CHAPTER 24
Full Disclosure in Financial Reporting
ASSIGNMENT CLASSIFICATION TABLE (BY TOPIC)
Topics
Questions
Brief
Exercises
Exercises
Problems
Concepts
for Analysis
* 1. The disclosure principle; type
of disclosure.
2, 3
1, 2, 3
* 3. Subsequent events.
6
3
1, 2
1
4, 12
* 4. Segment reporting; diversified
firms.
7, 8, 9,
10, 11
4, 5, 6, 7
3
2
5, 6, 7
* 5. Discussion and analysis.
12, 13
* 6. Interim reporting.
16, 17,
18, 19
8, 9
* 7. Audit opinions and fraudulent
reporting.
20, 21
* 8. Earnings forecasts.
14, 15
10
22, 23, 24
4, 5, 6
5
*10. Impact of transactions on ratios.
8
4, 5, 6
3
13
*11. Liquidity ratios.
8
4, 5, 6
3, 5
*12. Profitability ratios.
28
4, 5, 6
3, 5
*13. Coverage ratios.
4, 5, 6
*14. Activity ratios.
25, 26
8, 9
4, 5, 6
3
*15. Comprehensive ratio problems.
4, 5, 6
3, 5
*16. Percentage analysis.
24, 27
3, 4
ASSIGNMENT CLASSIFICATION TABLE (BY LEARNING OBJECTIVE)
Learning Objectives
Questions
Exercises
Problems
Concepts
for
Analysis
1. Review the full disclosure
principle and describe
implementation problems.
CA24-5,
CA24-6,
CA24-7
2. Explain the use of notes in
financial statement
preparation.
1
4. Describe the accounting
problems associated with
interim reporting.
16, 17, 18,
19
CA24-8,
CA24-9
11, 20
6. Understand management’s
responsibilities
for financials.
12, 13
7. Identify issues related to
financial forecasts and
projections.
14, 15
CA24-10,
CA24-11
8. Describe the profession’s
response to fraudulent
financial reporting.
*9. Understand the approach to
financial statement
analysis.
22, 23
*11. Explain the limitations of ratio
analysis.
28
*12. Describe techniques of
comparative analysis.
3
*13. Describe techniques of
percentage analysis.
4
ASSIGNMENT CHARACTERISTICS TABLE
Item
Description
Level of
Difficulty
Time
(minutes)
E24-1
Post-balance-sheet events.
Moderate
10–15
E24-2
Post-balance-sheet events.
Moderate
10–15
E24-3
Segmented reporting.
Moderate
5–10
*E24-4
Ratio computation and analysis; liquidity.
Simple
20–30
*E24-5
Analysis of given ratios.
Moderate
20–30
*E24-6
Ratio analysis.
Moderate
30–40
P24-1
Subsequent events.
Difficult
40–50
P24-2
Segmented reporting.
Moderate
24–30
*P24-3
Ratio computations and additional analysis.
Moderate
35–45
*P24-4
Horizontal and vertical analysis.
Simple
40–60
*P24-5
Dividend policy analysis.
Difficult
40–50
CA24-1
General disclosures, inventories, property, plant,
and equipment.
Simple
10–20
CA24-2
Disclosures required in various situations.
Moderate
20–25
CA24-3
Disclosures, conditional and contingent liabilities.
Simple
24–30
CA24-4
Post-balance-sheet events.
Moderate
20–25
CA24-5
Segment reporting.
Moderate
30–35
CA24-6
Segment reporting—theory.
Simple
20–25
CA24-7
Segment reporting—theory.
Moderate
24–30
CA24-8
Interim reporting.
Simple
20–25
CA24-9
Treatment of various interim reporting situations.
Moderate
30–35
CA24-10
Financial forecasts.
Moderate
24–30
CA24-11
Disclosure of estimates.
Moderate
15–20
CA24-12
Reporting of subsequent events.
Simple
10–15
Effect of transactions on financial statements and ratios.
