CHAPTER 1
Financial Accounting and Accounting Standards
ASSIGNMENT CLASSIFICATION TABLE (By Topic)
Topics
Questions
Cases
1.
Subject matter of accounting.
1
4
2.
Environment of accounting.
2, 3, 28
6, 7
and accounting theory.
4.
Historical development of GAAP.
8, 9, 10, 11
8
20, 21
26, 27
7.
Ethical issues.
ASSIGNMENT CLASSIFICATION TABLE (By Learning Objective)
Learning Objectives
Questions
Cases
1.
Identify the major financial statements and other
means of financial reporting.
1, 2
CA1-4, CA1-5
2.
Explain how accounting assists in the efficient
3, 5
CA1-3, CA1-7, CA1-9
CA1-11, CA1-14
6.
Explain the meaning of generally accepted
accounting principles (GAAP) and the role of the
codification for GAAP.
12, 14, 18, 19, 20, 21
CA1-2, CA1-3, CA1-7,
CA1-8, CA1-12
8.
Describe some of the challenges facing financial
reporting.
28
9.
Understand issues related to ethics and
16, 17, 29
CA1-6, CA1-13, CA1-15
ASSIGNMENT CHARACTERISTICS TABLE
Item
Description
Level of
Difficulty
Time
(minutes)
CA1-1
FASB and standard-setting.
Simple
15–20
CA1-2
GAAP and standard-setting.
Simple
15–20
CA1-3
Financial reporting and accounting standards.
Simple
15–20
CA1-4
Financial accounting.
Simple
15–20
CA1-5
Objective of financial reporting.
Moderate
20–25
CA1-6
Accounting numbers and the environment.
Simple
10–15
CA1-7
Need for GAAP.
Simple
15–20
CA1-8
Simple
20–25
CA1-9
FASB role in rule-making.
Simple
20–25
CA1–10
Politicalization of GAAP.
Complex
30–40
CA1–11
Models for setting GAAP.
Simple
15–20
CA1–12
GAAP terminology.
Moderate
30–40
CA1-13
Rule-making Issues.
Complex
20–25
CA1-14
Securities and Exchange Commission.
Moderate
30–40
CA1-15
Financial reporting pressures.
Moderate
25–35
CA1-16
Economic consequences.
Moderate
25–35
CA1–17
GAAP and economic consequences.
Moderate
25–35
SOLUTIONS TO CODIFICATION EXERCISES
CE1-1
The information at this link describes the elements offered in The FASB Accounting Standards
Codification. As indicated, the website offers several resources to enhance your working knowledge of
CE1-2
The following information is provided at the Providing Feedback link:
The Codification includes a feature which can be used to submit content-related feedback or general,
system-related comments. The feedback system is not designed for comments on proposed
Accounting Standards Updates.
Content-related feedback
As a registered user of the FASB Accounting Standards Codification Research System website, you
To provide content-related feedback:
Click the Submit feedback button beneath the paragraph for which you want to provide feedback. Enter
General feedback
Click here to provide general feedback on the Codification in general, the Codification Research
CE1-3
The “What’s New” page provides links to Codification content that has been recently issued. During the
ANSWERS TO QUESTIONS
1. Financial accounting measures, classifies, and summarizes in report form those activities and that
information which relate to the enterprise as a whole for use by parties both internal and external to a
2. Financial statements generally refer to the four basic financial statements: balance sheet, income
statement, statement of cash flows, and statement of changes in owners’ or stockholders’ equity.
3. If a company’s financial performance is measured accurately, fairly, and on a timely basis, the right
managers and companies are able to attract investment capital. To provide unreliable and irrelevant
information leads to poor capital allocation which adversely affects the securities market.
