INTERMEDIATE
ACCOUNTING
Seventh Canadian Edition
KIESO, WEYGANDT, WARFIELD, YOUNG, WIECEK
Prepared by:
Gabriela H. Schneider, CMA
Northern Alberta Institute of Technology
CHAPTER
24
Other Measurement and
Disclosure Issues
Learning Objectives
1. Review the full disclosure principle and
describe problems of implementation.
2. Explain the use of accounting policy notes in
financial statement preparation.
3. Describe the disclosure requirements for major
segments of a business.
4. Describe the accounting problems associated
with interim reporting.
Learning Objectives
5. Discuss the accounting issues related to
related party transactions.
6. Identify the difference between the two types of
subsequent events.
7. Identify issues related to financial forecasts and
projections.
8. Identify the major disclosures found in the
auditor’s report.
Other Measurement and Disclosure
Disclosure Issues
Full disclosure
principle revisited
Increase in reporting
requirements
Accounting policies
Illegal acts
Segmented reporting
Interim reporting
Internet financial
reporting and
continuous disclosures
Other Measurement Auditor’s
Issues
Report
Measurement
uncertainty revisited
Related party
transactions
Differential reporting
Subsequent events
Forecasts and
projections
Perspectives
Unincorporated
Businesses
The Full Disclosure Principle
• The full disclosure principle calls for financial
reporting of significant facts affecting the
judgment of an informed reader
• The problems of implementing this principle are
costs of disclosure or information overload
• The profession continues to develop guidelines:
– should a given transaction be disclosed
– what format this disclosure should take
Increase in
Reporting Requirements
• Reasons for increasing reporting
requirements:
– Complexity of the business environment
(derivatives, business combinations,
pensions)
– Need for timely information (interim data,
forecasts)
– Accounting used as a control and monitoring
device
Differential Disclosure
• The OSC requires that companies report certain
important information items (if not found in the
annual report)
• Nonpublic enterprises are exempt from certain
reporting requirements (e.g., segment reporting)
• Arguments are also made for excluding small
companies from certain complex reporting
requirements (e.g., pensions, deferred taxes)
• CICA is proposing a simplified GAAP; FASB
maintains the position of a single GAAP
Notes to the
Financial Statements
• Notes amplify or explain items presented in
the body of the financial statements
• A statement that identifies the accounting
policies of the entity must be disclosed
(Summary of Significant Accounting
Policies)
• Notes to the financial statements include:
– Inventory
– Contingencies and commitments
– Changes in accounting policies
Notes to the
Financial Statements
• Major disclosures
• Inventory
• Property, Plant and
Equipment
• Liabilities
• Equity
• Contingencies and
Commitments
• Taxes, Pensions and
Leases
• Changes in
Accounting Policies
• Special
Transactions or
Events
• Subsequent
events
• Segment
reporting
• Interim
reporting
• Related
party
transactions
• Accounting
errors
• Illegal acts
Notes to the
Financial Statements
• Major disclosures
• Inventory
• Property, Plant and
Equipment
• Liabilities
• Equity
• Contingencies and
Commitments
• Taxes, Pensions and
Leases
• Changes in Accounting
Policies
• Special
Transactions or
Events
• Subsequent
events
• Segment
reporting
• Interim
reporting
• Related
party
transactions
• Accounting
errors
• Illegal acts
Segmented Business Reporting
Requirements
• Information on how the segment contributes to the
total business operations
• Information from the segment income statement,
balance sheet, and cash flow statement
• Information about segment’s contribution or impact
on the company’s
– Profitability
– Risk
– Growth potential
• Considerable arguments both for and against
segment reporting
Segmented Business Reporting
Requirements
•
Objectives of reporting segmented
information
1. To better understand performance
2. To better assess future cash flow prospects
3. To make more informed judgments on the
whole enterprise
Segmented Business Reporting
Requirements
• CICA Handbook requires that the financial
statements include selected information on a
single basis of segmentation
• The segments are evident from their
organizational structure (operating segments)
• This method is called the management
approach
Segmented Business Reporting
Requirements
What is an operating segment?
