Accounting
In
Action
Learning Objectives
1.
2.
3.
4.
5.
6.
Describe the financial reporting environment and generally
accepted accounting practice.
Discuss the Conceptual Framework’s objective of financial
reporting.
Discuss the Conceptual Framework’s qualitative
characteristics of financial information.
Discuss the Conceptual Framework’s definitions and
recognition criteria for financial statement elements.
Discuss the Conceptual Framework’s assumptions and
measurement bases.
Using a residual analysis, be able to discuss the effects of
economic events on the accounting equation and be able to
show how basic financial statements can be prepared from
the summarized data.
LO 1: What is Accounting?
The purpose of accounting is:
(1)
to identify, record, and communicate the economic events of an
(2)
organization to
(3)
interested users.
LO 1: What is Accounting?
Who Uses Accounting Data?
Internal
Users
Human
Resources
External
Users
Taxing
Authorities
Labor
Unions
Finance
Management
Customers
Creditors
Marketing
Regulatory
Agencies
Investors
LO 1: The Financial Reporting Environment
• NZ Law: Financial Reporting Act of 2013 (“FRA”)
• The Players:
– International Accounting Standards Board (IASB)
– NZ External Reporting Board (XRB)
– NZ Accounting Standards Board (NZASB/XRB)
LO 1: The Financial Reporting Environment
• How international financial reporting standards for “for profit”
entities are created and become part of NZ law:
– IASB
• Researches topics/Discussion Papers
• Due Process
• Exposure Drafts (ED)
• Due process
• Standard issued if 9 of 14 members approve
– NZASB
• Receives IASB standard
• Submits standard to XRB for approval
• The XRB and Financial Reporting Standards
LO 1: The Financial Reporting Environment
• Under the FRA, only private sector, for profit entities that are
“publicly accountable” or “large” must follow generally accepted
accounting practice (“GAAP”).
– Publicly accountable
– Large
– An entity, if not publicly accountable or large, legally will be
required only to prepare special purpose reports.
• A two tier GAAP regime for entities that must follow GAAP:
– Tier 1:
Full IFRS; known as the “Gold Standard.”
– Tier 2:
Reduced disclosure IFRS.
LO 1: The Financial Reporting Environment
• Gold Standard GAAP in NZ:
– International financial reporting standards
• IFRS and IAS
• IASB interpretations of IFRS and IAS
– Financial reporting standards (FRS)
• GAAP: but what if there is no standard?
– Analogies
– NZ Framework for the Preparation and Presentation of Financial
Statements (known as the “Conceptual Framework”)
• GAAP compliance and fair presentation of financial statements
LO 2:LO
The
Framework
2:Conceptual
Conceptual
Framework
Overview of the Conceptual Framework
Three levels:
First Level = Objective of financial reporting.
Second Level = Qualitative characteristics of
accounting information; and definitions and
recognition criteria for financial statement
elements.
Third Level = Underlying assumptions and
measurement concepts.
EXPLICIT
IMPLICIT
ASSUMPTION
ASSUMPTION
Going concern
Periodicity
QUALITATIVE
CHARACTERISTICS
1. Fundamental
2. Enhancing
MEASUREMENT
1. Cost
2. Fair Value
Third
level
ELEMENTS
1.
2.
3.
4.
5.
Assets
Liabilities
Equity
Income
Expenses
OBJECTIVE
Provide information
about the reporting
entity that is decision
useful to present and
potential
capital
providers.
Second level
First level
LO
Conceptual
Framework--Objective
LO2:2:The
The
Conceptual
Framework
Objective of Financial Reporting
• General purpose financial reporting
• About the reporting entity
• That is decision useful to the primary users
of the entity’s financial reports.
LO 3: The Conceptual Framework--QCs
Framework
Fundamental qualitative characteristics of financial information
Relevance
Information is relevant if
it is capable of making a
difference to a decision.
Faithful representation
Information must be a faithful
representation of the economic
phenomena.
Complete
Materiality: Is the
information large
enough or special
enough to matter?
