CMA

FINANCIAL ACCOUNTING
& REPORTING

PART 2
 UNIT 1

ACCOUNTING STANDARDS
WEIGHT RANGE IN EXAM 10% TO 15% OF
PART 2

2
 Introduction

 Financial statements are the principal means through which financial

information is communicated to those outside an enterprise, these
statements provide the firm’s history quantified in money terms.
 The objectives of financial reporting are to provide:
 Information that useful in investment and credit decision
 Information that is useful in assessing cash flow prospects.
 Information about enterprise resources, claims to those resources
and changes in them.
 Financial accounting deal with reporting results of operations (income
Statement )
 Also, report financial position (Balance Sheet)

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Financial statements are:

 Balance sheet or financial position

 Statement of income or income statements
 Cash flow
 Changes in shareholders equity
 Notes to financial statements
 Comprehensive income may be included

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 MAIN SUBJECTS

(A) External Financial Reporting

(B) Development of Accounting Standards
(C) Annual Report
(D) SEC and its Reporting Standards
(E) Public Reporting Standards
(F) Selected Disclosures in Financial Statements
(G) Reporting Issues for Multinational Companies

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 A. External
Financial Reporting

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 DEFINITION AND NATURE OF ACCOUNTING

 Accounting organizes and summarizes economic information so

that decision makers can use it.
 The information is presented reports called financial statements.

 To prepare those statement accountants analyze, record, quantify,

summarize and, report economic events
 Accounting theory is affected and changed by social, economic,
political, legal and other factors
 Financial Accounting provides information for both internal and
external parties
 Financial statements (e.g balance Sheet) are the principal formal
means through which financial information is communicated to
external parties.

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 Some information can be better reported by schedules, notes, annual
reports. This reporting is called is financial reporting.

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 The users of financial
statements

Direct Indirect

Has direct interest in the business Indirect interest

Examples: Examples:
1) Investors or potential investors 1) Financial advisers and analysts
2) Suppliers and creditors 2) Stock markets or exchanges
3) Employees 3) Regulatory authorities
4) Management

The need of users of financial statements are diverse

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 Other Classification

Internal Users External Users

Examples: Examples:
- Management - Creditors
- Employees - Investors
- Board of Directors

Purpose Purpose
Control the business To know the condition of the
Business to evaluate
investment, credit, etc.

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 The following diagram illustrates the relationship between Accounting
and Users:

Accountant’s
Accountant’s Financial
Financial
Events
Events Analysis
Analysisand
and Users
Users
Statement
Statement
Recording
Recording

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B. Development of Accounting Standards

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 The need to develop
standards

 With out agreeing on common standards and procedures the

financial statements will become useless for users.
 For example an accountant may record a machine at its purchasing
cost, another may record it at its market value.
 The users of balance sheets will be confused and the balance sheets of
different companies can't be compared.
 We need common set of standards. These common set of standards
are called generally accepted accounting principles (GAAP)

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How are the GAAP developed
and what parties participated
in the development
The accounting profession has adopted a common set of standards and
procedures called Generally Accepted Accounting Principles (GAAP).
The term means either:
 Authantative accounting rules - matching body has established a
principle of reporting in a given area or that over time a given practice
has been accepted as appropriate because of its universal
application.
 Before the large companies come into the world (prior to 1900) the single
owners use the financial statements to know that they have enough cash
and also use them for the internal purposes.
 When the large companies come into the world a need for investment
increased. The result is the creation of stock markets.

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 After the stock market crash in the year 1929 (Great Depression).
 The federal government established in 1934 the Securities and
Exchange Commission (SEC) to develop standards
 The SEC is the federal agency.
 Most companies which sell securities to the public are required to file
audited financial statements with the SEC.
 The SEC encourages private bodies (AICPA, FASB) to develop
appropriate accounting standards.