Any component of an enterprise that:
1. Engages in business activities
•
Earns revenues, incurs expenses
2. Has senior management regularly review
results
•
•
Assess performance
Review resource allocation decisions made
3. Has discrete financial information available
Aggregation of
Operating Segments
• Operating segments may be aggregated if they
have the same basic characteristics
–
–
–
–
–
the nature of the products and services provided
the nature of the production process
the type or class of customer
the methods of product or service distribution
the nature of the regulatory environment, if
applicable
Reportable Segments
An operating segment is identified as a reportable
segment if it satisfies one or more of the following
criteria:
1. The revenue criterion
2. The profit or loss criterion
3. The identifiable assets criterion
Two other factors are considered in addition to the
above tests
1. Segment results are 75 percent or more of
combined sales to unrelated customers
2. No more than 10 segments are required to be
disclosed
Reportable Segments
Criterion
Thresholds
Revenue
10 percent or more of the combined
revenue of all operating segments
Profit or loss
10 percent or more of the greater of:
- the combined profit of all operating
segments not showing a loss or
- the combined loss of all operating
segments reporting a loss
Identifiable assets
10 percent or more of the combined
assets of all operating segments
Measurement Principles
• The accounting principles used for segment
reporting and for consolidated statements
need not be the same
• Some accounting principles may not apply at
the segment level
– Common costs are not required to be
allocated among the segments
– Such allocation is arbitrary and may not
produce an objective division of costs among
segments
Required Segmented
Information
1. General information about its reportable
segments
2. Segment profit and loss, assets, and related
information
3. Reconciliation of segment revenues, profits
and losses, and segment assets
4. Major customers
5. Information about products and services and
geographical areas
Notes to the
Financial Statements
• Major disclosures
• Inventory
• Property, Plant and
Equipment
• Liabilities
• Equity
• Contingencies and
Commitments
• Taxes, Pensions and
Leases
• Changes in Accounting
Policies
• Special
Transactions or
Events
• Subsequent
events
• Segment
reporting
• Interim
reporting
• Related
party
transactions
• Accounting
errors
• Illegal acts
Interim Reporting
Discrete View
• Each interim period
considered as separate
accounting period
• Deferrals and accruals
recognized for each
interim period, without
specific consideration of
the fiscal year
• CICA Handbook preferred
method – with noted
exceptions
Integral View
• Each interim period
considered a part of the
fiscal accounting period
• Deferrals and accruals
recognized in the interim
period, based on the
respective portion of the
fiscal year
Discrete View Exceptions
• Income Tax Expense
– Estimates made based on interim income and
temporary differences
• Payroll Taxes
– Expense, and related liability, recognized
based on accruals (versus cash basis)
• Inventory
– Liquidation of LIFO inventory
– Standard cost system variances deferred to
year end
Interim Reporting
Annual reports and interim reports must use the same
accounting principles
Minimum disclosure requirements include:
1. Any noncompliance with GAAP
2. Accounting policies and methods
3. Any seasonal or cyclical period considerations
4. Estimate changes
5. Reportable segment information
6. Events subsequent to interim reporting period
7. Notable events (combinations, reorganization)
8. Contingencies
9. Any other information for fair presentation
Interim Reporting Problem Areas
1.
Changes in Accounting
• Changes applied retroactively to prior interim
periods
• Comparable interim periods from previous fiscal
years also restated
2. Earnings per share
• Each interim period EPS is stand alone
3. Seasonality
• Problem related to matching principle
4. Continuing Controversy
• Auditor’s involvement in the interim reporting
process
Internet Financial Reporting
• Companies are increasingly disclosing
financial information through websites
• Corporations can reach more users by the
Internet
• Internet reporting can make traditional reports
more useful
– Corporations can report more timely
information
– They can also report disaggregated data
• There is concern about security on the
Internet (hackers)
Measurement Tools
• Increased complexity of business
transactions have been matched with
increased efforts to standardize their
measurement
• Measurement approaches range from the
traditional to radically new
– Most recently fair value accounting has seen
increased acceptance
Measurement Tools
Traditional
Non-Traditional/Newer
• Discounted cash flows
and PV techniques
• Options pricing models
– Asset impairment
– ARO’s
• Probability weighted
discounted cash flows
• Proportionate method
and residual methods
– Bundled sale costs
– Compound instrument
measurement
– Derivative valuations
– Long-term asset
recoverability
Notes to the
Financial Statements
• Major disclosures
• Inventory
• Property, Plant and
Equipment
• Liabilities
• Equity
• Contingencies and
Commitments
• Taxes, Pensions and
Leases
• Changes in Accounting
Policies
• Special
Transactions
or Events
• Subsequent
events
• Segment
reporting
• Interim
reporting
• Related
party
transactions
• Accounting
errors
• Illegal acts
Related Party Transactions
• Can significantly influence policies
• Measurement is a major accounting and
reporting issue
• Related party transactions are individually
assessed
Related Party Transactions –
Decision Tree
Related party transaction occurs
Is transaction in the
normal course of
operations?
