ninja cpa review · not-for-profit accounting 109 xvi. pensions 116 xvii. statement of cash flows...
TRANSCRIPT
NINJA CPA REVIEW®
NINJA Notes Financial Accounting & Reporting 2018
January 2018 – June 2018 Exams
2
The 2018 CPA Exam (Source: AICPA)
3
2018 FAR Exam (Source: AICPA)
4
5
Table of Contents The N.I.N.J.A. Framework I. IFRS 11 II. Accounting Changes 23 III. Financial Reporting 24 IV. Bonds & Debt Restructure 53 V. Consolidations 61 VI. Deferred Taxes 64 VII. Investments & Derivatives 66 VIII. Fixed Assets 72 IX. Governmental Accounting 78 X. Segments & Interim Reporting 91 XI. Partnership Accounting 93 XII. Inventory 96 XIII. Leases 102 XIV. Current Assets & Liabilities 106 XV. Not-For-Profit Accounting 109 XVI. Pensions 116 XVII. Statement of Cash Flows 118 XIII. Stockholders’ Equity 121
6
The N.I.N.J.A. Framework NAIL THE CONCEPTS Watch your CPA Review videos first – before working any assigned homework questions. The CPA Review industry says to watch a section of CPA Review video and then work the accompanying MCQs. This perspective stems from the old-school approach to the paper and pencil exam where you had to sit in a live classroom and learn from an instructor on weekends. Today, there is a smarter way to study. You don’t have to go to a weekend live course. You can fire up the laptop on a Tuesday morning and knock out two hours of material before you even brush your teeth. If you work MCQs in week one over your week one topic, guess what? You will work them again in week 5 or 6 when you review because you will forget what you learned. If you watch a video in week one and score an 85 on the corresponding MCQs, will you be able to score an 85 four weeks later? Not likely. You will need to work them again anyway, and it’s not a smart use of study time. Instead, let the N.I.N.J.A. Framework guide you. INTENSE NOTES Repeat after me: “PUT THE HIGHLIGHTER DOWN.” Which method do you think will help you learn the material better – painting printed words in a book with pretty florescent colors or writing them down on a legal pad and thinking about the information?
7
Grab a stack of legal pads, put the highlighter down, and start writing. Many people have said that instead of taking their own notes, they just re-write the material inside of this study guide, which is fine too. NON-STOP MCQS Now is the time to start working NINJA MCQ and do them with a focused frenzy. Do so many MCQs that you’re absolutely sick of them. As you encounter little “fact nuggets” that you didn’t know or are prone to forget, write it down and add it to your voluminous stack of notes. JUST RE-WRITE IT This is where it gets tedious. This is also where the payoff happens. You may be familiar with the fact that if you had a choice between $3 Million and 1¢ doubled daily for 31 days, the penny doubled for 31 days ends up tripling the $3 Million. The payoff, however, doesn’t happen until the 31st day. The road is long, but ends up being worth it in the end. The same goes for re-writing your study notes. The thought of grabbing that stack of legal pads and going to town re-writing what you’ve already written may sound like a ridiculous suggestion at first, but I am a firm believer in its impact. Merely writing down your notes and then reviewing them before your exam doesn’t have near the impact as taking your furious scribbles and converting them into re-packaged, easily digestible “fact nuggets.” Not only will your notes mean more when you’ve whittled away the non-essentials, but you are actually learning the
8
material twice. Re-processing the material by re-writing your notes is like letting the information marinade in your mind. Just like a well-prepared steak, you will taste the payoff of this extra step. Don’t like taking notes? No problem. Re-write these NINJA Notes instead. You will absorb the material better vs. reading only. Plan wisely because this will likely take a week to complete. “I have found this to be unbelievably helpful! This is now my second section that I have followed this piece of advice and, once again, I am amazed at how much the material "clicks" as I review and write the notes a second time. Sure, it's time-consuming, but for me, it is worth it. No questions asked. Not only does it help with processing and understanding the material, but it also results in a better, more organized set of study notes to use for review up until exam date.” – Sandy ALL COMES TOGETHER You have watched the videos. You’ve taken ridiculous notes and have done hundreds (thousands?) of multiple-choice questions. You’ve re-written your notes. Now, study that stack of review Gold in your hands multiple times, aim for a NINJA MCQ Trending Score of 85% heading into exam day, study your notes even more, and then go in and PASS the CPA Exam.
9
How to use NINJA Notes READING You've invested in the NINJA Notes, now let it go to battle for you. You should read them as many times as possible. Carry it with you wherever you go. Do you have an iPhone®, iPad®, or similar device(s)? Simply load the PDF onto the device, and if you have 5 minutes of downtime, you have 5 minutes of study time. It is recommended that you read the NINJA Notes at least five times leading up to your final two weeks of exam prep. If you have 6 weeks to study, then you need to complete this in 4 weeks. 5 weeks to study, then complete it in 3. 4 weeks = 2 weeks. You get the picture. The point is: plan, plan, plan and budget, budget, budget, budget because exam day is looming. 6-Week Plan: Approx. 112 pages x 5 reads /4 weeks / 7 days per week = Approx. 20 pages per day 5-Week Plan: Approx. 112 pages x 5 reads /3 weeks / 7 days per week = Approx. 27 pages per day 4-Week Plan: Approx. 112 pages x 5 reads /2 weeks / 7 days per week = Approx. 40 pages per day 3-Week Plan: Approx. 112 pages x 5 reads /1 weeks / 7 days per week = Approx. 80 pages per day
10
RE-WRITING This step is optional, but it won over a lot of skeptics with its results. This is not mainstream advice. This is the NINJA way. The mainstream way of studying for the CPA Exam is old-fashion and outdated. Forget the old way. You are a NINJA now.
Now is the time to either 1. Re-write your own CPA Exam notes or 2. Re-Write the NINJA Notes. Plan on investing a week doing this and you should expect to get through 16 pages a day (Approx. 112 pages / 7) in order to stay on track.
11
I. IFRS BASIC ACCOUNTING CONCEPTS (IFRS)
Ø International Accounting Standards Board (IASB)
o Issues IFRS
o Most Authoritative & first place management looks for guidance accounting policies
Ø IASB Framework helps to develop standards
o Is not a standard itself
o Does not supersede any standard’s authority
Ø Objective of IFRS Framework
o Provide users with information
Ø Assumption
o Entity uses the Accrual basis of accounting
Ø Qualitative Characteristics
o Relevance
§ Makes a difference to user
§ Predictive Value – Predicts Future
§ Confirmatory Value – Evaluates Past
12
o Faithful Representation
§ Complete
§ Neutral
§ Free from Error
Ø Enhancing Characteristics
o Comparability
§ Allows users to compare different items among various periods
o Understandability
§ Easy to use and understand
o Verifiability
§ Different people would reach same conclusion
o Timeliness
§ Information is available in time to make a
decision
Ø Pervasive Constraint of IFRS
o Cost vs. Benefit
13
Ø Recognition for Balance Sheet & Income Statement
o Must meet the criteria for an “element” § Asset
§ Liability
§ Equity
§ Income
§ Expense
o Must meet the criteria for recognition
§ Probable future economic benefit
§ Can be measured reliably
§ Cost Recovery Method required if value
or outcome cannot be measured reliably
14
IFRSvs.GAAP
ComparativeFinancialStatementsRequired
NoCompletedContract
NoLIFO
StatementofComprehensiveIncomeRequired
StatementofChangesinEquityRequired
• Gainsnotdisplayedseparately• Lossessameasexpense,butAREdisplayedseparately
"Income"insteadofRevenue
"Profit"insteadofNetIncome
• IFRS- PerformanceObligationclassificationmandatory• GAAP- Optional
Contracts- CustomerControlsAssetBeforeDelivery?
