2011 Financial 1 Update

Financial 1
Update for the 2011 Edition Last Updated September 1, 2011
SECTION A: TEXT AND LECTURE ERRATA Item A.1 Pg. F1-7 to F1-10, Items VII.A. SFAC No. 1, "Objectives of Financial Reporting by Business Enterprises" and VII.B. SFAC No. 2, "Qualitative Characteristics of Accounting Information" The FASB and the IASB are working on a joint project to develop a common conceptual framework for financial accounting that will be used by both standard setting bodies when developing future accounting standards. The FASB and IASB released the first phase of the conceptual framework project on September 28, 2010. The document released by the FASB is titled, Statement of Financial Accounting Concepts No.8: Conceptual Framework for Financial Reporting - Chapter 1, The Objective of General Purpose Financial Reporting and Chapter 3, Qualitative Characteristics of Useful Accounting Information. Chapter 2, The Reporting Entity, will be issued in a subsequent phase of the project. The IASB released the same information in a document titled the Conceptual Framework 2010. SFAC No. 8 replaces SFAC No.1, Objectives of Financial Reporting by Business Enterprises, and SFAC No. 2, Qualitative Characteristics of Accounting Information, which are outlined on pgs. F1-7 to F1-10. SFAC No. 8 is testable on the CPA exam as early as April 2011. Students planning to take the exam after February 2011 should study the following outline in place of the information on pages F1-7 to F1-10. A. SFAC No. 1, "Objectives of Financial Reporting by Business Enterprises" This statement was replaced by SFAC No. 8. B. SFAC No. 2, "Qualitative Characteristics of Accounting Information" This statement was replaced by SFAC No.8. C. SFAC No. 8, "Chapter 1: The Objective of General Purpose Financial Reporting" The objective of general purpose financial reporting is to provide financial information about the reporting entity that is useful to the primary users of general purpose financial reports in making decisions about providing resources to the reporting entity. 1. Primary Users The primary users of general purpose financial reports are existing and potential investors, lenders, and other creditors. Other parties, including regulators and members of the public who are not investors, lenders, and other creditors, may also use general purpose financial reports, but are not considered to be primary users. 2. Financial Information Provided in General Purpose Financial Reports Financial information needed by existing and potential investors, lenders, and other creditors includes information about the resources of the entity, the claims against the entity, and how efficiently and effectively the entity's management and governing board have discharged their responsibilities to use the entity's resources. Financial information should be presented using the accrual basis of accounting. Existing and potential investors, lenders, and other creditors use financial information to assess the reporting entity's prospects for future net cash inflows to the entity. Such information may be used to estimate the value of the reporting entity.

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D.

SFAC No. 8, "Chapter 3: Qualitative Characteristics of Useful Financial Information" The qualitative characteristics of useful financial information are the characteristics that are likely to be most useful to existing and potential investors, lenders, and other creditors in making decisions about the reporting entity based on financial information. 1. Fundamental Qualitative Characteristics The fundamental qualitative characteristics of useful financial information are relevance and faithful representation. Both characteristics must be present for financial information to be useful. a. Relevance Financial information is relevant if it is capable of making a difference in the decisions made by users. To be relevant, financial information must have predictive value and/or confirming value, and must be material. (1) Predictive Value Information has predictive value if it can be used by users to predict future outcomes. (2) Confirming Value Information has confirming value if it provides feedback about evaluations previously made by users. (3) Materiality Information is material if an omission or misstatement of the information could affect the decisions made by users based on financial information. Materiality is an entity-specific aspect of relevance. The FASB/IASB have not specified a uniform quantitative threshold for materiality and have not specified what would be material in specific situations. b. Faithful Representation To be useful, financial information must faithfully represent the reported economic phenomena. Faithful representation requires completeness, neutrality, and freedom from error. Although perfect faithful representation is generally not achievable, these characteristics must be maximized. (1) Completeness A complete depiction of financial information includes all information necessary for the user to understand the reported economic phenomena, including descriptions and explanations. (2) Neutrality A neutral depiction of financial information is free from bias in selection or presentation. (3) Freedom From Error Freedom from error means that there are no errors in the selection or application of the process used to produce reported financial information and that there are no errors or omissions in the descriptions of economic phenomena. Freedom from error does not require perfect accuracy because, for example, it is difficult to determine the accuracy of estimates.

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c.

Steps to Apply the Fundamental Qualitative Characteristics The most efficient and effective process for applying the fundamental characteristics of useful financial information is: (1) (2) (3) Identify the phenomena that has the potential to be useful to the users of a reporting entity's financial information, Identify the type of information about the phenomena that would be most relevant, Determine whether the information is available and can be faithfully represented.