4. The objective of general purpose financial reporting is to provide financial information about the
reporting entity that is useful to present and potential equity investors, lenders, and other creditors
5. Investors are interested in financial reporting because it provides information that is useful for
making decisions (referred to as the decision-usefulness approach). When making these
decisions, investors are interested in assessing the company’s (1) ability to generate net cash
6. A common set of standards applied by all businesses and entities provides financial statements
which are reasonably comparable. Without a common set of standards, each enterprise could, and
would, develop its own theory structure and set of practices, resulting in noncomparability among
enterprises.
7. General-purpose financial statements are not likely to satisfy the specific needs of all interested
parties. Since the needs of interested parties such as creditors, managers, owners, governmental
Questions Chapter 1 (Continued)
8. The SEC has the power to prescribe, in whatever detail it desires, the accounting practices and
principles to be employed by the companies that fall within its jurisdiction. Because the SEC receives
audited financial statements from nearly all companies that issue securities to the public or are listed
9. The Committee on Accounting Procedure was a special committee of the American Institute of CPAs
that, between the years of 1939 and 1959, issued 51 Accounting Research Bulletins dealing with
10. The creation of the Accounting Principles Board was intended to advance the written expression
of accounting principles, to determine appropriate practices, and to narrow the differences and
inconsistencies in practice. To achieve its basic objectives, its mission was to develop an overall
conceptual framework to assist in the resolution of problems as they became evident and to do
substantive research on individual issues before pronouncements were issued.
11. Accounting Research Bulletins were pronouncements on accounting practice issued by the
Committee on Accounting Procedure between 1939 and 1959; since 1964 they have been
recognized as accepted accounting practice unless superseded in part or in whole by an opinion of
12. The explanation should note that generally accepted accounting principles or standards have
“substantial authoritative support.” They consist of accounting practices, procedures, theories,
13. It was believed that FASB Pronouncements would carry greater weight than APB Opinions because
of significant differences between the FASB and the APB, namely: (1) The FASB has a smaller
membership, (2) full-time compensated members; (3) the FASB has greater autonomy, (4) increased
independence; (5) the FASB has broader representation than the APB.
14. The technical staff of the FASB conducts research on an identified accounting topic and prepares
a “preliminary views” that is released by the Board for public reaction. The Board analyzes and
Questions Chapter 1 (Continued)
15. Statements of financial accounting standards contained in Accounting Standards updates
constitute generally accepted accounting principles and dictate acceptable financial accounting
and reporting practices as promulgated by the FASB. The first standards statement was issued by
16. Rule 203 of the Code of Professional Conduct prohibits a member of the AICPA from expressing
an opinion that financial statements conform with GAAP if those statements contain a material
17. The chairman of the FASB was indicating that too much attention is put on the bottom line and not
enough on the development of quality products. Managers should be less concerned with short-
term results and be more concerned with the long-term results. In addition, short-term tax benefits
18. FASB Staff Positions (FSP) are used to provide interpretive guidance and to make minor amend-
ments to existing standards. The due process used to issue a FSP is the same used to issue a
new standard.
19. The Emerging Issues Task Force often arrives at consensus conclusions on certain financial report-
ing issues. These consensus conclusions are then looked upon as GAAP by practitioners because
the SEC has indicated that it will view consensus solutions as preferred accounting and will require
Questions Chapter 1 (Continued)
20. The Financial Accounting Standards Board Accounting Standards Codification (Codifications) is a
compilation of all GAAP in one place. Its purpose is to integrate and synthesize existing GAAP and
21. Hopefully, the codification will help users to better understand what GAAP is. If this occurs,
22. The sources of pressure are innumerable, but the most intense and continuous pressure to
change or influence accounting principles or standards come from individual companies, industry
associations, governmental agencies, practicing accountants, academicians, professional accoun-
ting organizations, and public opinion.
23. Economic consequences means the impact of accounting reports on the wealth positions of issuers
and users of financial information and the decision-making behavior resulting from that impact. In
other words, accounting information impacts various users in many different ways which leads to
24. No one particular proposal is expected in answer to this question. The students’ proposals, however,
should be defensible relative to the following criteria:
(1) The method must be efficient, responsive, and expeditious.
