Solution Manual For Financial Accounting Theory and Analysis Text and Cases 11th Edition Schroeder, Clark, Cathey

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Solution Manual for Financial

Accounting Theory and Analysis
Text and Cases 11th Edition
Schroeder, Clark, Cathey
Complete downloadable file at:
https://TestBanksCafe.eu/Solution-Manual-for-
Financial-Accounting-Theory-and-Analysis-Text-and-
Cases-11th-Edition-Schroeder,-Clark,-Cathey
Solutions Manual
By
Richard G. Schroeder
University of North Carolina at Charlotte
Myrtle W. Clark
University of Kentucky
Financial Accounting Theory & Analysis: Text and Cases

Solutions Manual, Chapter 2 Page 1
Full file at https://TestBanksCafe.eu/
Jack M. Cathey
University of North Carolina at Charlotte
CHAPTER 2
Case 2-1
a. The FASB's conceptual framework study should provide benefits to the accounting
community such as:
1. Guiding the FASB in establishing accounting standards on a consistent basis.
2. Determining bounds for judgment in preparing financial statements by prescribing the

nature, functions, and limits of financial accounting and reporting.
3. Increasing users understanding of and confidence in financial reporting.
b. The two fundamental qualities that make accounting information useful for
decision making are relevance and faithful representation.
Relevant financial information is capable of making a difference in the decisions made
by users. Financial information is capable of making a difference in decisions if it has
predictive value and confirmatory value and is material. Financial information has
predictive value if it can be used as an input to processes employed by users to predict
future outcomes. Financial information has confirmatory value if it provides feedback
(confirms or changes) about previous evaluations. Information is material if omitting it or
misstating it could influence decisions that users make on the basis of the financial
information of a specific reporting entity. In other words, materiality is an entity-specific
aspect of relevance based on the nature or magnitude or both of the items to which the
information relates in the context of an individual entity’s financial report. Consequently,
the FASB was not able to specify a uniform quantitative threshold for materiality or
predetermine what could be material in a particular situation.
Financial reports represent economic phenomena in words and numbers. To be useful,

financial information not only must represent relevant phenomena but also must faithfully
represent the phenomena that it purports to represent. A perfectly faithful representation
has three characteristics: completeness, neutrality, and free from error. Although
perfection is difficult or even impossible to achieve, the objective is to maximize those
qualities to the extent possible.
A complete depiction should include all information necessary for a user to understand
the phenomenon being depicted. For some items, a complete depiction also might entail

explanations of significant facts about the quality and nature of the items, factors, and
circumstances that might affect their quality and nature and the process used to
determine the numerical depiction. A neutral depiction is without bias in the selection or
presentation of financial information. A neutral depiction is not slanted, weighted,
emphasized, deemphasized, or otherwise manipulated to increase the probability that
financial information will be received favorably or unfavorably by users. Neutral
information does not mean information with no purpose or no influence on behavior. On
the contrary, relevant financial information is, by definition, capable of making a
difference in users’ decisions. Free from error means there are no errors or omissions in
the description of the phenomenon, and the process used to produce the reported
information has been selected and applied with no errors in the process. Information that
is free from error will result in a more faithful representation of financial results.
Comparability, verifiability, timeliness, and understandability are the qualitative
characteristics that enhance the usefulness of information that is relevant and faithfully
represented. Comparability is the qualitative characteristic that enables users to identify
and understand similarities in, and differences among, items. Consistency refers to the
use of the same methods for the same items, either from period to period within a
reporting entity or in a single period across entities. Comparability is the goal;
consistency helps to achieve that goal.
Verifiability helps assure users that information faithfully represents the economic
phenomena it purports to represent. Verifiability means that different knowledgeable and
independent observers could reach consensus, although not necessarily complete
agreement, that a particular depiction is a faithful representation. Quantified information
need not be a single point estimate to be verifiable. A range of possible amounts and the
related probabilities also can be verified.
Timeliness means having information available to decision makers in time to be capable

of influencing their decisions. Generally, the older the information is, the less useful it is.
However, some information can continue to be timely long after the end of a reporting
period because, for example, some users might need to identify and assess trends.
Understandabilityinvolves classifying, characterizing, and presenting information clearly
and concisely.
Case 2-2.
a. i. The Conceptual Framework Project is an attempt by the FASB to develop concepts

useful in guiding the board in establishing standards and in providing a frame of
reference for resolving accounting issues. Over the years this project first attempted
to develop principles or broad qualitative standards to permit the making of
systematic rational choices among alternative methods of financial reporting.
Subsequently the project focused on how well these overall objectives could be
achieved. The FASB has stated that it intends the Conceptual Framework Project to
be viewed not as a package of solutions to problems but rather as a common basis
for identifying and discussing issues, for asking relevant questions, and for
suggesting avenues for research. The Conceptual Framework Project has resulted in
the issuance of eight statements of Financial Accounting Concepts that impact upon
financial accounting: No.1-Objectives of Financial Reporting by Business Enterprises
(superseded); No.2-Qualitative Characteristics of Accounting Information
(Superseded); No.3-Elements of Financial Statements of Business Enterprises

(Superseded); No.5-Recognition and Measurement in Financial Statements of

Business Enterprises; No.6-Elements of Financial Statements;” No. 7-“Using Cash
Flow Information and Present Value in Accounting Measurements” and No. 8
“Conceptual Framework for Financial Reporting (Chapters 1 & 3).
ii. The FASB has been criticized for failing to provide timely guidance on emerging
implementation and practice problems. During 1984 the FASB attempted to respond
to this criticism by (1) establishing a task force to assist in identifying issues and
problems that might require action, the Emerging Issues Task Force, and (2)
expanding the scope of the FASB Technical Bulletins in an effort to offer quicker
guidance on a wider variety of issues.
Emerging issues arise because of new types of transactions, variations in accounting for
existing types of transactions, new types of securities, and new products and services.
They frequently involve the company's desire to achieve "off balance sheet" financing or
"off income statement" accounting.
The Emerging Issues Task Force was formed to assist the FASB in issuing timely
guidance on these emerging issues. That is, the task force's responsibility is to identify
emerging issues as they develop, investigate and review them, and finally to advise the
board whether the issue merits its attention.
The members of the task force all occupy positions that make them aware of emerging
issues. The current members include the directors of accounting and auditing from 11
public accounting firms (including all of the "Big Four"), two representatives from the
Financial Executives Institute, one from the National Association of Accountants and the
Business Roundtable, and the FASB's Director of Research who serves as Chairman.
b. The Financial Accounting Standards Board, the Securities and Exchange Commission,
and the American Institute of Certified Public Accountants have been criticized for
imposing too many accounting standards on the business community. The Standards
overload problem has been particularly burdensome on small businesses that do not
have the necessary economic resources to research and apply all of the
pronouncements issued by these sources Those who contend that there is a standards
overload problem base their arguments on two allegations.
1. Not all GAAP requirements arc relevant to small business financial reporting needs.

