Financial Accounting and Reporting Theories - Notes for theory quizzes PDF

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AE111 – MRS. LORIE ANN BARRY DEFINITION OF ACCOUNTING Accounting Standards Council  Accounting is a service activity.  The accounting function is to provide quantitative information, primarily financial in nature, about economic entities, that is intended to be useful in making economic decisions. American Institute of Certified Public Accountant  Accounting is the art of recording, classifying, and summarizing in a significant manner and in terms of money, transactions and events which are in part at least of a financial character and interpreting results thereof. AMERICAN ACCOUNTING ASSOCIATION  Accounting is the process of identifying, measuring, and communicating economic information to permit informed judgement and decision by users of the information. IMPORTANT POINTS IN THE DEFINITION OF ACCOUNTING 1. Accounting is about quantitative information. 2. The information is likely to be financial in nature. 3. the information should be useful in decision making. “The very purpose of accounting is to provide quantitative information to be useful in making economic decisions” COMPONENTS OF ACCOUNTING 1. Identifying – analytical component. 2. Measuring – technical component. 3. Communicating – formal component. IDENTIFYING  Is the recognition or non-recognition of business activities as accountable events.  Not all business activities are accountable.  An event is accountable or quantifiable when it has an effect on assets, liabilities, and equity.  The subject matter of accounting is economic activity or the measurement of economic resources and economic obligations. INTERNAL AND EXTERNAL TRANSACTIONS External transactions  Are those economic events involving one entity and another entity. Examples: 1. Purchase of goods from a supplier 2. Borrowing money from the bank 3. Sale of goods to a customer 4. Payment of salaries of employees 5. Payment of taxes to the government

INTERNAL TRANSACTIONS  Are economic events involving one entity only.  Are economic activities that take place entirely within the entity.  Production and casualty loss are examples of internal transactions.  Production is the process by which resources are transformed into products.  Casualty is any sudden and unanticipated loss from fire, flood, earthquake and any other event ordinarily termed as act of God. MEASURING  Is the assigning of peso amounts to the accountable economic transactions and events.  Accounting information must be expressed with a common financial denominator.  Philippine peso is the unit of measuring accountable economic transactions.  The measurement bases are historical cost and current value.  Historical cost is the most common measure of financial transactions.  Current value includes fair value, value in use, fulfillment value and current cost. COMMUNICATING  is the process of preparing and distributing accounting reports to potential users of accounting information.  Identifying and measuring are pointless if the information contained in the accounting records cannot be communicated in some form to potential users.  Communicating is the reason why accounting has been called the “Universal language of business”.  Implicit in the communication process are the recording, classifying and summarizing aspects of accounting.  Recording or Journalizing is the process of systematically maintaining a record of all economic business transactions after they have been identified and measured.  Classifying is the sorting of grouping of similar and interrelated economic transactions into their respective classes. Classifying is accomplished by posting to the ledger  Ledger is a group of accounts which are systematically categorized into asset accounts, liability accounts, equity accounts, revenue accounts and expense accounts.  Summarizing is the preparation of financial statements. STATEMENTS!

ACCOUNTING AS AN INFORMATION SYSTEM  Accounting is an information system that measures business activities, process information into reports and communicates the reports to decision makers.  A key product of this information system is a set of financial statements – the document that report financial information about an entity to decision makers.  Financial reports tell us how well an entity is performing in terms of profit and loss and where it stands in financial terms. OVERALL OBJECTIVE OF ACCOUNTING  Provide quantitative financial information about a business that is useful to statement users particularly owners and creditors in making economic decisions.  An accountant’s primary task is to supply financial information so that the statement users could make informed judgement or better decision.  The essence of accounting is decisionusefulness. THE ACCOUNTANCY AS A PROFESSION  Republic act 9298 is the law regulating practice of accountancy in the Philippines.  The law is known as ”Philippine Accountancy Act of 2004”  Board of Accountancy is the body authorized by the law to promulgate rules and regulations affecting the practice of the accountancy profession in the Philippines.  Board of Accountancy is responsible for preparing and grading the Philippine CPA examination.  Exam is offered twice a year. May and October. LIMITATION OF THE PRACTICE OF PUBLIC ACCOUNTANCY

