Skip to content
Class Notes

Intermediate Accounting Volume 1, Sixth Canadian Edition Lecture Notes

Make revision effortless with Intermediate Accounting Volume 1, Sixth Canadian Edition Lecture Notes, a reliable resource that breaks down lectures into digestible content.

Preview 16 of 126 pages

See the first 16 pages exactly as they appear in the document.

  1. Page 1
    Read page 1 as text

    Copyright 20 1 4 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition 1 CHAPTER 1 THE FRAMEWORK FOR FINANCIAL REPORTING Learning Objectives After you have studied this chapter, you should: LO - 1 Understand the various accounting standards used by Canadian entities. LO - 2 Understand the objectives of financial reporting. LO - 3 Understand the financial reporting needs of external users of financial information. LO - 4 Understand the motivations of preparers of financial information. Lecture Notes 1. ACCOUNTING STANDARDS IN CANADA Authoritative Source of Canadian Standards The accounting standard - setting body in Canada is the Accounting Standards Board (AcSB). The AcSB is part of the Canadian Institute of Chartered Accountants (CICA). The authority of the CICA comes from the corporations acts of the federal and provincial governments. The GAAP requirement for public companies is enforceable by the provincial securities commissions. The commissions are responsible for enforcing the reporting standards for companies that are traded in their province. AcSB had for many decades maintained standards by regular revisions and additions to the CICA Handbook. Currently they have a two - pronged approach for Canadian enterprises: For public companies or publicly accountable enterprises, IFRS is required for financial reporting for all reporting periods beginning on or after January 1, 2011. All the IFRS standards are included in the CICA Handbook as Part 1. Private nonpublicly accountable enterprises have a choice between using full IFRS or Canadian accounting standards for private companies ( ASPE ) as prescribed in the CICA Handbook, Part II. ASPE is somewhat less complex and is based more on historical - cost accounting, and has far fewer disclosure requirements. I FRS Overview Motivation for Change The rapid development of international financial markets in the 1990s stimulated interest in developing a worldwide set of accounting standards.

  2. Page 2
  3. Page 3
    Read page 3 as text

    Copyright 20 1 4 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition 2 One b y one, major countries decided to adopt or harmonize with international GAAP. Canada adopted IFRS on January 1, 2011 for financial reporting for public companies . International standards are developed and issued by the International Accounting Standards Boarch (IASB) Accounting Standards for Canadian Publicly - Accountable Enterprises Publicly accountable enterprise (PAE) – any company that has securities (debt or equity or both) issued to the public or that is in the process of issui ng debt or equity to the public or a for - profit private enterprise that holds assets in a fiduciary capacity for a broad group of outsiders as one of its primary businesses. A fiduciary enterprise is any organization that acts in a trusteeship capacity for members of the general public. (e . g. a mutual fund, a privately owned bank , pension funds, credit unions ). Also government business enterprises must disclose their financial performance and thus are PAEs. Reporting in U.S. GAAP In order to enhance the acceptability of its shares in the U.S. financial markets, a Canadian company m a y choose to follow U.S. GAAP, but it is rare for a Canadian company to do so. Legal and Regulatory Requirements In some special industries such as banks, the normal provisions of IFRSs may be supplemented by legal requirements such as requirements from Canada’s Bank Act. Reporting Currency Canadian companies do not always prepare their financial statements in Canadian dollars. In general, IFRS requires a company to use another presentation currency when its financial environment is other than the currency of its home country. The company should report in its functional currency which is the currency in which most of a company’s transactions are conducted.

