Intermediate Accounting
Volume 2 Twelfth Canadian Edition
Kieso ● Weygandt ● Warfield ● Wiecek ● McConomy
Prepared by Ilene M Gilborn MCE, FCPA (FCMA)
Chapter 23
Other Measurement and Disclosure Issues
Chapter 23: Other Measurement and
Disclosure Issues (1 of 2)
After studying this chapter, you should be able to:
1. Understand the importance of disclosure from a business
perspective.
2. Review the full disclosure principle and how it is implemented,
and explain how companies use accounting policy notes.
3. Describe the disclosure requirements for major segments of a
business.
4. Describe the requirements and accounting problems associated
with interim reporting.
5. Discuss the accounting issues for related‐party transactions.
Copyright ©2019 John Wiley & Sons Canada, Ltd.
2
Chapter 23: Other Measurement and
Disclosure Issues (2 of 2)
After studying this chapter, you should be able to:
6. Identify the accounting issues relating to subsequent events
and those faced by unincorporated businesses.
7. Identify the major considerations relating to bankruptcy and
receivership.
8. Identify the major disclosures found in the auditor’s report.
9. Describe methods used for basic financial statement analysis
and summarize the limitations of ratio analysis.
10.Identify differences in accounting between IFRS and APSE, and
what changes are expected in the near future.
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3
Importance of Disclosure
(I of 2)
• Information disclosure is an important part of capital
markets and allocation of capital
• Helps investors assess the relative risks and rewards
• Full disclosure
principle:
information relevant
to decision‐making
should be included
in the financial
statements
LO1
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Importance of Disclosure (2 of 2)
• Not all disclosure is good disclosure
• Not enough information and too much information are
equally problematic
• Since Jan 1, 2016 materiality also applies to note
disclosures—obscuring material information with
immaterial information makes it less understandable
• Other things to watch for: misleading, selective and
untimely disclosure as well as insider trading
• Different users want different information—important to
know costs/benefits of disclosure when making disclosure
decisions
LO1
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The Full Disclosure Principle
• Calls for financial reporting of any financial facts that are
significant enough to influence the judgement of an
informed reader
• Disclosure requirements for public companies—increased
substantially over the past several decades due to
1.
2.
3.
Growing complexity of the business environment
Necessity for timely information
Use of accounting as a control/monitoring device
• Requirements for private companies are less: less
complexity, and are closely held (stakeholders have greater
access to information)
• Costs to implement full disclosure can be prohibitive
LO2
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Note Disclosure of Accounting Policies
• Notes are an integral part of the financial statements
o
o
Relevant items can be explained in qualitative terms in notes
Additional quantitative data can be provided
• Accounting policies disclosure should be one of the first
notes or in a separate section preceding the notes
• Accounting policy notes explain the specific accounting
methods and principles that are currently used and are
considered appropriate for fair presentation
• ASPE allows greater choice and greater flexibility with
accounting policies in certain circumstances
• IASB has been attempting to reduce the policy choice
LO2
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7
Accounting Errors and Illegal Acts
• Accounting errors are unintentional mistakes
• Irregularities are intentional distortions of the statements
o
o
Company management is responsible for ensuring operations are
conducted within the applicable laws and regulations that
determine the amounts to be reported in the statements
Company auditors should consider the legal and regulatory
framework of a company to help identify non‐compliance that
could have a material effect on the statements
• CAS 250 effective Dec, 2018 notes non‐compliance means
• “Acts of omission or commission intentional or unintentional, committed by
the entity, or by those charged with governance, by management or by other
individuals working for or under the direction of the entity, which are
contrary to the prevailing laws or regulations. ”
LO2
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8
Segmented Reporting (1 of 7)
• For investors, much information is hidden in the aggregated
figures of consolidated amounts
• Segment information is required for public entities
• Some companies are reluctant to disclose segmented data
o
o
o
o
o
o
LO3
Without understanding the whole business and its environment,
the user might find the information meaningless
Can be used by competitors