15
Ø IFRS Transitioning
o Date of Transition is the first reporting period that an entity produces full comparative financial statements using IFRS
§ If IFRS was implemented June 2010 for use in
the December 31, 2010 financial statements, then the Date of Transition is actually January 1, 2009 because a full year of comparative statements is required from the previous year
o For Property Plant & Equipment, the Fair Value
election is the most efficient method for converting assets to IFRS
o Adjustments made for adopting IFRS get made in
the entity’s retained earnings or equity
CURRENT ASSETS & LIABILITIES (IFRS)
Ø Current Assets
Ø Current Liabilities
o Can be refinanced into a non-current liability if the refinancing agreement is executed before the Balance Sheet Date
§ GAAP only requires intent, not execution
Ø Contingent Liability
o Contingencies are uncertain future events
o GAAP – Probable, Reasonably Possible, or Remote
16
o IFRS
§ If “Probable” and “Measurable”
§ Classified as a Provision
§ Payment is uncertain in Timing or Amount
FINANCIAL ASSETS (IFRS)
Ø Recorded on the Statement of Financial Position using one of three methods
o Amortized Cost
§ Objective: Collect Cash Flows
§ Uses Effective Interest Method
o Fair Value through OCI
§ Objective: Sell Financial Assets
§ Gain or Loss recognized in OCI
o Fair Value through Profit or Loss
§ Objective: Everything Else
§ Gain or Loss recognized in Profit or Loss
17
DEFERRED TAXES (IFRS)
Ø Uses the “Liability Method”
o All Deferred Tax Liabilities must be reported
o Only “probable” Deferred Tax Assets can be reported
Ø Deferred Tax Assets and Liabilities are non-current on
the Statement of Financial Position
Ø Deferred Tax Assets and Liabilities can be netted ONLY if they are related to the same country/taxing authority
o China Deferred Tax Assets can’t offset Japan Deferred Tax Liabilities
Ø Tax Rates
o IFRS - Enacted Tax Rate or Substantially Enacted Tax Rate
o GAAP – Enacted Tax Rate only FINANCIAL REPORTING (IFRS)
Ø Income Statement
o Income
o Finance Costs
o Tax Expense
o Discontinued Ops
o Profit/Loss
18
o Non-controlling interest in Profit/Loss
o Net profit/loss attributable from equity
Ø Comprehensive Income
o Two statements allowed
§ Income Statement
§ Statement of Comprehensive Income
Ø Investment in Subsidiaries – Valued at
o Cost
o Fair Value
o Equity Method
FIXED ASSETS (IFRS)
Ø PP&E Valuation
o Recorded at Cost
o Valued using one of two options
§ Cost Model
§ Asset carried at Cost less Accumulated Depreciation and Impairment Loss
19
§ Revaluation Model
§ Asset is adjusted to Fair Value, less Accumulated Depreciation
§ Increases in value from the adjustment are reported in the current period as Other Comprehensive Income
§ Decreases in value from the adjustment
are treated as an expense
§ Asset must be able to be reliably measured
§ Must be applied to whole class of assets,
not just one asset
§ No guidance on how often assets should be revalued under IFRS
Ø Investment Property
o Does not include property used in the course of
business
o Initially recorded at cost
o Revalued using
§ Fair Value Model
§ Property is revalued to fair value
20
§ Profit or Loss is recorded in current period on the Income Statement
§ Investment P/L = IS
§ PP&E P/L = OCI
§ Cost Model
§ Carried at (Cost – Accum. Depreciation)
§ Fair Value must still be disclosed in the
notes to the financial statements
o Leases
§ Operating Leases can be recorded as Investment Property if measured at Fair Value
§ All other investment property must use Fair Value Model if one asset uses it
Ø Intangible Assets
o Valued using one of two options
§ Cost Model
§ Asset carried at Cost less Accumulated Depreciation and Impairment Loss
§ Revaluation Model
§ Asset is adjusted to Fair Value, less Accumulated Depreciation
21
§ Increases in value from the adjustment are reported in the current period as Other Comprehensive Income
§ Decreases in value from the adjustment
are treated as an expense
§ Asset must be able to be reliably measured
§ Must be applied to whole class of assets,
not just one asset
§ No guidance on how often assets should be revalued under IFRS
o Internally generated Goodwill is not recognized
o Amortization
§ Intangible Asset has Finite Life
§ Amortized over Useful Life
§ Intangible Asset has Indefinite Life
§ Not Amortized
§ Tested for Impairment at Reporting
Date LEASES (IFRS)
Ø If the substantial risks of ownership have passed to the Lessee, then the Lease must be accounted for as a Finance Lease
22
PENSIONS (IFRS)
Ø Defined Benefit Plans
o Project-Unit-Credit Method calculates the PV of the defined benefit obligation
STATEMENT OF CASH FLOWS (IFRS)
Ø Interest Expense or Finance Costs can be classified as either Operating or Financing
o Once a classification is chosen, all future costs must be classified there
Ø Significant non-cash transactions
o Must be included in notes to financial statements
23
II. Accounting Changes
• RetrospectiveApplication• PriorPeriodsadjusted• RetainedEarningsadjusted• Ex:LIFOtoFIFO
ChangeinAccountingPrinciple
• RetrospectiveApplication• Priorperiodsadjusted• Includedinfootnotes• Ex:ChangetoConsolidatedStatements
ChangeinEntity
• ProspectiveApplication• Going-Forwardadjustment• Ex:StraightLinetoDDBDepreciation
ChangeinAccountingEstimate
• PriorPeriodsadjusted• Beginningbalancesofearliestperiodadjusted• Includedinfootnotes• Ex:Non-GAAPtoGAAP
ErrorCorrection
24
III. Financial Reporting ACCOUNTING CONCEPT BASICS
Ø Primary Objective of Accounting: Measure Income
o Income measures a firm’s efficiency
Ø Monetary Units are the basis of all economic activity
Ø The FASB Codification
o The most authoritative set of accounting pronouncements. All pronouncements fall under the Codification “umbrella.”
Ø Codification (Two levels of GAAP)
o Authoritative
o Non-authoritative
Ø Financial vs. Managerial Accounting Comparison
o Managerial Accounting = “Timeliness” focus
o Managerial Accounting does not follow GAAP
FINANCIAL REPORTING BASICS
Ø Financial Reports are used for
o Providing financial information that is useful to
§ Existing and potential investors
25
§ Lenders and other creditors
Ø Filed with SEC
o Form 10K (Annual and Audited)
o Form 10Q (Quarterly and Reviewed)
Ø Qualitative Characteristics of Financial Reporting
o Relevance - Makes a difference to the user
§ Predictive Value – Future Trends
§ Confirming Value – Past Predictions
§ Materiality – Could affect User Decisions
o Faithful Representation
§ Completeness
§ Nothing omitted that would impact the
decision-making of a user
• Costvs.Benefit• Materiality
PrimaryConstraintsofFinancialReporting
• Consistency- Yearvs.Year• Comparability- Companyvs.Company
SecondaryConstraintsofFinancialReporting
26
§ Neutrality
§ Information presented is without bias
§ Freedom from Error
§ No material errors or omissions
Ø Enhancing Qualitative Characteristics
o Comparability
§ Allows users to compare different items among various periods
o Verifiability
§ Different people would reach a similar
conclusion on the information presented
o Timeliness
§ Information is made available early enough to impact the decision making of users
o Understandability
§ Information is easy to understand
Ø Accrual vs. Deferral
o Accrual – Earned (Revenue) or Incurred (Expense), but no Cash Receipt/Outlay yet
§ Revenue Example: Sell an item on credit
§ Expense Example: Monthly rent expense for December not paid until January
27
o Deferral – Cash Receipt/Outlay, but not Earned (Revenue) or Incurred (Expense)
§ Revenue Example: Customer pre-pays for a repair done to their car (Liability)
§ Expense Example: Company pre-pays insurance premiums and is amortized (Asset)
Ø Recognition
o When an item is recorded and included in the financial statements
Ø Conservatism
o When an estimate is necessary due to uncertainty,
conservatism chooses the best option that won’t overstate the financial position of the company
Ø Fair Value
o The price you would receive if you sold the asset
o Assumes asset is at its highest and best value
o Market Assumes
§ Asset is sold in its most advantageous
market to get the best price possible
§ Buyer and Seller are not Related
§ Buyer and Seller are Knowledgeable
28
§ Buyer and Seller are able to transact
§ This isn’t a hypothetical transaction for Fair Value measurement purposes
§ Buyer actually has $10M to purchase
§ Buyer and Seller are motivated to buy/sell
Ø Fair Value Hierarchy
o Level 1 – Top Level
§ Uses price quotes or market prices
§ NYSE or NASDAQ
o Level 2 – Mid Level
§ Interest Rates
§ Prime Rate
o Level 3 – Lowest Level
§ Unobservable
§ Uses assumptions or forecasts
Ø Acceptable Valuation Techniques
o Market Approach
§ Market transactions/prices value asset
o Income Approach
§ Present value discounts earnings
29
o Cost Approach
§ Replacement cost values the asset ASSETS
Ø Current Assets
o Cash
o Inventory or assets expected to be converted or consumed during a business’ operating cycle
o Receivables expected to be collected < 12 months
LIABILITIES
Ø Current Liabilities
o Will use Current Assets during the present operating cycle
Ø Accrued Liability vs. Current Liability
o Accrued Liability
§ Expense that has been incurred, but not paid
§ Rent Payable
o Current Liability
§ Payments that have been received but
cannot be recorded as revenue yet
§ Tenant pre-pays rent – Landlord must still “perform” to earn
30
REVENUE (Updated for FASB ASC 606)
Ø Revenue from Contracts with Customers
o Excludes
§ Insurance Contracts
§ Lease Contracts
§ Financial Instruments
§ Contracts with Non-Customers
Ø Revenue Recognition Steps (COPAS)
o Identify the Contract with a Customer
o Identify Separate Performance Obligations
o Determine Transaction Price
o Allocate Transaction Price to the Separate Performance Obligations
o Recognize Revenue when/as the entity Satisfies a
Performance Obligation
o Contract o Obligations o Price o Allocation o Satisfaction
31
Ø Contracts
o Commercial Substance
o Rights to Goods/Services Identified
o Approval & Commitment by Each Party
o Payment Terms Identified
o Collection is Probable
o Consideration Received – But Not a Contract?
§ Liability to Entity
§ Recognize Revenue When
• No Further Obligation to Perform & Consideration is Non-Refundable or
• Contract Terminated & Consideration
Non-Refundable
o Combine Multiple Contracts if
§ Same Customer
§ Same Time
§ Same Commercial Objective
§ Same Performance Obligation
§ Contracts Co-Dependent
32
o Obligations to Transfer
§ Goods/Services § Must Be Distinct
• Has Standalone Value • Doesn’t Include Administrative Activities
• Not Distinct?
o Bundle Until Becomes Distinct
§ Shipping / Handling
• Customer Controls After Delivery
o No Performance Obligation
• Customer Controls Before Delivery
o GAAP – Optional
§ Performance Obligation or § Activity to Fulfill Contract
o IFRS – Not Optional
§ Performance Obligation
33
o Price - Consideration Received from Customer
§ Allocated to Performance Obligations
§ Reasonably Estimable
§ Excludes Taxes
§ May Contain Variable Consideration
• Included only if Reversal not Expected
o Rebates & Incentives
o Discounts & Price Adjustments
o Refunds
o Bonuses
o Non-Cash Consideration
§ Valuation Methods for Variable Consideration
• Expected Value Method
o Probability-Weighted
• Most-Likely Value Method
o Most-Likely Amount
• Must Be Applied Consistently
§ Refund Liabilities
• Recognize each Reporting Period
34
o Amount Expected to be Returned
• Example:
o 100 Home Theater Receivers sold at $1,000 each
o 10% Expected to be Returned
o Cash 100,000
§ Revenue 90,000
§ Refund Liability 10,000
§ Significant Financing Component
• Does Financing Affect Transaction Price?
