Advanced Accounting Theory and Practice - Essay Example

ADVANCED ACCOUNTING THEORY AND PRACTICE Table of Contents Table of Contents 2 Introduction 4 Key Features of IAS 4 Objective 4 Scope 5 Financial Statements and its Components 5 General Features 6 Fair Presentation and Compliances with IFRSs 6 Going Concern 7 Accrual Basis of Accounting 7 Materiality and Aggregation 7 Offsetting 7 Frequency of Reporting 7 Comparative Information 8 Consistency of Presentation 8 Underlying Rationale and Development of IAS 1 8 New Titles for the Financial Statements 9 Impact: 9 Statement of Financial Position 9 Impact: 10 Statement of Comprehensive Income 10 ` Impact: 10 Statement of Changes in Equity 10 Impact: 11 Criticisms of IAS 1 11 References 13 Introduction Year 2001, was marked as the year of establishment of International Accounting Standards Board (IASB). It was established with the idea to develop and implement International Financial Reporting Standards (IFRS). First of the IFRS was issued in the year 2003. Since then, more and more countries are adopting IFRS.1 IASB sets down accounting standards for the accounting policies that a company under IFRS must follow. These accounting standards are in accordance with the requirements of Conceptual Framework which assist users of financial statements to take various financial decisions. IASB are in continuous effort to improve the accounting standards in order to prevent creative accounting practices by companies and help representing the true and fair view about the financial conditions and performance of the companies. IAS 1 which sets out guidelines regarding presentation of financial statements, its key features, changes in its recent revision by IASB, and finally criticism with regards to these changes, all have been covered in this study. Effects of changes in IAS 1 on Coca Cola Co. have also been studied. Key Features of IAS 1 Objective IAS 1 sets the guidelines to be followed in the presentation of financial statements made by an organisation. The presentation is made for the purpose of comparability with the company’s financial statements related to preceding periods. It also ensures that the financial statements of the company can be compared with other business entities as well. IAS 1 includes comprehensive requirements about how the financial statements are presented, rules about what would be its structure and the minimum requirements about what its contents will include.2 Scope IAS 1 is applicable to all the financial statements which are made for general purposes and is in accordance with International Financial Reporting Standards (IFRS). Financial statements used for general purposes are prepared with the intention that it would be required by the person who do not require financial reports to be used by them to cater to some particular information requirement.3 Financial Statements and its Components According to IAS 1, financial statements comprises of the following five components: 1. Balance Sheet: It is a statement which depicts the financial position of a business entity at the end of the period. 2. Income Statement: It is a statement explaining the comprehensive income of a business entity at the end of the period. 3. Statement of Shareholders’ Equity: It is a statement showing the increase or decrease in equity of the business entity for the period. 4. Cash Flow Statement: It is a statement showing the cash flows of the business entity for the noted period. 5. Notes: It comprises of the accounting policies followed by the business entity in a summarised form. It also includes other explanatory notes of the business entity.4 IAS 1 does not require a business entity to use the same titles of the financial statements as stated above. They can use other titles as well. If we look at the annual reports of Coca Cola Co. for the year ending on December 31, 2011, we can find that all these components of financial statements are mentioned. Along with these there are other reports prepared by Coca Cola like, Report of Management, Report of Independent Registered Public Accounting Firm, etc. which are outside the scope of IAS and IFRS.5 General Features IAS 1 requires the financial statements prepared by the company to include certain general features in it. These features have a close resemblance with the IASB or Conceptual Framework, which speaks about the qualitative characteristics of the information present in the financial statements that assist in decision making process of its users.6 Fair Presentation and Compliances with IFRSs The financial statements prepared by the companies must represent a fair view about its financial position, performance and cash flows generated. Recognition criteria of items like assets, liabilities, expenses, etc. as mentioned in the Conceptual Framework, all must be complied with. IAS 1 sets our requirements that the business entities which comply with IFRS, must mention in their notes to financial statements about such compliance in a way which is explicit and unreserved in nature. Inappropriate accounting policies are not acceptable in any form mentioned in the annual reports of the company. A business entity can move away from the IFRS requirements only in some extreme cases where the IFRS requirements prove to be misleading and may not satisfy the objective of financial statements in accordance with the Framework. In such cases disclosures of such deviance is required to be presented in the form of detailed disclosures. Effects of such deviance are also required to be clearly mentioned by the entity. Going Concern This is another requirement of IAS 1 which requires the management of the company to clearly assess their ability to carry on their business as a going concern. The financial statements of the business entities will be prepared on an ongoing-concern basis. If there is a situation where the entity has doubt regarding their ability to continue as a going concern, then they are to mention it as disclosures to financial statements. Accrual Basis of Accounting IAS 1 states that all the financial statements except the cash flow statement are to be prepared the business entity using accrual basis method of accounting. Materiality and Aggregation IAS 1 requires all the items which are material, must be presented separately in the financial statements. Only those items which are not material can be represented in an aggregate form in the financial statements of the company. Offsetting The income and expenses or the assets and liabilities cannot be offset by the company. It can do so only if it is an IFRS requirement. Frequency of Reporting The business entities are required to present the financial statements at least one time annually. It includes the comparative information as well. Comparative Information The current period’s financial statements should be accompanied with the information of the previous year, regarding all the amounts of items mentioned in the financial statements. These comparisons are required to be mentioned on the notes to financial statements as well.7 Consistency of Presentation The presentation of items in the financial statements and its classifications should be consistent in nature for different periods, unless IFRS requires some changes. If we look at the annual reports of