Moderate
24–35
SOLUTIONS TO CODIFICATION EXERCISES
CE24-1
Master Glossary
(a) Ordinary income (or loss) refers to income (or loss) from continuing operations before income
taxes (or benefits) excluding significant unusual or infrequently occurring items. Extraordinary
items, discontinued operations, and cumulative effects of changes in accounting principles are
(c) The amount of earnings attributable to each share of common stock. For convenience, the term is
used to refer to either earnings or loss per share.
(d) A business entity that has any of the following characteristics:
a. Whose securities are traded in a public market on a domestic stock exchange or in the domestic
CE24-2
According to FASB ASC Glossary:
Related parties include:
a. Affiliates of the entity
b. Entities for which investments in their equity securities would be required, absent the election
of the fair value option under the Fair Value Option Subsection of Section 825-10-15, to be
accounted for by the equity method by the investing entity
CE24-3
According to FASB ASC 280-10–50-12 (Segment Reporting—Overall—Disclosure):
A public entity shall report separately information about an operating segment that meets any of the
following quantitative thresholds (see Example 2, Cases C, D, and E [paragraphs 280-10–55-39 through
55-45]):
(a) Its reported revenue, including both sales to external customers and intersegment sales or trans–
fers, is 10 percent or more of the combined revenue, internal and external, of all operating segments.
CE24-4
No. According to FASB ASC 270-10-S99-2 (Interim Reporting— Overall—SEC Materials):
Question 2: The staff believes disclosure of inventory components is important to investors. In reaching
ANSWERS TO QUESTIONS
1. As indicated in the text, the major advantages are: (1) additional information pertinent to specific
financial statements can be explained in qualitative terms, or supplementary data of a quantitative
2. The full disclosure principle in accounting calls for reporting in financial statements any financial
3. The benefit of reconciling the effective tax rate and the federal statutory rate is that an investor can
determine the actual taxes paid by the enterprise. Such a determination is particularly important if
4. (a) The increased likelihood that the company will suffer a costly strike requires no disclosure in
the financial statements. The possibility of a strike is an inherent risk of many businesses. It,
5. Transactions between related parties are disclosed to ensure that the users of the financial state-
ments understand the basic nature of some of the transactions. Because it is often difficult to
6. “Subsequent events” are of two types:
(1) Those which affect the financial statements directly and should be recognized therein through
appropriate adjustments.
(2) Those which do not affect the financial statements directly and require no adjustment of the
account balances but whose effects may be significant enough to be disclosed with appropriate
figures or estimates shown.
Questions Chapter 24 (Continued)
7. Diversified companies are enterprises whose activities are segmented into unrelated industries. The
accounting problems related to diversified companies are: (1) the problem of defining a segment
8. After the company decides on the segments for possible disclosure, a quantitative test is made to
determine whether the segment is significant enough to warrant actual disclosure. A segment is
identified as a reportable segment if it satisfies one or more of the following tests.
(a) Its revenue (including both sales to unaffiliated customers and intersegment sales or transfers)
is 10% or more of the combined revenue (sales to unaffiliated customers and intersegment
sales or transfers) of all the enterprise’s industry segments.
9. GAAP requires that a company report:
(a) General information about its operating segments.
10. An operating segment is a component of an enterprise:
(a) That engages in business activities from which it earns revenues and incurs expenses.
(b) Whose operating results are regularly reviewed by the company’s chief operating decision
Questions Chapter 24 (Continued)
11. One of the major reasons for not providing segment information is that competitors will then be
able to determine the profitable segments and enter that product line themselves. If this occurs
12. The management discussion and analysis section covers three financial aspects of an enterprise’s
13. Management has the primary responsibility for the preparation, integrity, and objectivity of the com-
pany’s financial statements. If management wishes to present information in a certain way, it may
do so. If the auditor objects because GAAP is violated, some type of audit exception is called for.
14. Arguments against providing earnings projections:
(a) No one can foretell the future. Therefore forecasts, while conveying an impression of precision
15. Arguments for providing earnings forecasts are:
(a) Investment decisions are based on future expectations; therefore, information about the future
16. Interim reports are unaudited financial statements normally prepared four times a year. Interim
balance sheets are often not provided because this information is not deemed crucial over a short
period of time; the income figure has much more relevance to interim reporting.