• Promised Consideration <Cash Price of Goods/Services>
• Can Be Explicitly Stated or Implicit
• Discount Rate Should Be the Rate Used If the Entity and Customer Entered Into Separate Financing Arrangement
o Accounts for Credit/Collateral
o Rate NOT Updated Once In Place
• Excludes
o Payments in Advance By Customer
o Payment Terms That Protect Entity
or Customer
35
o Time between Customer payment
and transfer of Goods/Services is less than 1 year
• Financial Statement Presentation of
Significant Financing Component
o Interest Income or Expense
o Separately Presented on Statement of Comprehensive Income
• Price may contain Non-Cash
Consideration
o Measured at Fair Value as of Contract Date
o Use Standalone Selling Price if Fair Value Not Determinable
• Consideration Payable
o Cash, Credit, Etc. Owed to
Customer
o Reduces Transaction Price
§ Unless for Distinct Good/Service
o Allocation of Price to Performance Obligations
§ Based on Standalone Selling Price (SPP)
§ Approaches for Estimates instead of SPP
36
• Market Assessment
o Base Price on Market / Competitors
• Expected Cost + Margin
o Cost of Product + Desired Margin
• Residual
o Price – SPP of other known items
§ Allocation of Discounts
• Allocate Based on SPP
• Discounts Must Be Allocated to Entire Contract Before Residual Approach Used
§ Allocation of Variable Consideration
• Allocated to One or More Obligations
• Allocated to One or More
Goods/Services that Form a Performance Obligation
• Criteria
o Variable Amount related to
Satisfaction of Performance Obligation
o Application Objective of Variable
Amount Consistent with other Payments in Contract
37
§ Allocation of Warranties
• Customer Has Option to Purchase?
o Classified as a Distinct Service
o Performance Obligation
§ Allocate Transaction Price
• No Option to Purchase?
o Not a Performance Obligation
Ø Satisfaction of Performance Obligations: Revenue Recognition - Point in Time vs Over Time
o Revenue Recognition: Point in Time (Default)
§ Revenue recognized at a Point in Time unless it meets the criteria to be recognized Over Time
o Revenue Recognition: Over Time
§ Customer simultaneously receives/consumes benefits of asset as entity performs
• Marketing Agency (Entity) creates and tests online ad campaign for Client
§ Entity performance enhances an asset that
customer already controls
• Website Developer (Entity) makes programming improvements to a Client website
38
§ Entity has no alternative use for asset
• Website Developer (Entity) writes custom script to show new visitors a pop-up ad on Client’s website
§ Entity entitled to payment for work
performed
§ Output Method of Recognition (Value)
• Recognition based on value transferred to Customer to date
§ Input Method of Recognition (Costs)
• Recognition based on internal costs of
assets transferred to Customer to date
o Goods/Services Transferred to Customer
§ Customer gains Control of goods/services at Point in Time or Over Time
• Ability to use, consume, benefit, etc.
§ Criteria for Control of Asset
• Entity – Right to Payment
• Entity – Transferred Possession
• Customer – Right to Title
• Customer – Risks/Rewards of Ownership
• Customer – Accepts
39
Ø Contract Modifications
o New (Distinct) Goods/Services Added + Consideration Increase
§ Create New Contract
o New (Distinct) Goods/Services Added + No Consideration Increase
§ Replace Contract
o New (Not Distinct) Goods/Services Added
§ Use the Same Contract
Ø Royalty Income – Sales-Based & Usage-Based
o Recognize when (Later of …)
§ Subsequent Sale/Usage Occurs
§ Performance Obligation allocated to royalty has been satisfied
o If the Royalty % is applied to Net Sales
§ (Gross Sales – Estimated Returns) x %
Ø Revenues vs Gains
o Revenues
§ Inflows of assets from central/main activities
of the business
§ Company makes machines for $1,000 and sells them for $2,000
40
• $1,000 Gross Profit
o Gains
§ Increase in equity from an activity or event
that is not central to the main activities of the business
§ Company buys a $2,000 machine and fully depreciates it – later sells it for $1,000
• $1,000 Gain
§ Can be operating or non-operating
Ø Losses
o Decrease in equity from an activity or event that is
not central to the main activities of the business
§ Can be operating or non-operating
Ø Operating Cycle
o Average time to turn materials/services to cash
Ø Asset Measurement & Valuation Methods
o Present Value of Future Cash Flows
§ Current value of a Future Amount of Money
§ Uses Specific Interest Rate
o Historical Cost
§ Asset Cost – (Net of Depr. & Amortization)
41
o Replacement (Entrance) Cost
§ Cost to re-acquire an asset
o Market (Exit) Cost
§ Sale Price of an Asset
o Net Realizable Value
§ Sale Price of an Asset – Selling/Disposal Fee
Ø Revenue: Cash to Accrual Basis (SPEAR-BAR)
Sales (i.e. Customer Payments) +Ending Accounts Receivable –Beginning Accounts Receivable Sales Revenue on an Accrual Basis
Ø COGS from Cash Basis (CRAP-I)
Cash Remitted (i.e. paid – made acronym easier) +Increase in Accounts Payable –Increase in Inventory COGS on an Accrual Basis
Ø Discontinued Operations
o Company ceases operating a business segment
§ Must represent a strategic shift
• Major effect on operations and financials
o Disposal Assets must be
§ Held for Sale
42
§ Sold
§ Disposed of another way
o Includes
§ Income (or Loss) from the period
§ + Gain (or Loss) from disposal
o Reported
§ Net of Tax after Continuing Operations in the period it’s classified as held for sale and all prior periods presented in the financial statements
Ø Unusual or Infrequent Items
o Formerly Extraordinary Items
o Two Options for Reporting
§ Income Statement
• Above Income from Continuing
Operations
§ Footnotes to Financial Statements
o Change: No longer net-of-tax
o Treatment in Financial Statements
§ Retrospective or Prospective Treatment
• Additional disclosures required for previous extraordinary classifications
43
Ø Constant Dollar Accounting
o Uses CPI to adjust assets to reflect a consistent
level of purchasing power due to inflation EXPENSE
Ø Recognized when incurred; Accrue if not yet paid
Ø Product Costs
o Expenses matched with associated revenues
§ Ex: Sales commission on a used car sale
Ø Period Costs
o Expenses amortized & recognized with the
passage of time
Ø Impaired assets are written down and expensed
Ø General and Administrative (G&A) Expense
o Office staff salaries, rent, and supplies
§ Sales staff salaries and portions of the building assigned to Sales should be allocated to Selling Expense, not G&A
Ø Business Start-up Costs
o One-time costs for opening a new business
o Expensed as they are incurred
44
Ø Interest Expense
o Interest on projects (software) for internal use is not expensed, but is instead capitalized
COMPREHENSIVE INCOME
Ø Net Income + Other Comprehensive Income (OCI)
o Revenues/Expenses
o Gains/Losses
§ Comprehensive Income includes some Gains and Losses that are not a part of Earnings
o Cumulative Accounting adjustments
§ Foreign Currency Translation Adjustments
§ Minimum Pension Liability adjustment for Defined Benefit Plans
Ø Non-owner changes in Equity
o Investment by owners is not included
Ø Reported in a Single or Combined Income Statement
o Earnings Per Share is not required for OCI
FINANCIAL STATEMENT DISCLOSURES
Ø Revenue Recognition Disclosures (ASC 606)
o Contracts with Customers
§ Contract Balances
45
• Opening/Closing Balances
o Receivables
o Contract Asset
o Contract Liabilities
• Changes in Contract Asset/Liability
Balances due to
o Business Combinations
o Catch-Up Adjustments
o Impairment
o Time Frame Changes
o Performance Obligations
§ Typical Contract Satisfaction
• At Shipment?
• At Arrival?
• As Services Rendered?
• At Service Completion?
• Bill-and-Hold Policies?
§ Significant Payment Terms
§ Nature of Goods/Services Promised
46
§ Obligations
• Refunds
• Warranties
• Returns
o Significant Judgments
§ Judgments made in applying Standard
§ Changes in Judgements
o Costs to Obtain/fulfill Customer Contracts
§ Assets Created/Recognized
• Include Closing Balances
§ Judgments Made
§ Amortization Method
§ Amount of Amortization & Impairment Losses
Ø Accounting Policy Disclosures
o Includes
§ Accounting Principles used
§ Basis of Consolidation
§ Inventory Pricing Methods
§ Depreciation Method
47
§ Amortization of Intangibles
Ø Risk and Uncertainty Disclosures
o Nature of Operations
o Use of Estimates & listing of Significant Estimates
o Concentration vulnerability
Ø Going Concern Doubts
o Management must evaluate whether the entity will continue to operate as a going concern within 1 year of financial statement issuance
o Substantial Doubt Raised – Alleviated
§ Management has a plan to alleviate threat
§ Disclosures Required
• Events that led to GC Doubt
• Management evaluation of event
• Management plans to alleviate
o Substantial Doubt Raised – Not Alleviated
§ Management plan – doubtful success
§ Statement Required
• There is substantial doubt that entity will continue as GC within 1 year of financial statement issuance date
48
§ Disclosures Required
• Events that led to GC Doubt
• Management evaluation of event
• Management plans to alleviate SPECIAL PURPOSE FRAMEWORKS
Ø Alternatives to GAAP Accounting
o Cash Basis
o Modified Cash Basis
o Incomes Tax Basis
o FRF for SMEs
o Public Business Entities Framework
Ø Cash Basis Accounting
o Revenue Recognized with Cash Inflow
o Expense Recognized when Cash Outflow
o OK for Tax Returns
o Not GAAP
Ø Modified Cash Basis Accounting
o Avoids GAAP complexities while providing more information than Cash Basis Accounting
o Not GAAP
49
Ø Income Tax Basis Accounting – 3 Options
o Cash Basis
o Accrual Basis
o Hybrid Method (Cash + Accrual for Inventory)
Ø Financial Reporting Framework for Small & Medium
Sized-Entity Framework (FRF for SME)
o Developed by the AICPA
o Not GAAP
o Has No Authoritative Status
o Simplifies reporting for small companies
§ Uses Historical Cost as measurement basis (instead of Fair Value)
§ Targeted/Relevant Disclosures only
o Provides efficiency and flexibility
o Reduces Book vs. Tax Differences
o Income Taxes – Two Options
§ Deferred Taxes Method
§ Taxes Payable Method
50
o Startup Costs – Two Options
§ Expensed
§ Amortized (15 years)
o Goodwill
§ Amortized (15 years)
Ø Public Company Framework
o Developed by the FASB
o GAAP
o Small Company Lease Accounting
§ Private companies can bypass Variable Interest Entity rules for Leases
§ Instead, Lease disclosures are made
o Accounting for Goodwill
§ Amortize Goodwill over 10 years
• Will reduce impairment likelihood
• Less than 10 if more appropriate
§ Must test for impairment – Two Options
• Entity-Level
• Reporting Unit Level
51
o Interest Rate Swaps
§ Simplified Hedge Accounting approach
• Simplifies the process of moving from a variable-rate borrowing + interest rate swap to a fixed-rate borrowing
REGULATION S-K
Ø Under the Securities Act of 1933
Ø When an issuer issues an IPO, they must adhere to Regulation S-K
Ø Included in Regulation S-K (note: Registration S-K
contains a lot of information and sub-topics. For purposes of passing the CPA Exam, this list is general in nature.)