2. Even when they are relevant, they frequently violate the pervasive cost benefit
constraint.
Critics of the standard-setting process for small business also assert that GAAP were
developed primary to serve the needs of the securities market. Many small businesses
do not raise capital in these markets therefore, it is contended that GAAP were not
developed with small business needs in mind.
Some of the consequences of the standards overload problem to small business are as
follows.
1. If a small business omits a GAAP requirement from audited financial statements, a

qualified or adverse opinion may be rendered.
2. The cost of complying with GAAP requirements may cause a small business to forgo
the development of other, more relevant information.
3. Small CPA firms that audit smaller companies must keep up to date on all of the
same requirements as large international firms, but cannot afford the specialists that
are available on a centralized basis in the large firms.
Many accountants have argued for differential disclosure standards as a solution to the
standards overload problem. That is, standards might be divided into two groups. One
group would apply to business regardless of size. The second group would be applied
selectively only to large businesses, small businesses, or particular industries. For
example, the disclosure of significant accounting policies would pertain to all businesses,
whereas a differential disclosure such as earnings per share would be applicable only to
large businesses.
Case 2-3
b. Quantitative data are helpful in making rational economic decisions. Stated

differently, quantitative data aid the decision maker in making choices among
alternatives, so that the actions are correctly related to consequences.
c. i. ASOBAT defined accounting as “the process of identifying, measuring, and

communicating economic information to permit informed judgments and decision by
users of the information.” Both this definition and Sprouse and Moonitz believe that
communicating information is helpful for users to make rational decisions and
informed judgments’.

ii. Similarly, SFAC No. 8 states that accounting information should be useful for
investment decision-making. The user should be able to use accounting information
to make decisions about investing in a company.
Case 2-4
a. In describing continuity, Sprouse and Moonitz stated that in the absence of evidence to
the contrary, the entity should be viewed as remaining in operation indefinitely. In the
presence of evidence that the entity has a limited life, it should not be viewed as
remaining in operation indefinitely.
b. No. Since a business is presumed to continue indefinitely, the value relevant to a

purchaser is fair market value. This value measures the present value of future cash
flows to the buyer. It is relevant for the buyer because the buyer presumes that the
business will continue and thus will generate those future cash flows.
c. No. A bankruptcy provides evidence that the business is not expected to remain in
operation indefinitely. In this case, the assets that are reported in the company’s
balance sheet should be measured at net realizable value.
Case 2-5
a. SFAC No. 6 defines assets as “probable future economic benefits obtained or controlled
by a particular entity as a result of past transactions or events.” If your company is using
a building to produce automobiles, the probable future economic benefit is the expected
inflow of resources from the sales of automobiles. This benefit accrues to the company
who may then use them, if it wishes, to make more automobiles. The prior transaction
that caused the asset to exist is the acquisition of the building.
b. In this case, the probable future economic benefit is the net realizable value that the
company will receive when it sells the building. Again, the acquisition of the building is
the result of a prior transaction or event.

c. In this case, the probable future economic benefit is the inflow of resources that will
eventually flow into the company when it produces the automobiles. The transaction
that caused the asset to exist was the acquisition of the building.
Case 2-6
a. Employees meet the definition of an asset. An asset has three essential characteristics:
(a) it embodies a probable future benefit that involves a capacity, singly or in
combination with other assets, to contribute directly or indirectly to future net cash
inflows, (b) a particular entity can obtain the benefit and control others' access to it, and
(c) the transaction or other event giving rise to the entity's right to or control of the benefit
has already occurred. Employees embody a probable future benefit that will contribute to
future net cash flows. They will work so that the company can have revenues. The
company will benefit because they control what the employees do on the job.
Employment of the employees gave rise to the entity’s right to control the benefit.
b. No. According to SFAC No. 5, to report an asset in the balance sheet, it not only must
meet the definition of an asset, but it must be capable of being measured.
c. i. The value would be more relevant because it would measure the expected future
cash flows that the employees would be expected to generate. It would be less
reliable because there is no precise method to measure the value of human capital. It
can only be estimated. Therefore two measurements made by two different
measurers are unlikely to be the same.
ii. Yes. Representational faithfulness means that the items in the balance reflect what
they purport to be. If human capital is an asset then reporting its estimated value
would reflect the value of that asset and would as a result provide representational
faithfulness.
Case 2-7
a. According to SFAC No. 7 the bonds are distinguished by the uncertainty of their future
cash flows. The bonds would sell at the present value of their future cash flows,
discounted at the market rate of interest. The company with the better credit rating
would yield a lower market rate, assuming that the stated rates for both companies are
the same. So, if the stated rates are the same, Company A’s bond might be more
valuable it its credit rating were better than Company B’s.

b. If both companies have the same credit rating, then the one reason that Company A’s
bond would have a higher market value than would Company B’s bond would be that
Company A’s bond has a shorter term than Company B’s bond. If they both have the
same term, then Company A’s bond would sell for more than Company B’s bond if
Company A were offering a higher stated interest rate.
FASB ASC
FASB ASC 2-1 Use of Present Value
The information on present value is contained in the FASB ASC at FASB ASC 820-10-
55. It can be accessed through the glossary.
FASB ASC 2-2
Search conceptual framework
Found under 605 Revenue Recognition

10 Overall
S99 SEC Materials
FASB ASC 2-3
Search decision maker
10 hits

FASB ASC 2-4
Search understandability
Found under 715 compensation—Retirement Benefits > 10 Overall > 10 Objectives
FASB ASC 2-5
Search relevance – 15 hits
FASB ASC 2-6
Search recognition and measurement-over 70 hits
FASB ASC 2-7
Reporting Comprehensive Income is contained in sections FASB ASC 220-10. It is

found by searching comprehensive income.
FASB ASC 2-8
Search present value-over 100 hits
Room for Debate
Debate 2-1