If the information is available and can be faithfully represented, then the fundamental qualitative characteristics have been satisfied. If not, the process is repeated with the next most relevant type of information. 2. Enhancing Qualitative Characteristics Comparability, verifiability, timeliness, and understandability enhance the usefulness of information that is relevant and faithfully represented. These characteristics can be used to determine how a phenomena should be depicted if two ways are equally relevant and faithfully represented. The enhancing qualitative characteristics should be maximized. a. Comparability Information is more useful if it can be compared with similar information about other entities or from other time periods. Comparability enables users to identify similarities and differences among items. Consistency, which is the use of the same methods for the same items either from period to period or across entities, helps to achieve comparability. b. Verifiability Verifiability means that different knowledgeable and independent observers can reach consensus that a particular depiction is faithfully represented. Verifiability does not require complete agreement. c. Timeliness Timeliness means that information is available to users in time to be capable of influencing their decisions. d. Understandability Information is understandable if it is classified, characterized, and presented clearly and concisely. However, even well-informed and diligent users may need the assistance of advisors to understand complex and difficult phenomena. 3. The Cost Constraint The cost constraint is a pervasive constraint on the information provided in financial reporting. The benefits of reporting financial information must be greater than the costs of obtaining and presenting the information. The FASB/IASB consider costs and benefits in relation to financial reporting in general and not at the individual reporting entity level.

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STUDY HINT: You can memorize the fundamental and enhancing qualitative characteristics using the following mnemonics: Relevance I will be RELEVANT when I Pass My CPA exam Pass = Predictive value My = Materiality CPA = Confirming value Faithful Representation Financials are Not FAITHFULLY REPRESENTED unless Complete Financials = Freedom from error Not = Neutrality Complete = Completeness Enhancing Qualitative Characteristics It is ENHANCING to CU on TV C = Comparability U = Understandability T = Timeliness V = verifiability Updates to flash cards affected by SFAS No. 8 can be accessed at the following link: https://beckerkb.custhelp.com/app/answers/detail/a_id/920

Item A.2 Pg. F1-20, Example Single Step Income Statement The shaded boxes in the revenue and expense sections of the single step income statement example are not correct. Under Revenues and other items, the shaded boxes should be around the revenue of $350 from the Sale of Goods, the revenue of $200 from the Sale of Services, and the revenue of $100 from Rental Income, for a total of $650. The interest income of $170 should not be shaded. Under Expenses and other items, the shaded box should be around the Cost of Goods Sold of $200, the Cost of Services Sold of $150, and the Cost of Rental Income of $60, for a total of $410.

Item A.3 (added March 18, 2011) Pg. F1-38, Example Two-Statement Approach When the two statement approach is used to present comprehensive income, the correct title of the separate statement is the "Statement of Comprehensive Income," not the "Statement of Income and Comprehensive Income." The "Statement of Income and Comprehensive Income" is the title used under the single statement approach.

2011 Financial 1 Update

Item A.4 (added May 18, 2011) Pg. F1-3, Item D. Financial Accounting Standards Board (FASB) The second paragraph in Item D. should be edited as follows (changes highlighted): The FASB has five seven full-time members who serve for five-year terms and may be reappointed to one additional five-year term. Item A.5 (added May 18, 2011) Pg. F1-29, National Instructor Comments, Item II.A. Events Resulting in Estimate Changes The National Instructor states that a change to LIFO is an example of a change in accounting principle that is inseparable from a change in estimate. This statement is not correct. A change to LIFO is accounted for prospectively, like a change in estimate, because it is impracticable to estimate the cumulative effect of a change to LIFO due to the fact that it is very difficult to reestablish and recalculate old LIFO layers. In contrast, a change in depreciation method is accounted for prospectively because it is considered to be a change in accounting principle that is inseparable from a change in estimate.

SECTION B: PASSMASTER, SIMULATIONS, & QUIZZES ERRATA Item B.1 Question CPA-05058 (updated March 23, 2011) This question relates to the old GAAP hierarchy that was superseded by the FASB Codification in July 2009. This question does not reflect current GAAP. The Software Update that can be accessed at https://beckerkb.custhelp.com/app/answers/list will replace this question with the following new question: Question A U.S. public company needs guidance in accounting for and reporting a complex derivative transaction that it entered into with a European subsidiary. This company is most likely to find the appropriate guidance in the: a. b. c. d. FASB Accounting Standards Codification. International Financial Reporting Standards. FASB Statements of Financial Accounting Standards. FASB Statements of Financial Accounting Concepts.

Answer Choice "a" is correct. The FASB Accounting Standards Codification is the single source of U.S. GAAP. U.S. public companies are required to follow U.S. GAAP. Choice "b" is incorrect. The International Financial Reporting Standards cannot be used by a U.S. public company as a source of U.S. GAAP. Choice "c" is incorrect. FASB Statements of Financial Accounting Standards are included in the FASB Accounting Standards Codification, which is the single source of U.S. GAAP. Choice "d" is incorrect. The FASB Statements of Financial Accounting Concepts are not GAAP.

