Framework for the Preparation and Presentation of Financial Statements - Assignment Example

Framework for the Preparation and Presentation of Financial Statements Student’s Name College Instructor’s Name 2012 Outline I Framework for the Preparation and Presentation of Financial Statements II 2011 annual reports/financial statements of The Jacka Resources Limited and commonwealth bank III The relationship between accounting information and market reaction References Framework for the Preparation and Presentation of Financial Statements The AASB framework has various measurement bases. The ‘measurement’ aspect of accounting information is not however a clear-cut process. It makes use of judgements regarding the value of assets that a business owns or the liabilities that a business owes. It also pertains about the accurate measurement of profits or loss made by a company or business in a certain period. Communication is another integral aspect of accounting based on the abovementioned definition. Accounting information needs to be communicated, which can take numerous forms including annual reports, annual accounts, and management accounting reports, to name a few(Tracy, 2009). Moreover, accounting is also inclusive of key assumptions or basic concepts upon which accounting is based. The first among the key assumptions is the separate entity assumption. In accounting, business is taken as a separate and distinct entity from its owners. Accounts are prepared in order to give information regarding the business and not about those who own the business. The distinction can be made between business transactions to those of personal transactions, which are taken as separate entities. All of the business transactions are recorded in the books or records of the business from the perspectives of the business being an entity; even the business proprietor is treated and considered as a creditor to the level of his capital. An entity is required to disclose the details regarding its separate operating segments. By this way the investors will be informed about the different risk factors involved in the diverse operations. It is also required that derivative instruments and hedging transactions which were not earlier reflected in the financial statements, are to be reflected. In the case of acquisition of one company by another, in the past it was not reflected in the financial statement, in the same way for all entities. Now it is required that the total amount paid for acquisition must be accounted and the same must be reflected in the financial statement. AASB as an independent private sector organization is remaining free from political pressure This concept of separate entity can be applied to virtually all of the business organizations. Still within the key assumptions, the going concern assumption is another concept in accounting that assumes that the business is viable and operating in a foreseeable future. This means to say that the business “expects to realize its assets at the recorded amounts and to extinguish its liabilities in the normal course of business” (Venuti). Transactions in business are recorded in books while keeping in consideration the going concern aspect of the business as a unit; hence, should be able to continue in its operation at its current scale in the future. The third key assumption in accounting is the money measurement assumption. In other words, accounting should only record the transactions measured quantitatively, that is, in terms of money and stable monetary units. The cost concept means that an asset that is typically recorded in the books is recorded “at the price at which it was acquired,” thus the term cost price. This cost price serves as the basis of accounting of a certain asset it reflects during the subsequent or future periods(Porter and Norton, 2011). The dual aspect concept of accounting forms the basis of the fundamental equation: assets=liabilities + equity; where, assets are what the business owns, liabilities are what the business owes to creditors against such assets, and equity is the difference resulting from the two, representing what the business owes to its owners and investors. It is further assumed that all transactions in accounting must keep the balance of this equation. Other important accounting concepts are: objectivity, the record of accounting based on objective evidence such as receipts, invoices, bank statement, etc; time period, the concept of a specific time interval for which reports are made such as fiscal year, month or quarter; conservatism, “understating rather than overstating revenue (income) and expense amounts that have a degree of uncertainty;” realization, wherein revenues are recognized once they are earned; matching, recording of revenues and related expenses in the same accounting period to avoid overstatement of income in any period; consistency, use of the same method for all subsequent transactions or events in accounting; and materiality, the recording of events that are only substantially significant in accounting. An item is considered material if its inclusion or omission in the financial statement is likely to cause a change in the financial position from a profit to a loss or from loss to profit. Materiality plays a crucial role in financial reporting. Accounting information may be abused and often stem from misuse or misunderstanding of the proper application of the materiality concept. Any misstatements whether material or not are not acceptable. It is therefore unreasonable for accountants to fail to correct mistakes because of directions given to them by senior management under the pretext of managing profits or earnings. Immaterial misrepresentations often give rise to material misrepresentation. Management is directly responsible for the financial statement of the company as they are the people who prepare it. Their responsibility towards internal control structure and in the company’s financial reporting process is high and it includes the adopting of necessary steps to reduce risks by understanding, assessing, and implementing policies. Regarding the assumptions used for getting the final numbers and the extent of information disclosed, the management is directly responsible (Schweser, 2008). 