,000 cash
advance from KC, a client, for advertising services that are
expected to be completed by December 31.
Illustration 3-11
Oct. 2
Cash
12,000
Unearned service revenue
Cash
Debit
100,000
12,000
Slide
3-33
12,000
Unearned Service Revenue
Credit
Debit
Credit
12,000
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
4. October 3: Pioneer Advertising pays $9,000 office rent, in
cash, for October.
Illustration 3-12
Oct. 3
Rent expense
9,000
Cash
9,000
Cash
Debit
100,000
12,000
Slide
3-34
Rent Expense
Credit
9,000
Debit
Credit
9,000
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
5. October 4: Pioneer Advertising pays $6,000 for a one-year
insurance policy that will expire next year on September 30.
Illustration 3-13
Oct. 4
Prepaid insurance
6,000
Cash
6,000
Cash
Debit
100,000
12,000
Slide
3-35
Prepaid Insurance
Credit
9,000
Debit
Credit
6,000
6,000
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
6. October 5: Pioneer Advertising purchases, for $25,000 on
account, an estimated 3-month supply of advertising
materials from Aero Supply.
Illustration 3-14
Oct. 5
Advertising supplies
25,000
Accounts payable
Advertising Supplies
Accounts Payable
Debit
Debit
25,000
Slide
3-36
25,000
Credit
Credit
25,000
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
7. October 9: Pioneer Advertising signs a contract with a local
newspaper for advertising inserts (flyers) to be distributed
starting the last Sunday in November. Pioneer will start
work on the content of the flyers in November. Payment of
$7,000 is due following delivery of the Sunday papers
containing the flyers.
Illustration 3-15
Slide
3-37
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
8. October 20: Pioneer Advertising’s board of directors
declares and pays a $5,000 cash dividend to shareholders.
Illustration 3-16
Oct. 20
Dividends
5,000
Cash
5,000
Cash
Debit
100,000
12,000
Slide
3-38
Dividends
Credit
9,000
Debit
Credit
5,000
6,000
5,000
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
9. October 26: Employees are paid every four weeks. The
total payroll is $2,000 per day. The pay period ended on
Friday, October 26, with salaries of $40,000 being paid.
Oct. 26
Salaries expense
40,000
Cash
40,000
Cash
Debit
100,000
12,000
Illustration 3-17
Salaries Expense
Credit
9,000
Debit
Credit
40,000
6,000
5,000
40,000
Slide
3-39
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
2. Posting
10. October 31: Pioneer Advertising receives $28,000 in cash
and bills Copa Company $72,000 for advertising services
of $100,000 provided in October.
Illustration 3-18
Oct. 31
Cash
Accounts receivable
Service revenue
Cash
Debit
100,000
12,000
28,000
80,000
100,000
Accounts Receivable
Credit
9,000
6,000
5,000
40,000
Slide
3-40
28,000
72,000
Debit
72,000
Credit
Service Revenue
Debit
Credit
100,000
3. Trial Balance
Illustration 3-19
Trial Balance –
A list of each
account and its
balance; used
to prove
equality of debit
and credit
balances.
Slide
3-41
LO 4 Record transactions in journals, post to
ledger accounts, and prepare a trial balance.
4. Adjusting Entries
Makes it possible to:
Report on the statement of financial position the
appropriate assets, liabilities, and equity at the statement
date.
Report on the income statement the proper revenues and
expenses for the period.
Slide
3-42
Revenues are recorded in the period in which they are
earned.
Expenses are recognized in the period in which they are
incurred.
LO 5 Explain the reasons for preparing adjusting entries.
Types of Adjusting Entries
Illustration 3-20
Slide
3-43
Deferrals
Accruals
1. Prepaid Expenses.
Expenses paid in cash and
recorded as assets before
they are used or consumed.
3. Accrued Revenues.
Revenues earned but not
yet received in cash or
recorded.
2. Unearned Revenues.
Revenues received in cash
and recorded as liabilities
before they are earned.
4. Accrued Expenses.
Expenses incurred but not
yet paid in cash or recorded.
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for Deferrals
Deferrals are
either
Illustration 3-21
prepaid
expenses
or
unearned
revenues.
Slide
3-44
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Payment of cash that is recorded as an asset because
service or benefit will be received in the future.
Cash Payment
BEFORE
Expense Recorded
Prepayments often occur in regard to:
insurance
supplies
advertising
Slide
3-45
rent
purchasing buildings and
equipment
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Supplies. Pioneer purchased advertising supplies costing
$25,000 on October 5. Prepare the journal entry to record the
purchase of the supplies.
Oct. 5
Advertising supplies
25,000
Cash
25,000
Advertising Supplies
Debit
25,000
Slide
3-46
Credit
Cash
Debit
Credit
25,000
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Supplies. An inventory count at the close of business on
October 31 reveals that $10,000 of the advertising supplies are
still on hand.
Oct. 31
Advertising supplies expense
15,000
Advertising supplies
15,000
Advertising Supplies
Advertising Supplies
Expense
Debit
Debit
25,000
Credit
15,000
Credit
15,000
10,000
Slide
3-47
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Illustration 3-35
Statement
Presentation:
Advertising
supplies identifies
that portion of the
asset’s cost that
will provide future
economic benefit.
Slide
3-48
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Illustration 3-34
Statement
Presentation:
Advertising
expense identifies
that portion of the
asset’s cost that
expired in
October.
Slide
3-49
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Insurance. On Oct. 4th, Pioneer paid $6,000 for a one-year fire
insurance policy, beginning October 1. Show the entry to
record the purchase of the insurance.
Oct. 4
Prepaid insurance
6,000
Cash
6,000
Prepaid Insurance
Debit
6,000
Slide
3-50
Credit
Cash
Debit
Credit
6,000
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Insurance. An analysis of the policy reveals that $500 ($6,000 /
12) of insurance expires each month. Thus, Pioneer makes the
following adjusting entry.
Oct. 31
Insurance expense
500
Prepaid insurance
500
Prepaid Insurance
Insurance Expense
Debit
Debit
6,000
Credit
500
Credit
500
5,500
Slide
3-51
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Illustration 3-35
Statement
Presentation:
Prepaid Insurance
identifies that
portion of the
asset’s cost that
will provide future
economic benefit.
Slide
3-52
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Illustration 3-34
Statement
Presentation:
Insurance
expense identifies
that portion of the
asset’s cost that
expired in
October.
Slide
3-53
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Depreciation. Pioneer Advertising estimates depreciation on its
office equipment to be $400 per month. Accordingly, Pioneer
recognizes depreciation for October by the following adjusting
entry.