  4. Page 4
    Read page 4 as text

    Copyright 20 1 4 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition 3 Accounting Standards for Canadian Private Enterprises A private enterp rise is one that done not issue debt or equi t y securities to the public nor is in the process of doing so and also does not hold assets in a fiduciary capacity. All shares are held privately and not offered for sale on the open market. Users are limited and generally have access to the information they need, either as owners and /or managers or as bankers/creditors. Private companies can use IFRS, ASPE or tailored accounting policies known as a disclosed basis of accounting. A private company is often referred to as an SME , which is a small to medium sized enterprise. The choice between following IFRS versus Canadian ASPE is unaffected by a Canadian private corporation’s size. Using IFRS A private company may use IFRS instead of ASPE because it is in completion with public companies for capital, and wants to be comparable. Despite the inability to sell shares to the public, private corporations can obtain substantial capital through private placements. A private placement is arranged by direct negotiation between the company seeking capital and one or more suppliers of capital. Other reasons for private companies to use IFRS: 1. The company is a subsidiary of a parent that reports on the b asis of IFRS. 2. The company may issue shares to the public in the future and wants to establish a pattern of IFRS compliance. 3. The company’s controlling shareholders may intend to sell t he company in the near future. IFRS may enhance credibility. Using ASPE The ACSB simplified the pre - existing standards in the CICA Handbook, by stripping out requirements that are less appropriate for private companies. ASPE is based more on historical cost and less on fair values, and the disclosure requirements are less onerous. As a result of continuing use of the CICA Handbook instead of IFRS - SME, many private companies found little change in their reports. Using a Disclosed Basis of Accounting In practice, private enterprises are not bound by GAAP unless an external user (such as a major lender) required the company to use GAAP. When non - GAAP accounting policies are used, the company is said to be reporting on a disclosed basis of accounting ( DBA ). A company cannot toss out all of GAAP. Deviations from GAAP usually are limited to just certain policies (e.g. using tax based CCA instead of accounting depreciation. WATCH !

  5. Page 5
    Read page 5 as text

    Copyright 20 1 4 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition 4 Private Company Standards Inter na tionally IFRS for SMEs (Small and Medium - Sized Enterprises) Private companies in the rest of the world can use a simplified version of IFRS, IFRS - SME. Canada opted to develop their own private entity GAAP, rather than use IFRS - SME. Learning Multiple Sets of Standards Canada is using different accounting standards for public and private enterprises.. Although these are two different sets of GAAP, they are very similar and use the same general principles and practices. Thus, Canadian private company GAAP can be regarded mainly as simplifying exceptions to IFRS rather than as a substantially different body of standards. The Issue of Comparability The point of establishing IFRS is not only to promote multiple exchange listings, but also to greatly improve comparability between companies based in different countries. However, international comparisons of financial statements are fraught with hazard because of differences between legal requirements, ways of doing business, political environment, etc. 2. OBJECTIVES FOR FINANCIAL REPORTING Management’s choice of accounting policy and disclosure are constrained by the requirements of IFRS and Canadian ASPE. To exercise judgement, the accountant must have criteria against which to measure the suitability of alternatives. The most fundamental criteria for deciding on policies, estimates, and disclosures are the objectives of financial reporting for the organization. To establish each enterprise’s financial objectives management must consider many aspects of the company and the users of its financial statements. See Exhibit 1 - 2 in the text which show the forces that shape a company’s financial reporting objectives (facts, constraints, prepare motivations, user needs and user power).

  6. Page 6
    Read page 6 as text

    Copyright 20 1 4 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition 5 3. GENERAL PURPOSE FINANCIAL REPORTING Financial reporting for public companies is “general purpose” because the potential interest group is large and diverse. A public company’s financial statements ‘ users can be anyone, anywhere. The information needs of investors take priority over other groups such as employees and regulatory agencies for accounting standard - setting when the IASB is setting accounting standards. 4. ENTERPRISE PREPORTING OBJECTIVES In practice, “general purpose” is too general to guide specific enterprises. Identifying an entity’s specific reporting objectives is the first step for establishing the criteria by which accounting policies are chosen and accounting estimates are made. Users can be either external users or preparers (managers and accountants). Ethical Issues: Accountants are part of the preparer group because they carry out the accounting and reporting decisions of management. An accountant must be prepared to resist management’s potential pressure to deliberately misstate financial results, even if it leads to dismissal. 5. EXTERNAL USER OBJECTIVES Assessing and Predicting Cash Flows Cash flow assessment and prediction, especially by investors and creditors is an important financial reporting objective. Assessment versus Prediction Assessment of cash flows is done by the financial statement user to understand the cash inflows and outflows of the enterprise in the current period, normally emphasizing cash flows from operating activities. Cash flow prediction requires extrapolating current cash flow into future years. Earnings Quality If there is a high degree of correlation between the operating cash flow per share and the earnings per share, the company is thought to have a high quality earnings. The perceived quality of earnings is good when the relationship between operating cash flow and net income is fairly stable. Effect on Financial Reporting Choices When cash flow assessment and prediction is the primary objective, financial reporting policies are chosen that provide the clearest indication of the cash flows underlying reported earnings. WATCH !