May discourage risk‐taking by managers to avoid segment losses
Wide variation of segments limits the usefulness of information
Investments are in the whole company, not just a segment
Classification of segments and allocation of revenues/expenses
may be challenging
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Segmented Reporting (2 of 7)
• Investors need segment information to make intelligent
decisions about diversified companies
o
o
o
Sales and earnings of individual segments (with different
growth rate, risks and profitability) are needed to forecast
future consolidated profits
Segment reports disclose the nature of a company’s
business and the relative size of its components
Without segment reporting, single‐product‐line competitors
must disclose information a diversified company does not
• Development of standards for segmented financial
information has been a continuing process for 25 years
• ASPE does not contain guidance for reporting segment
information
LO3
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Segmented Reporting (3 of 7)
• The objective of segmented reporting is to provide
information about the
o
o
Different types of business activities in which a company
engages
Different economic environments in which a company
operates
• So that users of financial statements can:
o
o
o
LO3
Better understand the business’s performance
Better assess its prospects for future net cash flows
Make more informed judgements about the business as a
whole
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Segmented Reporting (4 of 7)
• IASB requires including selected information about
operating segments from the perspective of the chief
operating decision‐maker (CODM)
• Management approach—based on the way management
sets up the “operating segments” (components) for
operations
• An “operating segment” is a component of an enterprise
that has the following characteristics
o
o
o
LO3
Earns revenues and incurs expenses doing business
activities
Operating results are reviewed regularly by the CODM to
assess performance and allocate resources
Discrete financial information is available
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Segmented Reporting (5 of 7)
• Information about two or more operating segments can be
combined only if the segments share the following
characteristics
o
o
o
o
o
Nature of the product and services provided
Nature of the production process
Type or class of customer
Methods of product or service distribution
Nature of the regulatory environment (if applicable)
• IFRS requires companies combining segments to disclose
o
o
LO3
Judgements made in aggregating segments
Brief description of the segments aggregated
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Segmented Reporting (6 of 7)
• An operating segment is significant and thus identified as a
reportable segment if it satisfies one or more of the
following quantitative thresholds:
o
o
o
LO3
Revenue: 10% or more of the combined revenue of all the
operating segments
Profit or Loss: 10% or more of the greater of the absolute
amount of: the combined profit of those segments with a
profit, and the combined loss of those segments with a loss
Assets: 10% or more of combined segment assets
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Segmented Reporting (7 of 7)
• In applying the quantitative tests, three additional factors
must be considered
o
o
o
LO3
Segment data must explain a significant portion of the
company’s business—segmented results must equal or
exceed 75% of all sales to all unaffiliated customers
A practical limit of 10 segments should be reported by one
company
A segment that does not meet any of the criteria can still be
presented separately if management believes the
information would be useful to users
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Segmented Reporting Example
A company is a publicly
accountable entity. It
operates six different
segments and is
preparing segmented
reporting disclosures
for the year.
Information regarding
the segments is to the
right. Amounts are in
$000.
Revenue test: 10% x $2,160 = $216 (C,D,E)
Profit/Loss test: 10% x $90 = $9 (A,C,D,E)
(Note: $5 loss is not included)
Assets test: 10% x $970 = $97 (C,D,E)
Combined sales = $100 + $700 + $300 + $900 = $2,000; 75% x $2,160 = $1,620
$2,000 > $1,620; minimum 75% test is met and A, C, D, and E are reportable segments.
LO3
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Measurement Principles
• Segment information is not prepared according to GAAP
because some of the principles do not apply
• Centrally incurred costs (common costs) prevent a
completely objective division of costs among the segments
o
o
Accounting for the cost of the company‐wide benefit plan
Accounting for income tax when just one return is filed
• Companies should disclose
o
o
LO3
Measurement choices
Basis for inter‐segment transactions
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Required Segmented Information
• IFRS requires reporting of the following:
1.
2.
3.
4.
5.