Oct. 31
Depreciation expense
400
Accumulated depreciation
Depreciation Expense
Debit
400
Slide
3-54
Credit
400
Accumulated Depreciation
Debit
Credit
400
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Illustration 3-35
Statement
Presentation:
Accumulated
Depreciation—is a
contra asset
account.
Slide
3-55
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Prepaid Expenses”
Illustration 3-34
Statement
Presentation:
Depreciation
expense identifies
that portion of the
asset’s cost that
expired in
October.
Slide
3-56
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Unearned Revenues”
Receipt of cash that is recorded as a liability because the
revenue has not been earned.
Cash Receipt
BEFORE
Revenue Recorded
Unearned revenues often occur in regard to:
rent
airline tickets
school tuition
Slide
3-57
magazine subscriptions
customer deposits
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Unearned Revenues”
Unearned Revenue. Pioneer Advertising received $12,000 on
October 2 from KC for advertising services expected to be
completed by December 31. Show the journal entry to record
the receipt on Oct. 2nd.
Oct. 2
Cash
12,000
Unearned service revenue
Cash
Debit
12,000
Slide
3-58
12,000
Unearned Service Revenue
Credit
Debit
Credit
12,000
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Unearned Revenues”
Unearned Revenues. Analysis reveals that Pioneer earned
$4,000 of the advertising services in October. Thus, Pioneer
makes the following adjusting entry.
Oct. 31
Unearned service revenue
4,000
Service revenue
Service Revenue
Debit
Credit
100,000
4,000
4,000
Unearned Service Revenue
Debit
4,000
Credit
12,000
8,000
Slide
3-59
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Unearned Revenues”
Illustration 3-35
Statement
Presentation:
Unearned service
revenue identifies
that portion of the
liability that has
not been earned.
Slide
3-60
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Unearned Revenues”
Illustration 3-34
Statement
Presentation:
Service revenue
represents that
portion of the
liability that was
earned in October.
Slide
3-61
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for Accruals
Accruals are
either
Illustration 3-27
accrued
revenues or
accrued
expenses.
Slide
3-62
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Accrued Revenues”
Revenues earned but not yet received in cash or
recorded.
Adjusting entry results in:
Revenue Recorded
BEFORE
Cash Receipt
Accrued revenues often occur in regard to:
rent
interest
services performed
Slide
3-63
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Accrued Revenues”
Accrued Revenues. In October Pioneer earned $2,000 for
advertising services that it did not bill to clients before October
31. Thus, Pioneer makes the following adjusting entry.
Oct. 31
Accounts receivable
2,000
Service revenue
2,000
Accounts Receivable
Service Revenue
Debit
Debit
72,000
2,000
Credit
Credit
100,000
4,000
2,000
74,000
Slide
3-64
106,000
Adjusting Entries for “Accrued Revenues”
Illustration 3-34
Statement
Presentation
Slide
3-65
Illustration 3-35
LO 5
Adjusting Entries for “Accrued Expenses”
Expenses incurred but not yet paid in cash or recorded.
Adjusting entry results in:
Expense Recorded
BEFORE
Cash Payment
Accrued expenses often occur in regard to:
rent
interest
Slide
3-66
salaries
taxes
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Accrued Expenses”
Accrued Interest. Pioneer signed a three-month, 12%, note
payable in the amount of $50,000 on October 1. The note
requires interest at an annual rate of 12 percent. Three factors
determine the amount of the interest accumulation:
1
Slide
3-67
2
3
Illustration 3-29
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Accrued Expenses”
Accrued Interest. Pioneer signed a three-month, 12%, note
payable in the amount of $50,000 on October 1. Prepare the
adjusting entry on Oct. 31 to record the accrual of interest.
Oct. 31
Interest expense
500
Interest payable
Interest Expense
Debit
500
Slide
3-68
Credit
500
Interest Payable
Debit
Credit
500
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Accrued Expenses”
Illustration 3-34
Statement
Presentation
Slide
3-69
Illustration 3-35
LO 5
Adjusting Entries for “Accrued Expenses”
Accrued Salaries. At October 31, the salaries for these days
represent an accrued expense and a related liability to Pioneer.
The employees receive total salaries of $10,000 for a five-day
work week, or $2,000 per day.
Slide
3-70
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Accrued Expenses”
Accrued Salaries. Employees receive total salaries of $10,000
for a five-day work week, or $2,000 per day. Prepare the
adjusting entry on Oct. 31 to record accrual for salaries.
Oct. 31
Salaries expense
6,000
Salaries payable
Salaries Expense
Debit
40,000
Credit
6,000
Salaries Payable
Debit
Credit
6,000
6,000
46,000
Slide
3-71
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Accrued Expenses”
Illustration 3-34
Statement
Presentation
Slide
3-72
Illustration 3-35
LO 5
Adjusting Entries for “Accrued Expenses”
Accrued Salaries. On November 23, Pioneer will again pay total
salaries of $40,000. Prepare the entry to record the payment of
salaries on November 23.
Nov. 23
Salaries payable
6,000
Salaries expense
34,000
Cash
40,000
Salaries Expense
Debit
34,000
Slide
3-73
Credit
Salaries Payable
Debit
6,000
Credit
6,000
LO 5 Explain the reasons for preparing adjusting entries.
Adjusting Entries for “Accrued Expenses”
Bad Debts. Assume Pioneer reasonably estimates a bad debt
expense for the month of $1,600. It makes the adjusting entry for
bad debts as follows.
Illustration 3-32
Slide
3-74
LO 5 Explain the reasons for preparing adjusting entries.
5. Adjusted Trial Balance
Illustration 3-33
Shows the balance
of all accounts,
after adjusting
entries, at the end
of the accounting
period.
Slide
3-75
LO 5
6. Preparing Financial Statements
Financial Statements are prepared directly from the
Adjusted Trial Balance.
Income
Statement
Slide
3-76
Retained
Earnings
Statement
Statement
of Financial
Position
LO 6 Prepare financial statement from the adjusted trial balance.
6. Preparing Financial Statements
Illustration 3-34
Slide
3-77
LO 6
6. Preparing Financial Statements
Illustration 3-35
Slide
3-78
LO 6
7. Closing Entries
To reduce the balance of the income statement
(revenue and expense) accounts to zero.
To transfer net income or net loss to equity.
Statement of financial position (asset, liability, and
equity) accounts are not closed.
Dividends are closed directly to the Retained
Earnings account.
Slide
3-79
LO 7 Prepare closing entries.
7. Closing Entries
Illustration 3-36
Slide
3-80
LO 7
7. Closing
Entries
Slide
3-81
LO 7
Illustration 3-37
8. Post-Closing Trial Balance
Illustration 3-38
Slide
3-82
LO 7 Prepare closing entries.