o General Business & Securities information
o Financial information
o Management and security holder information
o Registration Statement and Prospectus provisions
o Industry Guides, Exhibits & Asset-backed
securities
o Roll-Up Transactions & Mergers
o Oil and Gas disclosures, if applicable
52
DEVELOPMENT STAGE ENTITIES
Ø A DSE is a company that is still in the formation stage and hasn’t yet begun principal operations or produced significant revenue
Ø New GAAP rules relax the reporting requirements for a DSE by removing the need for
o Incremental Financial Reporting
o Data Maintenance
o Inception-to-Date Reporting
o Attaching the DSE label to the F/S
o Disclose descriptions of DSE Activities
o Disclose first-year entity is no longer a DSE
Ø Benefit: Cost savings without sacrificing F/S usefulness
53
IV. Bonds & Debt Restructure
BOND CALCULATIONS
Ø Bond Proceeds Formula
Present Value of the Principal Payment at Maturity + Present Value of Interest Payments made
= Market Value of Bond Proceeds
Ø Present Value of a Bond
Step 1: PV of $1 @ Yield Rate (not Stated Rate) x Bond Face Value PLUS
Step 2: PV of an Ord. Annuity of $1 for Term @Yield x (Stated Rate x Face)
• MaturesinInstallments
SerialBond
• MaturesonaSingleDate
TermBond
• Unsecured
DebentureBond
• CashheldforBondRepayment• 5yearsofDisclosures
SinkingFundBonds
54
Application: Face Amount: $1,000 Stated Interest Rate: 6% Yield Interest Rate: 9% Bond Term: 10 periods PV $1 for 10 periods @ 6% = .558 PV $1 for 10 periods @ 9% = .422 PV of an OA of $1 @ 9% for 10 periods = 6.418 (Remember: always ignore the stated rate for PV calculations) Step 1: $1,000 x .422 = $422 Step 2: $1,000 x 6% = $60 (the only time you use the stated rate) x 6.418 = $385
Carrying Amount of Bond: $422 + $385 = $807
Ø Bond Issuance Costs
o Third Party debt issuance costs (Engraving,
Printing, Legal, Underwriter, Registration, etc)
o Reduces Carrying Amount of Liability
§ Key: Increases Effective Interest Rate
o Disclosures: Same as a Change in Accounting Principle
o Retrospective Treatment to all prior periods
presented in the financial statements
55
Ø Bonds Classified as Trading Securities
o Reported at FMV with unrealized gains and losses being included in earnings
Ø Bond Amortization: Interest Method
o Both discount and premium amortization amounts increase each year
Ø Bond to Stocks: Book Value Method
o No gain or loss recognized
o APIC is the plug for the difference between the Bond’s Book Value and the Par Value of the Common Stock Application: Bond Payable 1,000,000 Bond Premium 300,000
Common Stock (Par) 50,000 APIC (plug) 1,250,000
56
BOND RATES
Ø Stated Rate: Rate on the face of the bond
Ø Market Rate: Rate that bonds are currently selling for
Ø Market Rate > Stated Rate?
o Bond will need to sell at a discount for buyers to be interested. The difference in market rate vs. the stated is made up by the buyer purchasing the bond for less than par value
§ Market Rate: 12% § Stated Rate: 10% § Par Value: $100 § Purchase Price: $98
Ø Market Rate < Stated Rate?
o Bond will need to sell at a premium in order for
sellers to be interested. The difference in market rate vs. the stated is made up by the buyer purchasing the bond for more than par value
§ Market Rate: 8% § Stated Rate: 10% § Par Value: $100 § Purchase Price: $102
BOND JOURNAL ENTRIES - ISSUER
Ø Bond Issuance on Interest Date
Dr. Cash 102 Dr. Cash 98 Cr. Premium 2 Dr. Discount 2 Cr. Bond Payable 100 Cr. Bond Payable 100
57
Ø Bond Issuance between Interest Date
Dr. Cash 102 Dr. Cash 98 Dr. Cash Interest* Dr. Cash Interest*
Cr. Premium 2 Dr. Discount 2 Cr. Bond Payable 100 Cr. Bond Payable 100 Cr. Interest Payable* Cr. Interest Payable*
* Face x Stated Rate x Interest Accrued since last date
o If a company issues bonds between interest dates, then the total cash that they receive will be MORE than they normally would (set aside any considerations for premium or discount, they are irrelevant for this point).
o Purchaser of the bonds must give the bond issuer the amount of accrued interest up front
§ Why? Because if the bonds are issued on March 1 and the next interest payment date is July 1, then when the buyer of the bonds gets the full interest payment on July 1, it will be for the full six months (Face x Stated Rate).
§ To account for the buyer getting money that wasn’t earned in July, then the buyer essentially pays them back for those two months up front.
58
$100,000 Bonds 10% Stated Rate Sold at Par on March 1 January 1 & July 1 interest dates 100,000 x 2/12 x 10% = $1,667 Cash $101,667 Bonds Payable $100,000 Interest Expense $1,667 ß Note: Credit
Ø Interest Expense
o Interest Expense starts accruing when the bonds
are issued – not with the face amount of the bonds
o Remember – when doing a Journal Entry on Bonds for Interest payments
§ The amount of cash that is credited for the payment = Stated Rate x Face Amount
§ The amount of interest expense debited is the Effective Yield x Carrying Value
Ø Remember: Interest Paid vs. Interest Expense
o Interest Paid depends on the amount/rate on the
bond – it has nothing to do with Premiums or Discounts
o Interest Expense depends on the carrying amount [(Bond amount +/- Premium or Discount), minus amortization)] x Effective (Market) Interest Rate
59
BOND AMORTIZATION
Ø Bond Sold at a Discount
$10,000 Face Bond Discount $635 (PV table not used for illustration) 5% Stated Interest 6% Yield
Date Coupon @ 2.5%
Expense @ 3%
Discount Amortization
Bond Discount
Carrying Amount
1-1 635 9,365 7-1 250 281 31 604 9,396 1-1 250 282 32 572 9,428
Ø Bond Sold at a Premium
$10,000 Face Bond Premium $635 (PV table not used for illustration) 5% Stated Interest 4% Yield
Date Coupon @ 2.5%
Expense @ 2%
Premium Amortization
Bond Premium
Carrying Amount
1-1 635 10,635 7-1 250 213 37 598 10,598 1-1 250 212 38 560 10,560
Ø Effective Interest Method of Amortization as shown in above two examples is GAAP
o Straight Line Amortization is not GAAP
60
DEBT RESTRUCTURE - DEBTOR
Ø Modification of Terms
o If future payments are now less than the carrying amount of the debt, then a Gain is recognized
Ø Settlement
o Gain recognized
§ Cash Paid - Carrying Amount
§ Difference between non-cash asset given and re-valued at FMV and debt carrying amount
DEBT RESTRUCTURE - CREDITOR
Ø Loan Impairment
o Future Cash Flows discounted at loan’s Effective Interest Rate < Carrying Value
§ Effective Rate calculated using Original Rate, not Modified Rate
61
V. Consolidations FINANCIAL REPORTING METHODS
Ø Fair Value – 20% Ownership or Less
o Accounted for as a “purchase”
o If amount paid < Fair Value = Bargain Purchase
§ Results in a Gain in current period
Ø Equity Method – 21-50% Ownership
o Gives “Significant Influence”
o Purchase Price - Par Value = Good Will
§ Fair Value of Assets = $100,000
§ Purchase Price of Shares = $33,000
§ Shares Purchased = 30%
§ $100,000 x 30% = $30,000
§ $33,000 - $30,000 = $3,000 Goodwill
o Dividends received from Investee reduce the Investment account and are not income
o Changing to Equity Method
§ New with Simplification Initiative
§ Recognize Unrealized Holding G/L in Earnings
62
§ Prospective F/S Treatment
Ø Consolidation – > 50% Ownership
o Investment account eliminated
o Exceptions for consolidation
§ Majority owner does not “Control”
§ Bankruptcy
§ Foreign Bureaucracy
o Only parent company prepares consolidated
statements, not subsidiary
o Majority shares are purchased, but separate legal entities continue to exist
o Acquired assets and liabilities are recorded at their
Fair Value on the Acquisition Date
o Eliminating Entries
§ Intercompany Sales
§ Inventory
§ PP&E
§ Note: Under Newly-Tested ASU 2016-16, the tax effects of Intercompany Sales, except Inventory, must be recognized immediately
63
o Subsidiary A has a Gain upon Sale/Transfer to Subsidiary B
§ Sub A = Current Tax Expense
§ Sub B = Deferred Tax Asset
§ Intercompany Investments
Ø Step Acquisition
o Acquirer held previous shares accounted for under Fair Value Method or Equity Method, and are now re-valued to Fair Value
§ Results in a Gain or Loss in current period
Ø Acquisition vs. Merger
o Acquired companies continue to exist as a legal entity – their books are just consolidated with the parent company in the parent’s financial statements
o Merged companies cease to exist and only the
parent remains
Ø Acquisition Costs
o Expensed in period incurred – i.e. NOT capitalized
§ Accounting
§ Legal
§ Valuation
§ Consulting
64
§ Professional
o Netted against Stock Proceeds
§ Stock registration and issuance costs
VI. Deferred Taxes DIFFERENCES BETWEEN BOOK AND TAX INCOME
Ø Temporary Differences
o GAAP says to recognize a revenue/expense in one
period and tax laws say to recognize it in another
§ Ex: Dividends from a subsidiary accounted for using the Equity Method
§ Tax Income, but not Book Income