Team 1: Arguments for capitalization of boxes.
1. Objectives of financial reporting
Decision usefulness requires that companies report the status of enterprise resources.
The boxes provide future service potential. As such, they meet the definition of an asset
found in SFAC No. 6. Hence, they are a resource that should be reported.
2. Definition of assets
SFAC No. 6 defines assets as probable future economic benefits obtained or controlled
by a particular entity as a result of past transactions or events.
The boxes are assets. They will provide future economic benefits for a particular entity
(Roper Co). The company will use them for at least 10 years. They result from past
transaction - a purchase.
3. Qualitative Characteristics
Relevance
Capitalization is relevant because it provides information about outcomes of past

transactions or events. The user is informed that the boxes are assets. They were
purchased by the company, and the company intends to use them over an extended
period of time. Hence their cost is not a current period expense.
Faithfull Representation
Capitalization provides reliability. Because the boxes will be used over an extended
period of time, they meet the definition of an asset found in SFAC No. 6. Hence,
capitalization presents the economic facts and provides information that is
representationally faithful. If they are assets, they should be reported as such, rather

than expensed, a representation that would not report them as they purport to be. Also,
capitalization of the cost would be neutral because it would provide an unbiased
representation of the economic substance of the purchase transaction.
Team 2 Arguments against the capitalization of the boxes.
1. Materiality
Materiality is the threshold for recognition. When the dollar amount is small, the
particular accounting treatment will not affect the decisions of an informed user. In this
case, the cost of boxes is clearly immaterial, implying that they need not be capitalized
as assets.
2. Cost Constraint
The benefits derived from capitalization should exceed the cost of capitalization. Since
the cost of the boxes is not material, capitalization would not provide sufficient benefit, in
terms of decision usefulness, to warrant this accounting treatment. Capitalization would
require depreciation over the useful life of the boxes. This would require adjusting
entries for a ten-year period. The amount of depreciation reported each period would be
trivial and would have essentially no effect on earnings. Hence, the cost of the
bookkeeping effort would be greater than the benefits, if any, derived.
3. Objectives of financial reporting
The primary objective of financial reporting is decision usefulness. Accounting

information should provide information that is useful to investors, creditors and other
users in making decisions regarding investing, lending, etc. This implies that accounting
information is relevant to the decision-maker. Even though the boxes will last 10 years,
the cost is immaterial and hence irrelevant.
4. Qualitative Characteristics of accounting information

Relevance
As stated above, relevance means that the information provided will make a difference in
the decisions of investors, creditors and other users. The expenditure is immaterial and
as such, the accounting treatment is irrelevant, and capitalization is irrelevant.
Debate 2-2 The need for a universally accepted theory of accounting

Team 1:
A universally accepted theory of accounting is needed for the development of internally
consistent accounting principles. Accounting practices have developed in response to
changing economic conditions and, in some cases, in response to what are perceived as
crises. For example, SFAS No. 114, was prompted to inconsistent practices of reporting
impaired loans, and SFAS No. 94 was prompted by off-balance sheet recognition of
lease liabilities. This piece-meal, reactionary approach to accounting has resulted in
standards that are not only internally inconsistent, but are also inconsistent with
international standards.
A theory of accounting would provide a common basis for identifying and discussing
issues. This is the goal of the FASB’s conceptual framework project. Such a theory
could be used to help narrow the number of accounting choices currently available to
management, thereby reducing management’s ability to manipulate financial statements
to suit their personal, or company goals. As such, it could help guide the development of
neutral standards, which aids in the allocation of scarce resources and the efficient
functioning of capital markets
In addition to helping reduce managerial bias in reporting results of operations and

financial position, a universally accepted theory of accounting could serve to reduce
personal biases in the standard setting process itself. Reliance on such a theory could
result in the development of those standards that are consistent with the theory itself.
A universal theory of accounting would be consistent with the concepts-based approach

to accounting standards described by the American Accounting Association. A
universally accepted accounting theory could provide a basis for standard setting that
would satisfy the following.
1. Economic substance, not the form, of a given transaction should guide its financial
reporting.
2. The mapping between economic substance of a transaction and its financial
statement representation could be supported by a common theoretical basis, thereby

providing understandability and a common basis of comparison across companies

and over time.
Team 2:
To date, no standard setting body has developed a universally accepted theory of

accounting. An argument against a universal theory of accounting can be based on the
complexity of the phenomena that financial statements purport to represent. According
to SATTA, while there has been general agreement that the purpose of financial
accounting is to provide economic data about accounting entities, divergent theories
have emerged because of the way different theorists specified users of accounting data
and the environment. For example, users might be defined either as the owners of the
accounting entity or more broadly to include creditors, employees, regulatory agencies,
and the general public. Similarly, the environment might be specified as a single source
of information or as one of several sources of financial information.
SATTA discussed why none of the approaches to theory had gained general
acceptance, SATTA raised six issues.
1. The problem with relating theory to practice. The real world is much more complex
than the world specified in most accounting theories. For example, most theory
descriptions begin with unrealistic assumptions such as holding several variables
constant.
2. Allocation problem. Allocation is an arbitrary process. For example, the definition of
depreciation as a rational and systematic method of allocation has led to a variety of
interpretations of these terms.
3. The difficulty with normative standards. Normative standards are desired states;
however, different users of accounting information have different desired states. As a
result, no set of standards can satisfy all users.
4. The difficulties in interpreting security price behavior research. Market studies (such
as the efficient market studies discussed in Chapter 4) attempt to determine how users
employ accounting numbers. These studies have attempted to control for all variables
except the one of interest, but there have been disagreements over whether their
research designs have actually accomplished this goal.
5. The problem cost-benefit considerations accounting theories. A basic assumption of
accounting is that the benefits derived from adopting a particular accounting alternative
exceed its costs. However, most existing theories do no indicate how to measure
benefits and costs.
6. Limitations of data expansion. At the time SATTA was published, a view was
emerging that more information is preferable than less. Subsequent research has
indicated that users have a limited ability to process accounting information. (The issue
of information processing is discussed in Chapter 4.)