9. Reversing Entries
After preparing the financial statements and
closing the books, a company may reverse
some of the adjusting entries before
recording the regular transactions of the next
period.
Slide
3-83
LO 7 Prepare closing entries.
Accounting Cycle Summarized
1. Enter the transactions of the period in appropriate journals.
2. Post from the journals to the ledger (or ledgers).
3. Take an unadjusted trial balance (trial balance).
4. Prepare adjusting journal entries and post to the ledger(s).
5. Take a trial balance after adjusting (adjusted trial balance).
6. Prepare the financial statements from the second trial balance.
7. Prepare closing journal entries and post to the ledger(s).
8. Take a trial balance after closing (post-closing trial balance).
9. Prepare reversing entries (optional) and post to the ledger(s).
Slide
3-84
LO 7 Prepare closing entries.
Financial Statements for a Merchandising Company
Illustration 3-39
Slide
3-85
LO 7
Financial Statements of a Merchandising Company
Illustration 3-40
Slide
3-86
LO 7 Prepare closing entries.
Financial Statements of a Merchandising Company
Illustration 3-41
Slide
3-87
LO 7
Slide
3-88
Internal controls are a system of checks and balances designed to
prevent and detect fraud and errors. Both of these actions are
required under SOX.
Companies find that internal control review is a costly process. One
study estimates the cost for U.S. companies at over $35 billion,
with audit fees doubling in the first year of compliance.
The enhanced internal control standards apply only to large public
companies listed on U.S. exchanges. There is continuing debate over
whether foreign issuers should have to comply.
Most companies use accrual-basis accounting
recognize revenue when it is earned and
expenses in the period incurred,
without regard to the time of receipt or payment of cash.
Under the strict cash basis, companies
record revenue only when they receive cash, and
record expenses only when they disperse cash.
Cash basis financial statements are not in conformity with IFRS.
Slide
3-89
LO 8 Differentiate the cash basis of accounting
from the accrual basis of accounting.
Illustration: Quality Contractor signs an agreement to construct a
garage for $22,000. In January, Quality begins construction, incurs
costs of $18,000 on credit, and by the end of January delivers a
finished garage to the buyer. In February, Quality collects $22,000
cash from the customer. In March, Quality pays the $18,000 due the
creditors.
Illustration 3A-1
Slide
3-90
LO 8 Differentiate the cash basis of accounting
from the accrual basis of accounting.
Illustration: Quality Contractor signs an agreement to construct a
garage for $22,000. In January, Quality begins construction, incurs
costs of $18,000 on credit, and by the end of January delivers a
finished garage to the buyer. In February, Quality collects $22,000
cash from the customer. In March, Quality pays the $18,000 due the
creditors.
Illustration 3A-2
Slide
3-91
LO 8 Differentiate the cash basis of accounting
from the accrual basis of accounting.
Conversion From Cash Basis To Accrual Basis
Illustration: Dr. Diane Windsor, like many small business owners,
keeps her accounting records on a cash basis. In the year 2010, Dr.
Windsor received $300,000 from her patients and paid $170,000 for
operating expenses, resulting in an excess of cash receipts over
disbursements of $130,000 ($300,000 – $170,000). At January 1 and
December 31, 2010, she has accounts receivable, unearned service
revenue, accrued liabilities, and prepaid expenses as shown in
Illustration 3A-5.
Illustration 3A-5
Slide
3-92
LO 8 Differentiate the cash basis of accounting
from the accrual basis of accounting.
Conversion From Cash Basis To Accrual Basis
Illustration: Calculate service revenue on an accrual basis.
Illustration 3A-8
Illustration 3A-5
Slide
3-93
LO 8 Differentiate the cash basis of accounting
from the accrual basis of accounting.
Conversion From Cash Basis To Accrual Basis
Illustration: Calculate operating expenses on an accrual basis.
Illustration 3A-11
Illustration 3A-5
Slide
3-94
LO 8 Differentiate the cash basis of accounting
from the accrual basis of accounting.
Conversion From Cash Basis To Accrual Basis
Illustration 3A-12
Slide
3-95
LO 8 Differentiate the cash basis of accounting
from the accrual basis of accounting.
Theoretical Weaknesses of the Cash Basis
Today’s economy is considerably more lubricated by credit than
by cash.
The accrual basis, not the cash basis, recognizes all aspects of
the credit phenomenon.
Investors, creditors, and other decision makers seek timely
information about an enterprise’s future cash flows.
Slide
3-96
LO 8 Differentiate the cash basis of accounting
from the accrual basis of accounting.
Illustration of Reversing Entries—Accruals
Illustration 3B-1
Slide
3-97
LO 9 Identifying adjusting entries that may be reversed.
Illustration of Reversing Entries—Deferrals
Illustration 3B-2
Slide
3-98
LO 9 Identifying adjusting entries that may be reversed.
Summary of Reversing Entries
1. All accruals should be reversed.
2. All deferrals for which a company debited or credited the
original cash transaction to an expense or revenue
account should be reversed.
3. Adjusting entries for depreciation and bad debts are not
reversed.
Recognize that reversing entries do not have to be used.
Therefore, some accountants avoid them entirely.
Slide
3-99
LO 9 Identifying adjusting entries that may be reversed.
A company prepares a worksheet either on
columnar paper or
within an electronic spreadsheet.
A company uses the worksheet to adjust
account balances and
to prepare financial statements.
Slide
3-100
LO 10 Prepare a 10-column worksheet.
Worksheet Columns
A company prepares a worksheet either on
columnar paper or
within an electronic spreadsheet.
Slide
3-101
LO 10 Prepare a 10-column worksheet.
Adjusted
Trial
Balance
Slide
3-102
Illustration 3C-1
LO 10 Prepare a 10-column worksheet.
Preparing Financial Statements from a Worksheet
The Worksheet:
Provides information needed for preparation of the
financial statements.
Sorts data into appropriate columns, which facilitates
the preparation of the statements.
Slide
3-103
LO 10 Prepare a 10-column worksheet.
Illustration 3-39
Slide
3-104
LO 10
Illustration 3-40
Slide
3-105
LO 10 Prepare a 10-column worksheet.
Illustration 3-41
Slide
3-106
LO 10
Copyright
Copyright © 2011 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.
Slide
3-107
Slide
4-1
CHAPTER
4
INCOME STATEMENT AND RELATED
INFORMATION
Intermediate Accounting
IFRS Edition
Kieso, Weygandt, and Warfield
Slide
4-2
Learning Objectives
Slide
4-3
1.
Understand the uses and limitations of an income statement.