Neutral
Free from error
LO 3: The Conceptual Framework--QCs
Framework
Enhancing qualitative characteristics of financial information
Comparability
Verifiability
Timeliness
Understandability
LO 3: The Conceptual Framework--QCs
Neutrality and Prudence
• Meaning of prudence
• History of prudence
• Prudence and the new CFW
• Cautious prudence reinstated
• Asymmetric (conservative) prudence rejected
• Prudence and your textbook
LO 4: The Conceptual Framework--Elements
An asset is recognised on the BS of an
entity if
• Because of a past event
• The entity controls an economic resource
• That provides probable future economic
benefits
• That can be measured reliably.
LO 4: The Conceptual Framework--Elements
A liability is recognised on the BS of an
entity if
• An obligating event causes a present
obligation
• Whose settlement probably will result in an
outflow of resources
• That can be measured reliably.
LO 4: The Conceptual Framework--Elements
Equity
– Defined:
• Owners’ residual interest in assets, meaning
• After deducting all liabilities (net assets)
– Amount is dependent on the measurement of assets and
liabilities
– Income increases and expenses decrease equity.
LO 4: The Conceptual Framework--Elements
Income
• Income is recognised if, during the period,
– There is an increase to total assets and/or a decrease to
total liabilities
– So that net assets (and therefore equity) increases
– From events other than owner contributions.
• The amount of income recognised depends on the
measurement of assets and liabilities.
LO 4: The Conceptual Framework--Elements
Expenses
• Expenses are recognised if, during the period,
– There is a decrease to total assets and/or an increase to total
liabilities
– So that net assets (and therefore equity) decreases
– From events other than owner distributions.
• The amount depends on the measurement of assets and
liabilities.
LO 5: The Conceptual Framework--Assumptions
• Explicit assumption underlying financial reporting:
– Going Concern
• Implicit assumption underlying financial reporting:
– Periodicity
• What about accrual accounting?
LO 5: The Conceptual Framework--Assumptions
NZ IAS 1, paragraphs 27 & 28:
An entity shall prepare its financial statements…using the
accrual basis of accounting.
When the accrual basis of accounting is used, an entity
recognizes items as assets, liabilities, equity, income and
expenses…when they satisfy the…criteria for those
elements in the NZ Framework.
LO 5: The Conceptual Framework—Measurement Bases
• Historical Cost
• Fair Value
LO 6: Using The Accounting Equation
Economic Event Analysis
• Economic events: not all are recorded.
• Accounting Transactions: exchanges of
something of value between the accounting
entity and another entity.
• Some economic events, though not accounting
transactions, still might be recorded in the
accounting records.
• Accounting standards and concepts play a role.
LO 6: Using The Accounting Equation
Residual Analysis
• A residual analysis uses the Conceptual
Framework to identify if an economic event
has affected the accounting equation.
• Remember, the accounting equation must
ALWAYS balance.
ASSETS
LIABILITIES
EQUITY
ASSETS
LIABILITIES
EQUITY
LO 6: Using The Accounting Equation
Economic Event Analysis: the Equity residual.
Assets
Liabilities
Equity
Share
capital
Most
Income
Reserves
Retained
Earnings
Other
Reserves
Minus
most
Expenses
Minus
Dividends
LO 6: Using The Accounting Equation
Residual Analysis
• A residual analysis begins with assets
– Asset(s) increased? See definition.
– Asset(s) decreased?
• The residual analysis continues with an analysis of
liabilities.
– Liability or liabilities increased? See definition.
– Liability or liabilities decreased?
LO 6: Using The Accounting Equation
Residual Analysis
• The residual analysis finishes with equity.
– Are net assets unchanged? If so, equity is unchanged.
– Have net assets increased? If so, equity increases.
• Ask first: from an owner contribution?
• If not, recognise income.
– Have net assets decreased? If so, equity decreases.
• Ask first: from an owner distribution?
• If not, recognise an expense.
Transaction (1). Investment by Shareholders. Ray and
Barbara Neal decide to open a computer programming
service named Softbyte Ltd. On September 1, 2017, they
invest $15,000 cash in exchange for capital shares. Assume
a monthly accounting period.
