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Key Things to Know Self Test
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Introduction to Intermediate Accounting

Key Things to Know


Financial Accounting and its purpose:

A system to provide “quantitative information” about economic entities
      to external users

              Record / Classify / Summarize financial information

Consist of transactions:  everything the business does - measured in money
                        (Millions of transactions – the accountant keeps track of and summarizes)


Financial accounting provides the information investors and creditors need to know in
  order to make decisions about allocating capital.


Capital Markets:  Assist with the allocation of resources – investors and creditors
                                    Provide cash / expect to receive more cash in the future


Objectives of accounting and financial reporting: Provide info to investors and creditors:

                  1. useful in making rational investment and credit decisions
                       (understandable by those who have a reasonable understanding of
                         business/economics that are willing to study the information)

                   2. assess amounts, timing, uncertainty of cash flows

3. about the economic resources (assets) and claims to resources
: effects of transactions, events, circumstances that may
                       change the economic resources of the company.


Cash versus Accrual


            Cash Method:   Record revenues and expenses when cash is received or paid
                   Provides “net operating cash flow”:  cash receipts less cash disbursements

                        Does not match revenues and expenses over a short period of time


            Accrual Method:  Record revenues and expenses when earned and incurred
                                         When cash is received or paid does not matter

                Record and recognize in the financial statements:

             Revenues:  Earned and believe you will receive the cash, an exchange occurs
             Expenses:  Incurred (receive the benefit) in support of the revenue process


                        Measures accomplishments (revenues) and resources used (expenses)                                      during a period of time

                         Net Income:  The difference in revenues and expenses during the period

                        The accrual method is required under GAAP



Accountants have developed accounting rules to achieve financial reporting objectives:

GAAP(Generally Accepted Accounting Principles)  

                  Provides a means of comparison among companies
                 Ever changing set of broad principles and guidance that provides a
                   consensus at a particular time on how business transactions should be
                     recorded and reported 

            Evolution of GAAP:


            1933 – 1934 Securities Exchange Commission (SEC):
                        Created by Congress – has the legal authority to establish accounting
                         standards for public companies but has delegated this responsibility to
                         the accounting profession (currently FASB)

                         The SEC also issues its own accounting standards in the form
                                of “Financial Reporting Releases”


            1930s CAPCommittee on Accounting Procedures
                            Associated with American Institute of Accountants “AIA” which was
                               renamed American Institute of CPAs “AICPA” in 1959 which is the
                               national organization of professional public accountants

                                            Published 51 Accounting Research Bulletins (ARBs)


            1959   APBAccounting Principles Board  (replaced the CAP) part-time
                            Published 31 APB Opinions, Interpretations and 4 statements

                                    APB Statement #4 – “Basic Concepts and Accounting Principles
                                       Underlying Financial Statements and Business Enterprises”
                                                was not accepted by the accounting profession

                              APB had part time members and was criticized for not acting timely
                                   and a perceived lack of independence


            1973 – FASB  Financial Accounting Standards Board  (7 voting members)
                                    Independent private sector body
                                    Supported by the Financial Accounting Foundation (“FAF”)     
                                    Full time employees, large research staff  
                                    Resolve various accounting issues in the changing business
                      Issued “Accounting Concepts” – theory / basis for accounting rules
                             and 150 + Statements that provide guidance on specific issues 
                        EITF – Emerging Issues Task Force; part of FASB
                             Formed to provide more timely specific guidance on how to account
                             for business transactions – “EITF Issues”
                             Identifies potential problems and issues


            FASBs Conceptual Framework:

                        FASB issued 7 statements of conceptual framework called
                         Statements of Financial Accounting Concepts (SFACs)

                                 See Accounting Concepts


            FASB Standard Setting Process:

                        1.  Identify the problem
                        2.  Establish a task force of approximately 15 knowledgeable people
                        3.  Research and investigate the issue
                        4.  Issue a Discussion Memorandum – analysis and alternative solutions
                        5.  Public Response – hold public hearings, responses sent to FASB
                        6.  Issue Exposure Draft – preliminary proposal of solutions
                        7.  Public Response to the exposure draft
                        8.  Issue a FASB Statement to address the issue


GAAP Hierarchy:

            1.  ARBs and APB Opinions that are not superseded by FASB
                    FASB statements, interpretations and staff positions
                        Also SEC rules and interpretations for public companies

            2.  FASB technical bulletins and AICAP audit and accounting guides and
                   Statements of Position

            3.  AICPA Accounting Standards Executive Committee Practice Bulletins

            4.  Implementation guides published by FASB staff and AICPA interpretations
                  and industry practice guides


Global Accounting Standards:

International Accounting Standards Committee (IASC) –
           formed in 1973 to develop global accounting standards

International Accounting Standards Board (IASB) –
            formed in 2001 to establish international accounting standards

                        Structure is consistent with FASB in the United States

            Goals of IASB:

                        1.  Develop a single set of high quality, understandable global
                                    accounting standards
                        2.  Promote the use of those standards
                        3.  Bring convergence of national accounting standards and
                                    international accounting standards

            Currently issuing:  International Financial Reporting Standards (IFRSs)

                        Compliance is voluntary, no authority to enforce


In 2002, FASB and IASB signed the Norwalk Agreement, formalizing a commitment to converge US GAAP and IFRS.  Future accounting issues will be resolved working together



The Role of the Auditor:

            Make sure that management has appropriately applied GAAP in preparing the
                        company’s financial statements

            Examine the statements and give an “opinion” on whether or not the company
                        has fairly presented the financial position in accordance with GAAP
                        and internal controls are adequate to prevent misstatement.


Sarbanes Oxley:

     Public Company Accounting Reform and Investor Protection ACT of 2002

            Increases accountability of corporate executives and provides stiffer penalties
            Regulates auditors and services provided to clients
            Addresses conflict of interest; prohibits auditors from providing non audit services

            Section 404:  Requires documentation and audit/opinion related to adequacy
                                    of internal controls

            Established the Public Company Accounting Oversight Board (PCAOB)
                                                Authority to provide auditing standards



Principles Based vs.  Rules Based

   Principles / Objectives Based:  accounting is applied based on profession judgment
                                                      to achieve an objective rather than on specific rules

   Rules Based:  accounting is applied based on following specific rules





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