The FASB’s conceptual framework project (CPF) cannot be viewed as a universally

accepted theory of accounting, nor does the FASB purport that it is. The FASB intends
the CFP to be viewed not as a package of solutions to problems but rather as a common
basis for identifying and discussing issues. For example, SFAC Nos. 1 and 2 can be
described as the goals to guide practice. It does not even directly affect practice.
Rather, the SFACs affect practice only by means of their influence on the development
of new accounting standards.
So, rather than a universally accepted theory of accounting, we have settled for the CFP,
which does not provide all the answers, but has been relied upon to aid the standard-
setting process. And, it has provided a basis to narrow alternatives and to eliminate
those that are inconsistent with it. It also is used to guide the development of neutral
standards, which aids in the allocation of scarce resources and the efficient function of
capital markets
In other words we can operate with concept-based accounting standards by relying upon
the CFP rather than a universally accepted theory of accounting. The CFP has been
criticized and will evolve to address criticism from the SEC that the objectives of the
standards that are derived from it need to be more clearly defined, implementation
guidance needs to be improved, scope exceptions need to be reduced and the asset-
liability approach to standard setting should be retained
WWW
Case 2-8
The conceptual framework contains three levels. The apex, the first level, identifies the
objective of financial reporting —that is, the purpose of financial reporting. The
second level outlines the fundamentals, which are the qualitativecharacteristics that
make accounting information useful, and the elements offinancial statements (assets,
liabilities, and so on). The third level identifies the implementation guidelines of
recognition, measurement, and disclosure used in establishing and applying
accounting standards and the specific concepts to put into practice the objective. These
guidelines include the assumptions, principles, and constraints that describe the present
reporting environment.
Case 2-9
The qualitative characteristics of accounting information are:
Primary Users

The primary users of financial information are existing or potential investors, lenders,
and other creditors, that is, its capital providers.
Cost Constraint
Cost is described in SFAC No. 8 as a pervasive constraint on the information that can be
provided by financial reporting. The measurement, summarization, and reporting of
financial information imposes costs, and it is important that those costs are justified by
the benefits of reporting that information.
Qualitative Characteristics
The qualitative characteristics are described in Chapter 3 of SFAC No. 8 and distinguish
between better (more useful) information and inferior (less useful) information. These
qualitative characteristics are either fundamental or enhancing characteristics,
depending on how they affect the decision usefulness of information. The two
fundamental qualities that make accounting information useful for decision making
are relevance and faithful representation.
Case 2-10
The answer to this case requires a visit to the FASB’s home page at the time it is
assigned.
Case 2-11
assigned.
Case 2-12
assigned.

Case 2-13
During the early 2000s, the FASB noted that concerns were being expressed about the
quality and transparency of accounting information. One of the main concerns was the
increasing complexity of FASB standards. The Board concluded that much of the detail
and complexity associated with accounting standards was the result of rule-driven
implementation guidance, which allows “accounting engineering” to get around the rules
thereby allowing companies to circumvent the intent and spirit of the standards.
Additionally, the FASB noted that its Conceptual Framework has not provided all of the
necessary tools for resolving accounting problems. This deficiency was attributed to the
fact the certain aspects of the Conceptual Framework are internally inconsistent and
incomplete. As a result, the Board is considering the need to develop an overall
reporting framework similar to International Accounting Standard No. 1. Such a
framework would provide guidance on issues such as materiality assessments, going
concern assessments, professional judgment, consistency and comparability. It would
also allow few, if any, exceptions and fewer implementation guidelines.
To illustrate the difference between rules based and principles based standards, the
standard setting process can be viewed as a continuum ranging from highly rigid
standardson one end to general definitions of economics-based concepts on the other
end. For example, consider accounting for the intangible asset goodwill. An example of
the extremely rigid end of the continuum is the previously acceptable practice:
Goodwill is to be amortized over a 40 year life until it is fully amortized.
This requirement leaves no room for judgment or disagreement about the amount of
amortization expense to be recognized. Comparability and consistency across firms and
through time is virtually assured under such a rule. However, the requirement lacks
relevance because it does not reflect the underlying economics of the reporting entity,
which differ across firms and through time.
At the opposite end of the continuum is the FASB’s new rule:

Goodwill is not amortized. Any recorded goodwill is to be tested for impairment
and if impaired, written down to its current fair value on an annual basis.
This requirement necessitates the application of judgment and expertise by both
managers and auditors. The goal is to record the economic deterioration of the asset,
goodwill
Case 2-14
At a joint meeting in Norwalk, Connecticut, on September 18, 2002, the FASB and the
IASB both acknowledged their commitment to the development of high-quality,
compatible accounting standards that could be used for both domestic and cross-border
financial reporting (the Norwalk Agreement). The two boards pledged to use their best
efforts to (1) make their existing financial reporting standards fully compatible as soon as
is practicable and (2) coordinate their future work programs to ensure that once it is

achieved, compatibility is maintained. The international convergence project has three

major aspects: (1) the Financial Statement Presentation Project, (2) the Conceptual
Framework Project, and (3) the Standards Update Project.
Case 2-15
The purpose of the financial statement presentation project is to establish a standard

that will guide the organization and presentation of information in the financial
statements. The boards’ goal is to improve the usefulness of the information provided in
an entity’s financial statements to help users make decisions in their capacity as capital
providers Accordingly, as a part of the Norwalk Agreement, the FASB and IASB
committed to (1) undertake a short-term project aimed at removing a variety of individual
differences between U.S. GAAP and International Financial Reporting Standards
(IFRSs, discussed in Chapter 3; (2) remove other differences between IFRSs and U.S.
GAAP that remained on January 1, 2005, through coordination of their future work
programs; that is, through the mutual undertaking of discrete, substantial projects that
both boards would address concurrently; (3) continue progress on the joint projects that
they are currently undertaking; and (4) encourage their respective interpretative bodies
to coordinate their activities.
In April 2004, the FASB and IASB decided to combine their respective projects on the
reporting and classification of items of revenue, expense, gains, and losses. This project
was undertaken to establish a common, high-quality standard for the presentation of
information in financial statements, including the classification and display of line items
and the aggregation of line items into subtotals and totals. The goal is to present
information in individual financial statements (and among financial statements) in ways
that improve the ability of investors, creditors, and other financial statement users to
1. Understand an entity’s present and past financial position
2. Understand the past operating, financing, and other activities that caused an entity’s
financial position to change and the components of those changes
3. Use that financial statement information, along with information from other sources,
to assess the amounts, timing, and uncertainty of an entity’s future cash flows
The project is being conducted in three phases. Phase A addresses what constitutes a
complete set of financial statements and requirements to present comparative
information.
Phase B addresses the more-fundamental issues for presentation of information on the
face of the financial statements, including
1. Developing principles for aggregating and disaggregating information in each
financial statement
2. Defining the totals and subtotals to be reported in each financial statement (which
might include categories such as business and financing)
3. Deciding whether components of other comprehensive income/other recognized
income and expense should be recycled to profit or loss and, if so, the characteristics
of the transactions and events that should be recycled and when recycling should
occur
4. Reconsidering SFAS No. 95, “Statement of Cash Flows,” and IAS 7, Cash Flow
Statements, including whether to require the use of the direct or indirect method