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 (AICPA) is the American Institute of Certified Public Accountants.
 In 1939 the AICPA appointed Committee on Accounting Procedure
(CAP) composed of practicing CPAs to develop standards.
 The Committee on accounting procedures (CAP) issued the Accounting
Research Bulletins.
 In 1959 the AICPA created the Accounting Principles Board (APB) which
issued APB Opinions.
 The APB was terminated due to the lack of productivity.

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 Three organizations are created after 1972:-
A- The Financial Accounting Foundation (FAF)
B- The Financial Accounting Standards Board (FASS)
C- Financial Accounting Standards Advisory Council (FASAC)
 The FAF selects the members of FASB and FASAC, funds their
activities.
 The Financial Accounting Standards Advisory Council (FASAC) advises
on priorities and proposed standards and evaluates the FASB's
performance.
 The major operating organization is the FASB.
 The FASB has seven salaried members, all having extensive
experience in Financial Accounting, with four required to be CPAS.
 The mission of FASB is to establish and improve accounting standards

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 Also, after the termination of Accounting Principles Board (APB) in
1959 the AICPA created the Accounting Standards Executive
committee (ACSEC) to act as its official representative and reporting
issues.
 The main pronouncements of the ACSEC is statements of position
(SOPS) on questions not addressed by the FASB.
 The ACSEC also issued Practice Bulletins and Audit and Accounting
Guides.

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 Summary:-
 The government (Congress) gives the SEC the power to establish
accounting standards.
 The SEC encourage the private sector (AICPA, FASB) to establish
accounting standards.
 So, the private sector (AICPA, FASB) has the principal role in setting
accounting standards.
 The standard issued by the FASB have greater support by the SEC.

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 The major pronouncements
issued by FASB

Standards and interpretations

 Accounting statements issued by FASB are considered generally
accepted accounting principles (GAAP)
 Interpretations are modifications or extensions (by FASB) of
already existing standards.
 Interpretations have the same authority as standards.
Financial Accounting Concepts
 Instead of waiting to solve problem by-problem the FASB issued
Statements of Financial Accounting Concepts as part of its
conceptual framework project.
 The purpose is to set in advance fundamental objectives and
concepts that the FASB will use in developing future standards.

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FASB Technical Bulletins:-
 Bulletins are timely replies to questions received from public.
Emerging Issues Task Force Statements (EITF)
 In 1984 the FASB created the EITF which is composed of 13 members
representing CPA firms and preparers of financial statements.
 The purpose is how to account for new and unusual financial
transactions that have the creating differing financial reporting
practices.
 Example: how to account plan termination
FAG Technical Bulletins:-
 The purpose is to set in advance fundamental objectives and concepts
that the FASB will use in developing future standards.

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Summary of FASB Pronouncements

Pronouncements Authority
Standards Accounting Standards originally Considered GAAP
issued by FASB
Interpretations The FASB modify or add something =
to an existing standard
Financial Concepts issued to solve existing & Not considered
Accounting emerging problems GAAP
Concept
Emerging issues Purpose is how to account for Considered GAAP
Task Force unusual transactions that may be
Statement treated in different forms.

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 Cost Accounting Standards
Board (CASB)

The CASB was created by Congress in 1970 with the objective of

establishing cost accounting principles for federal defense contractors
and subcontractors.
 The creation of the CASB was a response to complains about
inconsistent accounting practices of companies that had cost-plus
contracts with the government.
 The standards established by the CASB are not necessarily
acceptable for financial statements reporting purposes.

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GASB establishes standards for states and local governmental entities
with the oversight of FAF. It is the Governmental Accounting Standards
Board (GASB) created in the year 1984
 The GASB has issued concepts statements and interpretations of
GASB statements.
 GASB has operational structure as the FASS has.
 It has an advisory council called the Governmental Accounting
Standards Advisory Council (GASAC). Also has staff and task
forces.
 The following illustration shows the relationship between FAF,
FASB and GASB:-

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 Financial
FinancialAccounting
Accounting
Foundation
Foundation
(FAF)
(FAF)

