Chapter 2 Homework Sec Cases Which Apply Materiality Students Might

COMPARATIVE ANALYSIS CASE (Continued)

Because PepsiCo uses LIFO for part of its inventory, if material, it

would be necessary to adjust as best as possible to FIFO. An additional

problem is that both use the average cost for some of their inventory,

but information related to its percentage use is not provided.

Coca-Cola

Recent Accounting Standards and Pronouncements

In June 2009, the Financial Accounting Standards Board (‘‘FASB’’)

amended its guidance on accounting for VIEs. The new accounting

guidance resulted in a change in our accounting policy effective

January 1, 2010. Among other things, the new guidance requires more

qualitative than quantitative analyses to determine the primary

beneficiary of a VIE, requires continuous assessments of whether an

enterprise is the primary beneficiary of a VIE, enhances disclosures

about an enterprise’s involvement with a VIE, and amends certain

guidance for determining whether an entity is a VIE. Under the new

guidance, a VIE must be consolidated if the enterprise has both (a) the

relationship between our voting interests in these entities and our

exposure to the economic risks and potential rewards of the entities.

As a result, we determined that we held a majority of the variable

interests in these entities and, therefore, were deemed to be the

primary beneficiary. The loan guarantees and/or other financial support

given by the Company to these entities are included in the calculation

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COMPARATIVE ANALYSIS CASE (Continued)

In December 2007, the FASB amended its guidance on accounting for

business combinations. The new accounting guidance resulted in a

change in our accounting policy effective January 1, 2009, and is being

applied prospectively to all business combinations subsequent to the

effective date. Among other things, the new guidance amends the

In December 2007, the FASB issued new accounting and disclosure

guidance related to noncontrolling interests in subsidiaries (previously

referred to as ‘‘minority interests’’), which resulted in a change in our

accounting policy effective January 1, 2009. Among other things, the

new guidance requires that a noncontrolling interest in a subsidiary

COMPARATIVE ANALYSIS CASE (Continued)

In December 2007, the FASB issued new accounting guidance that

defines collaborative arrangements and establishes reporting require–

ments for transactions between participants in a collaborative arrange-

ment and between participants in the arrangement and third parties. It

In February 2007, the FASB issued new accounting guidance that

permits entities to choose to measure many financial instruments and

certain other items at fair value. Unrealized gains and losses on items

for which the fair value option has been elected will be recognized in

earnings at each subsequent reporting date. This new accounting

guidance was effective for our Company on January 1, 2008. The

Company did not elect the fair value option for any financial

instruments or other items permitted under this guidance; therefore, its

adoption had no impact on our consolidated financial statements.

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COMPARATIVE ANALYSIS CASE (Continued)

PepsiCo

Recent Accounting Pronouncements

expensed rather than capitalized. Future adjustments made to valuation

allowances on deferred taxes and acquired tax contingencies associ–

ated with acquisitions that closed prior to the beginning of our 2009

fiscal year apply the new provisions and will be evaluated based on

the outcome of these matters.

and (2) the loss of control of subsidiaries. We adopted the accounting

provisions of the new guidance on a prospective basis as of the

beginning of our 2009 fiscal year, and the adoption did not have a

material impact on our financial statements. In addition, we adopted

COMPARATIVE ANALYSIS CASE (Continued)

VIE. In addition, the amended guidance requires an ongoing reconsid–

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FINANCIAL STATEMENT ANALYSIS CASE—WAL-MART

(a) (1) In the year of the change, Wal-Mart will reverse the revenue recog-

nized in prior periods for layaway sales that are not complete.

This will reduce income in the year of the change.

(b) By recognizing the revenue before delivery, Wal-Mart was recognizing

revenue before the earnings process was complete. In addition, if cus-

tomers did not pay the remaining balance owed, the realizability criterion

is not met either. While Wal-Mart likely could estimate expected deliv-

eries and payments, it is not apparent that this was done.

ACCOUNTING, ANALYSIS, AND PRINCIPLES

Accounting

Caddie Shack Company

Statement of Financial Position

May 31, 2010

Accrual income = $4,700 – $1,000 – $750 – $400 – $100 = $2,450

Earned capital balance = $0 + $2,450 – $800 = $1,650

Murray might conclude that his business earned a profit of $1,650 because

that is his earned capital at the end of the month. The conclusion that his

business lost $4,900 might come from the change in the business’s cash

balance, which started at $20,000 and ended the month at $15,100.