25. Concern exists about fraudulent financial reporting because it can undermine the entire financial
reporting process. Failure to provide information to users that is accurate can lead to inappropriate
allocations of resources in our economy. In addition, failure to detect massive fraud can lead to
additional governmental oversight of the accounting profession.
26. The expectations gap is the difference between what people think accountants should be doing and
what accountants think they can do. It is a difficult gap to close. The accounting profession recognizes
Questions Chapter 1 (Continued)
27. The following are some of the key provisions of the Sarbanes-Oxley Act:
• Establishes an oversight board for accounting practices. The Public Company Accounting Over–
sight Board (PCAOB) has oversight and enforcement authority and establishes auditing, quality
28. Some major challenges facing the accounting profession relate to the following items:
Nonfinancial measurement—how to report significant key performance measurements such as
customer satisfaction indexes, backlog information and reject rates on goods purchased.
29. Accountants must perceive the moral dimensions of some situations because GAAP does not
define or cover all specific features that are to be reported in financial statements. In these instances
accountants must choose among alternatives. These accounting choices influence whether par-
TIME AND PURPOSE OF CONCEPTS FOR ANALYSIS
CA 1-1 (Time 15–20 minutes)
Purpose—to provide the student with an opportunity to answer questions about FASB and standard
setting.
CA 1-2 (Time 15–20 minutes)
CA 1-3 (Time 15–20 minutes)
CA 1-4 (Time 15–20 minutes)
CA 1-6 (Time 10–15 minutes)
CA 1-7 (Time 15–20 minutes)
Purpose—to provide the student with an opportunity to evaluate the viewpoint of removing mandatory
accounting rules and allowing each company to voluntarily disclose the information it desired.
CA 1-8 (Time 20–25 minutes)
CA 1-9 (Time 20–25 minutes)
CA 1-10 (Time 30–40 minutes)
Purpose—to provide the student with an opportunity to focus on the types of organizations involved in the
CA 1-11 (Time 15–20 minutes)
CA 1-12 (Time 30–40 minutes)
Time and Purpose of Concepts for Analysis (Continued)
CA 1-13 (Time 20–25 minutes)
Purpose—to provide the student with an opportunity to consider the ethical dimensions of implementation
of a new accounting pronouncement.
CA 1-14 (Time 30–40 minutes)
CA 1-15 (Time 25–35 minutes)
CA 1-16 (Time 25–35 minutes)
Purpose—to provide the student with the opportunity to discuss the role of Congress in accounting rule–
making.
CA 1-17 (Time 25–35 minutes)
SOLUTIONS TO CONCEPTS FOR ANALYSIS
CA 1-1
1. True
CA 1-2
1. False. In addition to providing decision-useful information about future cash flows, management
also is accountable to investors for the custody and safekeeping of the company’s economic
CA 1-3
1. (d)
2. (d)
CA 1-4
(a) Financial accounting is the process that culminates in the preparation of financial reports relative to
CA 1-4 (Continued)
(c) Financial statements are the principal means through which financial information is communicated to
those outside an enterprise. As indicated in (b), there are four major financial statements. However,
CA 1-5
(a) In accordance with Statement of Financial Accounting Concepts No. 1, “Objectives of Financial
Reporting by Business Enterprises,” the objectives of financial reporting are to provide information to
investors, creditors, and others
1. that is useful to present and potential investors and creditors and other users in making rational
investment, credit, and similar decisions. The information should be comprehensible to those
(b) Statement of Financial Accounting Concepts No. 1 established standards to meet the information
needs of large groups of external users such as investors, creditors, and their representatives.