17. The accounting problems related to the presentation of interim data are as follows:
(a) The proper handling of extraordinary items.
18. The problem when a LIFO base is used for quarterly reporting is that the LIFO base might be
Questions Chapter 24 (Continued)
19. One suggestion has been to normalize the fixed nonmanufacturing costs on the basis of predicted
sales. The problem with this method is that future sales are unknown and hence a great deal of
subjectivity is involved. Another approach is to charge as a period charge those costs that are
20. The CPA expresses a “clean” or unqualified opinion when the client’s financial statements present
fairly the client’s financial position and results of operations on the basis of an examination made
21. Fraudulent financial reporting is intentional or reckless conduct, whether by act or omission, that
results in materially misleading financial statements. Fraudulent financial reporting can involve
many factors and take many forms. It may entail gross and deliberate distortion of corporate records,
such as inventory count tags, or falsified transactions, such as fictitious sales or orders. It may entail
the misapplication of accounting principles. Company employees at any level may be involved, from
that encourage individuals and companies to engage in fraudulent financial reporting and are present
to some degree in all companies. If the right combustible mixture of forces and opportunities is
present, fraudulent financial reporting may occur.
Questions Chapter 24 (Continued)
Situational pressures on the company or an individual manager also may lead to fraudulent
financial reporting. Examples of these situational pressures include:
Sudden decreases in revenue or market share. A single company or an entire industry can
experience these decreases.
Opportunities for fraudulent financial reporting are present when the fraud is easier to commit and
when detection is less likely. Frequently these opportunities arise from:
The absence of a board of directors or audit committee that vigilantly oversees the financial
reporting process.
*22. It has been said that “everything is relative,” and this is certainly true of financial statement data.
The chief significance of financial statement data is not so much in the absolute amounts
*23. Your friend should be advised that in order to interpret adequately and to evaluate financial statement
data, an individual must:
(a) Understand the nature and limitations of accounting.
*24. Percentage analysis consists of reducing a series of related amounts to a series of percentages
of a given base while ratio analysis is the computation of any specific ratio of one figure to
*25. Cost of goods sold is used for two reasons: first, cost must be used rather than retail value
because the average inventory figures are on a cost basis. Second, since measurement of the
turnover involves determination of the number of times inventory was sold this period in compari–
son to the total cost incurred, cost of goods sold must be used as representative of total cost
incurred. An increasing inventory turnover may be an indication of stockouts or inventory shortages.
*27. (a) Common-size analysis is reduction of all dollar amounts in the financial statements to a
percentage of a base amount.
*28. Some believe that the FASB should not be involved in developing standards related to the
presentation of ratios. A basic concern expressed by this group is: how far should the FASB go?
That is, where does financial reporting end and financial analysis begin? Furthermore, we know
SOLUTIONS TO BRIEF EXERCISES
BRIEF EXERCISE 24-1
The reader should recognize that the firm has an annual obligation for lease
payments of approximately $5,711,000 for the next three years. In certain
situations, this information is very important in determining: (1) the ability of
BRIEF EXERCISE 24-2
The reader should recognize that there are dilutive securities outstanding
which may have an effect on earnings per share. In addition, the purchase
BRIEF EXERCISE 24-3
Net income will decrease by $10,000 ($160,000 – $170,000) as a result of the
adjustment of the liability. The settlement of the liability is the type of sub–
BRIEF EXERCISE 24-4
It should be emphasized that because a company discloses its segmental
results, this does not diminish the necessity for providing consolidated results
BRIEF EXERCISE 24-5
BRIEF EXERCISE 24-6
BRIEF EXERCISE 24-7
$500 + $550 + $250 + $400 + $200 + $150 + $475 = $2,525 = total assets.