o Deferred Tax Asset
§ Deduction will reduce future income taxes
expense
o Deferred Tax Liability
§ Income will be taxable in a future period and will increase future tax expense
o Note: Deferred Tax Assets and Liabilities are
calculated using the FUTURE enacted tax rate, not the current one
§ Never discounted to Present Value
65
o Valuation Allowance
§ If it is “probable” that not all of a Deferred Tax Asset (Debit) will be realized, then the Deferred Tax Asset account must be written down (Credit) to reflect this probability
Ø Permanent Differences
o Have no Tax Impact
§ When calculating the total differences
between book and tax income, subtract the Permanent Differences from the total before applying a Future Enacted Tax Rate
o Ex: Tax-free Bond Interest
Ø Deferred Income Tax Expense
o The sum of Net Changes in Deferred Tax Assets
and Deferred Tax Liabilities
o GAAP Method for calculating is the “Asset and Liability Approach”
§ Note: IFRS uses the “Liability Approach” only
Ø Balance Sheet
o Deferred Tax Assets and Liabilities are non-
current only (Simplification Initiative)
o Deferred Tax Assets and Liabilities can be netted ONLY if related to same country/taxing authority
§ China Deferred Tax Assets can’t offset Japan
Deferred Tax Liabilities
66
VII. Investments & Instruments EQUITY SECURITIES
Ø Excludes
o Equity Method Investments
o Consolidations
Ø No longer categorized as AFS/Trading
o Debt Securities still categorized as AFS/Trading
Ø Recorded
o Fair Value
o Cost <Net of Impairment>
§ If Value Not Determinable
§ Qualitative Assessment required to
Determine Impairment
Ø Unrealized Gains/Losses
o Income Statement
Ø Disclosures
o Fair Value Disclosures Based on Exit Price
§ Price received if you sold the asset
67
HELD-TO-MATURITY (DEBT) SECURITIES
Ø Recorded at Amortized Cost
o Classified as Current or Non-Current Asset
Ø Unrealized Gains/Losses
o N/A
Ø Reclassified?
o Available-for-Sale
§ Unrealized G/L go to Stockholder’s Equity
o Trading Securities
§ Unrealized G/L recognized in Current Period
Ø Balance Sheet Requirements
o Separate Presentation
§ Financial Assets
• Securities
• Loans
§ Financial Liabilities
• Securities
• Loans
68
DERIVATIVES
Ø Recorded at Cost when acquired
Ø Re-valued to Fair Value each period on Balance Sheet
Ø Equity Securities
o Unrealized Gains and Losses
§ Income Statement
HEDGING
Ø Fair Value Hedge
o Offsets exposure to changes in the value of a recognized asset/liability or of an unrecognized commitment
o Ex: Interest Rate Swap that offsets risk that changes in interest rates will materially change a company’s risk with respect to debt
o Recorded on Balance Sheet at Fair Value
o Gain or Loss
§ Income Statement
Ø Cash Flow Hedge
o Hedges exposure to fluctuations in cash flows
o Ex: A cereal company knows that it will be
purchasing grain 10 months from now. To offset the risk that grain will go up in price 10 months from now, they enter into a futures contract
69
o Recorded on Balance Sheet at Fair Value
o Gains or Loss
§ OCI
Ø Foreign Currency Hedge
o Gain or Loss
§ OCI
Ø Required Disclosures
o Objectives and Strategies
o Context to help investor understand instrument
o Risk Management Policies
o Complete List of Hedged Instruments
FOREIGN CURRENCY TRANSACTIONS
Ø Used for transactions denominated in something other
than a company’s functional currency
o A US firm purchases goods on account from a company located in Japan
o Agrees to pay the amount owed in yen
o The Payable is denominated in a foreign currency (yen), and the transaction is a Foreign Currency Transaction.
70
Ø A change in exchange rates between the functional currency and the currency in which a transaction is denominated occurs
o This increases or decreases the expected amount of functional currency cash flows upon settlement of the transaction
o Resulting in a Foreign Currency Transaction G/L
o The G/L goes to the Income Statement
FOREIGN CURRENCY TRANSLATION
Ø US corporation has a subsidiary in a foreign country
o Functional/Reporting currency is the US dollar
o The translation issue then revolves around translating the foreign subsidiary’s financial statements into the reporting currency of the parent for purposes of preparing consolidated financial statements
o G/L goes to OCI
Ø If Functional Currency = Local Currency
o Asset and Liability Translation
§ Use Current Rate as of Balance Sheet date
o Revenue and Expense Translation
§ Use the Weighted Average Exchange Rate for the current year
71
Ø If Functional Currency = Reporting Currency
o Foreign Currency Financial Statements are re-measured into the Reporting Currency (Dollar) using the weighted-average exchange rate
§ Historical Exchange Rates (Weighted Avg)
§ Inventory @ Cost
§ Prepaid Assets & PP&E
§ Current Exchange Rates (Weighted Avg)
§ Monetary Assets & Liabilities
§ Inventory @ Market
§ Trading Securities
§ Deferred Taxes
72
VIII. Fixed Assets CAPITALIZED ACQUISITION COSTS - EQUIPMENT
Ø Includes all expenditures to get the asset into “working
condition” and ready for use
o Purchase Price + Liabilities Assumed
o Shipping
o Taxes
o Insurance
o Installation
o Testing
o Legal fees
o Construction Loan Interest
o Any alterations to existing facilities or equipment necessary for the new purchase and installation that extend the life or increase efficiency of these assets are capitalized
Ø R&D Costs are expensed in the period incurred and are
not capitalized
CAPITALIZED ACQUISITION COSTS - BUILDINGS
Ø Includes all expenditures to get the asset into “working condition” and ready for use
73
CAPITALIZED ACQUISITION COSTS - LAND
Ø Includes all expenditures to get the land ready for its intended use
o Title & County Fees
o Clearing of Land - Dirt Work, etc.
o Demolition and Removal of Buildings (minus any scrap or salvage)
Ø Remember – Capitalized land costs are not depreciated NON-MONETARY EXCHANGES
Ø If non-monetary assets are exchanged, no gain can be recognized if the cash flows are not significantly different – i.e. it lacks commercial substance
o The asset acquired is recorded at the book value of the asset given up
o The only gain that can be recognized is any boot (cash) received from the transaction
Ø If non-monetary assets are exchanged and the cash
flows are significantly different, then it has commercial substance and a gain/loss can be recorded on the exchange
o New asset is recorded at the fair value of the assets given up, unless the asset acquired has a fair value that is easier to determine
74
Ø Recap:
o Transaction Lacks Commercial Substance
§ Cash Flows are not different
§ New Asset = Book Value of Old Asset
o Transaction Has Commercial Substance if …
§ Cash Flows are different
§ New Asset = Fair Value of Old Asset
§ Exam Tip – Transactions that have Commercial Substance are arms-length and are “fair” and use “fair value”
Ø Donated Property (Non-Reciprocal Transfer) - Donee
o Recorded at Fair Value + costs associated with getting the property into working condition for its designed purpose
o Exam Tip - Think of a charity holding a “fair” and then donating the property which is then recorded at “fair value”
Ø Donated Property (Non-Reciprocal Transfer) – Donor
o Recorded at Fair Value of asset given up
o Gain or Loss recorded
75
DEPRECIATION
Ø Double-Declining Balance (DDB)
o 1/(Useful Life) x 2 x Book Value
o Ignore Salvage Value
o Exam Tip: Be sure to know how to calculate DDB Equipment costs $10,000 10-Year Useful Life $1,000 Salvage Value What is DDB for Year 1 and Year 2? Straight Line = 1/10 = 10% DDB = S/L x 2 = 20% Year 1: $10,000 x 20% = $2,000 Year 2: ($10,000 - $2,000) x 20% = $1,600 Year 3: ($10,000 - $3,600) x 20% = $1,280 Year 4: ($10,000 - $4,880) x 20% = $1,024 Year 5: (10,000 - $5,904) x 20% = $819.20 Note: Since Year 5 drops below S/L, then you continue to depreciate using S/L and abandon DDB.
Ø Sum of Year’s Digits (SYD)
o Deducts Salvage Value
= Remaining Useful Life / SYD
10-Year Useful Life
76
What is the SYD for Year 3?
Year 1 = 10 Year 2 = 9 Year 3 = 8
=8 / (10+9+8+7+6+5+4+3+2+1) = 8/55 = 14.5%
(Cost – Salvage Value) x 8/55 = Depreciation Expense for Year 3
Ø Straight Line (S/L)
o Deducts Salvage Value
$10,000 Asset 10-Year Useful Life $100 Salvage
$10,000-$100 = $9,900 $9,900 / 10 = $990 per year
IMPAIRMENT
Ø Undiscounted Future Cash Flows < Carrying Value
Ø Carrying Value – Fair Value = Impairment Loss
o Impaired Assets that recover their value can’t be
written back up once written down
o Deducts Salvage Value
77
INTANGIBLE ASSETS
Ø Patents
o Legal fees to successfully defend a patent are amortized over the patent’s economic life
Ø Goodwill
o Tested for impairment at the level of the Reporting
Unit – never tested at the Entity Level
o Two Steps for Testing Goodwill Impairment
§ Compare the CV to the FV. If FV>CV, no impairment exists, you’re done.