2.
Understand the content and format of the income statement.
3.
Prepare an income statement.
4.
Explain how to report items in the income statement.
5.
Identify where to report earnings per share information.
6.
Explain intraperiod tax allocation.
7.
Understand the reporting of accounting changes and errors.
8.
Prepare a retained earnings statement.
9.
Explain how to report other comprehensive income.
Income Statement and Related Information
Income Statement
Usefulness
Limitations
Quality of
Earnings
Format of Income
Statement
Reporting Within
the Income
Statement
Elements
Minimum
disclosure
Gross profit
Income from
operations
Intermediate
components
Illustration
Income before
income tax
Net income
Condensed income
statements
Non-controlling
interests
Earnings per share
Discontinued
operations
Intraperiod tax
allocation
Slide
4-4
Summary
Other Reporting
Issues
Accounting changes
and errors
Retained earnings
statement
Comprehensive
income
Changes in equity
statement
Income Statement
Usefulness
Evaluate past performance.
Predicting future performance.
Help assess the risk or uncertainty
of achieving future cash flows.
Slide
4-5
LO 1 Understand the uses and limitations of an income statement.
Income Statement
Limitations
Companies omit items that cannot
be measured reliably.
Income is affected by the accounting
methods employed.
Income measurement involves
judgment.
Slide
4-6
LO 1 Understand the uses and limitations of an income statement.
Income Statement
Quality of Earnings
Companies have incentives to manage income to meet
or beat market expectations, so that
market price of stock increases and
value of management’s compensation increase.
Quality of earnings is reduced if earnings management
results in information that is less useful for predicting
future earnings and cash flows.
Slide
4-7
LO 1 Understand the uses and limitations of an income statement.
Format of the Income Statement
Elements of the Income Statement
Income – Increases in economic benefits during the accounting
period in the form of inflows or enhancements of assets or
decreases of liabilities that result in increases in equity, other
than those relating to contributions from shareholders.
Slide
4-8
LO 1 Understand the uses and limitations of an income statement.
Format of the Income Statement
Elements of the Income Statement
Income includes both revenues and gains.
Revenues – ordinary activities of a company
Gains – may or may not arise from ordinary activities.
Revenue Accounts
Sales
Fee revenue
Interest revenue
Dividend revenue
Gain Accounts
Gains on the sale of long-term
assets
Unrealized gains on availablefor-sale securities.
Rent revenue
Slide
4-9
LO 2 Understand the content and format of the income statement.
Format of the Income Statement
Elements of the Income Statement
Expenses – Decreases in economic benefits during the
accounting period in the form of outflows or depletions of assets
or incurrences of liabilities that result in decreases in equity,
other than those relating to distributions to shareholders.
Examples of Expense Accounts
Cost of goods sold
Rent expense
Depreciation expense
Salary expense
Interest expense
Slide
4-10
LO 1 Understand the uses and limitations of an income statement.
Format of the Income Statement
Elements of the Income Statement
Expenses includes both expenses and losses.
Expenses – ordinary activities of a company
Losses – may or may not arise from ordinary activities.
Expense Accounts
Cost of goods sold
Losses on restructuring charges
Depreciation expense
Losses on to sale of long-term
assets
Interest expense
Rent expense
Salary expense
Slide
4-11
Loss Accounts
Unrealized losses on availablefor-sale securities.
LO 2 Understand the content and format of the income statement.
Format of the Income Statement
Elements of the Income Statement
IFRS requires, at a minimum, the following be presented on
the income statement.
Slide
4-12
LO 2 Understand the content and format of the income statement.
Format of the Income Statement
Intermediate
Components
Common for
companies to
present some or all
of these sections
and totals within the
income statement.
Slide
4-13
Illustration 4-1
Income Statement Format
LO 2
Format
Illustration
Includes all of the
major items in the list
above, except for
discontinued
operations.
Slide
4-14
LO 3
Illustration 4-2
Income Statement
Format of the Income Statement
Condensed
More
representative
of the type
found in
practice.
Illustration 4-3
Condensed Income Statement
Slide
4-15
LO 3 Prepare an income statement.
Reporting Within the Income Statement
Gross Profit
Computed by deducting cost of goods sold from net sales
revenue.
Disclosure of net sales revenue is useful.
Unusual or incidental revenue is disclosed in other income
and expense.
Analysts can more easily understand and assess trends in
revenue from continuing operations.
Slide
4-16
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Income from Operations
Determined by deducting selling and administrative
expenses as well as other income and expense from gross
profit.
Highlights items that affect regular business activities.
Used to predict the amount, timing, and uncertainty of
future cash flows.
Slide
4-17
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Income from Operations
Expense Classification
Reported by
➢ Nature, or
➢ Function
Slide
4-18
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Expense Classification
Illustration: Assume that the accounting firm of Telaris Co.
provides audit, tax, and consulting services. It has the
following revenues and expenses.
Slide
4-19
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Expense Classification (Nature-of-Expense Approach)
Illustration 4-5
Slide
4-20
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Expense Classification (Function-of-Expense Approach)
Illustration 4-6
The function-of-expense method is generally used in practice although many
companies believe both approaches have merit.
Slide
4-21
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Gains and Losses
Slide
4-22
Illustration 4-7
Number of Unusual Items
Reported in a Recent Year
by 600 Large Companies
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Gains and Losses
IASB takes the position that both
revenues and expenses and
other income and expense
should be reported as part of income from operations.
Companies can provide additional line items, headings, and subtotals when
such presentation is relevant to an understanding of the entity’s financial
performance.
Slide
4-23
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Gains and Losses
Additional items that may need disclosure:
Slide
4-24
➢
Losses on write-downs of inventories to net realizable value or of
property, plant, and equipment to recoverable amount, as well as
reversals of such write-downs.
➢
Losses on restructurings of the activities and reversals of any
provisions for the costs of restructuring.
➢
Gains or losses on the disposal of items of property, plant, and,
equipment or investments.
➢
Litigation settlements.
➢
Other reversals of liabilities.
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Income before Income Tax
Financing costs must be reported on the income statement.
Illustration 4-8
Slide
4-25
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Net Income
Represents the income after all
✓ revenues and
✓ expenses
for the period are considered.
Viewed by many as the most important measure of a
company’s success or failure for a given period of time.
Slide
4-26
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Allocation to Non-Controlling Interest
If a company prepares a consolidated income statement that
includes a partially own subsidiary. IFRS requires that net income
of the subsidiary be allocated to the controlling and non-
controlling interest. This allocation is reported at the bottom of the
income statement after net income.