  7. Page 7
    Read page 7 as text

    Copyright 20 1 4 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition 6 Income Tax Deferral is a common objective for private companies . Financial reporting versus Income Tax Reporting Canada Revenue Agency (CRA) does not require a corporation to use the same reporting principles for tax as for accounting or vice versa. Tax - Book Conformity When corporations adopt the same accounting practices for financial reporting as for tax reporting, this is known as tax - book conformity. There is no requirement to do so in Canada. Tax Deferral versus Tax Evasion The use of legitimate options for reducing a company’s current taxable income is known as tax deferral or tax minimization . In contrast, deliberate misstatement on the tax return is tax evasion , which is fraud. Effect on Financial Reporting Choices Delaying recognition of revenue and speeding payment of expenses to the extent permitted by the Income Tax Act minimize taxes. Accounting policies that reduce taxable income also reduce net income and may or may not be an issue for managers, depending on if their compensation is tied to book income. Contract Compliance External users often use financial statements as the basis for assessing whether an enterprise has complied with contract provisions (e.g. a debt - to - equity ratio). These provisions are known as covenants. If a company fails to meet them, le n ders have the right to call the loan and force immediate payment. Shareholders’ agreements in private corporations also usually have provisions that affect the valuation of shares if a shareholder decides to sell their shares. Effect on Fina n cial Reporting Choices Ratios in debt agreements and for share valuation in shareholders’ agreements are affected by accounting policy choices and estimates. Some agreements specify what accounting policies must be used for calculating ratios. Stewardship reporting focuses on showing the financial statement reader just how the res o urces entrusted to management’s care were managed. Transparency is important. Effect on Financial Reporting Choices The objective of stewardship is reflected in two ways: (1) minimization of interperiod allocations and (2) full disclosure. Performance Evaluation

  8. Page 8
    Read page 8 as text

    Copyright 20 1 4 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition 7 Financial statement readers often use the statements to evaluate management performance. Effect on Financial Reporting Choices In order to be useful for performance evaluation, financial statements should reflect the basis on which management decisions are made. Managers have strong motivations to select accounting policies that will enhance their apparent performance. 6. PREPARE R MOTIVATIONS Preparer (management) motivations often conflict with external users’ objectives and may dominate the accounting choice process if external users lack the power to enforce the dominance of their objectives. Earnings Management Income Smoothing Widely fluctuating earnings are an indication of business risk, and mangers often don’t want to investors or creditors to perceive the company as being risky. Income can be smooth through spreading both revenues and cost over several periods and by edging various accounting estimates. Maximizing Earnings Maximization of net income is one of the most common motivations, particular l y in public companies where share price is affected by reported earnings. The “Big Bath” A corporation may elect to maximize a loss in one year as part of a longer - run strategy to maximize earnings. If there is an operating loss any way, it is an opportunity to load as many losses into that year as possible (“taking a big bath ”) Minimizing Earnings Management may wish to minimize reported earnings to minimize income taxes, to avoid attracting competitors into a very profitable business, etc. Minimum Compliance refers to the motivation of managers to reveal the least amount of information that is possible while still complying with GAAP. Managers may wish to maintain confidentiality about their business activities in order to keep competitors in the dark. Expanded Disclosure The motivation for expanded disclosure may simply be to indicate that the company and its management are “good citizens: that have nothing to hide.

  9. Page 9
    Read page 9 as text

    Copyright 20 1 4 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition 8 7. CONFLICTING OBJECTIVES Once a company’s objectives have been identified, they then must be prioritized as often they are conflicting. Accounting requires to constant exercise of professional judgement. 8. REQUIRED FINANCIAL STATEMENTS Under IFRS a complete set of financial statements consist of : 1. Statement of financial position 2. Statement of comprehensi ve income (including statement of profit or loss and statement of comprehensive income) 3. Statement of changes in equity 4. Statement of cash flows 5. A set of notes comprising a summary of significant accounting policies and other explanatory information Canadian accounting standards for private enterprises (ASPE) have somewhat simpler set of financial statements: 1. Balance sheet 2. Income statement 3. Statement of changes in retained earnings 4. Statement of cash flows 5. Disclosure notes.

