Summary Accounting: Business Reporting for Decision Making - chapter 1 PDF

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The purpose of accounting  Providing users with financial info to guide them in making decisions concerning how to allocate money among different and competing projects Accounting is the process of identifying, measuring and communicating economic information about an entity to a variety of users for decision-making purposes. Identifying Business transactions are an event that affects the financial position of an entity and can be reliably measured and recorded. For example:  withdrawals of cash by owners  Payments of wages and salaries  Earning of fees revenue  Purchasing products  Capital contribution by owners  Incurring interest on a bank loan  Payment of quarterly GST (goods and service tax) It assists users of the financial information in the allocation of the scarce resource that is money. This info is needed to help make informed decisions about the risks and returns of investment opportunities. Measuring Refers to the analysis, recording and classifying of business transactions.  Relates to how the transactions will affect the entity's position  Groups together similar items e.g. expenses and income During the accounting period, individual assets, expenses, income, equity and liabilities will be grouped (classified) together to summarise the information. E.g. land, buildings, machinery, equipment and vehicles will be grouped together under the subheading ‘property, plant and equipment’. Communicating  Relevant information is communicated through accounting reports for decision-making purposes for the various users e.g. income statements and balance sheets  This information should be relevant and reliable Relevant information refers to information that makes a difference in decision making. The Process of Accounting Identifying

Measuring

Communicating

Decision making

Transactions that affect the entity’s financial position are taken into consideration. They must be able to be reliably measured and recorded.

This stage includes the analysis, recording and classifying of business transactions.

Accounting information is communicated through various reports such as income statements, balance sheets and statements of cash flows.

Accounting information is used for a range of decisions by external and internal users.

Bookkeeping is the recording and summarising of financial transactions and the preparation of basic financial statements.  Represented in the first two stages of accounting (identifying and measuring)

Why accounting is helpful It assists an entity's management (i.e. internal users) in a number of ways:  Decision-making concerning operations of the business entity  Management planning processes such as appropriate sales mix, pricing of goods, forecasting profits, determining the capacity of assets such as plant.  Evaluating business success in terms of achieving its objectives (comparison of business performance against budgets, and identifying whether employees have achieved their set targets)  Alternatives are analysed when investing Also, providing information to external users/stakeholders e.g. investors, suppliers, lobby groups, regulatory bodies (those who have an interest or 'stake' in the performance of the entity)

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Current investors will be interested in knowing the financial activity of the entity so they can analyse effective use of assets and investment Prospective investors will use this information to assist them in decision-making Suppliers and banks are interested in whether or not then business will be capable of repaying debts and determining risk level Employees are interested in the future prospects of the entity relating to job opportunities and security. Government authorities e.g. ATO will be interested in o Reported profit o GST paid In order to calculate the amount of tax payable/refundable for that financial year Also regulatory bodies such as the (ASIC) can identify whether the business has complied with legal requirements

Summary Stakeholder

Accounting information and decision making

Investor

Information to determine the future profitability of the entity, to assess the future

cash flows for dividends and the possibility of capital growth of investment. Banks

Information to determine whether the entity has the ability to repay a loan.

Suppliers

Information to determine an entity’s ability to repay debt associated with purchases.

Employees

Information concerning job security, the potential to pay awards and bonuses, and promotional opportunities.

Consumers

Information regarding the continuity of the entity and the ability to provide the appropriate goods and services.

Government authorities

Information to determine the amount of tax that should be paid and any future taxation liabilities or taxation assets.

Regulatory bodies Information to determine whether the entity is abiding by regulations such as the Corporations Act and Australian taxation law. Community

Information to determine whether the entity is contributing positively to the general welfare and economic growth of the local community.

Special interest groups

Information to determine whether the entity has considered environmental, social or industrial aspects during its operations.

Financial Accounting - the preparation and presentation of financial information for users to enable them to make economic decisions regarding then entity. General purpose financial statements (reports) - prepared to meet the info needs common to a wide range of users. Special purpose financial statements (reports) - prepared to suit a specific purpose, do not cater for the generalised needs common to most users. Generally Accepted Accounting Principles (GAAP) - provide accounting standards for preparing financial statements locally. In addition, financial accounting is also guided by rules in the Corporations Act and the Listing Rules of the Australian Securities Exchange (ASX). Historical cost - the original amount paid or expected to receive for an asset.  Financial accounting is based on historical figures that stem from the original transaction  This occurs even if the original cost does not reflect the current market value of the good Contents of Financial Statements  Entity's statement of cash flows  Balance sheet  Income statement For companies;  Statement of profit or loss  Other comprehensive income and the statement of changes in equity

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Statement of cash flows Reports on an entity's cash inflows and cash outflows for a specified period Classified into operating, investing and financial activities Income statement Reports on the income and expenses of an entity for a period, and the resulting profit or loss. Profit: excess of income over expenses for a period Balance sheet Reports on assets, liabilities and equity of an entity at a particular point in time