Some preliminary decisions regarding the presentation of the financial statements have
been published by the FASB. These decisions are discussed and illustrated in Chapters
6 and 7.
Phase C addresses the presentation and display of interim financial information in U.S.
GAAP, including
1. Which financial statements, if any, should be required to be presented in an interim
financial report
2. Whether financial statements required in an interim financial report should be
allowed to be presented in a condensed format, and if so, whether guidance should
be provided related to how the information may be condensed
3. What comparative periods, if any, should be required to be allowed in interim
financial reports and when, if ever, should twelve month-to-date financial statements
be required or allowed to be presented in interim financial reports
4. Whether guidance for nonpublic companies should differ from guidance for public
companies
The boards completed their deliberations on Phase A in December 2005. On March 16,
2006, the IASB published its Phase A exposure draft, “Proposed Amendments to IAS 1
Presentation of Financial Statements: A Revised Presentation.” The FASB decided to
consider phases A and B issues together and therefore did not publish an exposure draft
on phase A. After considering the responses to its exposure draft, the IASB issued a
revised version of IAS No. 1 in September 2007 Chapter 3for a discussion of IAS No. 1).
The revisions to IAS No. 1 affected the presentation of changes in equity and the
presentation of comprehensive income, bringing IAS No. 1 largely into line with FASB
Statement No. 130, Reporting Comprehensive Income (FASB ASC 220).
In February 2006, the two boards reaffirmed their commitment to the process of
convergence in a Memorandum of Understanding (MoU) and voiced the shared
objective of developing high-quality, common accounting standards for use in the world’s
capital markets. The MoU outlines a road map for eliminating the reconciliation
requirement for non-U.S. companies that use IFRSs and are registered in the United
States (discussed in Chapter 3). The MoU maintains that trying to eliminate differences
between standards is not the best use of resources; rather, new common standards
should be developed. Convergence will proceed as follows: First, the boards will reach a
conclusion about whether major differences in focused areas should be eliminated
through one or more short-term standard-setting projects, and, if so, the goal was to
complete or substantially complete work in those areas by 2008. Second, the FASB and
the IASB will seek to make continued progress in other areas identified by both boards
where accounting practices under U.S. GAAP and IFRSs are regarded as candidates for
improvement.
In November 2009 the IASB and the FASB published a progress report describing their
plans for completing the major projects on the MoU. This plan included milestone targets
for each project. To provide transparency and accountability regarding those milestones,
the two boards committed to reporting quarterly on the progress on convergence
projects and to making those reports available on their respective websites. Additionally,
they committed to hosting monthly joint board meetings and to provide quarterly updates
on their progress on convergence projects. These milestones are discussed within their
topic areas throughout the text.
In an effort to comply with the goals of the Norwalk Agreement, the FASB issued four

new statements to bring U.S. GAAP into consistency with IFRSs (SFAS No.151
(superseded), SFAS No. 153 (superseded), SFAS No. 154 (FASB ASC 250-10), and
SFAS No. 163 (FASB ASC 944). Additionally, it issued a revised SFAS No. 141 (FASB
ASC 805). The IASB published new standards on borrowing costs (IAS No. 23 revised)
and segment reporting (IFRS No. 8).
Phase B is being conducted with the following principles in mind:

Financial statements should present information in a manner that
1. Portrays a cohesive financial picture of an entity
2. Separates an entity’s financing activities from its business and other activities
3. Helps a user access the liquidity of an entity’s assets and liabilities
4. Disaggregates line items if that disaggregation enhances the usefulness of that
information in predicting future cash flows
5. Helps a user understand
 how assets and liabilities are measured.
 the uncertainty and subjectivity in measurements of individual assets and
liabilities.
 what causes a change in reported amounts of individual assets and liabilities.
The project has adopted cohesiveness as a standard for assessing its ability to attain
these principles. That is, each financial statement should contain the same sections and
categories, and the classification of assets and liabilities will drive the classification of the
related changes in the statement of cash flows and comprehensive income statements.
This process is expected to obtain more clarity in the relationships between statements
and to facilitate financial analysis.
The Statements of Comprehensive Income, Financial Position, and Cash Flows will each
contain a Business Section that reports operating activities and investing activities of the
specific statement. For example, in the Statement of Comprehensive Income, the
Business Section will contain operating income and expenses as well as investing
income and expenses; in the Statement of Financial Position, the Business Section will
report operating assets and liabilities and investing assets and liabilities. In addition to
the Business Section, in three of the four statements (excluding the Changes in Equity
Statement), a Financing Section is provided as well as a section on taxes and
discontinued operations (net of taxes). Each financial statement will contain the two
primary sections business and financing. The following guidelines were adopted for
displaying the items in each section:
1. The business section should have two defined categories: operating and investing.
These categories require an entity to make a distinction between business activities
that are part of an entity’s day-to-day business activities (and the business activity
generates revenue through a process that requires the interrelated use of the net
resources of the entity) (operating category) and business activities that generate
nonrevenue income (and no significant synergies are created from combining
assets) (investing category).
2. The financing section will include items that are part of an entity’s activities to
obtain (or repay) capital and consist of two categories: debt and equity (a change
from their decisions in September).
a. The debt category will include liabilities where the nature of those liabilities is a
borrowing arrangement entered into for the purpose of raising (or repaying)
capital.
b. The equity category will include equity as defined in either IFRS or U.S. GAAP.