§ If impairment appears to exist, the assets
and liabilities should be compared to the total value of the reporting unit. The difference is Goodwill. Compare this amount to the CV of the Goodwill and write it down accordingly.
SOFTWARE EXPENSES
Ø Prior to Technological Feasibility - Expense as R&D
Ø After Feasibility but prior to Production - Capitalize
Ø Expenses incurred during production
o Inventory
Ø During training on internal use software – Expensed
78
IX. Governmental Accounting
GOVERNMENTAL ACCOUNTING BASICS
Ø Primary Objective
o Provide information that is useful and benefits a wide range of users including
§ Cost of Services provided
§ Sufficiency of Revenues to cover costs
§ Financial Position of the Entity
Ø GAAP Hierarchy for State & Local Governments
o Authoritative
§ Category A
§ GASB Statements
§ Category B
§ GASB Technical Bulletins
§ GASB Implementation Guides
§ GASB-Approved AICPA Literature
o Non-Authoritative
§ GASB Concepts Statements
§ FASB Pronouncements / Other
79
Ø Fund Types
o Governmental Funds
o Proprietary Funds
o Fiduciary Funds
Ø Fund Accounting - Two Types
o Accrual Basis
§ Current Economic Resources Focus
§ Revenues recognized when earned
o Modified Accrual Basis
§ Current Financial Resources Focus
§ Revenues recognized when available & measurable
Ø Budget Estimates
o Appropriation
§ Highest amount allowed for an expenditure
o Encumbrance
§ Records purchases & reserves it
Ø Budget Actuals
o Expenditure
§ The actual cost of something
80
Ø Opening Budgetary Entry
Dr Estimated Revenues Control Cr Appropriations Control Dr/Cr Budgetary Fund Balance (plug)
Ø Closing Budgetary Entry
Dr Appropriations Control Dr/Cr Budgetary Fund Balance (plug) Cr Estimated Revenues Control
GOVERNMENTAL FUNDS (GSP-CD)
Ø Use Modified Basis of Accounting
Ø Have a Current Financial Resource Focus
Ø Revenue Recognized when available and measurable
o Sales tax revenue to be received within 60 days of the fiscal year-end that will be used to fund expenditures made prior to year-end are treated as revenue in the current fiscal year
Ø General Fund
o The “Operating” fund of the governmental unit
§ Records Significant Revenues
§ Taxes
§ Tickets
81
§ Fines
§ Licenses
§ Records Significant Expenditures
§ Police
§ Education
§ Fire Dept.
Ø Special Revenue Fund
o Restricted for a specific purpose such as street repair
Ø Permanent Fund
o Legally restricted
o Only earnings can be used to fund programs
o Principal remains intact
Ø Capital Projects Fund
o Used to acquire and build facilities
Ø Debt Service Fund
o Handles repayment of long-term debt and related
interest
Ø Governmental Fund Balance Types
o Restricted – Restricted by Contributor (Strict)
82
o Committed – Restricted by Government (Less strict because they can undo the restriction)
o Assigned – Intended to be used for a purpose
o Unassigned – Available to be spent
o Non-Spendable – isn’t in a “spendable” state
(Inventory)
Ø Governmental Fund Statements
o Balance Sheet
o Statement of Revenues, Expenditures, and Changes in Fund Balance
Ø Revenue Recognition
o Is it available?
o Is it measurable?
o If yes – it’s revenue, regardless of when it is spent
Ø Derived Tax Revenue
o Collected by people “doing” things
§ Buying cars
§ Sales Tax
§ Going to work
§ Income Tax
83
Ø Imposed Tax Revenue
o Assessed just because things “exist”
§ Property Tax on car
§ Your car could sit in the driveway all year and never move. The fact that it exists means it gets taxed
§ Real Estate Tax
o Recorded as Revenue when Budgeted PROPRIETARY FUNDS
Ø Use Accrual Basis of Accounting
o Orientation is Income Determination
Ø Have an Economic Resource Focus
Ø Revenue Recognized when earned and measurable
Ø Internal Service Fund
o Serves the needs of other governmental units
o Example: Motor Pool fixes government vehicles
Ø Enterprise Fund
o Provides goods or services to external users
o Example: Post Office
Ø Proprietary Fund Financial Statements
84
o Statement of Net Position
o Statement of Revenues, Expenses, and Changes in Net Assets
o Statement of Cash Flows
FIDUCIARY FUNDS
Ø Use Accrual Basis of Accounting
Ø Have an Economic Resource Focus
Ø Agency Fund
o Government acts as an “agent” or custodian
Ø Pension Trust Fund
o Government is a trustee for a pension plan
Ø Investment Trust Fund
o Government is trustee over a series of investments
Ø Private Purpose Trust
o Trust that benefits various individuals and entities
Ø Fiduciary Fund Financial Statements
o Statement of Net Position
o Statement of Changes in Net Position
85
INVESTMENT & LIABILITY VALUATION
Ø Fair Value
o Price received to sell an Investment
§ Held for Income or Profit
o Price paid to transfer a liability
Ø Valuation Approaches
o Market Approach
§ Price from similar transactions
o Cost Approach
§ Price to replace similar asset
o Income Approach
§ Converts future cash flows to current amounts
§ Example: Present Value Technique
Ø Fair Value Hierarchy
o Level 1 (Best)
§ Quoted Prices for Same Assets & Liabilities
o Level 2
§ Quoted Prices for Similar Assets & Liabilities
86
o Level 3
§ Best Data Available
Ø Acquisition Value
o Price paid if purchased instead of donated
§ Donated Assets
§ Donated Art
Ø Investment & Liability Disclosures
o Organized by Asset & Liability Type or Class
o Fair Value Measurement
§ Valuation Technique
§ Change in Valuation Technique?
§ Level of FV Hierarchy used GOVERNMENT-WIDE FINANCIAL STATEMENTS
Ø Statement of Net Position & Statement of Activities
o Prepared on an Accrual Basis
o Focus is on Economic Measurement
o Purpose is to provide Operational Accountability
87
Ø Statement of Net Position
o Assets (Current & Non-Current)
§ Ordered by Liquidity
o Deferred Outflows of Resources
§ Future use of Net Assets
§ Exam Tip – Which MCQ option is an example of cash leaving the entity?
§ Exam Tip – D. Outflows follows Assets in
presentation (Assets – Outflows – Liabilities – Inflows) because it’s going to use those assets.
o Liabilities (Current & Non-Current)
§ Ordered by Liquidity
o Deferred Inflows of Resources
§ Future increase in Net Assets
§ Exam Tip – Which MCQ option is an example
of cash entering the entity?
§ Exam Tip – D. Inflows follows Liabilities in presentation … think of it as bringing in money (Inflow) and now owing a service
o Restricted Net Assets
o Unrestricted Net Assets
88
o Capital Assets
§ Net of debt
o Divided into
§ Government Activities
§ Business Activities
o Capital Assets are shown Net of Debt
Asset Cost
-Accumulated Depreciation -Asset Liabilities
Net Assets
o Infrastructure
§ Modified Approach
§ Reported at Cost
§ No Accumulated Depreciation
Ø Statement of Activities
o Government activities divided by function
o Revenues
§ General Revenues
§ Program Revenues
89
Ø Notes to Financial Statements
o Notes are considered part of Financial Statements
Ø Presentation
o If the activities of a component are distinguishable
from the rest of the governmental entity, then Discrete Presentation is required
o If the activities of the component cannot be identified and separated from the rest of the governmental activities, then Blended Presentation is warranted.
o Component units are reported in the Entity-Wide Financial Statements and not the Fund Financial Statements.
DEFINED BENEFIT PENSION PLANS
Ø Financial Statements Required
o Statement of Fiduciary Net Position
§ Assets
§ Deferred Outflows
§ Liabilities
§ Deferred Inflows
§ Fiduciary Net Position
90
o Statement of Changes in Fiduciary Net Position
§ Additions
§ Contributions
§ Net Investment Income
§ Deductions
§ Benefit Payments
§ Admin Expense
§ Net Change in Fiduciary Net Position
Ø Financial Statement Notes
o Types of Benefits Provided
o Plan Member Classes
o Board of Directors Information
o Investments
§ Policies
§ Fair Value Determination
91
X. Segments & Interim Reporting
INTERIM REPORTING
Ø Short-term Financial Statements for periods < 1 year
Ø Same accounting principles used for annual reporting purposes should be applied to interim periods
Ø Discrete View
o Interim period is a separate accounting period
o Not GAAP
Ø Integral View
o Interim period is part of the annual period
o GAAP
Ø Interim Reporting rules that differ from normal GAAP
o Gross Profit Method may be used to estimate COGS and Ending Inventory
o Temporary declines in Inventory aren’t recognized
Ø Discontinued Operations & Unusual/Infrequent Items
o Aren’t prorated
o Fully recognized in Interim Period as incurred
o If it occurs in Q3, it’s recognized in Q3
92
Ø Cumulative Gains and Losses
o Reported as if they occurred in the first quarter
Ø Inventory Valuation
o If inventory experiences a decline in value during an interim period, the loss is recognized in the interim period
§ If the loss is expected to be only temporary, no loss is recognized
Ø Problems with Interim Reporting
o The matching principle gets messed up – Expenses incurred in one period may benefit future periods
SEGMENT REPORTING
Ø Required by publicly traded companies
Ø Test of Significance for a Segment (must meet one of these requirements)
o Revenue of segment is 10% or more of total
o Profit is 10% or more of total
o Segment assets are 10% or more of total
o 75% Test
§ All segment revenues must equal 75% of total external revenues
93
Ø Disclosure Requirement
o If 10% or more of enterprise revenue comes from one customer, the segment making the sales must be disclosed
XI. Partnership Accounting FORMATION OF A NEW PARTNERSHIP
Ø Contributed Assets should be recorded at Fair Value
Ø Liabilities assumed by the partnership should be valued at the Present Value of the remaining Cash Flows.