Illustration 4-9
Slide
4-27
(amounts given)
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
BE4-3: Presented below is some financial information related to
Volaire Group. Compute the following:
Other Income
and Expense
Revenues
€800,000
€800,000
Income from continuing operations
100,000
100,000
Comprehensive income
120,000
120,000
Net income
90,000
90,000
Income from operations
220,000
– 220,000
Selling and administrative expenses
500,000
– 500,000
Income before income tax
200,000
200,000
€80,000
Slide
4-28
Solution on
notes page
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
BE4-3: Presented below is some financial information related to
Volaire Group. Compute the following:
Financing
Costs
Revenues
€800,000
€800,000
Income from continuing operations
100,000
100,000
Comprehensive income
120,000
120,000
Net income
90,000
90,000
Income from operations
220,000
220,000
Selling and administrative expenses
500,000
500,000
Income before income tax
200,000
– 200,000
€20,000
Slide
4-29
Solution on
notes page
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
BE4-3: Presented below is some financial information related to
Volaire Group. Compute the following:
Income Tax
Revenues
€800,000
€800,000
Income from continuing operations
100,000
– 100,000
Comprehensive income
120,000
120,000
Net income
90,000
90,000
Income from operations
220,000
220,000
Selling and administrative expenses
500,000
500,000
Income before income tax
200,000
200,000
€100,000
Slide
4-30
Solution on
notes page
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
BE4-3: Presented below is some financial information related to
Volaire Group. Compute the following:
Discontinued
Operations
Revenues
€800,000
€800,000
Income from continuing operations
100,000
100,000
Comprehensive income
120,000
120,000
Net income
90,000
– 90,000
Income from operations
220,000
220,000
Selling and administrative expenses
500,000
500,000
Income before income tax
200,000
200,000
– €10,000
Slide
4-31
Solution on
notes page
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
BE4-3: Presented below is some financial information related to
Other
Volaire Group. Compute the following:
Comprehensive
Income
Revenues
€800,000
€800,000
Income from continuing operations
100,000
100,000
Comprehensive income
120,000
120,000
Net income
90,000
– 90,000
Income from operations
220,000
220,000
Selling and administrative expenses
500,000
500,000
Income before income tax
200,000
200,000
€30,000
Slide
4-32
Solution on
notes page
LO 4 Explain how to report items in the income statement.
Reporting Within the Income Statement
Earnings Per Share
Net income – Preference dividends
Weighted average of ordinary shares outstanding
Important business indicator.
Measures the dollars earned by each ordinary share.
Must be disclosed on the income statement.
Slide
4-33
LO 5 Identify where to report earnings per share information.
Reporting Within the Income Statement
Earnings Per Share (BE4-10): In 2010, Hollis Corporation
reported net income of $1,000,000. It declared and paid
preference share dividends of $250,000. During 2010, Hollis had
a weighted average of 190,000 ordinary shares outstanding.
Compute Hollis’s 2010 earnings per share.
Net income – Preference dividends
Weighted average number of ordinary shares
$1,000,000
–
$250,000
= $3.95 per share
190,000
Slide
4-34
LO 5 Identify where to report earnings per share information.
Reporting Within the Income Statement
Discontinued Operations
A component of an entity that either has been disposed of, or is
classified as held-for-sale, and:
1. Represents a major line of business or geographical area of
operations, or
2. Is part of a single, co-coordinated plan to dispose of a major
line of business or geographical area of operations, or
3. Is a subsidiary acquired exclusively with a view to resell.
Slide
4-35
LO 5 Identify where to report earnings per share information.
Reporting Within the Income Statement
Discontinued Operations
Companies report as discontinued operations
1. (in a separate income statement category) the gain or loss
from disposal of a component of a business.
2. The results of operations of a component that has been or
will be disposed of separately from continuing operations.
3. The effects of discontinued operations net of tax, as a
separate category after continuing operations.
Slide
4-36
LO 5 Identify where to report earnings per share information.
Reporting Within the Income Statement
Illustration: Multiplex Products, a highly diversified company,
decides to discontinue its electronics division. During the current
year, the electronics division lost $300,000 (net of tax). Multiplex
sold the division at the end of the year at a loss of $500,000 (net
of tax).
Income from continuing operations
$20,000,000
Discontinued operations:
Loss from operations, net of tax
300,000
Loss on disposal, net of tax
500,000
Total loss on discontinued operations
800,000
Net income
Slide
4-37
$19,200,000
LO 5 Identify where to report earnings per share information.
Reporting Within the Income Statement
Illustration 4-12
A company that
reports a
discontinued
operation must
report per share
amounts for the
line item either on
the face of the
income statement
or in the notes to
the financial
statements.
Slide
4-38
LO 5 Identify where to report earnings per share information.
Reporting Within the Income Statement
Intraperiod Tax Allocation
Relates the income tax expense to the specific items that give
rise to the amount of the tax expense.
On the income statement, income tax is allocated to:
(1) Income from continuing operations before tax
(2) Discontinued operations
“let the tax follow the income”
Slide
4-39
LO 6 Explain intraperiod tax allocation.
Reporting Within the Income Statement
Intraperiod Tax Allocation
Illustration: Schindler Co. has income before income tax of
$250,000. It has a gain of $100,000 from a discontinued
operation. Assuming a 30 percent income tax rate, Schindler
presents the following information on the income statement.
Illustration 4-13
Slide
4-40
LO 6 Explain intraperiod tax allocation.
Reporting Within the Income Statement
Intraperiod Tax Allocation
Illustration: Schindler Co. has income before income tax of
$250,000. It has a loss of $100,000 from a discontinued
operation. Assuming a 30 percent income tax rate, Schindler
presents the following information on the income statement.
Illustration 4-14
Slide
4-41
LO 6 Explain intraperiod tax allocation.
Reporting Within the Income Statement
Summary
Slide
4-42
LO 6 Explain intraperiod tax allocation.
Reporting Within the Income Statement
Summary
Slide
4-43
LO 6 Explain intraperiod tax allocation.
Reporting Within the Income Statement
Different Income Concepts
Users and
preparers look at
more than just
the bottom line
income number,
which supports
the IFRS
requirement to
provide subtotals
within the income
statement.
Slide
4-44
LO 6 Explain intraperiod tax allocation.
Other Reporting Issues
Accounting Changes and Errors
Changes in Accounting Principle
Company adopts a different accounting principle.
Retrospective adjustment.
Cumulative effect adjustment to beginning retained earnings.
Approach preserves comparability.
Examples include:
➢ Change from FIFO to average cost.
➢ Change from the percentage-of-completion to the
completed-contract method.
Slide
4-45
LO 7 Understand the reporting of accounting changes and errors.