Governmental
Governmental
Financial
FinancialAccounting
Accounting Accounting
Accounting
Standards
StandardsBoard
Board Standards
StandardsBoards
Boards
(FASB)
(FASB) (GASB)
(GASB)

Staff
Staffand
andTask
Task
Forces
Forces

Financial
Financial Governmental
Governmental
Accounting
AccountingStandards
Standards Accounting
AccountingStandards
Standards
Advisory
AdvisoryCouncil
Council Advisory
AdvisoryCouncil
Council
(FASAC)
(FASAC) (GASAC)
(GASAC)

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Federal Accounting Standards Advisory Board (FASAB)
 The (FASAB) was established in 1990 by the Secretary of the
Treasury, the Director of the Office of Management and Budget
(OMB), and the Comptroller General.
 In 1999, the AICPA designated it as the accounting standard setter
for the federal government.
 In March 2000, its statements and interpretations of federal
financial accounting standards were recognized as officially
established accounting principles for federal governmental entities.

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Parts involved in standard setting are:
1. American institute of Certified Public Accountants (AICPA)
2. FASB
3. GASB (Governmental Standard Board)
4. SEC (Security and exchange Commission)
5. American Accounting Association (AAA)
6. Other bodies such as the financial exchange institute (FEI) and
National Association of Accountants (NAA)

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 Congress

GASB
CASB
1984
SEC

AICPA
FASB
1973
CAP Accounting Research
1939 Bulletins

APB APB EITF

Terminated
1959 Opinions 1984

ASCEC
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C. ANNUAL REPORT

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 The objective of the Federal security act is to provide
disclosures before the initial issuance of securities. Therefore
the 1933 act is primary concerned with new issues.

The purpose of the act is to provide the investing public with

complete and honest facts to protect them from fraudulent or
misleading statements from sellers of securities. The SEC has
the authority to determine the accounting principles for
companies offering securities to the public.

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 The act requires proper registration (S-1) and prospectus must
be properly filed with the SEC prior to an offer to sell securities
in interstate commerce to the public. An investor must be
furnished with a prospectus.

 Under the securities act of 1934 disclosures regarding

subsequent trading of securities are made by filing periodic
reports that are available to the public for review.

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 Reports:

Annual Report & (Form 10 - K)

 Any company intends to sell its securities (e.g Shares) to the public it
must file some information with the SEC.
 The purpose is to help investors to have an idea about the company's
operational and financial conditions.
 This filing of information is called disclosure.

 The SEC has authority to regulate financial reporting made by publicly

traded companies.
 The SEC actual role is to see that companies are making disclosure
(not establishing accounting standards)
 To promote disclosure the SEC required that certain information must
be included in both Form 10-K and the annual report.

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Examples of Disclosure:-
 Information about the market where company sell its common stock.
 Selected financial data summarized for the past 5 years.
 Management's discussion and analysis (MD&A) of financial conditions
and results of operations
 This discussion must address liquidity, capital resources, results of
operations, and the effects of inflation and changing prices.
 • The MD&A need not be audited.
 • SEC Regulation S-K provides guidelines for MD&A disclosures.

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Financial statements and supplementary data
 Standardized consolidated financial statements are required. They
must be audited and include:-
 Balance sheets for the two most recent fiscal year-ends Statements
of income, cash flows, and changes in shareholders' equity for the
three most recent fiscal years
 The accountant certifying the financial statements must be
independent of the management of the filing company. The
accountant is not required to be a CPA, but (s)he must be
registered with a state.
 Changes in accountants and disagreements about accounting and
financial disclosures

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The general responsibilities
relative to the financial
reporting

Management responsibility is to:-

 adopt sound accounting policies
 to establish and maintain internal control.
 The fairness of the financial is the responsibility of management.

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 The responsibility of the
external auditor

 The auditor responsibility is to express, an opinion on the financial

statements.
 if he/she cannot express opinion auditor should state the reason.