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Single practitioners and partnerships for the practice of public accountancy shall be registered certified public accountants in the Philippines. A certificate of accreditation shall be issued to certified public accountants in public practice only upon showing in accordance with the rules and regulations promulgated by the Board of accountancy and approved by the Professional Regulation Commission that such registrant has acquired a minimum of three (3) years of meaningful experience in any areas of public practice including taxation. The Securities and Exchange Commission shall not register any corporation organized for the practice of public accountancy.

ACCREDITATION OF THE PRACTICE OF PUBLIC ACCOUNTANCY

CPAs, firms and partnerships of CPAs, including partners and staff members are required to register with the Board of Accountancy and PRC for the practice of public accountancy.  The issued PRC certificate of registration shall be valid for three (3) years and renewable every three years upon payment of required fees. Three main areas of practice (CPA)  Public accounting  Private accounting  Government accounting PUBLIC ACCOUNTING  Is composed of individual practitioners, small accounting firms and large multinational organizations that render independent and expert financial services to the public.  Offers three (3) kinds of services, namely auditing, taxation and management advisory services. AUDITING  Primary service offered by most public accounting practitioners.  Or external auditing is the examination of financial statements by independent certified public accountant for the purpose of expressing an opinion as to the fairness with which the financial statements are prepared.  Attest function of independent CPAs. TAXATION  Taxation service includes the preparation of annual income tax returns and determination of tax consequences of certain proposed business endeavors. MANAGEMENT ADVISORY SERVICES  Management advisory services is used generally to refer to services to clients on matters of accounting, finance, business policies, organization procedures, product cost, distribution and many other phases of business conduct operations. Management advisory includes: 1. Advice on installation of computer system 2. Quality control 3. Installation and modification of accounting system. 4. Budgeting 5. Forward planning and forecasting 6. Design and modification of retirement plans 7. Advice on mergers and consolidation 

PRIVATE ACCOUNTING  Many CPAs are employed in a business entity in various capacity as accounting staff, chief accountant, internal auditor, and controller.  Controller – highest accounting officer in an entity.  Major objective is to assist management in planning and controlling the entity’s operations.  Includes maintaining the records, producing the financial reports, preparing the budgets and controlling and allocating the resources of the entity.  Also responsible for the determination of the various taxes the entity is obliged to pay. GOVERNMENT ACCOUNTING  Encompasses the process of analyzing, classifying, summarizing, and communicating all transactions involving the receipt and disposition of government funds and property and interpreting the results thereof.  The focus of government accounting is the custody and administration of public funds. Branches of the government with accountants: a) Bureau of Internal Revenue b) Commission on Audit c) Department of Budget and Management d) Securities and Exchange Commission e) Bangko Sentral ng Pilipinas CONTINUING PROFESSIONAL DEVELOPMENT (CPD)  Republic Act No. 10912 Is the law maintaining and strengthening the continuing professional development program for all regulated professions, including the accountancy profession.  CPD refers to the inculcation and acquisition of advanced knowledge, skill, proficiency and ethical moral values after the initial registration of the Certified Public Accountant for assimilation into professional practice and lifelong learning.  CPD raises and enhances the technical skill and competence of the Certified Public Accountant. CPD CREDIT UNITS  CPD credit units refer to the CPD credit hours required for the renewal of CPA license and accreditation of a CPA to practice the accountancy profession every 3 years.  Regardless of the sector, practice shall be required to comply with 120 CPD credit units in a compliance period of three years,  Excess credit units earned shall not be carried over to the next three-year period unless it is earned for masteral and doctoral degrees.