Ø Capital Contributions with a Mortgage
o Unlike in Regulation where the partner’s tax basis
is reduced by the amount of the mortgage that the other partners absorb, calculating the capital balance when property contributed has a mortgage results in the FV of the Asset being netted against the Liability
o If you contribute a $100,000 building with a 20,000 loan, your capital account is increased by $80,000, instead of allocating the liability to the other partners according to their ownership %.
94
ADMISSION OF A NEW PARTNER
Ø Bonus Method
o If no Goodwill is recorded, then use Bonus Method
Old Partnership Equity + New Partner Contribution New Partnership Equity
New Partnership Equity x New Partner %
New Partner Equity Amount New Partner Contribution - New Partner Equity Amount
= Bonus to Prior Partners using same allocation as P/L Current Capital (A,B,C): 60,000
New Capital (D): 30,000
20% interest purchased
60,000 + 30,000 = 90,000 total capital
20% x 90,000 = 18,000 capital for D Cash from New Partner $$ New Partner Capital $$ Old Partner’s Capital (Bonus) $$
95
Ø Goodwill Method New Contribution/New Equity % = Partnership Value Implied Value of Partnership
-Capital Accounts of all partners = Goodwill to Old Partners Under the Goodwill Method, the new Partner is paying an amount for a certain percentage stake in the partnership. For instance, if they pay $1000 for a 25% stake, then it is assumed that the Partnership is worth $4,000 ($1,000/25%) If the partnership is worth $4,000 and the new partner paid $1,000, that leaves $3,000 left over. If the old partners’ capital accounts add up to $2,500 + the new partner’s account of $1,000 = $3,500 $4,000 - $3,500 means there is $500 of “goodwill” to split between the old partners based on their Profit/Loss ratios.
96
XII. Inventory
INVENTORIABLE COSTS
Ø Purchases
o Recorded Net of Discounts
Ø Freight
o FOB Shipping Point puts the inventory into the hands of the buyer from the loading dock
o FOB Destination keeps the items in the seller’s inventory until it reaches the buyer
Ø Warehouse Expenditures
NON-INVENTORIABLE COSTS
Ø Sales Commissions
Ø Interest on Liabilities to Vendors
Ø Shipping Expense to Customers
INVENTORY DISCOUNTS
Ø Gross Method
o Records discounts only when used
Ø Net Methods
o Records discounts whether used or not
o Unused discounts allocated to financing expense
97
INVENTORY MARGINS
Ø Gross Margin = Sales – COGS (BI + P – EI)
INVENTORY ACCOUNTING SYSTEMS
Ø Periodic - Counted at certain times
o Weighted-Average Cost Flow Method
Ø Perpetual – Continually updated
o Moving-Average Cost Flow Method
Ø In periods of Rising Prices, Ending Inventory under Periodic and Perpetual Methods are identical under FIFO
RATIOS
CONSIGNMENTS
Ø Consignor
o Sends their inventory to be sold by someone else
o Include consignment items in inventory count
o Include shipping to consignee
• COGS/AverageInventory
InventoryTurnover
• 365/InventoryTurnover
AverageDay'sSales
98
Ø Consignee
o Sells someone else’s inventory in their store and
they get a cut of the revenue
o Don’t include consignment inventory held as part of their inventory
ABNORMAL INVENTORY COSTS
Ø Not included in inventory – Includes Waste ERRORS
Ø For Exam purposes, just remember
o Beginning Inventory Over/Under stated has no effect on Ending Retained Earnings (E.RE)
o EI Over = COGS Under = E.RE Over
o EI Under = COGS Over = E.RE Under
o On the CPA Exam, you can pick up quick points if
you have this relationship memorized CALCULATIONS
Ø FIFO
o The first (oldest) inventory you have in stock is the first inventory you record for COGS purposes.
o If your oldest inventory on the shelf cost you $1
when you bought it, COGS is $1
99
o This is just for inventory pricing. It has nothing to do with physically selling the oldest item on the shelf - It is purely for accounting purposes
Ø LIFO
o The last (newest) inventory you have in stock is
the first inventory you record for COGS purposes.
o If your newest inventory on the shelf cost you $1.50 when you bought it, COGS is $1.50
Ø Weighted Average Method
Inventory: Beginning + Net Purchases – COGS = Ending Very Important: Know how to find COGS using FIFO, LIFO, and Weighted Average to solve any inventory problem FIFO VS. LIFO IN PERIODS OF CHANGING PRICES
Ø A quick way to remember the relationship between FIFO/LIFO and Rising/Falling Prices in relation to COGS and Ending Inventory (EI)
o If you can remember FIFO and COGS, you’ll know LIFO because it’s the opposite
• BeginningInventory+Purchases
CostofGoodsAvailableforSale(COGAS)
• COGAS/TotalUnits• UsethisxUnitsSoldforCOGS
WeightedAverageCostperUnit
100
o Just remember that you learned FIFO because it’s FIRST. Picture a little cat named FIFO.
Ø Rising Prices
o FIFO has the Lowest COGS
o FIFO (cat) sees a mouse…starts Low and is Rising
o If COGS is Low, that means EI is High
Ø Falling Prices
o FIFO has the Highest COGS
o FIFO, high from Catnip is Falling off the couch
o If COGS is High, that means EI is Low
MEASUREMENT OF INVENTORY
Ø Two Methods
o Lower of Cost or Market
§ LIFO & Retail Method
o Lower of Cost or Net Realizable Value (NRV)
§ FIFO & Average Cost
§ All other Methods besides LIFO & Retail
101
Ø Lower of Cost or Market (LIFO & Retail Method)
o How to Find Market - 3 Variables:
§ Market Ceiling (NRV)
• NRV = Selling Price – Selling* Costs
§ Inventory Replacement Cost
§ Market Floor (NRV – Profit Margin)
§ The “middle” number is Market *Includes Disposal, Completion, Transportation Costs
Example: Lower of Cost or Market (LCM) Cost: $50 Replacement Cost: $55 Selling Price: $75 Selling (including Disposal) Cost: $2.50 Normal Profit Margin: 25% NRV = $75 - $2.50 = $72.50 Replacement Cost = $55
NRV – Normal Profit Margin = $53.75 [$72.50 – ($75 x 25% = $18.75)] NRV = $72.50 Replacement Cost = $55 (Market) NRV – Normal Profit Margin = $53.75 $50 Cost vs. $55 Market LCM = $50
102
Ø Lower of Cost or NRV (FIFO & Weighted Avg*)
o How to Find Net Realizable Value:
§ Selling Price <Selling** Costs> Net Realizable Value
*Includes all Inventory Measurement methods other than LIFO & Retail Method
**Includes Disposal, Completion, Transportation Costs
Example: Lower of Cost or NRV (LCNRV) Cost: $50 Selling Price: $75 Selling (including Disposal) Cost: $2.50 NRV = $75 - $2.50 = $72.50 Cost= $50 LCNRV = $50
XIII. Leases CAPITAL LEASE - LESSEE
Ø Risk of ownership passes by (Must meet one)
o Title
o Bargain Purchase Option (BPO)
o Substance
§ 75% Test - Lease term > 75% of useful life
103
§ 90% Test - PV of Min. Lease Payments > 90% of Fair Value
Ø Capitalize at Cost
o Asset & Liability Recorded
o Present Value of Future Lease Payments
o Discount Rate – Lesser of
§ Implicit Rate in the Lease
§ Market Rate
Ø Footnotes
o Future minimum rental commitments
o By year – for 5 years
o All remaining years as a group
Ø Journal Entry – Lease Payments
Dr. Interest Expense
Cr. Cash or Lease Payable
CAPITAL LEASE - LESSOR
Ø Requirements:
o Lessee must meet one of the above criteria
o Collectability of lease payments is predictable
104
o No uncertainties about the lessor reimbursing the lessee for costs incurred
Ø Journal Entry – Initial Lease
Dr. Lease Receivable
Cr. Asset Cr. Unearned Income
Ø Journal Entry – Lease Payments
Dr. Cash
Cr. Lease Receivable
Dr. Unearned Income Cr. Interest Income
OPERATING LEASE - LESSEE
Ø Risk of ownership does not pass
Ø No asset or liability is recorded in financial statements
Ø Leasehold Improvements
o Capitalizes and depreciated over the lesser of Lease Life or Leasehold Improvements Life
Ø Journal Entry – Lease Payments
Dr. Rent Expense
Cr. Cash or Rent Payable
OPERATING LEASE - LESSOR
Ø Rent Revenue recorded
105
Ø Remains an asset and depreciated
Ø Journal Entry – Lease Payments
Dr. Cash or Rent Receivable
Cr. Rent Revenue
Ø If payments fluctuate over the term of the lease
o Rent Revenue recognized on a S/L basis
Year 1: $4,000 Years 2-5: $12,500 Rental Revenue Per Year = $10,800 [($12,500*4)+$4,000]/5
DIRECT FINANCING LEASE
Ø Interest Revenue decreases with passage of time
o Principal amount increases with each payment o Carrying amount of Lease decreases
SALE-LEASEBACK
Ø Any profit on the sale is deferred and amortized
Ø Exception:
o If PV of Lease Payments is 10% or less of the asset’s FMV
§ Gain is Recognized
o If PV of Lease Payments is greater than 10% of FMV and the lease is operating
106
§ Gain is recognized except the amount of the
PV of the lease payments $100,000 Gain PV of Lease Payments: $25,000 $75,000 of Gain: Recognized $25,000 of Gain: Deferred
LEASE PAYMENTS
Ø Annuity Due
o Payments begin at the start of the lease
o Think: Rent is Due at the first of the month
Ø Ordinary Annuity
o Payments begin after the end of the first year
o Think: An annuity that pays you at end of the year XIV. Current Assets & Liabilities CURRENT ASSETS
Ø Cash plus other assets that are expected to be sold or converted to cash during the current operating cycle
o Includes