CA 1-6
Accounting numbers affect investing decisions. Investors, for example, use the financial statements of
different companies to enhance their understanding of each company’s financial strength and operating
CA 1-7
It is not appropriate to abandon mandatory accounting rules and allow each company to voluntarily
disclose the type of information it considered important. Without a coherent body of accounting theory
and standards, each accountant or enterprise would have to develop its own theory structure and set of
CA 1-8
(a) One of the committees that the AICPA established prior to the establishment of the FASB was the
(b) Although the ARBs issued by the CAP helped to narrow the range of alternative practices to some
extent, the CAP’s problem–by-problem approach failed to provide the well-defined, structured body
of accounting principles that was both needed and desired. As a result, the CAP was replaced by
the APB.
CA 1-8 (Continued)
(c) The AICPA has supplemented the FASB’s efforts in the present standard-setting environment. The
issue papers, which are prepared by the Accounting Standards Executive Committee (AcSEC),
identify current financial reporting problems for specific industries and present alternative treat-
ments of the issue. These papers provide the FASB with an early warning device to insure timely
CA 1-9
(a) The Financial Accounting Foundation (FAF) is the sponsoring organization of the FASB. The FAF
selects the members of the FASB and its Advisory Council, funds their activities, and generally
oversees the FASB’s activities.
The FASB follows a due process in establishing a typical FASB Statement of Financial Accounting
Standards. The following steps are usually taken: (1) A topic or project is identified and placed on
the Board’s agenda. (2) A task force of experts from various sectors is assembled to define
(b) The FASB issues three major types of pronouncements: Standards and Interpretations, Financial
Accounting Concepts, and Technical Bulletins. Financial accounting standards issued by the FASB
are considered GAAP. In addition, the FASB also issues interpretations that represent modifications
or extensions of existing standards and APB Opinions. These interpretations have the same authority
as standards and APB Opinions in guiding current accounting practices.
CA 1-9 (Continued)
In addition, the FASB’s Emerging Issues Task Force (EITF) issues statements to provide guidance
on how to account for new and unusual financial transactions that have the potential for creating
CA 1-10
(a) CAP. The Committee on Accounting Procedure, CAP, which was in existence from 1939 to 1959,
was a natural outgrowth of AICPA committees which were in existence during the period 1933 to
1938. The committee was formed in direct response to the criticism received by the accounting
profession during the financial crisis of 1929 and the years thereafter. The authorization to issue
pronouncements on matters of accounting principles and procedures was based on the belief that
the AICPA had the responsibility to establish practices that would become generally accepted by the
profession and by corporate management.
It was not until well after the demise of the CAP, in 1964, that the Council of the AICPA adopted
recommendations that departures from effective CAP Bulletins should be disclosed in financial
statements or in audit reports of members of the AICPA. The demise of the CAP could probably be
traced to four distinct factors: (1) the narrow nature of the subjects covered by the bulletins issued by
the CAP, (2) the lack of any theoretical groundwork in establishing the procedures presented in the
bulletins, (3) the lack of any real authority by the CAP in prescribing adherence to the procedures
described by the bulletins, and (4) the lack of any formal representation on the CAP of interest
groups such as corporate managers, governmental agencies, and security analysts.
CA 1-10 (Continued)
The demise of the APB occurred primarily because the purposes for which it was created were not
being accomplished. Broad generally accepted accounting principles were not being developed.
The research studies supposedly being undertaken in support of subsequent opinions to be
FASB. The formal organization of the FASB represents an attempt to vest the responsibility of
establishing GAAP in an organization representing the diverse interest groups affected by the use of
GAAP. The FASB is independent of the AICPA. It is independent, in fact, of any private or govern-
mental organization. Individual CPAs, firms of CPAs, accounting educators, and representatives of
(b) Arguments for politicalization of the accounting rule-making process:
1. Accounting depends in large part on public confidence for its success. Consequently, the
critical issues are not solely technical, so all those having a bona fide interest in the output of
accounting should have some influence on that output.
2. There are numerous conflicts between the various interest groups. In the face of this, compro–
mise is necessary, particularly since the critical issues in accounting are value judgments, not