LO 6: Event Analysis
Transaction (2). Purchase of Equipment for Cash. Softbyte
purchases computer equipment for $7,000 cash.
LO 6: Event Analysis
Transaction (3). Purchase of Supplies on Credit. Softbyte
purchases $1,600 of computer paper and other supplies,
expected to last several months, on credit.
LO 6: Event Analysis
Transaction (4). Services Provided for Cash. Softbyte
receives $1,200 cash from customers for programming
services provided.
LO 6: Event Analysis
Transaction (5). Purchase of Advertising on Credit.
Softbyte receives a bill for $250 from the Daily News for
current advertising, but postpones payment until a later
date.
LO 6: Event Analysis
Transaction (6). Services Provided for Cash and Credit.
Softbyte provides $3,500 of programming services for
customers, receiving cash of $1,500 while billing the
balance of $2,000.
LO 6: Event Analysis
Transaction (7). Payment of Expenses. Softbyte pays the
following September expenses in cash: store rent $600,
salaries of employees $900, and utilities $200.
LO 6: Event Analysis
Transaction (8). Payment of Accounts Payable. Softbyte
pays its $250 Daily News bill in cash.
LO 6: Event Analysis
Transaction (9). Receipt of Cash on Account. Softbyte
receives $600 in cash from customers who had been billed
for services [in Transaction (6)].
LO 6: Event Analysis
Transaction (10). Dividends. The corporation declares and
immediately pays a dividend of $1,300 in cash.
LO 6: Event Analysis
Summary of Transactions
LO 6: Event Analysis
Companies prepare four financial statements from
the summarized accounting data:
Statement of
Comprehensive
Income
Statement of
Changes in
Equity
See textbook
p. 568.
Statement of
Financial
Position
(Balance
Sheet)
LO 6: Financial Statements
Statement of
Cash Flows
LO 6: Financial Statements
LTD
Statement of Comprehensive Income
2017
Profit and Total Comprehensive Income
Reports the income and expenses for a specific period of time.
Net income (term used in textbook) = profit.
Sometimes, there is “other comprehensive income” (OCI); if so, there will be a
subtotal for profit, then the OCI, then “Total Comprehensive Income”.
Form: dollar sign to start a column and above a double underline; there is only
one double underline in this statement.
LO 6: Financial Statements
LTD
Statement of Comprehensive Income
2017
Profit and Total Comprehensive Income
LTD
2017
Profit
LO 6: Financial Statements
LTD
2017
Profit
The Standards require a Statement of Changes in Equity, not a
Retained Earnings Statement: see textbook, page 568.
Also, do not prepare a Retained Earnings Statement in the equity
section of the Balance Sheet!
Retained earnings is reconciled (how balance changed during the
period) in The Statement of Changes in Equity, along with other
equity accounts.
Softbyte Ltd.
Balance Sheet
As at September 30, 2017
Assets
Current:
Cash
Accounts Receivable
$ 8,050
1,400
Supplies
Noncurrent:
Equipment
Total Assets
1,600
$ 11,050
7,000
$ 18,050
=======
Liabilities
Current:
Accounts Payable
1,600
Equity
Share Capital
Retained Earnings
Total Liabilities & Equity
15,000
1,450
16,450
$ 18,050
=======
• Heading = date.
• Dollar signs at first figure of a column and above a double
underline.
• Current/noncurrent assets/liabilities and totals for each.
• Total liabilities and total equity figures.
LO 6: Financial Statements
LTD
2017
The SOCF answers these questions about the SOCI period:
1.
Where did cash come from?
2.
What was cash used for?
3.
What was the change in the cash balance?
LO 6: Financial Statements
• As a general rule, comparative information
from the previous period is required.
• As a general rule, presentation and
classification of items in the statements should
be consistent from one period to the next.
• The notes to the financial statements shall:
– Summarize significant accounting policies, including
• Measurement bases used; and
• Judgments made in applying the policies.
– Provide supporting information for items presented
in the financial statements.