Other Reporting Issues
Change in Accounting Principle: Gaubert Inc. decided in
March 2011 to change from FIFO to weighted-average inventory
pricing. Gaubert’s income before taxes, using the new weightedaverage method in 2011, is $30,000.
Pretax Income Data
Illustration 4-17
Calculation of a Change in
Accounting Principle
Illustration 4-18
Income Statement
Presentation of a Change
in Accounting Principle
(Based on 30% tax rate)
Slide
4-46
Solution on
notes page
LO 7 Understand the reporting of accounting changes and errors.
Other Reporting Issues
Changes in Estimate
Accounted for in the period of change and future periods.
Not handled retrospectively.
Not considered errors.
Examples include:
➢ Useful lives and residual values of depreciable assets.
➢ Allowance for uncollectible receivables.
➢ Inventory obsolescence.
Slide
4-47
LO 7 Understand the reporting of accounting changes and errors.
Other Reporting Issues
Change in Estimate: Arcadia HS, purchased equipment for
$510,000 which was estimated to have a useful life of 10 years
with a salvage value of $10,000 at the end of that time.
Depreciation has been recorded for 7 years on a straight-line
basis. In 2011 (year 8), it is determined that the total estimated
life should be 15 years with a salvage value of $5,000 at the
end of that time.
Questions:
Slide
4-48
⚫
What is the journal entry to correct
the prior years’ depreciation?
⚫
Calculate the depreciation expense
for 2011.
No Entry
Required
LO 7 Understand the reporting of accounting changes and errors.
After 7 years
Other Reporting Issues
Equipment cost
Residual value
Depreciable base
Useful life (original)
Annual depreciation
$510,000
First, establish NBV
– 10,000
at date of change in
estimate.
500,000
10 years
$ 50,000 x 7 years = $350,000
Balance Sheet (Dec. 31, 2010)
Fixed Assets:
Slide
4-49
Equipment
Accumulated depreciation
$510,000
350,000
Net book value (NBV)
$160,000
LO 7 Understand the reporting of accounting changes and errors.
After 7 years
Other Reporting Issues
Net book value
Residual value (new)
Depreciable base
Useful life remaining
Annual depreciation
$160,000
– 5,000
155,000
8 years
$ 19,375
Depreciation
Expense calculation
for 2011.
Journal entry for 2011
Depreciation expense
Accumulated depreciation
Slide
4-50
19,375
19,375
LO 7 Understand the reporting of accounting changes and errors.
Other Reporting Issues
Corrections of Errors
Result from:
➢
mathematical mistakes.
➢
mistakes in application of accounting principles.
➢
oversight or misuse of facts.
Corrections treated as prior period adjustments.
Adjustment to the beginning balance of retained
earnings.
Slide
4-51
LO 7 Understand the reporting of accounting changes and errors.
Other Reporting Issues
Corrections of Errors: To illustrate, in 2012, Hillsboro Co.
determined that it incorrectly overstated its accounts
receivable and sales revenue by $100,000 in 2011. In 2012,
Hillsboro makes the following entry to correct for this error
(ignore income taxes).
Retained earnings
Accounts receivable
Slide
4-52
100,000
100,000
LO 7 Understand the reporting of accounting changes and errors.
Other Reporting Issues
Slide
4-53
LO 7 Understand the reporting of accounting changes and errors.
Other Reporting Issues
Retained Earnings Statement
Increase
Net income
Net loss
Change in
accounting principle
Dividends
Prior period
adjustment
Slide
4-54
Decrease
Change in
accounting principle
Prior period
adjustment
LO 8 Prepare a retained earnings statement.
Other Reporting Issues
Retained Earnings Statement
Illustration 4-20
Slide
4-55
LO 8 Prepare a retained earnings statement.
Other Reporting Issues
Illustration
Woods, Inc.
Retained Earnings Statement
For the Year Ended December 31, 2012
Balance, January 1
Net income
Dividends
Balance, December 31
$
$
1,050,000
360,000
(300,000)
1,110,000
Before issuing the report for the year ended December 31, 2012, you
discover a $50,000 error (net of tax) that caused 2011 inventory to be
overstated (overstated inventory caused COGS to be lower and thus net
income to be higher in 2011). Would this discovery have any impact on
the reporting of the Statement of Retained Earnings for 2012?
Slide
4-56
LO 8 Prepare a retained earnings statement.
Other Reporting Issues
Illustration
Woods, Inc.
Retained Earnings Statement
For the Year Ended December 31, 2012
Balance, January 1
Prior period adjustment – error correction
Balance, January 1 (restated)
Net income
Dividends
Balance, December 31
Slide
4-57
Solution on
notes page
$
$
1,050,000
(50,000)
1,000,000
360,000
(300,000)
1,060,000
LO 8 Prepare a retained earnings statement.
Other Reporting Issues
Restrictions of Retained Earnings
Disclosed
In notes to the financial statements.
As Appropriated Retained Earnings.
Slide
4-58
LO 8 Prepare a retained earnings statement.
Other Reporting Issues
Comprehensive Income
All changes in equity during a period except those
resulting from investments by owners and distributions
to owners.
Includes:
Slide
4-59
✓
all revenues and gains, expenses and losses
reported in net income, and
✓
all gains and losses that bypass net income but affect
equity.
LO 9 Explain how to report other comprehensive income.
Other Reporting Issues
Comprehensive Income
Income Statement
+
Other Comprehensive
Income
Unrealized gains and
losses on available-forsale securities.
Translation gains and
losses on foreign
currency.
Plus others
Reported in Equity
Slide
4-60
LO 9 Explain how to report other comprehensive income.
Other Reporting Issues
Review Question
Gains and losses that bypass net income but affect equity
are referred to as
Slide
4-61
a.
comprehensive income.
b.
other comprehensive income.
c.
prior period income.
d.
unusual gains and losses.
LO 9 Explain how to report other comprehensive income.
Other Reporting Issues
Two approaches to reporting Comprehensive
Income:
1. A second income statement.
2. A combined statement of comprehensive
income.
Slide
4-62
LO 9 Explain how to report other comprehensive income.
Other Reporting Issues
Comprehensive
Income
Illustration 4-21
Two-statement
format:
Comprehensive
Income
Slide
4-63
LO 9 Explain how to report other comprehensive income.
Other Reporting Issues
Comprehensive
Income
Illustration 4-22
Combined
statement
format:
Comprehensive
Income
Slide
4-64
LO 9 Explain how to report other comprehensive income.
Other Reporting Issues
Statement of Changes in Equity
Required, in addition to a statement of comprehensive
income.