6.
LO3
General information: about its reportable segments
Segment information: revenues, profit and loss, assets, liabilities,
and related information
Reconciliations: of segment revenues to total revenues, profits or
losses to total profits or losses, and segment assets and liabilities
to total assets and liabilities
Product and services: amount of revenues from external customers
for products and services
Geographic areas: revenues from (Canada vs. foreign) customers
and certain non‐current (Canada vs. foreign) assets; other
information by country if it is material
Major customers: if 10% or more of revenue from one customer,
must disclose (without identifying the customer)
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Interim Reporting
• Interim reports cover periods of less than one year
• There are two approaches to interim reporting
o
o
The discrete view: each interim period should be treated as
a separate accounting period (preferred under IFRS)
The integral view: the interim report is an integral part of
the annual report, and should consider the entire year
• Notable exceptions to discrete view
o
o
LO4
Calculating income tax (usually done on an annual basis)—
estimate interim taxable income and temporary differences
and then apply the estimated annual tax rate
Employer’s portion of payroll taxes (usually paid early in the
year)—estimate the annual amount and then allocate to the
interim period
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Interim Reporting Requirements (1 of 3)
• Same accounting principles and methods that apply to
annual reporting apply to interim reporting
• At a minimum, a full set of financial statements and
selected notes is required (F/S can be condensed versions)
• Statements presented should be
o
o
For the current period and interim year to date (if
applicable) with comparatives
Restated when changing an accounting policy
retrospectively, or making a retrospective restatement
• IFRS does not mandate interim reporting, but does provide
guidance if the entity wants to provide it
• If the report is in compliance with IFRS—disclose this
LO4
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Interim Reporting Requirements (2 of 3)
• Minimum disclosure requirements include:
1.
2.
3.
4.
5.
6.
Whether statements are in compliance with IFRS
Accounting policies and methods
Any seasonal or cyclical period considerations
Nature and amount of unusual items
Nature and amount of estimate changes
Issuances, repurchases, and repayments of debt and
equity securities
Continued …
LO4
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Interim Reporting Requirements (3 of 3)
… Minimum disclosure requirements continued
Dividends paid
8. Information about reportable segments
9. Subsequent events
10. Changes in composition of the entity
11. Fair value of financial instruments
12. Any other information required for fair presentation
and/or material to understanding of the interim
period
7.
LO4
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Unique Problems of Interim Reporting
• Change in accounting policy: retroactive application unless
the data is not practically available
• Earnings per share: each interim period should stand alone;
basic and diluted EPS provided if required annually
• Seasonality: wide fluctuations in profits; a company would
defer revenue or costs only if it was appropriate to do so at
the end of the year
• Auditor’s involvement: many auditors are reluctant; The
“Auditor Review of Interim Financial Statements” in the CPA
handbook provides guidance to auditors. The purpose of
this type of review is to assist the audit committee
LO4
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Online Financial Reporting
• Improves the overall usefulness of the information
Takes advantage of cloud‐based financial reporting services
o Online reports are easily accessible across multiple locations
o Allows for reporting more disaggregated data and more timely
data
• Main obstacle is equality of access to electronic reporting and
the reliability of the information on the internet
• Internet financial reporting is voluntary—no standards and no
requirement for auditing
o
LO4
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Related Party Transactions (RPTs)
(1 of 4)
• Related‐party transactions arise when a business engages
in transactions with another party that can significantly
influence its policies
• Related party transactions are individually assessed
• Related parties include the following:
•
•
•
•
•
LO5
Companies or individuals with control
Investors and investees with significant influence or joint control
Company management
Members of immediate family
The other party in a management contract
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Related Party Transactions (RPTs)
(2 of 4)
• Basic assumption—transactions are at arm’s length
• If this condition is not met, the exchange value is not
necessarily the fair value or the market value
o
o
o
The transaction may have to be remeasured to reflect the
appropriate value
ASPE has special measurement principles for related‐party
transactions
IFRS does not require remeasurement