CPD has become mandatory for CPA CPD is required for the renewal of CPA license and accreditation of CPA to practice the accountancy profession. EXEMPTION FROM CPD  A CPA shall be permanently exempted from CPD requirements upon reaching the age of 65 years.  This exemption is applied only to the renewal of CPA license and not for the purpose of accreditation to practice the Accountancy profession. ACCOUNTING VS. AUDITING  Accounting embraces auditing  Auditing is one of the areas of accounting specialization.  Accounting is constructive in nature  Accounting ceases when financial statements are already prepared.  Auditing is analytical.  The work of an auditor begins when the work of accountant ends.  After the financial statements are prepared, the auditor will begin to perform the task of auditing.  The auditor examines the financial statements to ascertain whether they are in conformity with generally accepted accounting principles. ACCOUNTING VS. BOOKKEEPING  Bookkeeping is procedural  Bookkeeping is the “how” of accounting  Accounting is the conceptual and is concerned with the “why”, reason or justification for any actin adopted.  Bookkeeping is a procedural element of accounting as arithmetic is a procedural element of mathematics. ACCOUNTING VS. ACCOUNTANCY  Broadly speaking, these terms are synonymous.  Both refer to the entire field of accountancy theory and practice.  Accountancy refers to the profession of accounting practice.  Accounting is used as a reference only to a particular field of accountancy such as public accounting, private accounting and government accounting.  

FINANCIAL ACCOUNING VS. MANAGERIAL ACCOUNTING  Financial accounting is primarily concerned with

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the recording of business transactions and the eventual preparation of financial statements. Financial accounting focuses on general purpose reports known as financial statements intended for internal and external users.

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Financial accounting is the area of accounting that emphasizes reporting to creditors and investors. Managerial accounting is the accumulation and preparation of financial reports for internal users only. Managerial accounting is the area of accounting that emphasizes developing accounting information for use within an entity.

GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (GAAP)

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Are the accounting rules, procedures, practices. Developed on the basis of experience, reason, custom, usage and practical necessity. Represent the rules, procedures, practice and standards followed in the preparation and presentation of financial statements. Laws that must be followed in financial reporting. The process of establishing GAAP is a political process which incorporates political actions of various interested user group as well as professional judgement, logic and research.

PURPOSE OF ACCOUNTING STANDARDS  To identify proper accounting practices for the preparation and presentation of financial statements.  Accounting standards create a common understanding between preparers and users of financial statements particularly the measurement of assets and liabilities  A set of high quality accounting standards is a necessity to ensure comparability and uniformity in financial statements based on the same financial information. FINANCIALREPORTING STANDARDS COUNCIL (FRSC)

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GAAP is initially formulized through creation of the Accounting Standards Council (ASC). FRSC replaces ASC FRSC is the accounting standard setting body created by the PRC upon the recommendation of the Board of Accountancy in carrying out its powers and functions under R.A. Act N0. 9298 Main function is to establish and improve accounting standards that will be generally accepted in the Philippines. The accounting standards promulgated by the FRSC constitute the “highest hierarchy” of GAAP in the Philippines. The approved statements of FRSC are known as Philippine Accounting Standards (PAS) and Philippine Financial Reporting Standards (PFRS).

COMPOSITION OF FRSC  Composed of 15 members.  The chairman and members of the FRSC shall have a term of 3 years renewable for another term. PHILIPPINE INTRPRETATIONS COMMITTEE  Formed by the FRSC in August 20006 and has replaced the interpretations Committee formed by the ASC in May 2000  The role of PIC is to prepare interpretations of PFRS for approval by the FRSC and to provide timely guidance on financial reporting issues not specifically addressed in the current PFRS.  Interpretations are intended to give authoritative guidance on issues that are likely to receive divergent or unacceptable treatment because the standards do not provide specific and clear-cut rules and guidelines.  The counterpart of the PIC in the UK is the International Financial Reporting Interpretations committee or IFRIC which has already replaced the Standing Interpretations Committee. SIC INTERNATIONAL ACCOUNTING STANDARDS COMMITTEE  Is an independent private sector body, with the objective of achieving uniformity in the accounting principles which are used by business and other organizations for financial reporting around the world  Formed in June 1973.  Headquartered in London, UK OBJECTIVES OF IASC  To formulate and publishing the public interest accounting standards to be observed in the presentation of financial statements and to promote their worldwide acceptance and observance.  To work generally for the improvement and harmonization of regulations, accounting standards and procedures relating to the presentation of financial statements. INTERNATIONAL ACCOUNITNG STANDARDS BOARD  This replaces the IASC  IASB publishes standards in a series of pronouncements called International Financial Standards Committee or IFRS  has adopted the body of standards issued by IASC  The pronouncements of IASC continue to be designated as “International Accounting Standards” or IAS

