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1) By identifying the key business and financial risks facing the company, the
audit committee can ensure that those risks are properly disclosed in the
2) By identifying areas where subjective judgments and estimates are used,
the audit committee can probe management about the fiquality” (objectivity
and accuracy) of the estimates, benchmark to estimates of other firms, and
gauge the impact of estimate changes on the financial statements. Estimated
3) By identifying significant areas where the company’s accounting policies
were difficult to determine, the audit committee can probe management about
4) Significant accounting deviations from usual industry practice are a fired
flag” for stock analysts and investors. That’s because the deviation is often
viewed as an indication that the financial statements are being fimanaged” to
5) Changes in accounting methods can sometimes have a dramatic impact
on financial statements and on the company’s stock price if investors react
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business or transaction. The audit committee may also want management to
take special steps in communicating the change to the marketplace.
6) Here the audit committee is asking for a fiheads up” about potential
7) fiSerious problems” can include internal control lapses, incomplete
documentation of transactions, errors (inadvertent failure to record a
8) There are two reasons the audit committee is interested in the answer to
this question. First, outsiders may have uncovered a real accounting quality
P1–13. Worldwide Convergence of Accounting Standards
Requirement 1:
There are at least two arguments supporting worldwide convergence of
accounting standards. These arguments involve the claimed benefits of
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A second—and more controversial—argument is based on the notion that
IASB standards are superior to those in use locally. According to this view,
worldwide convergence eliminates local GAAP deficiencies and thus yields
financial statements that better reflect the underlying economics of the
business (enhanced transparency). These improvements in the quality of
cost of convergence may exceed the benefits obtained. This might be
especially true for small, publicly traded companies that rarely need access to
new financial capital. A second disadvantage is the potential loss of
competition in the market for accounting standards themselves. No single set
of standards are likely to be universally preferred by all firms and all investors
Chinese investor who buys stocks in local companies by ensuring that: (1)
high quality financial information is readily available to support buy/sell
decisions (better transparency); and (2) capital markets are efficient in
reflecting that information in stock prices.
Requirement 3:
P1–14. Debt Covenants and Aggressive Accounting Practices
1-17
the wrist”. Or, they can amend the loan agreement and thereby charge a
higher rate of interest, accelerate repayment terms, or impose more stringent
covenants on the borrower. (Chapter 7 tells you more.) If the lender refuses
to waive or amend the loan terms, the borrowed amount becomes due
P1-15. Rules versus Principles in Lease Accounting
Requirement 1:
Current US GAAP for lease contracts is regarded by most observers as more
rules based than is IFRS guidance because it relies upon explicit fibright
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US GAAP because it fails the bright line test. CFOs thus have an incentive to
write lease contracts so that they fall just short of the US GAAP requirements.
Requirement 3:
P1-16. Toshiba Corporation
Requirement 1:
The company’s 2009 annual report opens with a Management Discussion
and Analysis typical of U.S. companies. This MD&A contains a five-year
conform with accounting principles generally accepted in the United States.
These adjustments were not recorded in the statutory books of account.” In
other words, Toshiba uses Japanese GAAP for its statutory (domestic)
financial statements but U.S. GAAP in the consolidated statements displayed
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Education.
In this case, the answer lies in the response to Requirement 3: No difference
exist because Toshiba uses U.S. GAAP in the consolidated financial
statements displayed in the company’s English-language annual report.
P1-17. Carrefour Group
Requirement 1:
The company’s 2008 fiannual report” contains summary consolidated financial
statements of income, financial position, and cash flow. No financial
statement notes are included in the annual report, although selected financial
pricing. A section of the annual report discusses the company’s commitment
to socially responsible business activities including employee relations and
environmental footprint. The concluding section of the annual report provides
biographical information about the company’s board of directors and top
executives.
Requirement 4:
Carrefour’s consolidated financial statements are prepared in accordance
with International Financial Reporting Standards (IFRS) as approved by the
European Union.