Case 2-16
In October 2004, the FASB and IASB decided to add to their agendas a joint project to
develop an improved and common conceptual framework that is based on and builds on
their existing frameworks; that is, the IASB’s Framework for the Preparation and
Presentation of Financial Statements and the FASB’s Conceptual Framework Project
(CFP). The goal of this project is to create a sound foundation for future accounting
standards that are principles based, internally consistent, and internationally converged.
The boards also intend to improve some parts of the existing frameworks, such as
recognition and measurement, as well as to fill some gaps in the frameworks. For
example, neither framework includes a robust concept of a reporting entity.
The project
1. Focuses on changes in the environment since the original frameworks were issued,
as well as omissions in the original frameworks, to efficiently and effectively improve,
complete, and converge the existing frameworks.
2. Gives priority to addressing and deliberating those issues within each phase that are
likely to yield benefits to the boards in the short term; that is, crosscutting issues that
affect a number of their projects for new or revised standards. Thus work on several
phases of the project will be conducted simultaneously, and the boards expect to
benefit from work being conducted on other projects.
3. Initially considers concepts applicable to private-sector business entities. Later, the
boards will jointly consider the applicability of those concepts to private sector not-
for-profit organizations. Representatives of public sector (government) standard-
setting boards are monitoring the project and, in some cases, are considering what
the consequences of private sector deliberations might be for public-sector entities.
The project is being developed in eight phases and has resulted in the release of
Statement of Financial Accounting Concepts No. 8.
The objectives and summary of the decisions reached for each phase of the project at
the time this text was published are outlined in the following paragraphs.
Objectives and Qualitative Characteristics Phase
The aim of the Objectives and Qualitative Characteristics phase of Financial Reporting is
to consider the following issues:
 The objective of financial reporting
 The qualitative characteristics of financial reporting information
 The tradeoffs among qualitative characteristics and how they relate to the concepts
of materiality and cost–benefit relationships
As discussed above, in 2010, the FASB and IASB jointly published Chapters 1 and 3 of
the CFP as SFAC No. 8.
Definitions of Elements, Recognition and Derecognition Phase
The objectives of the Elements and Recognition phase are to refine and converge the
boards’ frameworks in the following manner:
1. Revise and clarify the definitions of asset and liability. The boards have agreed that
the FASB and IASB definitions of these elements have several shortcomings and
have tentatively agreed on the following working definitions:

a. An asset of an entity is a present economic resource to which the entity has a

right or other access that others do not have.
b. A liability of an entity is a present economic obligation for which the entity is the
obligor.
2. Resolve differences regarding other elements and their definitions. The FASB
Concepts Statements currently identify more elements than does the IASB
Framework, and the two frameworks define differently those elements that are
common. The boards’ approach will focus initially on converging and defining only
those key elements that are defined today in the FASB and IASB Frameworks.
Additionally, the boards will need to consider how to define elements that are not
currently defined, such as comprehensive income.
3. Revise the recognition criteria concepts to eliminate differences and provide a basis
for resolving issues such as derecognition and unit of account. Each board’s current
framework describes specific recognition criteria, some of which are similar and
some of which are different. Neither board’s frameworks contain criteria to determine
when an item should be derecognized. The boards plan to revise their recognition
criteria concepts to eliminate those differences and provide a framework for resolving
derecognition issues. The boards’ current frameworks provide little or no guidance
on how the unit of account should be determined. Although a discussion paper was
expected to be issued in late 2010, it was not forthcoming at the time this text was
published, and the project is currently inactive.
Measurement Phase
The objective of the Measurement phase is to provide guidance for selecting
measurement bases that satisfy the objectives and qualitative characteristics of financial
reporting. It consists of the following milestones:
 Milestone I will inventory and defines a list of measurement basis candidates that
might be used as a basis for measurement on financial statements.
 Milestone II will evaluate the basis candidates identified in Milestone I.
 Milestone III will draw conceptual conclusions from Milestones I and II, while
addressing practical issues.

During its deliberations of Milestone I, the boards addressed the following five issues:
1. What are the measurement basis candidates? The boards agreed to a list of nine
candidates: past entry price, past exit price, modified past amount, current entry
price, current exit price, current equilibrium price, value in use, future entry price, and
future exit price.
2. How are the measurement bases defined? The boards agreed to provide two
definitions for each candidate—one from the perspective of an asset and one from
the perspective of a liability. They further decided to focus on the concepts behind
entry and exit prices, without respect to the way they are measured.
3. What are the basic properties of the measurement bases? The boards
concluded that most candidates are either prices or values and that each candidate
provides information primarily about a specific time frame.
4. Are the measurement issues appropriate for both assets and liabilities? The
boards concluded that all the candidates were appropriate for use with assets and
liabilities.
5. Should any measurement basis candidates be eliminated from consideration
for evaluation in Milestone II? The boards agreed not to eliminate any of the nine
candidates identified at the end of Milestone I. However, they did eliminate some
other candidates in the earlier stages of Milestone I deliberations.

Although a discussion paper was expected to be issued in late 2010, it was not
forthcoming at the time this text was published, and the project is currently inactive.
Reporting Entity Concept Phase
The objective of the Reporting Entity phase is to determine what constitutes a reporting
entity for the purposes of financial reporting.
On March 11, 2010, the boards issued an exposure draft titled Conceptual Framework
for Financial Reporting: The Reporting Entity (ED). This document notes that the
objective of general-purpose financial reporting is to provide financial information about
reporting entities that is useful in making decisions about providing resources to the
entity and in assessing whether the management and the corporate officers of that entity
have made efficient and effective use of the resources provided. The ED defines a
reporting entity as a circumscribed area of economic activities whose financial
information has the potential to be useful to existing and potential equity investors,
lenders, and other creditors who cannot directly obtain the information they need in
making decisions about providing resources to the entity and in assessing whether
management and the corporate officers of that entity have made efficient and effective
use of the resources provided.
The ED noted that a reporting entity has three features:

