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IS Expense Recognition
Profit Foundations of accrual accounting are revenue recognition & expense matching
IS
Applying accounting principles is the responsibility of management, who has superior knowledge of a firm’s business.
Contracts
Incentives exist for management to distort accounting numbers in their favor.
Reputation
The EU and other countries worldwide have relied on the IASB to set accounting standards (IFRS); many countries have endorsement procedures, including Indonesia
IFRS allows for consistency in reporting between firms and over different time periods of the same firm.
Principle Standard
Uniform accounting standards minimize manager’s ability to manipulate financial statement information.
Public enforcement Most countries have public enforcement bodies to review compliance and take actions to correct noncompliance. OJK, KPPU
5 Components
Predictive Value
Materiality
Fundamental
Completeness
2nd : The Bridge between 1st and 3rd (The tools and characteristic)
Qualitative Characteristic Reliability/Faithful Representation Neutrality
Comparability
Verifiability
Enhancing
Conceptual Framework Timeliness
Understandability
Economic entity
Going concern
Periodicity
Accrual Basis
Revenue recognition
Basic principles
Expense recognition
Full disclosure
1. Noise from accounting rules The fit between accounting standards and the nature of the firm’s transactions may introduce some distortion in the reported financial statements. PSAK 16?
2. Forecast errors Management’s estimates may result in accounting forecasting errors reflected in the financial statements. allowance for bad debt
Debt covenants
Compensation contracts
It is necessary to allow managers some discretion in applying accounting standards. As a result, three potential sources of noise and bias in accounting data include Contests for corporate control
3. Manager’s accounting choices Managers have a number of incentives to choose accounting disclosures that are biased Tax considerations
Factors Influencing Accounting Quality
Regulatory considerations
Relevance capacity of information to affect a decision Capital market and stakeholder considerations
Desirable Qualities of Accounting Information Relevance vs reliability Reliability must be verifiable, representationally faithful, and neutral Competitive considerations
Accounting information often demands a trade-off between relevance and reliability. For example, reporting forecasts increase relevance but reduce reliability.
Key policies and estimates used to measure risks and critical factors for success must be identified.
Step 1: Identify Principal Accounting Policies
IFRS require firms to identify critical accounting estimates
Step 2: Assess Accounting Flexibility Accounting information is less likely to yield insights about a firm’s economics if managers have a high degree of flexibility in choosing policies and estimates.
Flexibility in accounting choices allows managers to strategically communicate economic information or hide true performance
Accounting Analysis : Adjust for accounting distortions so financial reports better reflect economic reality Qualified audit report
Use of mechanisms to circumvent accounting rules, such as operating lease and receivables securitization
Increases in the gap between net profit and cash flows or tax profit
Related-party transactions
Step 6: Undo Accounting Distortions (involves computations) Use information from the cash flow statement and notes to the financial statements to (possibly imperfectly) undo distortions
Adjust for accounting distortions so financial reports better reflect economic reality