• Under ASPE, economic substance rather than legal form is
reported
• If the arms‐length condition is not met, the transaction
should be disclosed as being between related parties
LO5
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Related‐Party Transactions (RPTs)
(3 of 4)
• The following disclosures are recommended for RPTs (ASPE)
o
o
o
o
o
o
o
LO5
The nature of the relationship(s)
A description of the transaction and the recorded amounts
The measurement basis that was used
Amounts due from/to related parties; related
terms/conditions
Contractual obligations with related parties
Contingencies involving related parties
IFRS: requires similar disclosures for most RPTs and
balances, plus key management personnel compensation
and the name of the entity’s parent company and its
ultimate controlling entity or individual
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Related‐Party Transactions (RPTs) (4 of 4)
• Under ASPE, certain related‐party transactions must be
remeasured to the carrying amount of the underlying
assets or services that were exchanged
• Carrying amount: book value (on the transferor’s books)
after any adjustments for amortization or impairment
• Remeasurement happens if
o
o
o
The transaction is not in the normal course of business
There is no substantive change in ownership
The exchange amount is not supported by independent
evidence
• Where transactions are remeasured to their carrying value,
the difference is booked as a charge or credit to equity.
LO5
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Related‐Party Transactions Decision
Tree
(ASPE)
LO5
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Related‐Party Transactions Example 1
(1 of 2)
A private manufacturing company (Seller) sells land worth $20,000 to another
private company (Buyer). The companies are related because the same
shareholder has a 70% equity in each company. The land has a carrying value of
$15,000 on the Seller’s books. In exchange, the Buyer transfers a building that
cost $30,000 and has a book value of $12,000. Seller has no contributed surplus.
Using the decision tree on the previous slide, assess how this transaction should
be accounted for.
• Is the transaction in the normal course of operations? No. Manufacturing companies
would not normally be selling capital assets.
• Is the change in the ownership interests in the item transferred substantive? No.
Because the same shareholder owns both assets before and after the transaction,
there is no substantive change in ownership.
Measure the transaction at carrying amount.
LO5
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Related‐Party Transactions Example 1
(2 of 2)
Because there is no substantive change in ownership, the transaction would be
remeasured to carrying values by the Seller:
The Buyer would record the land at $15,000 and take the building and accumulated
depreciation off the books:
LO5
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Related‐Party Transactions Example 2
(1 of 2)
Example continued: Assume the same facts from Example 1 except the
exchange was made in the normal course of business and had commercial
substance. The parties decided the appropriate exchange value would be
$20,000. Use the decision tree to determine what value should be used to
recognize the exchange.
• Is the transaction in the normal course of operations? Yes. (Given)
• Is the transaction a nonmonetary exchange or transfer of a nonmonetary asset? Yes.
It is an exchange of physical assets.
• Is the transaction an exchange of products or property held for sale in the normal
course of operations to facilitate sales? No.
• Does the transaction have commercial substance? Yes.
Measure the transaction at the exchange amount.
LO5
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Related‐Party Transactions Example 2
(2 of 2)
The transaction should be treated like a sale, so the Seller would recognize a gain of
$5,000 ($20,000 ‐ $15,000).
The Buyer would recognize a gain of $8,000.
LO5
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Subsequent Events (1 of 3)
• Subsequent events are those that
o
o
Have a significant effect on a company
Take place after the formal SFP date but before financial
statements are complete
Under IFRS, this is on the date they are authorized for issue
 Under ASPE, it is a matter of judgement, taking into account
management structure and procedures for completing the
statements

LO6
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Subsequent Events (2 of 3)
• There are two types of subsequent events
1. Events that provide evidence about conditions that
existed at the SFP date and affect the estimates used in
preparing the statements
o
o
o
o
LO6
Reflected in the SFP and income statement by recording
adjustments
Includes information that would have been recorded in the
accounts if it had been known before the SFP date
Example: Settlement of litigation if event giving rise to litigation
existed prior to SFP date
Example: Loss on accounts receivable due to customer’s
bankruptcy, where customer’s poor financial condition existed at
the SFP date
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Subsequent Events (3 of 3)
2.