2011 annual reports/financial statements of The Jacka Resources Limited and commonwealth bank The two organizations have all presented the information in a generalized manner. The both financial statements are presented in the AASB format, which require that the financial statements be presented in three separate statements, each showing a different set and a different perspective of the information. After looking at the Financial Statements, the fact that neither the income statement nor the statement of cash flow is important became obvious. Both the statements are important from different perspectives. While the investors will look at the financial information in order to gauge the profit making capability of the organization, the creditors and the employees will look at the statement of cash flow in order to ascertain the capability of the organization to pay off its debt. While the Income State shows the income generated by the organization during a period, the state of cash flow from operating activities shows the amount of cash generated by the organization from its regular business activities. The cash flow activities also include the cash outflow of the business, thereby providing a comprehensive guide to the spending and collection of cash of the business. The importance of either statement of financial information cannot be overstressed since both statements provide different information and are useful to a different set of users. After analyzing the financial information of the organizations it can be reasonably concluded that the organizations are pursuing different objectives. The Jacka Resources Limited appears to be making a good profit in the current era, however, there is no indication towards any new product development, and rather it appears that it is now focusing towards innovating its older products which is observable from the decreased in the research and development expense. This trend does not appear to be favourable since in the coming years the prices of gas are expected to rise which will result in decreased motor vehicle sales. Commonwealth Bank appears to be making a considerable amount of profit and from the profit statement it is apparent that the organization is focusing towards the development of new products which observable through the increased research and development expenditure. The organization has satisfactory cash flows since most of its creditors have been paid off as is apparent from the cash flow statement, however has resulted in decreased liquidity for the organization. Considering these contrasting findings of companies, it is recommended that the issues shall be sorted out by complying with the requirements of the AASB. Being listed companies, the management of the company shall certify that the internal control system of the organization is sound and effective in preventing and detecting any material misstatement on a timely basis. In this regard, management shall report particularly on the internal control functioning in relation to financial reporting and presentation and shall also expressly state that it is the responsibility of the management to maintain an effective internal control system. The report presented in this regard shall also discuss that there are inherent limitations associated with an internal control system. In addition to this, it is also relevant to mention in the report about the survey conducted by the management in order to determine the effectiveness of internal control system. Also any actions or measures taken or planned to be undertaken by the management for the purpose of improving internal control system’s effectiveness shall also be discussed in the report The relationship between accounting information and market reaction Accounting information is very crucial for decision making process of many market players. Most people rely on this information decisions that will affect the company positively or negatively. The accounting information is negative then we expect negative reaction towards the company. This information is produced by accounting It assists in aggregating and organizing financial information and produce reports to stakeholders along with those less experienced individuals about the discipline. Indeed, bookkeeping can be considered as foundation of accounting since it clearly illustrates where the money came and where it was utilized. Accounting assists businesses to achieve their chief goals such as to earn and increase their profits. In fact, with the knowledge of accounting business owners could have accurate guide in their financial decisions which has strong impact on their overall operations(Graham, 1998). The balance sheet provides the financial position of the firm at a particular point in time. The balance sheet includes details regarding the firm’s Assets, Liabilities and Equity. The income statement shows the performance of a company for the relevant period. It shows whether the company has made profit or loss for the period. The cash flow statement shows the cash position of the firm. Dividing all the cash flow relevant segments in to investing, operating and financing activities, it provides a clear picture of where cash was spent and where it came in. The statement of retained earnings shows the amount of dividend paid (if any), the amount of earnings that was retained by the company (not given as dividends) and reflects any changes made to the equity of the company. For investors, all four statements would be useful. This is because when investing in a company they would want to know first of all how the company manages its working capital for day to day running of the firm. Most important of all for the investors would be the Balance sheet. This will show the how the company handles its liabilities and whether it has a healthy debt to equity ratio, if not it could be dangerous in times of recession (Besley and Brigham, 2009). Investors would also concern themselves with the cash flow statement and the statement of retained earnings. These would show the cash position of the firm and also the amount of equity the firm already has. The latter would be of significant importance as any untoward announcement by the management of the firm could render their investment less profitable, or even lead them to make a loss on the particular investment. Creditors would be most concerned with getting their money back from the customer (in this case the company). For this they will consider looking at the income statement of the firm, this would enable them to see if the firm is making a healthy profit and which would in turn enable them to get their money back from the client. Also the creditors would want to see the balance sheet. This is because this would provide them with information regarding the company’s short term and long term liabilities. This would arm them with the information to negotiate better with the company regarding the credit terms(Alexander, Britton and Jorissen, 2003). The management needs to keep an eye on all the financial activities of the firm. Of particular importance to them would be the balance sheet and the income statement. These two statements would more or less sum up the financial state of the firm by providing adequate evidence of how the revenues have been affected, whether the cost of goods sold has up and how the firm’s expenses are being affected. Also, they would show if Assets are increasing or decreasing, how liabilities are faring and how much retained earnings the firm has. References Alexander, D., Britton, A. & Jorissen, A. 2003. International financial reporting and analysis. London: Thomson Learning Besley, S. & Brigham, E., 2009. Principles of Finance. Mason, OH: South-Western, Cengage Learning. Graham, B., 1998. The interpretation of financial statements : the classic 1937 edition. New York: Harper Business. Porter, G. & Norton, C., 2011. Using Financial Accounting Information: The Alternative to Debits and Credits. Mason, OH: South-Western, Cengage Learning. Tracy, J., 2009. How to read a financial report: wringing vital signs out of the numbers. Hoboken, N.J: John Wiley & Sons. Schweser, K., 2008. Book 3: Financial Reporting and Analysis (pp.261 – 269). Read More