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Also called 'statement of financial position'

Management Accounting - a field of accounting that provides economic information for use by management in internal planning and decision making. Activities:  Formulating plans and budgets  Providing information to be used in the monitoring and control of different parts of the entity Management accountancy is bound by few rules and is less formal than financial accountancy. Able to provide any level of detail since the reports are tailored to suit the needs of management.  Must be up-to-date  Prepared any time for any period Management Accounting & Financial Accounting MA provides economic information for internal users that is reflected in the FA statements for external users. E.g. segment reporting by large and diversified companies Differences between financial accounting and management accounting Financial accounting

Management accounting

1. Regulations

Bound by GAAP. GAAP are represented by accounting standards (including those issued by both the AASB and the IASB), the Corporations Act, and relevant rules of the accounting association and other organisations such as the ASX.

Much less formal and without any prescribed rules. The reports are constructed to be of use to the managers.

2. Timeliness

Information is often outdated by the time the Management reports can be both a statements are distributed to the users. The historical record and a projection, e.g. financial statements present a historical a budget. picture of the past operations of the entity.

3. Level of detail Most financial statements are of a quantitative nature. The statements represent the entity as a whole, consolidating income and expenses from different segments of the business. 4. Main users

Prepared to suit a variety of users including management, suppliers, consumers, employees, banks, taxation authorities, interested groups, investors, and prospective investors.

Much more detailed and can be tailored to suit the needs of management. Of both a quantitative and qualitative nature. Main users are the managers in the entity, hence the term management accounting.

GLOBALISATION OF ACCOUNTING  Entities have expanded and become larger  Entities are more diversified  Entities are multinational Due to this, accountancy and auditing services are consequently more complicated. Entities must adhere to the local GAAP whilst also following global accounting standards, known as Financial Reporting Standards (IFRS). Sources of Regulation The main course of company regulation in Australia is the Corporations Act, enforced through ASIC.

The Corporations Act & ASIC o Stipulates that disclosing entities prepare financial statements and in doing so must comply with accounting standards and regulations  Disclosing entities, public companies and large proprietary companies must apply AASBs in preparing their financial reports  Other reporting entities (such as non-disclosing), preparers and auditors of GPFSs have a professional obligation to apply the accounting standards o ASIC acts as a company watchdog o ASIC enforces company and financial services laws e.g. Corporations Act 2001 In addition, the Listing Rules of the ASX (accounting principles, standards, ethics & disciplinary procedures) are represented by the 3 accounting associations: 1. Chartered Accountants in Australia (ICAA) 2. CPA Australia 3. Institute of Public Accountants (IPA) The need for regulation: o Aims to protect different stakeholders - investors, consumers and lenders. o Promotes a strong and vibrant economy. o Promotes confidence and investment in business and economic activities o Assists in monitoring preparation, presentation and distribution of financial statements o Helps liquidators to obtain records from bankrupt companies to for legal proceedings o Ensures appropriate information is provided to different stakeholders of listed companies Australian & International Accounting Standards Australian Accounting Standards was mostly developed by the Australian Accounting Standards Board (AASB). Since January 1, 2005 Australian entities have complied with International Financial Reporting Standards (IFRS).  This ensures compliance with internationally agreed principles, standards and codes  It resulted in the issue of various new standards and the amendment of many existing Australian standards IFRS - Accounting standards that are prepared and issued by the International Accounting Standards Board (IASB) AASB - Australian body responsible for developing accounting standards for application to Australian entities under the Corporations Act.  Provides input into current IASB projects through the issue of exposure drafts of amended AASBs that incorporate the relevant clauses and requirements of the IFRS  They issue AASBs  Influence the development of IFRS  Promote globally consistent application and interpretation of accounting standards Financial Reporting Council (FRC) - responsible for overseeing the standard-setting process in Australia Due process: A course of formal proceedings which are carried out in accordance with established rules for protecting and enforcing different individual views associated with standard setting. 1. Identify the technical issue (submissions) 2. Develop a project proposal (determines whether project is worthwhile) 3. Comprehensive research of the issue 4. Consult with stakeholders 5. Issuing an exposure draft, discussion paper or an invitation to comment 6. Issuing a draft interpretation

The outcome of the due process could be: an accounting standard, an interpretation or a conceptual framework document E.g. 2013 AASB Standard-setting process