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SECTION C: TEXT AND LECTURE ADDITIONAL OR ENHANCED INFORMATION Item C.1 (added March 18, 2011) Pg. F1-13, Item F. SFAC No. 6 "Elements of Financial Statements" The reference to SFAC No.1, which was superseded by SFAC #8, should be deleted from the textbook: F. SFAC No. 6 "Elements of Financial Statements" Elements are the components of the financial statements. They must be measurable and meet the recognition requirements previously discussed. Ten elements provide the information required in the objectives stated in SFAC No. 1. Note that the issuance of SFAC #8 did not replace SFAC #6. Item C.2 (added September 1, 2011) Pg. F1-64, Item 2. Accounting Policies The textbook states the following: An entity must use the same accounting policies in its opening IFRS balance sheet and in all periods presented in the first IFRS financial statements. IFRS allows limited exemptions in areas where the cost of the initial application of IFRS accounting policies would be likely to exceed the benefits to financial statement users. IFRS also prohibits the retrospective application of certain IFRS that would require judgments by management about past conditions after the outcome of a particular transaction is already known. The following is a list of the mandatory exceptions to the retrospective application of IFRS at the time of the initial adoption of IFRS: Derecognition of financial assets and financial liabilities Hedge accounting Non-controlling interests Classification and measurement of financial assets Embedded derivatives

SECTION D: PASSMASTER, SIMULATIONS, & QUIZZES ADDITIONAL OR ENHANCED INFORMATION Item D.1 Updating Passmaster for SFAC #8 (Updated April 4, 2011) The Software Update updates the following twelve Passmaster questions for SFAC #8 (see Item A.1 above): CPA-00001, CPA-00004, CPA-00007, CPA-00014, CPA-00015, CPA-00022, CPA-05197, CPA-05652, CPA-05907, CPA-06060, CPA-06061, CPA-06591

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Item D.2 Class Question #2, CPA-00010 (Updated April 4, 2011) This class question is not consistent with SFAC #8 and should be replaced with the following question: According to the FASB and IASB conceptual frameworks, completeness is an ingredient of: Relevance a. b. c. d. Yes No Yes No Faithful Representation No Yes Yes No

Answer Choice "b" is correct. Completeness is an ingredient of faithful representation. Other ingredients of faithful representation include neutrality and freedom from error. Choices "a, c, and d" are incorrect. Completeness is an ingredient of faithful representation. Other ingredients of faithful representation include neutrality and freedom from error. The ingredients of relevance are predictive value, confirming value, and materiality. Item D.3 CPA-00105 (Updated April 4, 2011) This question is not consistent with SFAC #8 and should be replaced with the following question: Conceptually, interim financial statements can be described as emphasizing which of the following enhancing qualitative characteristics? a. b. c. d. Timeliness Verifiability Relevance Faithful representation

Answer Choice "a" is correct. Interim financial statements emphasize timeliness by providing financial information based on actual performance to date and estimates prior to year end. Choice "b is incorrect. Interim financial statements do not emphasize verifiability. The extensive use of estimates in interim financial statements means that they are less verifiable. Interim financial statements emphasize timeliness over verifiability. Choices c and d" are incorrect. Relevance and faithful representation are primary qualitative characteristics, not enhancing qualitative characteristics.

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Item D.4 CPA-00189 (Updated April 4, 2011) This question is not consistent with SFAC #8 and should be replaced with the following question: According to the FASB and IASB conceptual frameworks, predictive value is an ingredient of: Relevance a. b. c. d. No No Yes Yes Faithful Representation No Yes Yes No

Answer Choice "d" is correct. Yes - No. Predictive value is an ingredient of relevance but not of faithful representation.

Item D.5 CPA-04770 (Updated April 4, 2011) This question is not consistent with SFAC #8 and should be replaced with the following question: According to the FASB and IASB conceptual frameworks, what does the concept of faithful representation include? a. b. c. d. Effectiveness Certainty Materiality Neutrality

Answer Choice "d" is correct. The concept of faithful representation includes neutrality, completeness, and freedom from error. Choices "a," "b, and "c" are incorrect. Effectiveness, certainty, and materiality are not included in the concept of faithful representation, which includes neutrality, completeness, and freedom from error.

EDITORS COMMENTS Some of the Items above have come from our internal review process, some have come from questions and comments from Becker instructors around the world, and some have come from questions asked by various candidates, either from Becker Profhelp or in online or live classes. We wish to thank all of these individuals as a group for their efforts to improve our materials.