1. Economic activities of an entity are being conducted, have been conducted, or will be
conducted.
2. Those economic activities can be objectively distinguished from those of other
entities and from the economic environment in which the entity exists.
3. Financial information about the economic activities of that entity has the potential to
be useful in making decisions about providing resources to the entity and in
assessing whether the management has made efficient and effective use of the
resources provided.
As a result, identifying a reporting entity in a specific situation requires consideration of
the boundary of the economic activities that are being conducted, have been conducted,
or will be conducted. The existence of a legal entity is neither necessary nor sufficient to
identify a reporting entity. A reporting entity can include more than one entity, or it can be
a portion of a single entity.
The ED also notes a single legal entity that conducts economic activities and does not
control any other entity is likely to qualify as a reporting entity and that most, if not all,
legal entities have the potential to be reporting entities. However, a single legal entity
may not qualify as a reporting entity if, for example, its economic activities are
commingled with the economic activities of another entity and there is no basis for
objectively distinguishing their activities. But a portion of an entity could qualify as a
reporting entity if the economic activities of that portion can be distinguished objectively
from the rest of the entity and financial information about that portion of the entity has the
potential to be useful in making decisions about providing resources to that portion of the
entity. For example, a potential equity investor could be considering a purchase of a
branch or division of an entity. Comments on this exposure draft were to be received by
July 11, 2010.
During its November 19, 2010 Joint Board Meeting, the Boards discussed some of the
issues raised in comment letters on the ED and concluded that significant time will be
required to satisfactorily address those issues. Owing to the priority placed on other
projects, the Boards concluded that they could not devote the time necessary to properly

address those issues in the near future. The FASB and IASB discussed some of the
issues raised in the comment letters on the Exposure Draft and concluded that
significant time would be required to satisfactorily address those issues. Because of the
priority placed on other projects, the Boards concluded that they could not devote the
time necessary to properly address those issues in the near future, and the project is
currently inactive
Boundaries of Financial Reporting, and Presentation and Disclosure Phase
An objective of the Presentation and Disclosure, including Financial Reporting
Boundaries, phase is to determine the concepts underlying the display and disclosure of
financial information and to identify the boundaries of such information that will achieve
the objective of general-purpose financial reporting. This phase is currently inactive. The
boards have not yet deliberated or made decisions regarding concepts for financial
presentation and disclosure of financial information.
Purpose and Status of the Framework Phase
The objective of the Purpose and Status of the Framework phase is to consider the
framework’s authoritative status in the GAAP hierarchy. The goal is to develop a
framework that is of comparable authority for the use of both boards in the standard-
setting process.
At present, there are differences in the status of the boards’ existing frameworks. For an
entity preparing financial statements under International Financial Reporting Standards,
the IASB’s Framework provides guidance when there is no standard or interpretation
that specifically applies to a transaction or other event or condition, or that deals with a
similar and related issue. In those situations, the entity’s management is required to
consider the definitions, recognition criteria, and measurement concepts for assets,
liabilities, income, and expenses in the Framework. Under U.S. GAAP, the FASB’s
Concepts Statements have a much lower status—they are ranked no higher than
accounting textbooks, handbooks, and articles and are ranked below widely recognized
and prevalent general or industry practices.
The FASB has decided that the authoritative status of the framework within the U.S.
GAAP hierarchy should be considered once the framework is more substantially
complete. However, for the purposes of providing comments on documents issued by
the boards, respondents will be asked to assume that the framework’s authoritative
status will be elevated in the U.S. GAAP hierarchy to have a status comparable to the
IASB’s current Framework.
The FASB and the IASB agreed that each board, within the context of its current GAAP
hierarchy, will finalize the common framework as parts are completed and that later parts
may include consequential amendments to earlier parts. The boards noted that the
decision of how to finalize the joint framework might need to be readdressed when the
boards discuss the placement of the framework within the IASB and FASB hierarchies.
This phase of the Conceptual Framework Project is currently inactive.
Application of the Framework to Not-for-Profit Entities Phase
The objective of this phase of the Conceptual Framework Project is to consider the
applicability of the concepts developed in earlier phases to not-for-profit entities in the
private sector. This phase is currently inactive. The boards have not yet deliberated or
made decisions regarding the applicability of particular concepts to not-for-profit entities.
Remaining Issues, If Any, Phase

The objective of the Remaining Issues phase is to consider remaining issues that have
not been addressed by the previous seven phases. This phase is currently inactive. The
boards will not deliberate or make decisions regarding final issues until the first seven
phases are complete.
Standards Update Project
The FASB and IASB are also working on a number of individual standard issues, such
as discontinued operation, financial instruments, fair value measurements,
comprehensive income, consolidations, leases, revenue recognition, earnings per share,
income taxes, and postretirement benefits. The overall objective of the standards update
project is to make FASB and IASB standards more comparable.
In April 2011, the FASB and IASB issued a joint statement on the progress archived in
the standards update program. The boards reaffirmed the changes made to the work
plan in June 2010 to allow broad-based and effective stakeholder outreach, which they
believe is critical to the quality of the standards. That plan gave priority to the major MoU
projects for which they believed the need for improvement of IFRSs and U.S. GAAP is
the most urgent. Those priority projects include the joint projects on financial
instruments, revenue recognition, leasing, insurance contracts, the presentation of other
comprehensive income, fair value measurement, and the consolidation of investment
companies. In addition, the IASB also assigned priority to improved disclosures about
derecognized assets and other off–balance sheet risks (aligning with recently issued
U.S. GAAP requirements) and consolidations (particularly in relation to structured
entities).
The boards also provided a report on the progress of their joint convergence work that
stated the FASB and the IASB have taken the following actions:
1. Completed five projects: The boards have reached important decisions on a

number of projects, reducing the number of remaining priority MoU projects to three
(revenue recognition, leasing, and financial instruments) for continued work.
Reflecting the completion of MoU projects, publication of standards that are
converged or substantially converged on fair value measurement, consolidated
financial statements (including disclosure of interests in other entities), joint
arrangements, other comprehensive income, and postemployment benefits was
expected in the near future.
2. Priority given to the remaining MoU areas and insurance accounting: In