Professional Associations The professional bodies regulate the actions and conduct of their members according to their relevant code of conduct.  Provide feedback on exposure drafts  Forward comments to AASB  Inform members of developments in accounting standards through newsletters and conducting CPE sessions (continuing professional education)  Members are required to ensure that entities comply with accounting standards in the preparation of GPFSs  Professional, ethical and legislative requirements must be adhered to e.g. o Maintenance of independence during auditing o Preparation of financial statements based on Australian Accounting Standards o Advice on disclosure according to the Corporations Act requirements Example of some professional associations:  CPA Australia (certified practising accountant)  Institute of Chartered Accountants in Australia (ICAA)  Institute of Public Accountants (IPA)

Conceptual framework - a theoretical structure of assumptions, principles and rules that holds together the ideas comprising a broad concept. A strong conceptual frameworks captures something real in a way that is easy to remember and apply. In accounting, according to IFRS, the conceptual framework describes the objective of, and the concepts for, general purpose financial reporting.  Assists the Board in developing IFRS Standards based on consistent concepts  Assists in the development of consistent accounting policies  Assists others to understand and interpret the standards The objective of the Conceptual Framework project at IFRS is to improve financial reporting by providing more complete, clear and updated set concepts. THE ROLE OF THE CONCEPTUAL FRAMEWORK AASBs original conceptual framework contained Statements of Accounting Concepts (SACs) which assisted in:  the preparation and presentation of financial statements  The standard setters in developing future accounting standards  Helping users in interpreting information in the financial statements After Australia adopted IFRS, the IASB's Framework for the Preparation and Presentation of Financial Statements (Framework) was also adopted. The conceptual framework applies to entities that are required to prepare general purpose financial statements (GPFSs). *In the conceptual framework, these statements are known as general purpose financial reports. As defined before GPFSs - are financial statements prepared to meet the information needs common to external users who are unable to command the preparation of statements tailored to suit their information needs. Special purpose financial statements (SPFSs) are prepared to suit a specific purpose and do not cater for the generalised needs common to most users. Summary of the Conceptual Framework Established the objective of financial statements  Identifies the different users of GPFSs  Deals with transactions and other events that are not included in the accounting standards  Identifies qualitative characteristics that financial information should posses  Establishes definition of the elements of financial statements  Specifies what is required of each element ^ for inclusion in the financial statements The conceptual framework are as follows: The objective of financial reporting Qualitative characteristics of financial reports Definition and recognition of the elements of financial statements The objective of financial reporting "According to paragraph OB2 of the Conceptual Framework: The objective of general purpose financial reporting is to provide financial information about the reporting entity that is useful to existing and potential investors, lenders and other creditors in making decisions about providing resources to the entity."

Qualitative characteristics of financial reports There are 2 fundamental qualitative characteristics of financial reports and 4 enhancing qualitative characteristics. Fundamental qualitative characteristics: necessary qualitative characteristics of financial information. Relevance o Info should have predictive and confirmatory value for users in making and evaluating economic decisions o The information is capable (which refers to being predictive and/or of confirmatory value) of making a difference in the decisions made by users o Not necessarily new info Materiality: how much of a difference in nature and/or amount. A financial report should include all information which is material to a particular entity. Faithful representation o Financial information should be complete, neutral and free from error o Since this is hard to achieve fully always, the objective is to maximise these qualities to the extent possible Complete: all information necessary for a user to understand such as descriptions and explanations Neutral: the selection or presentation of financial information should be without bias Free from error: does not necessarily mean accurate in all respects Enhancing qualitative characteristics: the qualitative characteristics that enrich both relevant and faithfully represented financial information. Comparability o Financial statements must be able to compare aspects of an entity and between entities at one time and over time o The measurement and display of transactions must be consistent Verifiability o Provides assurance that the information represents what it suggests that it is representing Timeliness o Accounting information is available to all stakeholders in time for decision-making purposes Understandability o Preparers should present information in the most understandable manner to users o In doing so they should not sacrifice relevance or reliability *‘Financial reports are prepared for users who have a reasonable knowledge of business and economic activities and who review and analyse information diligently’

Income statements illustrate qualitative characteristics A reliable representation of a company's income less expenses in the following ways: Understandability: reports revenues less expenses in an easy-to-understand format to determine the profit for that year Comparability: income statements should not change substantially between periods, thereby facilitating analysis within a company between years. Also, the format of an income statement will be quite uniform across companies, allowing for comparison and analysis between companies. Verifiability: independently auditing the income statement is a reliable representation of a company's income less expenses. Faithful representation: auditor must state whether or not the financial statements have been prepared in accordance with accounting principles and standards as well as whether or not they are an accurate representation of performance for that period. Timeliness: made available to users within 3 months of the end of the financial period. Costs associated with the provision of financial statements  Collection  Processing  Verifying  Dissemination (circulation of information)  Storing of financial information

Definition and recognition of the elements of financial statements Elements of financial statements include:  Assets  Liabilities  Equity  Income  Expenses ASSETS are a resource that is  Controlled by the entity  As a result of past events  From which future economic benefits are expected to flow into the...