*BRIEF EXERCISE 24-8
(a) X + $500,000 = 5X
$500,000 = 4X
$125,000 = Current liabilities
*BRIEF EXERCISE 24-9
Cost of Goods Sold
= Inventory Turnover
Average Inventory
= 9
SOLUTIONS TO EXERCISES
EXERCISE 24-1 (10–15 minutes)
(a) The issuance of common stock is an example of a subsequent event
which provides evidence about conditions that did not exist at the
(b) The changed estimate of income taxes payable is an example of a
subsequent event which provides additional evidence about conditions
EXERCISE 24-2 (10–15 minutes)
1.
(a)
4.
(b)
7.
(c)
10.
(c)
2.
(c)
5.
(c)
8.
(b)
11.
(a)
EXERCISE 24-3 (5–10 minutes)
(a) Revenue test: 10% X $102,000 = $10,200.
Segments W ($60,000) and Y ($23,000) both meet this test.
*EXERCISE 24-4 (20–30 minutes)
Computations are given below which furnish some basis of comparison of
the two companies:
Toulouse
Co.
Lautrec
Co.
Composition of current assets
Cash
Receivables
Inventories
Computation of various ratios
Current ratio ($910 ÷ $305)
2.98 to 1
($1,140 ÷ $350)
3.26 to 1
Acid-test ratio ($120 + $220) ÷ $305
1.11 to 1
($320 + $302) ÷ $350
1.78 to 1
Accounts receivable turnover ($930 ÷ $220)
4.23 times
$1,500 ÷ $302
4.97 times
Inventory turnover
Cash to current liabilities ($120 ÷ $305)
($320 ÷ $350)
*EXERCISE 24-5 (20–30 minutes)
(a) The acid-test ratio is the current ratio with the subtraction of inventory
and prepaid expenses (generally insignificant relative to inventory) from
current assets. Any divergence in trend between these two ratios
would therefore be dependent upon the inventory account. Inventory
*EXERCISE 24-5 (Continued)
(b) Financial leverage has definitely declined during the three-year period.
This is shown by the steady drop in the long-term debt to assets ratio,
and the debt to assets ratio. Apparently the decline of debt as a
(c) The company’s net investment in plant and equipment has decreased
during the three-year period 2012–2014. This conclusion is reached by
*EXERCISE 24-6 (30–40 minutes)
(a) The current ratio measures overall short-term liquidity and is an indicator
of the short-term debt-paying ability of the firm.
The quick ratio also is a measure of short-term liquidity. However, it is
Net sales to stockholders’ equity is an activity ratio that measures the
number of times the stockholders’ equity was turned over in sales
volume. This ratio could also be referred to as a net asset turnover ratio
that measures net asset management. Thus, it is a measure of
operational efficiency. This ratio is similar to asset turnover.
*EXERCISE 24-6 (Continued)
Return on common stock equity is a profitability ratio. It measures the
return on stockholders’ investment and is used to evaluate the
company’s success in generating income for the benefit of its
stockholders (i.e., management effectiveness).
(b) The two ratios that each of the four entities would specifically use to
examine Edna Millay Inc. are as follows:
Archibald MacLeish Bank might employ the current or quick ratio and
(c) Edna Millay Inc. appears to have a strong liquidity position as
evidenced by the current and quick ratios that have been improving
over the three-year period. In addition, the current ratio is greater than
Edna Millay’s profitability is good as indicated by the profitability ratios
that have been increasing. Both profitability ratios are greater than the
*EXERCISE 24-6 (Continued)
TIME AND PURPOSE OF PROBLEMS
Problem 24-1 (Time 40–50 minutes)
Problem 24-2 (Time 24–30 minutes)
Purpose—to provide the student with an understanding of the rules for segment reporting. The student
must determine which of five segments are subject to segment reporting rules and describe the
required disclosures.
*Problem 24-3 (Time 35–45 minutes)
Purpose—to provide the student with an understanding of certain key ratios. In addition, the student is
*Problem 24-4 (Time 40–60 minutes)
Purpose—to provide the student with an understanding of the conceptual merits in the presentation of
*Problem 24-5 (Time 40–50 minutes)
Purpose—to provide the student with a situation in which ratio analysis is used in a decision concerning
payment of dividends.