Events that provide evidence about conditions that did
not exist at the statement of financial position date
o
o
o
Some of these may have to be disclosed to keep the statements
from being misleading
Should be disclosed in the notes if they have a material impact on
the company’s future
Example: a fire or flood resulting in a loss
• A subsequent event may call the going concern into
question
o
o
LO6
Determine if there should be additional note disclosures
Determine if assets and liabilities should be remeasured to reflect
net realizable values in a liquidation market
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Unincorporated Businesses
• Accounting issues facing unincorporated businesses are
similar to those facing incorporated ones, except
o
o
o
o
The question on how to define the economic entity—
unincorporated businesses are not separate legal entities
The need to clearly indicate salaries, interest, and similar
items accruing to the owners
Lack of requirement for a provision for income tax
The need to detail changes in owners’ equity during the
period of the financial statements
• ASPE provides recommendations regarding unincorporated
businesses—defining the entity; accruals to owners
• IFRS has no specific guidance
LO6
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Bankruptcy and Receivership (1 of 3)
• Bankruptcy is a legal process that occurs when a company
(or individual) is unable to pay its debts.
• The Office of the Superintendent of Bankruptcy administers
the bankruptcy process in Canada.
• Companies facing bankruptcy can make a proposal
o
o
o
To pay their creditors a percentage of what was owed
For an extension to the time available to pay off debts
Or both
• Companies can also use the Companies’ Creditors
Arrangement Act (CCAA), if amount owing is > $5 million
• Under the CCAA act, companies can request short‐term
protection while they prepare an offer to creditors
LO7
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Bankruptcy and Receivership (2 of 3)
LO7
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Bankruptcy and Receivership (3 of 3)
• A receivership process is typically started by a secured
creditor, or a group of secured creditors, if a company
defaults on a loan
• The main categories of creditors are
o
o
o
Secured—have a legal claim on the assets (such as a lien)
Preferred—first priority (employees for unpaid wages)
Unsecured—no security or collateral
• A receiver is appointed by the bankruptcy court to take
possession of, and manage, or liquidate the company
• Companies in receivership, or under CCAA protection may
no longer meet the going concern assumption—may need
to use a liquidation approach to statement preparation
LO7
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Auditor’s Report (1 of 2)
• An important source of information is the auditor’s report
• Based on Canadian Auditing Standards in the handbook
• The auditor’s report based on these standards was
significantly revised for audits after December 15, 2018
• The auditor expresses an unmodified opinion if satisfied
the statements present fairly, in all material aspects, and in
accordance with GAAP, the company’s
o
o
o
LO8
Financial position
Financial performance
Cash flows
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Auditor’s Report (2 of 2)
• In some situations, the auditor is required to express a
modified opinion
o
Usually happens when there is a scope limitation—
insufficient appropriate audit evidence
o
A disclaimer opinion or withdrawal from the audit—when the
scope limitation is both material and pervasive
A qualified opinion—if the effects of the scope limitation are
material but not pervasive
o
• An adverse opinion is required if misstatements are so
material and pervasive that a qualified opinion is not
justified (statements are not in accordance with GAAP)
LO8
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Financial Statement Analysis (1 of 2)
• We can obtain specific information from financial
statements by
o
o
Examining relationships between items on the statements
Identifying trends in the relationships
• Relationships are usually expressed numerically, and trends
are identified through horizontal and trend analysis
• Limitations inherent in financial statement analysis:
o
o
o
o
LO9
Financial statements report on the past
Ratio and trend analysis does not explain why
A single ratio, by itself, is not likely to be useful
Limitations to the accounting numbers based on accounting
policy choices
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Financial Statement Analysis (2 of 2)
• Various techniques are used in analysis of financial
statement data; no one technique is better than another
o
o
o
o
o
LO9
Ratio analysis—a ratio is an expression of the relationship between
two numbers drawn or derived from the financial statements
Horizontal analysis– indicates the proportionate change between
years
Vertical or Common‐size analysis– reducing all the dollar amounts to a
percentage of a base amount
Trend analysis‐‐ to assess how companies’ financial position and
performance are changing over time.