November 2010 the boards decided to give priority to their joint work on three MoU
projects—financial instruments, revenue recognition and leases—and accounting for
insurance contracts in order to permit timely completion.
3. Extended the completion target beyond June 2011: At their meeting in April, the
boards extended the timetable for the remaining priority MoU convergence projects
and insurance beyond June 2011 to permit further work and consultation with

stakeholders. The boards revised their work plan to focus on completing the three
remaining priority convergence projects in the second half of 2011, in a manner
consistent with an open and inclusive due process. For insurance contracts, the
IASB planned to complete its project in the second half of 2011, and the FASB plans
to issue an exposure draft in a similar timeframe.
4. Agreed that the decisions that will be made on effective dates will give entities
sufficient time to implement changes: The boards have emphasized that they will
seteffective dates that will allow those who use IFRSs and U.S. GAAP adequate time
toprepare for implementation of the standards.
The boards also indicated that with the progress made since their last report, they are
approaching the completion of their MoU program. Specifically:
 The short-term projects identified for action in their 2006 MoU and updated 2008
MoU have been completed or are close to completion.
 Of the longer-term projects, only three of the priority convergence projects remain for
which the boards have yet to finalize the technical decisions—financial instruments,
revenue recognition and leasing.
Finally, the boards outlined the priority and timing of the remaining convergence work
indicating that in 2008 the boards set the target date of 30 June 2011 to finalize the MoU
projects. However, at their meeting in April 2011 the boards agreed that they will need to
spend additional time beyond June 2011 to complete this joint work. The boards stated
that they will use the additional time to consult those affected by the proposed changes
and work through concerns and issues being raised by stakeholders. Before each
standard is issued, the boards will consider
 whether reexposure is necessary; and

 whether they have undertaken sufficient outreach on the proposed standard to
assure the boards that the proposed standard is operational and will bring
improvements to financial reporting.
The optimism expressed in this communiqué was considerably dampened by

subsequent statements by FASB and IASB officials. In December 2011 the heads of the
U.S. and international accounting boards that have been working to resolve standards
differences agreed that their current convergence process should be replaced by one
that is more manageable and effective. Speaking at the AICPA National Conference on
Current SEC and PCAOB Developments, FASB Chair Leslie Seidman said that side-by-
side convergence is not the optimal model in the long run. She said FASB would like to
work with the IASB to complete the current priority convergence projects on revenue
recognition, leasing, financial instruments, and insurance. But she said indefinite
convergence is not a viable option, politically or practically.

Hans Hoogervorst, chair of the International Accounting Standards Board (IASB), spoke
immediately after Seidman at the conference and echoed her sentiments. Hoogervorst
said the IASB’s convergence history with FASB has been extremely useful in bringing
IFRS and U.S. GAAP closer together. But he said that two boards of independently
thinking professionals sometimes simply reach different conclusion.
Case 2-17
a. FASB’s Conceptual Framework should provide benefits to the accounting community

such as:
1. Guiding the FASB in establishing accounting standards on a consistent basis.
2. Determining bounds for judgment in preparing financial statements by prescribing the

nature, functions and limits of financial accounting and reporting.
3. Increasing users’ understanding of and confidence in financial reporting.
b. The most important quality for accounting information as usefulness for decision making.
Relevance and faithful representation are the primary qualities leading to this decision
usefulness. Usefulness is the most important quality because, without usefulness, there
would be no benefits from information to set against its costs.
c. There are a number of key characteristics or qualities that make accounting information
desirable. The importance of three of these characteristics or qualities is discussed
below.
Understandability—information provided by financial reporting should be comprehensible
to those who have a reasonable understanding of business and economic activities and
are willing to study the information with reasonable diligence. Financial information is a
tool and, like most tools, cannot be of much direct help to those who are unable or
unwilling to use it, or who misuse it.
Relevance—the accounting information is capable of making a difference in a decision

by helping users to form predictions about the outcomes of past, present, and future
events or to confirm or correct expectations (including is material).
Faithful representation—the faithful representation of a measure rests on whether the

numbers and descriptions matched what really existed or happened, including
completeness, neutrality, and free from error.
(Note to instructor: Other qualities might be discussed by the student, such as enhancing
qualities. All of these qualities are defined in the textbook).

Financial Analysis Case
The solutions to the financial analysis depend upon the company and year selected.


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What are the benefits of FASB's conceptual framework study according to the passage?

What are the benefits of FASB's conceptual framework study according to the passage?

What are the two fundamental qualities that make accounting information useful for decision making?

What are the two fundamental qualities that make accounting information useful for decision making?

Full file at https://TestBanksCafe.

Solution Manual for Financial

Financial Accounting Theory & Analysis: Text and Cases

1. Guiding the FASB in establishing accounting standards on a consistent basis.

2. Determining bounds for judgment in preparing financial statements by prescribing the

3. Increasing users understanding of and confidence in financial reporting.

Financial reports represent economic phenomena in words and numbers. To be useful,

Financial Accounting Theory & Analysis: Text and Cases

Timeliness means having information available to decision makers in time to be capable

a. i. The Conceptual Framework Project is an attempt by the FASB to develop concepts

Financial Accounting Theory & Analysis: Text and Cases

(Superseded); No.5-Recognition and Measurement in Financial Statements of

Financial Accounting Theory & Analysis: Text and Cases

1. If a small business omits a GAAP requirement from audited financial statements, a

b. Quantitative data are helpful in making rational economic decisions. Stated

c. i. ASOBAT defined accounting as “the process of identifying, measuring, and

Financial Accounting Theory & Analysis: Text and Cases

b. No. Since a business is presumed to continue indefinitely, the value relevant to a

Financial Accounting Theory & Analysis: Text and Cases

Financial Accounting Theory & Analysis: Text and Cases

FASB ASC 2-1 Use of Present Value

FASB ASC 2-2

Search conceptual framework

Found under 605 Revenue Recognition

FASB ASC 2-3

Search decision maker

Financial Accounting Theory & Analysis: Text and Cases

FASB ASC 2-4

Found under 715 compensation—Retirement Benefits > 10 Overall > 10 Objectives

FASB ASC 2-5

Search relevance – 15 hits

FASB ASC 2-6

Search recognition and measurement-over 70 hits

FASB ASC 2-7

Reporting Comprehensive Income is contained in sections FASB ASC 220-10. It is

FASB ASC 2-8

Search present value-over 100 hits

Room for Debate

Financial Accounting Theory & Analysis: Text and Cases

Team 1: Arguments for capitalization of boxes.

1. Objectives of financial reporting

Capitalization is relevant because it provides information about outcomes of past

Financial Accounting Theory & Analysis: Text and Cases

Team 2 Arguments against the capitalization of the boxes.

3. Objectives of financial reporting

The primary objective of financial reporting is decision usefulness. Accounting

4. Qualitative Characteristics of accounting information

Financial Accounting Theory & Analysis: Text and Cases

Debate 2-2 The need for a universally accepted theory of accounting

In addition to helping reduce managerial bias in reporting results of operations and

A universal theory of accounting would be consistent with the concepts-based approach

Financial Accounting Theory & Analysis: Text and Cases

providing understandability and a common basis of comparison across companies

To date, no standard setting body has developed a universally accepted theory of

Financial Accounting Theory & Analysis: Text and Cases