➢ Generally comprised of
✓ share capital—ordinary,
✓ share premium—ordinary,
✓ retained earnings, and the
✓ accumulated balances in other comprehensive
items.
Slide
4-65
LO 9 Explain how to report other comprehensive income.
Other Reporting Issues
Statement of Changes in Equity
Reports the change in each equity account and in total
equity for the period.
1. Comprehensive income for the period.
2. Contributions (issuances of shares) and distributions
(dividends) to owners.
3. Reconciliation of the carrying amount of each component
of equity from the beginning to the end of the period.
Slide
4-66
LO 9 Explain how to report other comprehensive income.
Other Reporting Issues
Statement of Changes in Equity
Illustration 4-23
Slide
4-67
LO 9 Explain how to report other comprehensive income.
Other Reporting Issues
Statement of Changes in Equity
Regardless of the display format used, V. Gill reports the accumulated
other comprehensive income of $90,000 in the equity section of the
statement of financial position as follows.
Illustration 4-24
Slide
4-68
LO 9 Explain how to report other comprehensive income.
Slide
4-69
➢
Presentation of the income statement under U.S. GAAP follows either a
single-step or multiple-step format. IFRS does not mention a single-step
or multiple-step approach. In addition, under U.S. GAAP, companies
must report an item as extraordinary if it is unusual in nature and
infrequent in occurrence. Extraordinary items are prohibited under
IFRS.
➢
Under IFRS, companies must classify expenses by either nature or
function. U.S. GAAP does not have that requirement, but the U.S. SEC
requires a functional presentation.
5-1
CHAPTER
5
STATEMENT OF FINANCIAL POSITION
AND STATEMENT OF CASH FLOWS
Intermediate Accounting
IFRS Edition
Kieso, Weygandt, and Warfield
5-2
Learning Objectives
5-3
1.
Explain the uses and limitations of a statement of financial position.
2.
Identify the major classifications of the statement of financial position.
3.
Prepare a classified statement of financial position using the report
and account formats.
4.
Indicate the purpose of the statement of cash flows.
5.
Identify the content of the statement of cash flows.
6.
Prepare a basic statement of cash flows.
7.
Understand the usefulness of the statement of cash flows.
8.
Determine additional information requiring note disclosure.
9.
Describe the major disclosure techniques for financial statements.
Statement of Financial Position
and Statement of Cash Flows
Statement of
Financial Position
Statement of Cash
Flows
Usefulness
Purpose
Notes
Limitations
Content and
format
Techniques of
disclosure
Preparation
Other guidelines
Classification
Usefulness
5-4
Additional
Information
Statement of Financial Position
Statement of Financial Position, also referred to as the
balance sheet:
1. Reports assets, liabilities, and equity at a specific date.
2. Provides information about resources, obligations to
creditors, and equity in net resources.
3. Helps in predicting amounts, timing, and uncertainty of
future cash flows.
5-5
LO 1 Explain the uses and limitations of a statement of financial position.
Statement of Financial Position
Usefulness
Computing rates of return.
Evaluating capital structure.
Assess risk and future cash flows.
Analyze company’s:
5-6
Liquidity
Solvency
Financial flexibility
LO 1 Explain the uses and limitations of a statement of financial position.
Statement of Financial Position
Limitations
Most assets and liabilities are reported at historical
cost.
Use of judgments and estimates.
Many items of financial value are omitted.
5-7
LO 1 Explain the uses and limitations of a statement of financial position.
Statement of Financial Position
Classification
5-8
LO 2 Identify the major classifications of the statement of financial position.
Statement of Financial Position
Subclassifications
Illustration 5-1
In some countries, such as Germany, companies often list current assets first.
IAS No. 1 requires companies to distinguish current assets and liabilities from
non-current ones, except in limited situations.
5-9
LO 2 Identify the major classifications of the statement of financial position.
Classification
Non-Current Assets
Generally consists of:
Long-term Investments
Property, Plant, and Equipment
Intangibles Assets
Other Assets
5-10
LO 2 Identify the major classifications of the statement of financial position.
Classification
Non-Current Assets
Long-term Investments
1. Securities (bonds, ordinary shares, or long-term notes).
2. Tangible assets not currently used in operations (land held
for speculation).
3. Special funds (sinking fund, pension fund, or plant
expansion fund.
4. Non-consolidated subsidiaries or associated companies.
5-11
LO 2 Identify the major classifications of the statement of financial position.
Classification
Investments in Debt and Equity Securities
Portfolio
Type
Valuation
Classification
Held-forCollection
Debt
Amortized
Cost
Current or
Noncurrent
Trading
Debt or Equity
Fair Value
Current
Fair Value
Current or
Noncurrent
Non-Trading
Equity
5-12
Equity
LO 2 Identify the major classifications of the statement of financial position.
Classification
Long-Term Investments
Illustration 5-2
Statement of Financial
Position Presentation of
Long-Term Investments
5-13
LO 2 Identify the major classifications of the statement of financial position.
Classification
Property, Plant, and Equipment
Tangible long-lived assets used in the regular operations
of the business.
Physical property such as land, buildings, machinery,
furniture, tools, and wasting resources (minerals).
With the exception of land, a company either depreciates
(e.g., buildings) or depletes (e.g., oil reserves) these
assets.
5-14
LO 2 Identify the major classifications of the statement of financial position.
Classification
Illustration 5-3
Statement of Financial Position
Presentation of Property, Plant,
and Equipment
5-15
LO 2 Identify the major classifications of the statement of financial position.
Classification
Intangible Assets
Lack physical substance and are not financial
instruments.
Patents, copyrights, franchises, goodwill, trademarks,
trade names, and customer lists.
Amortize limited-life intangible assets over their useful
lives.
Periodically assess indefinite-life intangibles for
impairment.
5-16
LO 2 Identify the major classifications of the statement of financial position.
Classification
Intangible Assets
Illustration 5-4
Statement of Financial
Position Presentation of
Intangible Assets
5-17
LO 2 Identify the major classifications of the statement of financial position.
Classification
Other Assets
Items vary in practice. Can include:
Long-term prepaid expenses
Non-current receivables
Assets in special funds
Property held for sale
Restricted cash or securities
5-18
LO 2 Identify the major classifications of the statement of financial position.
Classification
Current Assets
Cash and other assets a company expects to convert
into cash, sell, or consume either in one year or in the
operating cycle, whichever is longer.
Illustration 5-5
5-19
LO 2 Identify the major classifications of the statement of financial position.
Classification
Inventories
Disclose:
Basis of valuation (e.g., lower-of-cost-or-market).
Cost flow assumption (e.g., FIFO or average cost).
