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Chapter 2

ACTG 2010 Chapter Notes - Chapter 2: Financial Statement, Faithful Representation, Conceptual Framework


Department
Accounting
Course Code
ACTG 2010
Professor
Douglas Kong
Chapter
2

Page:
of 8
ACTG 2010 – CHAPTER TWO NOTES Ricks Tsang
Introduction
Financial statement package
oBalance sheet (statement of financial position)
oStatement of comprehensive income (includes income statement)
oStatement of changes in equity
oStatement of cash flows
oNotes to the financial statements
IASB = International Accounting Standards Board
oCreated IFRS conceptual framework that
Provides a basis for preparing/presenting financial statements
Provides a structure for creating new accounting standards
Assists preparers of financial statements when there are no standards for guidance
LO 1 The IFRS Conceptual Framework
The Objective of General Purpose of Financial Reporting
Is to provide useful info about an entity to existing and potential equity investors, lenders, and other
creditors in making decisions about providing resources to the entity
Focus of IFRS is very narrow - by necessity
Accounting info can be used to determine future net cash flows (for investors) and other purposes
General purpose financial reports prepared with IFRS isn't tailored for all stakeholders/all uses, only
for designated stakeholder groups & specified uses
oWhy? Emphasizing wider range of purposes/stakeholders = information isn't
coherent/useful
Qualitative Characteristics of Useful Financial Information
Two levels:
oFundamental qualitative characteristics
Relevance
Influences stakeholder decisions
Helps stakeholders make predictions, confirms/corrects past evaluations
Ex.) Shareholders make early prediction of future stock prices, want to
know why their estimations were diff from the actual amounts
Stakeholders in stable/established companies use financial statements to
make predictions, those in new entities or ones experiencing high change (i.e.,
Internet firms) can't because financial statements don't provide basis for predictions
Faithful representation
Refers to association b/w underlying info being represented and
representation of that info; financial statements are a representation of entity's
underlying economic activity
To be representationally faithful, all assets/liabilities/revenues/expenses
must be reflected in the statements, and accounting info must be:
Complete - all info required to reflect underlying economic activity
must be given
Neutral - all info free from bias, doesn't manipulate stakeholders'
decisions
Free from error - no errors, omissions, doesn't have to be perfectly
accurate
oEnhancing qualitative characteristics
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ACTG 2010 – CHAPTER TWO NOTES Ricks Tsang
Makes relevant/faithfully represented info even more useful!
Comparability
Info about an entity must be readily comparable year-to-year or to other
entities
Same accounting methods used year-to-year to account for transactions
Verifiability
Info is verifiable of group of observers have similar results when measuring
attribute
i.e., amount of cash is more verifiable (similar results) than estimate of A/R
that won't be collected (likely more diverse results)
Timeliness
Info must be available in time to influence stakeholders' decision-making
Understandability
Accounting info must be understood by stakeholders
But stakeholders = wide range (some are dumb, some smart)
Simpler info = wider audience, info for sophisticated stakeholders =
complex, detailed
Conceptual framework says info should be prepared for stakeholders with
'reasonable understanding of business' and 'willingness to study the info'
Framework = centre piece of IFRS, but doesn’t override accounting standard should they conflict
LO 2 Basic Accounting Assumptions
Unit of Measure
States that the economic activity of an entity can be effectively reported in terms of a single unit of
measure (money - usually Canadian or U.S. $)
Designating a common unit of measure aggregates/summarizes info, so total assets/liabilities/net
income can be calculated
Drawbacks:
oInfo about individual items measured is lost
oCharacteristics not easily measured in $ not accounted for (i.e., human capital, social costs)
oThe changing purchasing power of the Canadian $ over time is ignored
Entity Concept
Assumes an entity of interest (corporation, partnership, proprietorship) can provide info separate
from info of other owners/entities
i.e., personal transactions and economic events of owners shouldn't be included with the entity's
financial statements, leads to inappropriate conclusions by stakeholders
Going Concern
Entity that will be continuing its operations for the foreseeable future - expected to complete its
current plans, use existing assets in operations, meet obligations, etc.
Entity is assumed to be going concern unless prove otherwise (if entity is going out of business). If
proven so, approach to financial reporting changes.
Periodic Reporting
States that meaningful financial info about an entity can be provided for periods of time shorter than
its life (i.e., annually/quarterly)
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ACTG 2010 – CHAPTER TWO NOTES Ricks Tsang
Usually, financial statements are provided annually to provide info to shareholders on timely basis
Some stakeholders like banks & stock exchanges need more frequent reports
LO 3 General Purpose Financial Statements
General purpose financial statements are intended for everyone, no one in particular
Alternative to GPFS are special purpose reports for specific users/uses
Every business makes GPFS at least once a year to include them with tax returns, and can make any #
of special purpose reports
Public companies' published financial reports are always GP, and must be made in accordance with
IFRS
LO 3 Leon's Financial Statements: An Overview
1.Consolidated: the financial of >1 corporation is aggregated into a single set of statements
oOccurs when a corp. owns > 50% of other corps. and they want to give stakeholders info of
all companies in the group
2.Financial statements are presented for multiple years (benchmarks, so to speak), to reflect
comparability
oNot making comparisons (i.e., with other firms, industry, other years, economy, previous
periods) makes accounting info difficult to interpret
oFirms reporting under IFRS provide 2 balance sheets; for firm's 1st time: BS at beginning of
year
3.Financial statements cover fiscal year of 12-months (can be any period, Jan 1-Dec 31 or Oct 31 - Nov
1)
4.$ amounts in statements rounded to nearest thousand dollars - Leon's reports $72,505,000 for cash,
but it could be anywhere b/w $72,504,500 and $72,505,500)
oThis makes statements less cluttered, assumes rounding doesn't affect stakeholder decisions
Insight
Materiality : significance of financial information to stakeholders
oInfo = material if its exclusion/misstatement affects the info users' judgment
oFinancial statements must be free of errors, all material info should be included
oWhether or not info = material depends on the user and for what purpose
oMore materiality = higher dollar value info is worth. Sometimes, info that doesn't have a
dollar value is still considered material.
LO 3, 4, 5 The Balance Sheet (Statement of Financial position)
Provides a summary of an entity's financial position at a point in time. Three aspects:
oAssets: economic resources that provide future benefits to an entity
oLiabilities: entity's obligations
oOwner's equity: the investment owners have made in the entity (shareholder's equity for
corp.)
With BS, stakeholders can
oEvaluate financial health
oAssess its risk
oPredict future cash flows
Accounting equation: Assets = Liabilities + Owners' Equity
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