aa2015 ‘Accounting Basics: Financial Roporting ¢ Accounting Basics: Financial Reporting By Bob Schneider ) INVESTOPEDIA By Bob Schnetder Generally Accepted Accounting Principles (GAAP) A key prerequisite for meaningful financial statements is that they be comparable to those for other companies, especialy firms witht industry. To meet that requirement, statements are prepared in accordance with Generally Accepted Accounting Principles (or, more GAAP), which “encompasses the conventions, rules and procedures, necessary to define accepted accounting practice ata particular! In the wake of the crash of 1929, the first serious attempt to codify GAAP was made by the AICPA (then the American Institute of Ac ‘working with the New York Stock Exchange, which culminated inthe creation of a Committee on Accounting Procedure. The Comm. ‘were limited and in 1959 the Accounting Principles Board (APB) was established within the AICPA to take over the rulesmaking func ‘was superseded in 1972 by the Financial Accounting Standards Board (FASB), an independent, not for-profit organization with a gov, seven members -three from public accounting, two from private industry, one from academia and one from an oversight body. (For! visit the US. GAAP website) ‘Current GAAP in the US. (or US. GAAP) includes rules from the FASB and these predecessors, Overtime, standards are eliminated : business conditions change and new research performed. Although in the U.S. the SEC has delegated the function of accounting rules FASB, itis not the only source of GAAP. Research from the AICPA, best industry practices as defined by research and traditions, and the SEC itself all playa role in defining GAAP. (For more on the SEC read Policing The Securities Market: An Overview of the SEC) Further, within the FASB and AICPA themselves, there ae various sources of GAAP. Thete include statements (of primary importan interpretations, staff positions, statements of position, accounting guides, and so forth, Naturaly, with so much documentation for G/ contra in 2008 the FASB issued FAS 162 to clarify the hierarchy in deciding which sour takes precedence over another. (For more on FASB, vist the FASB website.) jons ensue. To eliminate the uncertain ‘Accounting is how business keeps score, and business is no different than football when it comes to setting the rules of the game, Mar standards are firmly established, others continue to be debated vigorously among the players and 2 few are so highly controversial tht people on the sidelines riled up. One example from the 2008 financial risa s marko-narket accounting, on which accountants re candidates and pun jghed in, Accounting standards setting then becomes part of the political process, and depending on t commitment ofthe various forces the rules are eliminated, amended or left alone. Disclosure (One seemingly technical element in accounting standards that is of huge importance is disclosure. In any document, where you putin screaming headline, o the S3rd footnote in Appendix Q ~has a great deal to do with which readers view its relative importance. Fina) are no different. Besides the actual numbers on the balance sheet, P&L and statement of cash flows a great deal of information is also provided in the + ‘nancial statements. Some key financial information i put directly into the financial statements in parentheses (eg. on the balance st ‘numberof shares authorized and issued for common stock). Notes contain information that should receive this favorable treatment b {information may be considerable and include table, i is included as a footnote instead. ‘The admonition to readers that "the accompanying notes are an integral part of these statements" alerts them to the notes’ importanc« are a the bottom -and because they are often numerous, lengthy and, at times, impenetrable ~ more casual users ignore them. (To lea Footnotes: Start Reading The Fine Print) ‘What's included in the notes? There's information on securities held, inventories, debt, pe other key elements in determining the company's financial postion. In addition, the notes wil contain information about the compan policies. Under GAAP, companies often do have discretion to use varying methods for valuing assets, and recognizing costs and rever "Summary of Significant Accounting Policies” will appear as the first note tothe statement or in a separate section, hitpuhwww-investopeda comunwverstysccouningfaccountng6.asp?view=print waa2015 powww:investoped a com/universtyaccourtingfaccourtng6.aspview=print ‘Accounting Basics: Financial Roporting ‘There are other required disclosures external to the financial statements and notes, such asthe Management Discussion and Analysis required by the SEC. In all, the list of required disclosures is long, detailed and complex. Although this exhaustive release of company {nereases transparency, it does mean that financial statements become unwieldy. And the financial meltdown of 2008 -following the {mplements in the wake of the Enron scandals a few years before ~had observers once again wondering whether, despite all the discle necessary information for decision-making is being included in financial statements. (Por further reading read An Investor's Checklis Footnotes) International Financial Reporting Standards (IFRS) Outside the US, Intemational Financial Reporting Standards (IFRS) have gained increasing prominence and are replacing the nation: ‘many counties, including Australi, Canada and pan; IFRS has been required for countries in the Buropean Union since 2006. More nations have now adopted IFRS, although some continue to have elements ofthe own national GAAP in reporting standards. IFRS a International Accounting Standards Board (IASB), which s the tandard-etting body of the International Accounting Standards Com Foundation (ASC Foundation). Just as the FASB incorporate the rules of former standardsetings bodies, IFRS includes te Intern: ‘Accounting Standards (IAS) that were isued by the International Accounting Standards Committe (IASC) fom 1973 to 2000. ‘There has been much debate in the accounting profession of “principlee-hated" versus “rulet-bated” accounting. Principles bated syst broader guidelines in accounting treatment, within which accountants exercise thei best judgment; rules-based systems are more pre specific. IFRS are considered more principles-based than U.S. GAAP, although there are certainly many specific rule included in IFR: some observers think they are trending in the rules-based direction), ‘To some extent, the different emphases reflect the differing business and legal cultures between US. and much of the world, notably {s concern that a principles-based system will simply give U.S. managers more freedom to tilt the numbers in thelr favor. Others argu based system is overly complex and that it hasn't prevented U.S. corporate scandals. ‘The argument may eventually be moot, 28 the U'S. moves toward joining the world in adopting IFRS standards; the SEC has already is ‘map* to that end, Nevertheless, IFRS adoption is hardly a done deal, And as has happened in other countries, the U.S, in adopting IFR retain various elements of US. GAAP. It’s a conundrum: uniform IFRS adoption worldwide would certainly make it easier to compare the financials of companies in dfferer the other hand, national GAAPs were developed within the prevalling business, legal and social environments of each country. On bo practical levels, it’ dificult to eliminate all such individuality and some wonder ifit is even desirable. Government Accounting ‘The operating environments of businesses and governments differ enormously. Companies compete with each other for customer re" constantly worry about becoming insolvent; overnments are funded through the involuntary payment of taxes, and face no threst of Governments do not have equity owners who demand profits; instead, they are accountable to citizens for the use of resources. Gove require much different financial reports, and hence different accounting standards. ‘The Federal Accounting Standards Advisory Board (FASAB) was established in 1990 as a federal advisory committee to develop acco standards and principles forthe United States government. In 1999, the AICPA recognized the FASAB asthe board that sets generally, accounting principles (GAAP) for federal entities. Its board has ten members. Four are from the federal government -one each from Department, Office of Management and Budget, the Comptroller General and the Congressional Budget Office. The six non-Federal recommended by a pane! ofthe FAF, the AICPA, the Accounting Rescarch Foundation and the FASAB's federal members. ‘The Government Accounting Standards Board (GASB) was established in 1984 to provide standards for state and local governments the GASB is under the auspices of the Financial Accounting Foundation (FAF), a private, not-for-profit entity, which chooses the sev ite board. (©2015, vestopedi, Ue.