Illustration 5-6
5-20
LO 2
Classification
Inventories
Manufacturing Company
Illustration 5-8
Statement of Financial Position
Presentation of Inventories
5-21
LO 2
Classification
Receivables
Claims held against customers and others for
money,
goods, or
services.
Major categories of receivables should be shown in the
statement of financial position or the related notes.
5-22
LO 2 Identify the major classifications of the statement of financial position.
Classification
Receivables
Illustration 5-8
Statement of Financial Position
Presentation of Receivables
5-23
LO 2 Identify the major classifications of the statement of financial position.
Classification
Prepaid Expenses
Payment of cash, that is recorded as an asset because
service or benefit will be received in the future.
Cash Payment
BEFORE
Expense Recorded
Prepayments often occur in regard to:
insurance
supplies
advertising
5-24
rent
maintenance on equipment
LO 2 Identify the major classifications of the statement of financial position.
Classification
Prepaid Expenses
5-25
Illustration 5-9
Statement of Financial Position
Presentation of Prepaid Expenses
LO 2
Classification
Short-Term Investments
Portfolios
Type
Valuation
Classification
Held-toMaturity
Debt
Amortized Cost
Current or
Noncurrent
Trading
Debt or Equity
Fair Value
Current
Available- forSale
Debt or Equity
Fair Value
Current or
Noncurrent
5-26
LO 2 Identify the major classifications of the statement of financial position.
Classification
Short-Term Investments
Illustration 5-10
Statement of Financial Position
Presentation of Short-Term Investments
5-27
LO 2 Identify the major classifications of the statement of financial position.
Classification
Cash
Generally any monies available “on demand.”
Cash equivalents – short-term highly liquid investments
that mature within three months or less.
Restrictions or commitments must be disclosed.
Illustration 5-11
5-28
LO 2 Identify the major classifications of the statement of financial position.
Classification
Cash
5-29
Illustration 5-12
Statement of Financial
Position—Restricted Cash
LO 2 Identify the major classifications of the statement of financial position.
Classification
Equity
5-30
LO 2 Identify the major classifications of the statement of financial position.
Classification
Equity
Ordinary shares and preference shares – must disclose
the par value and the authorized, issued, and outstanding
amounts.
Share premium – company usually presents one amount
for ordinary and preference shares.
Retained earnings – amount may be divided between the
unappropriated and restricted amounts.
Treasury shares – shown as a reduction of equity.
5-31
LO 2 Identify the major classifications of the statement of financial position.
Classification
Equity
Illustration 5-13
Statement of Financial
Position—Equity
5-32
LO 2 Identify the major classifications of the statement of financial position.
Classification
Non-Current Liabilities
Obligations that a company does not reasonably expect to
liquidate within the longer of one year or the normal
operating cycle. Three types:
1. Obligations arising from specific financing situations.
2. Obligations arising from the ordinary operations of the
company.
3. Obligations that depend on the occurrence or nonoccurrence of one or more future events to confirm the
amount payable, or the payee, or the date payable.
5-33
LO 2 Identify the major classifications of the statement of financial position.
Classification
Non-Current Liabilities
Illustration 5-15
Statement of Financial
Position Presentation of
Non-Current Liabilities
5-34
LO 2 Identify the major classifications of the statement of financial position.
Classification
Current Liabilities
Obligations that a company generally expects to settle in its
normal operating cycle or one year, whichever is longer.
This concept includes:
1. Payables resulting from the acquisition of goods and
services: accounts payable, wages payable, and so on.
2. Collections received in advance for the delivery of goods or
performance of services, such as unearned rent revenue.
3. Other liabilities whose liquidation will take place within the
operating cycle or one year.
5-35
LO 2 Identify the major classifications of the statement of financial position.
Classification
Current Liabilities
Illustration 5-16
Statement of Financial
Position Presentation of
Current Liabilities
5-36
LO 2 Identify the major classifications of the statement of financial position.
Classification
Statement of Financial Position Format
IFRS does not specify the order or format in which
a company presents items in the statement of
financial position.
Account form or report form.
5-37
LO 3 Prepare a classified statement of financial
position using the report and account formats.
Classification
Account Form
5-38
Illustration 5-17
LO 3 Prepare a classified statement of financial
position using the report and account formats.
Classification
Report Form
Illustration 5-17
5-39
LO 3
The Statement of Cash Flows
One of the three basic objectives of financial
reporting is
“assessing the amounts, timing, and
uncertainty of cash flows.”
IASB requires the statement of cash flows
(also called the cash flow statement).
5-40
Purpose of the Statement of Cash Flows
Primary Purpose: To provide relevant information
about the cash receipts and cash payments of an
enterprise during a period.
The statement provides answers to the following
questions:
1. Where did the cash come from?
2. What was the cash used for?
3. What was the change in the cash balance?
5-41
LO 4 Indicate the purpose of the statement of cash flows.
Content and Format
Operating
Investing
Financing
Cash inflows
and outflows
from
operations.
Cash inflows
and outflows
from noncurrent assets.
Cash inflows
and outflows
from noncurrent
liabilities and
equity.
Statement helps users evaluate liquidity, solvency, and
financial flexibility.
5-42
LO 5 Identify the content of the statement of cash flows.
Content and Format
Illustration 5-19
5-43
LO 5 Identify the content of the statement of cash flows.
Preparation of the Statement of Cash Flows
Sources of Information
Information obtained from several sources:
(1) comparative statement of financial position,
(2) current income statement, and
(3) selected transaction data.
5-44
LO 6 Prepare a basic statement of cash flows.
Preparation of the Statement of Cash Flows
Statement of Cash Flows: On January 1, 2011, in its first
year of operations, Telemarketing Inc. issued 50,000 ordinary
shares ($1 par value) for $50,000 cash. The company rented
its office space, furniture, and telecommunications equipment
and performed marketing services throughout the first year.
In June 2011 the com…
Delivering a high-quality product at a reasonable price is not enough anymore.
That’s why we have developed 5 beneficial guarantees that will make your experience with our service enjoyable, easy, and safe.
You have to be 100% sure of the quality of your product to give a money-back guarantee. This describes us perfectly. Make sure that this guarantee is totally transparent.
Read moreEach paper is composed from scratch, according to your instructions. It is then checked by our plagiarism-detection software. There is no gap where plagiarism could squeeze in.
Read moreThanks to our free revisions, there is no way for you to be unsatisfied. We will work on your paper until you are completely happy with the result.
Read moreYour email is safe, as we store it according to international data protection rules. Your bank details are secure, as we use only reliable payment systems.
Read moreBy sending us your money, you buy the service we provide. Check out our terms and conditions if you prefer business talks to be laid out in official language.
Read more