Examination of related data (in notes and other sources)‐‐answers are
often obtained by examining the interrelationships among all the data
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Ratio Analysis
Category
Measures what?
Reflects
Liquidity
Measure the short‐term
ability to pay maturing
obligations
Financial strength: ability
to satisfy financial
requirements of non‐
ownership interests in
the business
Current ratio
Quick or acid‐test ratio
Current cash‐debt coverage ratio
Activity
Measures how
effectively the enterprise
is using its assets
Management’s
performance
Receivables turnover
Inventory turnover
Asset turnover
Profitability
Measures financial
performance and
shareholder value
creation over a specific
period of time
Management’s
performance
Gross profit margin
Profit margin on sales
Rate of return on assets
Rate of return on common equity
EPS and Price earnings ratios
Payout ratio
Coverage or
Solvency
Measures the degree of
protection for long‐term
creditors and investors
(ability to meet long‐
term obligations)
Financial strength: ability
to satisfy financial
requirements of non‐
ownership interests in
the business
Debt to total assets
Times interest earned
Cash debt coverage
Free cash flow to operating cash flow
Book value per share
LO9
Ratios
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Limitations of Ratio Analysis
• There are some limitations to using ratios for financial
statement analysis
o
o
o
LO9
Based on historical cost—can lead to distortions in
measuring performance
Estimated items like depreciation, site restoration costs, and
bad debts—ratios based on significant estimates may be less
credible
Achieving comparability among companies in a given
industry may be difficult—use of different accounting
policies that lead to differences in accounting
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Horizontal Analysis Example
•
Horizontal analysis
indicates the
proportionate change
between years
Strong growth: 24% increase in
sales led to 35% increase in
gross profit and 43% in net
income; but a 50% increase in
selling and admin expenses
100% increase in interest
expense—review debt vs.
equity mix
LO9
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Common‐Size (Vertical) Analysis
Example
• Vertical analysis:
proportionate
expression of each
item to a base figure
Gross profit improved:
37% to 40%
Potential issue: cost
control Selling &
Admin expenses went
from 11% to 13%
LO9
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Limitations of Financial Statement
Analysis
• Significant limitations regarding financial statement
information and analysis arise from a number of
uncertainties:
o
o
o
o
LO9
About the nature and role of financial statements
About the nature of business operations portrayed in the
financial statements
Due to limitations of financial statement measurements and
disclosures
About management’s motives and intentions
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A Comparison of IFRS and ASPE
Topic
IFRS
ASPE
Disclosures
Generally has fewer disclosure requirements
Accounting policies
Is working towards reducing the
choices
Greater range of choices—allows some
companies exemption from the reliable and
more relevant test
Segment reporting
Fairly extensive requirements
Provides no guidance
Interim reporting
Does not mandate who should
report; does provide guidance
Provides no guidance
Related‐party
transactions
ASPE disclosures plus
management compensation
and parent company info
Requires remeasurement in certain situations
Subsequent events
Event period ends on the
authorization to issue date
Up to management’s discretion—between SFP
and issue date
Unincorporated
business
No specific guidance
Requires specific information about the entity
and owners
LO10
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Looking Ahead
• IASB plans to start the process of revising and updating the
Management Commentary Practice Statement for 2020, by
issuing a new Exposure Draft
• Definition of Material – the final amendments to IAS 1 and
IAS 8 were issued in October 2018 and clarified: how
material information could be obscured; and that
information is considered material if it could influence the
decisions of the primary users of financial statements. The
amendments have an effective date of January 1, 2020.
LO10
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Copyright
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