  10. Page 10
    Read page 10 as text

    © 2014 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition (Beechy et al.) 1 CHAPTER 2 Accounting Judgements Learning Objectives : After you have studied this chapter, you should: 1 Understand the c oncepts involved in constructing financial statements. 2 Explain the role of ethical professional judgement in accounting. 3 Apply the universal and entity specific assumptions underlying the foundation of GAAP. 4 Apply the fundamental and enhancing qualities and pervasive constraints of financial reporting. 5 Describe the measurement methods available within GAAP. 6 Discuss the criteria for recognizing business events and transactions in the financial records. 7 Describe the measurement methods used in the accounting standards for private enterprises. Lecture Notes Accounting is often a matter of making choices among possible alternatives. This chapter discusses the financial statement concepts and principles that guide standard setters and that accountants use to make those choices. These concepts and principles are the basis for professional judgement. Chapters 6 to 11 illustrate how those concepts and principles are applied to specific accounting issues. 1. CATEGORIES OF ACCOUNTING CONCEPTS The generally accepted body of accounting principles consists of three different types of concepts. The types of concepts are: 1. Underlying assumptions, which form the basic foundation for which accounting measurement rests .

  11. Page 11
    Read page 11 as text

    © 2014 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition (Beechy et al.) 2 2. Qualitative criteria, which in conjunction with the organization’s reporting objectives , facts and constraints , are used to evaluate the possible measurement options and select the most appropriate measurement methods for a given situation . They are the why they are measured . The principles of comparability and understandability are examples of qualitative criteria. 3. Measurement methods , which are the various ways in which financial position and the results of operations can be reported. They are how transactions and events are measured and reported. The accounting principles of fair value and realizable value are examples of measurement methods. Limitations of the Concepts There are limitations to the use of accounting concepts. They focus on generalities because they determine policies for a wide application. They focus on general purpose financial statements. Therefore, there are e xceptions to the applicability of the concepts and conclusions . 2. Structure of Accounting Policy Choice In constructing the financial statements for an enterprise, you must determine the objectives of the financial reporting, make sure the underlying assumptions are valid, measure the elements of financial statements for the situation that satisfy the qualitative criteria and finally prepare the financial statements . This process is illustrated in Exhibit 2 - 1 of the textbook. In selecting accounting policies, an accountant must first evaluate the facts in the situation. If the facts allow a choice, then the users and objectives are considered in selecting the appropriate accounting policy. Decisions cannot be made strictly according to which policy is best for the users and objectives while ignoring the facts in the situation. 3. ETHICAL PROF ESSIONAL JUDGEMENT The process of making choices in accounting is the process of exercising profes sional judgement. An accountant exercises professional judgement to be fair to all stakeholders. Judgement is used in many aspects of accounting that are not specifically dealt with in the accounting standards. This is done by taking into account several factors: • The users of financial statements and their specific information needs ; • The motivations of managers ; • The nature of the organization’s operations ; and • The organization’s reporting constraints. WATCH !

  12. Page 12
    Read page 12 as text

    © 2014 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition (Beechy et al.) 3 Accounting policy choices and estimates must be made taking these factors in to account. 4. UNDERLYING ASSUMPTIONS Underlying assumptions provide the foundation of GAAP for for - profit enterprises. There are six basic assumptions affect the recording, measuring, and reporting of account ing information. These are divided into 2 general categories (1) universal assumptions and (2) entity - specific assumptions. Universal a ssumptions: 1. Time - period. 2. Separate entity . 3. Unit of measure . Entity - specific a ssumptions: 1. Proprietary . 2. Continuity . 3. Stable currency . GAAP changes in response to changes in the environment but the underlying assumptions are assumed to be constant. If any of these assumptions are not valid , then GAAP is not appropriate . Universal Assumptions The time - period assumption recognizes that information needs to be provided to users for a time period less than the enterprise’s life span. The standard reporting period is one year; however, different periods are used for limited life enterprises. Some companies use a calendar year - end that coincides with the low point in business activity over a 12 - month period. Some companies report summarized information on an interim basis (quarterly for public companies, monthly for internal purposes). Although the reporting period varies, one year is the standard. The separate entity assumption considers an accounting unit or identifiable business enterprise as separate and apart from its owners and from other entities. A corporation is an entity that is legally distinct. Partnerships and proprietorships are not legally distinct but the separate entity assumption still applies. For accounting purposes they are considered separate from their owners. All accounting records and reports are developed from the point of view of a single entity. The assumption is that an individual’s transactions are distinguishable from those of the busi ness. In dealing with private corporations, proprietorships and partnerships accountants must be aware of the relationship between the business and the owners and the need to ensure that any transactions with or on behalf of owners are properly dealt with and disclosed. This concept does not necessarily correspond with legal and tax status of an entity.