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 contents of Auditor Report

The contents are:-

 The report shall state whether the financial statements are
presented in accordance with GAAP.
 The report shall identify circumstances in which GAAP have not
been consistently observed in the current period in relation to
 the preceding period.
 informative disclosures in the financial statements are to be
regarded as reasonably adequate unless otherwise stated in the
report.

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 D. SEC and its
Reporting Standards

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 Securities exchange acts

The Acts are:

 Security Act of 1993

 Security Act of 1934

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The purpose of the Securities
acts (1933-1934)

 Purposes are to:

 Prevent fraud and misrepresentation
 Ensure full and fair disclosures to help investors to evaluate
potential investment

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Difference 1933 and 1934 Acts

 1933 Act regulates the initial issuance of securities i

 1934 Act regulates the subsequent trading of securities.
 1934 Act requires the registration of brokers, dealers and securities
exchanges.

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 Regulations the SEC made for the
purpose of making statements and
reports comply with certain
accounting standards

Regulations are:-
 S - X which governs the reporting of financial statements including
footnotes and schedules. Financial statements may be
 interim and annual.
 S - K which governs non-financial matters e.g legal, business
Directors etc.
 Financial Reporting Releases (FRRs) announce accounting and
auditing matters of general interest.
 They provide explanations and clarifications of accounting and
auditing or auditing procedures used in reports filed with the SEC.

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Many Forms should be completed and
filed with SEC by a company that
intend' to issue or sell securities.
Describe the main forms

 S - I which is used for a first registration of securities. (The company

makes no registration before)
 S - 2 which can be used by companies that reported to the SEC for at
least 3 years.
 This Form contain less information than S - I
 S - 3 - This form is shorter than previous (S - I & S - 2)
 f It is used for companies that meet the requirements for Form S-2 and
have at least $50,000,000 of stock held by nonaffiliates (or at least
$100,000,000 with an annual trading volume of 3,000,000 or more
shares).
 Form S-3 allows most information to be incorporated by reference from
other filings with the SEC.

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 Securities may not be offered to the public until the registration is
effective.
 The registration statement is examined by the Division of Corporation
Finance.
 Registration becomes effective 20 days after filing unless an
amendment is filed or the SE,""a' issues a stop order.
 A preliminary prospectus is allowed that contains the same information
as a regular prospectus (price are omitted) but is clearly marked in red.
Thus, it is called a red herring prospectus.

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 The prospectus is part of the registration statement.
 Its purpose is to provide investors with information to make an
informed investment decision.
 However, it usually may be presented in a more condensed or
summarized form than Form S-1.

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Form 10
 used to register securities under the 1934

 remember the 1934 Act apply to subsequent trade not to the new

 securities.

 Securities must be registered if they are traded in one of the ways

 listed below.

 On a national securities exchange

 Over the counter if the issuer Has assets in excess of $5,000,000
and there are 500 or more shareholders
 An issuer may voluntarily register its securities..

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 An issuer may deregister its securities if its shareholders decrease to
fewer than 300 or if its shareholders are fewer than 500 and it had less
than $1 0,000,000 in assets for each of the three most recent fiscal
year-ends.
 Banks must also register their securities, but they file with the
appropriate banking authority, not with the SEC.

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 The required contents of Form 1 0 are
 Basic information package
 Other information required for Form S-1
Form 10-K
 It is annual report to the SEC.

 It must be filed within 90 days of corporation's year-end

 It must be certified by an independent accountant It must be signed by

the following:
 Principal executive, financial, and accounting officers
 Majority of the board of directors
 Presented with the basic information package

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Form I0-Q
 It must be filed (for the first three quarters) with the SEC.

 This form contain unaudited Financial Statements.

 Also, the financial statements should be reviewed (not audited) by

independent accountant.
 This form should include, changes during the quarter (e.g a company
takes a loan from a bank)

Form 8-K
 The company should report to the Sec whenever material events occur
(e.g change in auditors).

