Chapter 2
Financial Reporting Standards
Contents
❖ Describe the importance of financial reporting
standards
❖ Describe the roles of financial reporting
standards-setting bodies and regulatory
authorities in establishing and enforcing reporting
standards
❖ Describe conceptual framework
❖ Describe general requirements for financial
statements
Importance of financial reporting standards
❖ Financial reports provide information to many
users.
❖ Financial reporting standards are needed to
achieve consistency in judgments on economic
transactions to increase consistency in financial
reports.
Standard-setting bodies and regulatory authorities
Standard-setting bodies Regulatory authorities
❖ Set accounting standards ❖ Enforce accounting
❖ E.g. International standards
Accounting Standard ❖ E.g. Securities and
Board (IASB), Financial Exchange Commission
Accounting Standard (SEC) in US, Ministry of
Board (FASB) Finance in Vietnam
International Accounting Standard Board
• European Commission, IOSCO, Japan Financial
Services Agency, US SEC
IFRS Foundation
• Professional competence and practice experience
• Diversity of geographical and professional
IASB backgrounds
• Identify an issue
Deliberate, • Publish an exposure draft
develop and issue
international • Issue a new/ revised financial reporting standard
financial reporting
standards
The SEC’s Integrated Disclosure System
Required filings
Summary
10-K 10-Q 8-K Proxy
annual report
Form 10-K
Harmonization of
International Accounting Standards
❖ 2002 Norwalk agreement – FASB and IASB
commit to high-quality, compatible accounting
standards.
❖ 2005 EU listed companies would use IFRS.
❖ 2007 agreement between US and European
Union to allow companies to drop US GAAP if
financial statements were prepared by IFRS.
Who is using IFRS today?
10
Qualitative characteristics of financial reporting
Fundamental RELEVANCE FAITHFUL REPRESENTATION
qualities
Ingredients of
Free
fundamental Predictive Confirmatory
Materiality Completeness Neutrality from
qualities value value
error
Enhancing
Comparability Verifiability Timeliness Understandability
qualities
Relevance
❖ Accounting information should make a difference.
▪ Help to predict future events
▪ Help to confirm past events
❖ Threshold of materiality:
▪ An item of information is material if its omission or
misstatement could alter the decisions that users
make.
Faithful representation
❖ Accounting information should present what it is
supposed to represent.
▪ Completeness: reflect ALL of information needed
to understand what is being portrayed.
▪ Neutrality: presented and selected without bias.
▪ Freedom from error: no errors in the way in which
the estimates are prepared and described.
Further qualities
❖ Comparability
▪ Users can identify and understand similarities in, and differences
among items.
▪ The accounting system uses the same methods for the same
items from period to period, from entity to entity.
❖ Verifiability
▪ Different knowledgeable and independent observers could reach
consensus.
▪ Direct verification is carried out by auditors.
❖ Timeliness
▪ The older information is the less useful it is.
❖ Understandability
▪ Information is presented clearly and concisely.
▪ Understood by users with a reasonable knowledge of business
and economic activities.
Exercise 1
a) Quality of information that permits users to
identify similarities in and differences
Match the qualitative characteristics between two sets of economic phenomena.
below with the statements:
b) Having information available to users before
1. Relevance it loses its capacity to influence decisions.
2. Faithful representation c) Information about an economic
3. Predictive value phenomenon that has value as an input to
4. Confirmatory value the processes used by capital providers to
5. Comparability form their own expectations about the
future.
6. Completeness
d) Information that is capable of making a
7. Neutrality
difference in the decisions of users in their
8. Timeliness capacity as capital providers.
e) Absence of bias intended to attain a
predetermined result or to induce a
particular behavior.
Exercise 2
a) Quality of information that assures users
that information represents the economic
Match the qualitative characteristics phenomena that it purports to represent.
below with the statements:
b) Information about an economic
1. Timeliness phenomenon that corrects past or present
2. Completeness expectations based on previous evaluations.
3. Free from error c) The extent to which information is accurate
4. Understandability in representing the economic substance of a
5. Faithful representation transaction.
6. Relevance d) Includes all the information that is necessary
for a faithful representation of the economic
7. Neutrality
phenomena that it purports to represent.
8. Confirmatory value
e) Quality of information that allows users to
comprehend its meaning.
Exercise 3
Identify which qualitative characteristic of accounting
information is best described in each item below. (Do not
use relevance and faithful representation.)
1. The annual reports of Microsoft are audited by certified
public accountants.
2. PepsiCo and Coca-Cola both use the First – in, First -
out cost flow assumption.
3. Starbucks Corporation has used straight-line
depreciation since it began operations.
4. Motorola issues its quarterly reports immediately after
each quarter ends.
Constraints on financial reports:
Những hạn chế về báo cáo tài chính
❖ Tradeoffs across the enhancing characteristics.
⮚ A pervasive constraint: Benefits derived from
using information must outweigh costs of
providing it.
Elements of Financial Statements
SFAC 6
Assets Liabilities Equity
Investment by Distribution to Comprehensive
owners owners income
Revenues Expenses Gains Losses
Underlying assumptions in financial statements
❖ Accrual accounting
❖ Going-concern
Cash basis vs. Accrual basis
Cash basis Accrual basis
❖ Recognize revenue when cash ❖ Revenue recognized when
is collected they are earned (realization
❖ Recognize expense when concept)
cash is paid ❖ Expenses recognized when
❖ Usually does not provide incurred (matching concept)
reasonable information about ❖ Numerous year-end
the earning capability of the
adjustments required
entity in the short run
❖ Acceptability ❖ Supports the time period
▪ Usually not GAAP assumption
▪ May be used if difference
between cash basis and
accrual basis is immaterial
Going Concern
❖ The entity will remain in business for the foreseeable
future
❖ Disregards possibility of liquidation or bankruptcy
❖ Impacts how assets and liabilities are measured and
reported
❖ Financial statements must disclose if the
presumption of continuity is not applicable
Recognition and Measurement
Recognition
Reliably
Defined
measurable
Present
Net realizable
Historical (discounted)
Current cost Fair value (settlement)
cost/proceeds value of future
value
cash flows
Historical Cost
❖ Often used because it is objective and
determinable
❖ Acceptable deviations
▪ When it becomes apparent that the historical cost
cannot be recovered (justified by the
conservatism concept)
▪ Where specific standards call for another
measurement attribute such as current market
value, net realizable value, or present value
Historical cost vs. Fair value
❖ Which one is relevant?
❖ Which one is representationally faithful?
$1,000,000 $1,200,000
2016 2021
Chapter 1, Slide #36
End of chapter 2