Requirement 5:
with Cash and non-current assets held for sale. The liabilities/equity portion
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Financial Reporting and Analysis (6th Ed.)
Chapter 1 Solutions
The Economic and Institutional Setting for Financial Reporting
Cases
Cases
C1–1. Novartis AG: Form 20-F Reconciliation
Requirement 1:
For 2006, the difference between IFRS net income from continuing
operations ($7,019) and US GAAP net income from continuing operations
($5,150) is $1,869 million.
from labor unions, politicians, regulatory agencies, and the financial press.
Requirement 3:
Which is warmer, a room with a temperature of 22.2 Celsius or one where the
temperature is 72 Fahrenheit? Even though fi72” is bigger than fi22.2”, neither
room is warmer than the other. The difference in measurement scale
company is less important than whether earnings are increasing, decreasing,
or remaining flat relative to their level one year ago.
Requirement 4:
Investors who contemplate buying (selling) a foreign company’s stock traded
on a U.S. stock exchange may evaluate its relative profit performance against
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investors who contemplate buying (selling) a foreign company’s stock traded
on a foreign stock exchange want to evaluate its relative profit performance
C1–2. Henley Manufacturing Inc.: Announcing sales and earnings goals
Requirement A:
1) Potential costs of announcing earnings and sales goals include:
(a) possible shareholder lawsuits if goals are not met; (b) loss of reputation if
goals are not met; (c) disclosure may convey information to competitors about
the profitability of products or market territories; (d) managers may take
2) Should management disclose its earnings and sales goals? It depends on
whether the benefits outweigh the costs, and on how confident management
is that the goals can be achieved.
3) In all likelihood, the recommendation would change. Consideration would
now be given to the fact that, as the planning horizon increases, it becomes
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Requirement B:
In this case, the nature of the goals is quite varied. In all likelihood, investors
C1–3. Fortress International: Disclosing major customers
1) The SEC requires firms to alert financial statement readers about major
customers that contribute 10% or more to annual sales. Such information
2) Financial analysts might use these disclosures in the following ways:
To assess customer risk. The more revenue a company derives from a
single customer or small group of customers, the greater the adverse
3) Fortress International (now TSS Inc.) offers planning, design, engineering,
construction management, commissioning and maintenance services for
specialized facilities such as data centers, communications rooms, call
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(i.e., the balance sheet), and cash flow generating ability (i.e., the cash flow
statement).
4) Fortress monitors the financial health of key customers to ensure that they
C1–4. The gap in GAAP
1) Advantages of allowing managers some flexibility in the choice of financial
reporting methods include:
Accounting must serve as a slave to many masters. Stated differently,
financial accounting information is used for many purposes including
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2) The current financial reporting system in the United States is really a
combination of the two approaches.
On the one hand, firms have latitude in the selection of accounting methods
to summarize various transactions and events. Examples include inventory
3) The advantages of a single set of accounting methods include:
Facilitates comparability of financial information across firms at a point in
time and over time. This may be appealing to financial analysts because it
potentially makes their work easier.
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Firms can tailor their choice of financial reporting methods to the specifics
of their economic environment and circumstances. For example,
depending on whether the prices of its input products are increasing or
decreasing, FIFO may be a more realistic choice of inventory valuation
C1–5. Federal Express: Making sense of an earnings announcement
Let’s start with the figood news” in FedEx’s earnings announcement: net
income for the quarter was $1.53 per share, up 39% from the $1.10 per
share earned the same quarter one year ago. In addition, sales revenue was
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C1–6. Landfil’s accounting change
Here are the major positions outlined at the meeting:
fiIt’s consistent with GAAP and fully disclosed.” While true, this approach
may not be comforting to analysts and investors concerned about whether
its ability to absorb the dollar impact of the change. But this strategy is
risky—investors and analysts may incorrectly presume that capitalization