Analysis

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ACCOUNTING, ANALYSIS, AND PRINCIPLES (Continued)

Principles

GAAP income is the accrual income computed above as $2,450. The key

PROFESSIONAL RESEARCH

Search Strings: concept statement, “materiality”, “articulation”

(a) According to Concepts Statement 2 (CON 2): Qualitative Characteristics

of Accounting Information, “Glossary”:

(b) CON 2, Appendix C—See Table 1—refers to several SEC cases which

apply materiality. Students might also research SEC literature (e.g. Staff

Accounting Bulletin No. 99), although SEC literature is not in the FARS

database.

SFAC No. 2, 128. provides the following examples of screens that might

be used to determine materiality:

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PROFESSIONAL RESEARCH (Continued)

However, according to CON 2, Pars. 129, 131 the FASB notes that

more than magnitude must be considered in evaluating materiality:

SFAC No. 2, Par. 131. Some hold the view that the Board should

promulgate a set of quantitative materiality guides or criteria covering

a wide variety of situations that preparers could look to for authoritative

support. That appears to be a minority view, however, on the basis of

representations made to the Board in response to the Discussion

Memorandum, Criteria for Determining Materiality. The predominant

view is that materiality judgments can properly be made only by those

who have all the facts. The Board’s present position is that no general

standards of materiality could be formulated to take into account all

the considerations that enter into an experienced human judgment.

PROFESSIONAL SIMULATION

Explanation

1. Most accounting methods are based on the assumption that the business

enterprise will have a long life. Acceptance of this assumption

provides credibility to the historical cost principle, which would be of

2. The company is too conservative in its accounting for this transaction.

The expense recognition principle indicates that expenses should be

allocated to the appropriate periods involved. In this case, there appears

to be a high uncertainty that the company will have to pay. FASB

Codification, Section 450-20, requires that a loss should be accrued

only (1) when it is probable that the company would lose the suit and

Research

According to Concepts Statement 8 (CON 8) par. QCII:

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 Board cannot specify a uniform quantitative threshold for

materiality or predetermine what could be material in a particular situation.

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IFRS CONCEPTS AND APPLICATION

IFRS2-1

The IASB framework makes two assumptions. One assumption is that

IFRS2-2

IFRS2-3

The FASB differentiates gains and losses from revenue and expenses where

gains and losses are incidental transactions of the entity. Further, the FASB

includes changes in equity as elements: investment by owners, distributions

to owners, and comprehensive income.

IFRS2-4

As indicated, the measurement project relates to both initial measurement

and subsequent measurement. Thus, the continuing controversy related to

IFRS2-5

The IASB and FASB frameworks are strikingly similar. This is not surprising,

given that the IASB framework was adopted after the FASB developed its

framework (the IASB framework was approved in April 1989). In addition, the

Note to Instructors—These differences may be resolved as the FASB and

IASB work on their performance reporting projects.

IFRS2-6

Search Strings: “materiality”, “completeness”

(a) According to the Framework (para. 30): Information is defined to be

material if its omission or misstatement could influence the economic

decisions of users taken on the basis of the financial statements.

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IFRS2-6 (Continued)

30 Information is material if its omission or misstatement could

influence the economic decisions of users taken on the basis of the

financial statements. Materiality depends on the size of the item or

(c) According to the Framework (para. 22):

Accrual basis

In order to meet their objectives, financial statements are prepared on

the accrual basis of accounting. Under this basis, the effects of

transactions and other events are recognized when they occur (and

IFRS2-7

(a) According to Note 1—Accounting Policies, “Revenue comprises sales

of goods to customers outside the Group less an appropriate

deduction for actual and expected returns, discounts and loyalty

(c) Examination of the auditor’s report. Also, M&S discusses a number of

new accounting pronouncements issued or effective during the fiscal

year (e.g., IFRS 7, IFRIC 11, IFRIC 14). M&S indicates that they have

had or are expected to have a material impact on the financial

statements.