The IASB standard-setting process includes in the correct order research, discussion paper, exposure draft and accounting standard. MOVE TOWARD IFRS  Standards issued by other standard-setting bodies such as the USA Financial Accounting Standards Board (FASB) and the IASB are considered in developing accounting standards that will generally accepted in the Philippines.  In the past years, Philippine standards issued are based on the American Accounting Standard.  At present, the FRSC has adopted in their entirely all International Accounting standards and International Financial Reporting Standards.  The move towards IFRSC is essential to achieve the goal of one uniform and globally accepted financial reporting standards.  The Philippines is fully compliant with IFRS effective January 2005, a process which was started back in 1997 in moving from USA GAAP to IFRS/ 

FACTORS TO BE CONSIDERED IN DECIDING TO MOVE TOTALLY TO INTERNATIONAL ACCOUNTING STANDARDS:

a. Support of international accounting standards by Philippine organizations such as the Philippine SEC, Board of Accountancy and PICPA. b. Increasing internalization of business which has heightened the interest in a common language for financial reporting. c. Improvement of international accounting standards or removal of free choices of accounting treatments. d. Increasing recognition of international accounting standards by the World Bank, Asian Development Bank and World Trade Organization. PHILIPPINE FINANCAL REPORTING STANDARDS  The Financial Reporting Standards Council issues standards in a series of pronouncements called “Philippine Financial Reporting Standards” or PFRS PFRS COLLECTIVELY INCLUDE ALL OF THE FOLLOWING: a. Philippine Financial Reporting Standards which correspond to the International Financial Reporting Standards. The PFRS are numbered the same as their counterpart in IFRS. b. Philippine Accounting Standards which correspond to International Accounting Standards

The PAS are numbered the same as their counterpart in IAS. c. Philippine interpretations which correspond to interpretations of the IFRIC and the Standing Interpretations Committee, and Interpretations developed by the Philippine Interpretations committee. CHAPTER 2 CONCEPTUAL FRAMEWORK  The Conceptual Framework for financial reporting is a complete, comprehensive, and single document promulgated by the International Accounting Standards Board.  Is a summary of the terms and concepts that underlie the preparation and presentation of financial statements for external users.  Describes the concepts for Generally Purpose Financial Reporting.  Is an attempt to provide an overall theoretical foundation for accounting.  Is intended to guide standard-setters, preparers and users of financial information in the preparation and presentation of statements.  Conceptual Framework is the underlying theory for the development of accounting standards and revision of previously issues accounting standards.  Conceptual Framework will be used in future standard-setting decision but no changes will be made to the current IFRS. THE CONCEPTUAL FRAMEWORK PROVIDES THE FOUNDATION FOR STANDARDS THAT: a. Contribute to transparency b. Strengthen accountability c. Contribute to economic efficiency PURPOSES OF REVISED CONCPTUAL FRAMEWORK a. To assist the IASB to develop IFRS standards based on consistent concepts. b. To assist preparers of financial statements to develop consistent accounting policy when no Standard applies to a particular transaction or other event or when an issue is not yet addressed by an IFRS. c. To assist preparers of financial statements to develop accounting policy when a standard allows a choice of an accounting policy. d. To assist all parties to understand and interpret the IFRS standards.

AUTHORITATIVE STATUS OF CONCEPTUAL FRAMEWORK

If there is a standard or an interpretation that specifically applies to a transaction, the standard or interpretation overrides the conceptual framework.  In the absence of a standard or an interpretation that specifically applies to a transaction, management shall consider the applicability of the conceptual framework in developing and applying an accounting policy that results in information that is relevant...