  13. Page 13
    Read page 13 as text

    © 2014 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition (Beechy et al.) 4 The unit - of - measure assumption refers to the results of the business’s economic activities. The assumption is that these can be reported in terms of a single stan dard monetary unit and, further, that everything of relevance can be measured using the dollar as the unit of measure. Thus, something that can’t be measured can’t be reported. Therefore, information that may be relevant to decision makers may not be reported, such as: • The value of in - house intellectual capital. • The impact of the company’s operations. • The value of customer goodwill and “human capital” (i . e . employees). Entity - Specific Assumptions The proprietary assumption considers that the results of an enterprise’s opera tions should be reported from the point of view of the owners. This concept is applied to all types of business enterprises and has nothing to do with the form of the enterprise (i.e., proprietorship, partnership, or corporation). An alternative perspective applied in some countries is the entity concept. Under this concept the owners are just one of many participants. Another perspective is if the enterprise is healthy, all contributors to the enterprise should benefit, not just the shareholders. This goes hand in hand with the sustainable business enterprise, where it is viewed that the business is sustainable in the long run when value is created for all stakeholders. The continuity assumption is also known as the going - concern assumption. The assumption is that the enterprise will continue operating for the foreseeable future and not be liquidated. It assumes that the business will continue long enough to recover the assets and relay its outstanding liabilities. This assumption provides the conceptual basis for measuring and classifying assets and liabilities. There are two instances where this assumption is not valid - a limited life venture, and a business in financial difficulty that is expected to be shut down. If this assumption is in doubt because of financial difficulty, the historical costs of assets are not relevant and liquidation accounting is appropriate.

  14. Page 14
    Read page 14 as text

    © 2014 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition (Beechy et al.) 5 A common problem is the misuse of the term going concern . A company that is considered to be a going concern is expected to continue in operation. If there is a going concern issue or going concern problem, then this assumption is no longer valid. An example would be where the company is undergoing financial restructuring. The stable currency assumption assumes constant purchasing power and that the value of the dollar stays does not change significantly from year to year. The reason for this assumption is that inflation is most developed countries has been relatively modest. It also assumes it is constant in relation to the value of other currencies (its exchange rate). Alternative Capital Maintenance Approaches Constant dollar capital maintenance says that not all dollars are created equally. Therefore, if prices are rising then the enterprise needs to keep more nominal dollars invested in capital to stay even. Physical capital maintenance concept recognizes that the prices of different goods and services change at different rates. The key is the company needs to maintain the same level of productive capacity in its assets. 5. QUALITATIVE CRITERIA Qualitative criteria are criteria that, in conjunction with the organization’s reporting objectives, are used to evaluate possible measurement options and to choose the most appropriate accounting policies. The qualitative criteria are summarized in a table on the next page . There are trade - offs among the various criteria, especially between relevance and faithful representation . WATCH!

  15. Page 15
  16. Page 16
    Read page 16 as text

    © 2014 McGraw - Hill Ryerson Ltd. All rights reserved Instructor’s Manual to accompany Intermediate Accounting , 6 th edition 15 CRITERIA COMPONENTS DESCRIPTION 1. Relevance  Predictive value  Confirmatory or Feedback value Capacity of accounting information to make a difference to the external decision - makers who use financial reports. Theoretically , relevance is the most important qualitative characteristic . 2. Faithful representation The information is a sufficient accurate measure of what it is intended to measure. It should report the economic substance of the transaction , not just their form . Faithful representation is closely related to reliability.  Completeness Information must give a faithful picture of the economic events or financial elements . The information must not mislead or deceive .  Neutrality Financial reports are neutral if they do not influence a user’s decisions . It is also known as free from bias .  Freedom from material error If the statements are free from bias, overstatements and understatements must not exist . Faithful representation does not imply “accuracy” in that it is completely free from error, but rather free from material error. 3. Understandability Based on the assumption that investors and creditors have a reasonable understanding of business and economic activities — and of accounting. Information must be understandable to be useful. 4. Materiality Materiality is used to describe the significance of an item. Information is material if its omission or misstatement would probably change or impact the decision. 5. Comparability Enables users to identify simi larities and differences between two sets of financial statements.  Consistency Entails using the same accounting policies from period to period within the firm.  Uniformity Companies with similar transactions and similar circumstances use the same accounting treatments . 6. Verifiability If knowledgeable and independent observers can measure an economic event and arrive at generally the same result, the measurement is verifiable . 7. Timeliness Accounting information should be reported soon enough for it to be useful for decision making. Lack of timeliness reduces relevance.

110 more pages in the full document

Unlock it once and it stays in your library, ready to chat with or turn into flashcards.

Unlock the full document

More Accounting study materials

See all

Study this document with CramX

Once it is in your library, every tool can work from it.