No
Is there a substantive
change in the ownership interests of the
item transferred?
Yes
Is the amount of the
Yes exchange supported
by independent
evidence?
Yes
Yes
Commercial substance
and value supported
No
No
Measure at carrying amount
Is the
transaction
non-monetary?
No
Yes
Measure at exchange amount
No
Related Party Transactions
The following disclosures are recommended:
•
•
•
•
•
The nature of the relationship
Description of the transactions
The recorded amounts of transactions
Measurement basis used
Amounts due from or due to related parties at the
balance sheet date, and terms and conditions
• Contractual obligations with related parties
• Contingencies involving related parties
Differential Reporting
• Cost of increased disclosure and reporting
requirements often outweighs the benefits for
smaller organizations
• Differential reporting applies to:
– Non-publicly accountable organizations
(where no financial instruments are traded in
public markets)
– Unanimously agreed to by the owners
Differential Reporting
Less stringent disclosure and reporting
requirements for:
1. Subsidiaries
– Cost or equity method may be used
instead of consolidation
2. Long-term Investments
– Cost or equity method may be used where
there is significant influence
3. Joint Venture Interests
– Cost or equity method election
Differential Reporting
4. Goodwill and other intangibles
–
Impairment measurement options available
5. Share Capital
–
Disclosure requirements reduced
6. Income Taxes
–
Taxes payment method option
7. Financial Instruments
–
Election to treat certain preferred shares as
debt
Notes to the
Financial Statements
• Major disclosures
• Inventory
• Property, Plant and
Equipment
• Liabilities
• Equity
• Contingencies and
Commitments
• Taxes, Pensions and
Leases
• Changes in Accounting
Policies
• Special
Transactions or
Events
• Subsequent
events
• Segment
reporting
• Interim
reporting
• Related
party
transactions
• Accounting
errors
• Illegal acts
Subsequent Events
• Notes to the financial statements must explain
• Any significant financial events that occurred
after the balance sheet date, but before the date
approved for issue
Financial statement period
Balance
sheet date
Post balance sheet events
Issue date
Types of Transactions
to Be Disclosed
• Two types of post-balance sheet events must
be disclosed
– Events that provide additional evidence about
conditions that existed at balance sheet date
and require adjustment
• e.g., customer’s bankruptcy
– Events that provide evidence about conditions
that did not exist at balance sheet date and do
not require adjustment
• e.g., bond or share issuance
Financial Forecasts
and Projections
• The investing public needs a greater quantity
and quality of information about corporate
expectations
• The disclosures take one of two forms:
– Financial forecast of an entity’s expected
financial position
– Financial projection based on hypothetical
assumptions
• The difference is one of likelihood of
happening
Forecast Arguments
For
• Information about the
future facilitates better
decisions
• Corporate disclosures
limit the speculation
about forecasts that are
informally circulated
• Historical information
may not be adequate in a
world of frequently
changing circumstances
Against
• Information about the
future may be misleading
and unreliable
• Corporations may strive to
meet published projections
regardless of shareholders’
interests
• Incorrect projections may
lead to legal actions
• Forecasts may provide
information to competitors
that may be detrimental to
corporate interests
Procedural and Reporting
Standards
1.
2.
3.
4.
5.
6.
7.
Appropriate assumptions be used
Time period used is not beyond that which can
be reasonably estimated
Accounting policies used are the same as for
year end reports
At least one income statement is included
Cautionary note is attached
Reports are clearly labeled as
forecast/projection
Disclosure of assumptions and policies used
Auditor’s Reporting Standards
CICA Handbook, Section 5100.02
1. Identify the financial statements
•
Distinguish management and auditor’s
responsibilities
2. Describe scope of the auditor’s examination
3. State either an opinion or statement that an
opinion cannot be expressed
•
If an opinion is provided, it should state
whether the statement fairly presents the
financial position, operating results, and cash
flows in accordance with GAAP
Auditor’s Opinion
The auditor can render or provide:
• An Unqualified (clean) opinion
• A Qualified opinion
• An Adverse opinion (circumstances)
• A disclaimer of an opinion (no opinion can
be given)
Unincorporated Businesses
Accounting issues include:
1. Clear definition of the business entity
– Statements should clearly report the business
name and that the business is not
incorporated
2. Clear reporting of any amounts accruing to
the owners
3. There is no provision for income taxes
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