Coca Cola Co. for the period ending in December 31, 2011, it can be found that it complies with all these IAS 1 requirements. Comparative information is present for the previous two years (2010 and 2009). Underlying Rationale and Development of IAS 1 If we look at the history of International Accounting Standards, IAS 1 was first implemented in January 1975 and it was titled as “Disclosure of Accounting Policies”. Since then, International Accounting Standards Board (IASB) has made considerable efforts to revise and update this accounting standard in order to stop creative accounting practices and fill up all the loop holes and fallacies underlying IAS 1. Along with the adoption of IFRS requirements, IASB issued the most recently revised version of IAS 1 on September 6, 2007. IAS 1 is now entitled as “Presentation of Financial Statements”. This recent revision of IAS 1 does not include significant changes compared to the earlier version issued on December 18, 2003. This revised IAS 1 is effective from the annual periods beginning from the year 2009. The sections of IAS 1 have also been reordered in order to make it easier to read for the users.8 The primary changes made in IAS 1 which will have an effect on the specific financial statements and its subsequent impacts are mentioned below: New Titles for the Financial Statements The titles associated with few of the financial statements have been changed. ‘Statement of financial position’ is the new title for ‘balance sheet’. ‘Statement of cash flows’ is the new title for ‘cash flow statement’. All the accounting standards will use these titles of financial statements. However, inclusion of these changes in the financial statements is not mandatory. Impact: The impacts of these changes are negligible, since it is only recommended by IASB to make these changes but are not compulsory for the business entities. If we look at the financial statements prepared by Coca Cola, it can be found that they have not undergone these changes and they are still using the earlier titles for their financial statements, like ‘statement of income’, ‘balance sheet’, etc. Statement of Financial Position In some circumstances, a business entity is required to present at least three statements of financial position, one when the current period ends, next when the previous period ends and the other at the start of the earliest period of comparison. These circumstances arise when: a) an accounting policy is applied by a business entity in a retrospective manner, or b) retrospective restatements of components in financial statements are made, or c) items in the financial statements are reclassified. Impact: From the perspective of word-processing it poses a challenge for a company who have to prepare an additional balance sheet. In any case, the amounts in the opening balance sheet need to be recalculated by an entity. Statement of Comprehensive Income The revised IAS 1 requires the business entity to choose from any of the following two options regarding presentation of the items of income and expense: a. A single statement: It will be a comprehensive income statement including the current as well as the recognised expenses and income of the entity. b. Two statements: One will include the items of profit and loss statement and the other containing loss items unrecognised by IFRS. Those unrecognised items can be profit or loss occurring due to changes in surplus generated from revaluation of assets, changes in foreign exchange rates, etc. ` Impact: Since both the options are available, it would not have much impact on the business entities. However, in one circumstance the change to option (a) is mandatory, where an entity used to present the other comprehensive income items separately in the changes in equity statement. It is no longer allowed. Statement of Changes in Equity The items related to non-owner movements are no longer allowed to be presented as items separately in the statement which relates to changes in equity. It must be presented in the statement related to comprehensive income and then the total is to be carried over to the statement of changes in equity. Moreover it is mandatory for entities to present the changes in equity statement even if the transactions with owners were previously presented as owners in the notes to the financial statements. Impact: These changes will impact on most of the entities to prepare a separate financial statement as the statement of changes in equity, which were previously presented as notes to the financial statements. The items included in other comprehensive income of entities require some changes in their presentation. With respect to the disclosure of income tax, each of the components of other comprehensive income must be accompanied with income taxes applicable on them. Next, regarding reclassification adjustments, revised IAS 1 requires entities to present complete disclosure of such activities in the financial statements.9 The financial statements of Coca Cola do not show any significant effects due to these changes. Criticisms of IAS 1 Some of the eminent board members of IASB like Prof. Berth, Messrs Cope, Garnett and Leisenring disagreed with the proposal of the recent revision of IAS 1 in 2007. They voted against this issue. Some of their conflicting views with regards to the changes in IAS 1 are: They find that the option of entities to make two divisions of the statement of comprehensive income seems to be conceptually unsound in nature. The two statement approach can lead to differentiability in prominence of income statement with the other. Moreover, items related to income or expenses are not properly defined in IAS 1 and there is a possibility that some transactions can either be considered in or out of the recognised income or expenses. This may result in significant changes in the representation of performance capability of a firm. Choices in presentation formats contradict IASB’s idea of limiting options in accounting practices by business entities. Furthermore, in the long run, it will affect the IASB’s motive of achieving the presentation format by entities that are conceptually correct.10 References 1 Ramanna, K. and Sletten, E., ‘Why do countries adopt International Financial Reporting Standards?’, in Harvard Business School, 2009, viewed on 04 April, 2012, . 2 IFRS Foundation Staff, ‘IAS 1 Presentation of Financial Statements’, in ifrs. 2011, viewed on 04 April 2012, . 3 Deloitte, ‘IAS 1 – Presentation of Financial Statements’, in iasplus, 2012, viewed on 04 April 2012, . 4 HM Treasury, ‘International Accounting Standards’, in hm-treasury, 2012, viewed on 04 April 2012, . 5 The Coca Cola Company, ‘SEC Filings’, in ir.thecoca-colacompany, 2012, viewed on 04 April 2012, . 6 Friedrich, B. and Friedrich, L., ‘International Accounting Standard (IAS 1), Presentation of Financial Statements’, in cg-pdnet, 2009, viewed on 04 April 2012, . 7 IASCF, ‘IFRIC Meeting Staff Paper’, in ifrs, 2010, viewed on 04 April 2012, . 8 Deloitte, ‘History of IAS 1’, in iasplus, 2012, viewed on 04 April 2012, . 9 Deloitte, ‘Revised Standard on presentation of Financial Statements’, in iasplus, 2007, viewed on 04 April 2012, . 10 IASB International Financial Reporting Standards. 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