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E. Public Reporting Standards

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 Generally Accepted
Accounting principles (GAAP)

 Generally accepted accounting principles are those principles that

 have substantial authoritative support,,such as FASB Standards and
Interpretations, APB Opinions and Interpretations, AICPA Accounting
Research Bulletins, and other authoritative pronouncements.
 The GAAP includes both Broad guidelines
 Detailed practices and procedures
 The CPA shouldn't report that the financial statements are prepared
according to GAAP if these statements contain material departure from
GAAP.

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Examples of comprehensive
bases other than GAAP

 Preparing accounting on the basis of cash receipts and payments

(compare with accrual accounting)
 Preparing accounting on tax basis.
 Prepare Accounting according to the instruction of regulation of
regulatory agency.

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 House
Houseof
ofGAAP
GAAP

Category
AICPA
AICPA FASB
FASB Widely
Widelyrecognized
recognized
(Least authoritative
Accounting
Accounting Implementation
Implementation and
andPrevalent
Prevalent
Interpretations
Interpretations Guides
Guides industry
industrypractice
practice

Category (c) FASB

FASBemerging
emerging AICPA
AICPAAcSEC
AcSECPractice
Practice
Issues
IssuesTask
TaskForce
Force Bulletins
Bulletins

FASB
FASB AICPA
AICPAIndustry
Industry AICPA
AICPA
Technical
Technical Audit
Auditandand Statement
Statement
Category (b) Bulletins
Bulletins Accounting
AccountingGuides
Guides Of
OfPosition
Position

FASB
FASB AICPA
AICPA
Category (a) APB
APB
Standards
Standardsand
and Accounting
Accounting
(most authoritative) Interpretations
Opinions
Opinions Research
Interpretations ResearchBulletins
Bulletins

So, you have to follow category (a) first then (b) etc.
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 Types
Typesof
ofForms
Forms

Forms
Formsofof Reporting
Reporting Interim
Interim Current
Current
Registering
Registering Annual
Annual Reporting
Reporting reporting
reporting
securities
securities Forms
Forms Forms
Forms Forms
Forms

New
New Form
Form10
10 10-K 10-Q 8-K
10-K 10-Q 8-K
Securities
Securities 1934
1934Act
Act

S-1
S-1 S-2
S-2 S-3
S-3 Others
Others

S-4
S-4 S-8
S-8 S-11
S-11 SB-1
SB-1 SB-2
SB-2

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Other Forms to register new Securities
Form Purpose Size Date of Filing Contents
Form
S-1 Registration of Longer Before offering Basic
new securities by securities for information
new registrant sale package
Other (see
notes)
S-2 Registration of Shorter Same as above Same as
new securities by than above
a company that above
register for at least
3 year
S-3 Registration of Shorter Same as above Same as
securities by a than the above
company that above
meet S-2
requirements and
other
requirements.
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Other Forms to register new Securities
Form Purpose Size Date of Filing Contents
Form
S-4 Used for business Simple Before offering Basic
combination (e.g. securities to the information
merger) other company package
Other (see
notes)
S-8 Used for securities = Before offering =
offered to securities to the
employees employee
SB-1 Used by small = Before offering =
issuers to register securities for
up to $ 10 million sales
of securities
S-B2 Issued by small = = =
issuers but with no
limit

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F. Selected Disclosures in Financial
Statements

57
 Some disclosures should be reported
as integral parts of financial
statements. Give example?

Examples:-

 All significant accounting policies should be disclosed when:

 A selection has been made from existing acceptable alternatives.
 A policy is unique to the industry in which the entity operates.
 GAAP have been applied in an unusual or innovative way.
 Public companies should disclose certain minimum interim
 Examples: sales, extraordinary items
 Interim financial statements are not required data.
 Commitments under unconditional purchase obligations should be
disclosed.

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 The groups.
 Other groups that have some influence on the development of
accounting principles include:-
 The American Accounting Association (AAA). Institute of Management
Accountants (IMA).
 Financial Executives Institute (FEIN, Congress, and the Internal
Revenue Service (IRS).

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THANK YOU ALL
GOOD LUCK

Yousif Eldaw