§ Demand Deposits
§ Cash Equivalents
• Short Term
107
• Very Liquid
• Original maturity < 3 months
• Exam Tip: Don’t let the exam trip you
up with some 9-month bond that matures in 2 months – not a cash equivalent
§ Accounts Receivable
§ Inventory
§ Prepaids
§ Short-term Investments
CURRENT LIABILITIES
Ø Expected to be paid within 12 months or less
108
RATIOS Note: “Turnover” Ratios have the average of what is being turned over in the denominator
GAIN CONTINGENCIES
Ø Don’t Accrue due to Conservatism LOSS CONTINGENCIES
Ø Remote – Don’t Accrue or Disclose
•(Cash+A/R+TradingSecurities)/CurrentLiabilities
QuickRatio
•CurrentAssets/CurrentLiabilities
CurrentRatio
•CurrentAssets- CurrentLiabilities
WorkingCapital
•CreditSale/AverageA/R
A/RTurnover
•COGS/AverageInventory
InventoryTurnover
•365/InventoryTurnover
DaySalesinInventory
•AvgA/R/AvgSalesPerDay
DaystoCollectA/R
109
Ø Reasonably Possible – Disclose
Ø Probable – Accrue (if Estimable) and Disclose XV. Not-For-Profit Accounting NON-GOVERNMENTAL NOT-FOR-PROFITS
Ø Private colleges and hospitals that are not government-
supported like a public university
Ø Financial Statements Required
o Statement of Financial Position
§ Similar to Balance Sheet
§ Assets
§ Liabilities
§ Net Assets
§ With Donor Restrictions
o “Temporarily” & “Permanently” Sub-Classifications No Longer Used
o Nature of Restrictions still disclosed
§ Without Donor Restrictions
o Statement of Activities
§ Similar to an Income Statement
§ Organization-wide
110
§ Revenues
§ Expenses
§ ONLY deducted from Unrestricted
Revenues
§ Report
o Functional Expense Classification
§ Groups by Purpose
• Program Services • Support Services
o Natural Expense Classification
§ Groups by Economic Benefits
• Salaries
• Rent
• Utilities
• Supplies
§ Gains & Losses
§ Changes in Net Asset Classes
§ With Donor Restrictions § Without Donor Restrictions
111
§ Investment Returns
o Net of Investment Expense
o Statement of Cash Flows
§ Both Direct & Indirect Methods OK
§ Operating Activities
§ Unrestricted Revenues & Expenses
§ Investing Activities
§ Financing Activities
§ Endowments
§ Restricted Contributions
Ø New Financial Disclosures Required
o Qualitative - Management of Liquid Resources
o Qualitative & Quantitative – Ability of organization to meet short-term cash expenditures
Ø Non-governmental Hospitals
o Balance Sheet
o Statement of Operations
o Statement of Changes in Net Assets
o Statement of Cash Flows
o Financial Statement Notes
112
Ø Revenues and Net Assets
o Accrual basis of accounting is used
o Only external parties can restrict the use of assets
§ Assets earmarked internally by management
still classified as unrestricted
o Unrestricted Assets/Revenue
§ No restrictions or conditions placed on entity to use the resources
§ Revenues on contributions are recognized in
the year received, not the year the contribution is spent and are recorded at Fair Value on the date received
§ Services rendered are contributions
§ If the organization would have otherwise
paid for or they increase the value of a non-monetary asset
§ Hospital Charity Care is NOT revenue
§ Disclosed in the notes to the financial
statements only
§ Unconditional pledges to contribute are classified as revenue
§ Current year only – multi-year future
contributions fall under Restricted
113
§ Expenses ONLY deducted from Unrestricted Revenues, not Restricted Revenues/Assets
o Restricted Assets & Revenue
§ Use is restricted to by Donor
§ Unrestricted contributions promised
(including multi-year contributions), but not yet received are actually restricted by “time” and are therefore classified as Restricted Assets
§ Multi-year contributions recorded at the
present value of the future contributions
§ Initially, the JE to record the Restricted Contribution looks like this:
Cash - RA 500
Contributions 500
§ Once the terms of the restrictions are met,
the funds can be reclassified
Reclass 500
Cash –RA 500
Cash – Unrestricted 500
Reclass 500
114
§ Later, when an expense arises
Expense 500
Cash – Unrestricted 500
o Endowments
§ Use of investment is restricted, but income from investment could be either restricted or unrestricted
§ Must be under control of receiving entity (Quasi Endowment) in order to be recorded in unrestricted net assets
§ Otherwise, memo entry recorded
§ Underwater Endowments
§ Value dropped below Gift Amount
§ Disclosure Requirements
§ Fair Value of Funds § Original Gift Amount or Required
§ Funding Level
§ Deficiency Amount
§ Governing Board Policies
o Art Collections
§ Not recognized as assets or contribution
revenue if they are held for display or
115
education – or their sale results in the purchase of similar items
§ When both Restricted Assets and Unrestricted Assets are available for use, Restricted Assets are used first
o Refundable Advance
§ Classified as a Liability
§ Promise to contribute assets pending on
certain conditions being met
§ Becomes unconditional once the possibility that it won’t happen is remote
o Investments
§ Fair Value mostly used
§ Exception – Equity Method used when
significant influence exists
o Scholarships
§ Reduction of revenue & Netted against college’s tuition
o Depreciation Expense
§ Allocated proportionately to various functions
116
XVI. Pensions NET PERIODIC PENSION COST
Ø Projected Benefit Obligation (PBO)
o Reflects future compensation levels
Ø Accumulated Benefit Obligation
o PV of Pension Benefits accrued based on present compensation levels
Ø PRIUS: Net Periodic Pension Cost
PRIUS
+PriorServiceCostAmortization
- ReturnonPlanAssets(Estimated)
+Interest
+UnexpectedLoss(Gains)
+ServiceCost
117
+ Prior Service Cost Amortization - Return on Plan Assets (Estimated) + Interest
o Beginning PBO x Interest Rate
o Increase of PBO due to time
+ Unexpected Losses or (-) Gains
+ Service Cost
o As employees work, the Projected Benefit Obligation increases
o (New) Only Component of NPBC allowed as an Operating Expense on Income Statement
= Net Periodic Pension Cost
Ø Fair Value of Plan Assets – PBO
o Overfunded (Asset) = Non-Current only
o Underfunded (Liability) = Current & Non-Current
o Gains/Losses go to OCI
§ Net of Tax
Ø Financial Statement Disclosures
o Pension Funding Policies
118
o Types of Assets Held
o 5 Year Benefits to be paid
o 5 Year Benefits in aggregate after that
o Estimated Pension Contribution for next period
Ø Vested Benefits
o Owed to employee regardless of continuance of employment via the Full Eligibility Date
XVII. Statement of Cash Flows STATEMENT OF CASH FLOWS
Ø Shows changes in
o Cash
o Cash Equivalents
o Restricted Cash (New in ‘18)
o Restricted Cash Equivalents (New in ’18) OPERATING ACTIVITIES
Ø Cash Received:
o Customers
o Interest & Dividends
o Trading Securities
119
Ø Cash Paid:
o Vendors
o Suppliers
o Interest
§ Includes Zero-Coupon debt instrument payment attributable to Interest
o Taxes from Operating Activities
o Asset Retirement Obligation settlement
INVESTING ACTIVITIES
Ø Cash Received:
o Sale of PP&E
o Sale of Investments
o Loan Principal
Ø Cash Paid:
o Loans
o Acquisitions
o Equity or HTM Securities
o Taxes from Investing Activities
120
FINANCING ACTIVITIES
Ø Cash Received:
o Issuance of Stock
o Issuance of Debt
Ø Cash Paid:
o Dividends
o Distributions to Owners
o Debt
§ Debt Issue Costs
§ Debt Re-Payment
• Includes principal of Zero-Coupon Debt Instruments
o Note: Interest portion classified as Operating Activity
§ Debt Pre-Payment
• Includes Pre-Payment Fees INDIRECT METHOD
Ø Starts with Net Income
Ø Disclosure Requirements
o Interest Paid
121
§ Including zero-coupon debt interest
o Taxes Paid DIRECT METHOD
Ø Starts with Income from Continuing Operations
Ø Adjusts for changes in accounts like A/R, A/P, Inventory and non-cash revenues, expenses, gains, losses
Ø If used, the Indirect Method must also be shown
XIII. Stockholders’ Equity COMMON AND PREFERRED STOCK
Ø When common stock and preferred stock are issued in a lump sum purchase
o APIC for each is allocated by its respective % of the total FMV of the shares x the proceeds.
FMV of C/S = 36,000 (36 per share x 1000 shares)
FMV of P/S = 54,000 (27 per share x 2000 shares)
Total Proceeds = 80,000
Proceeds attributable to P/S = 54,000/90,000 (54k+36k) x 80,000
Ø Stock Subscriptions
o APIC increases on date subscription is recorded –
not on the date paid for or issued
122
TREASURY STOCK - COST METHOD 6,000 shares of Treasury Stock purchased at $36 per share: Treasury Stock 216,000 Cash 216,000 Scenario 1: 3,000 shares re-issued at $50 per share: Cash 150,000 T/S 108,000 (36 x 3,000) APIC 42,000 Scenario 2: 3,000 shares re-issued at $30 per share: Cash 90,000 APIC 18,000 (if no APIC exists to exhaust, then RE is debited) T/S 108,000 If Retained Earnings is legally restricted due to T/S, it will be to the extent of the balance in the T/S account.
123
TREASURY STOCK – PAR VALUE METHOD
Ø Common Stock – Par Value of Shares
Ø APIC – The amount of APIC connected to the par value of shares you’re debiting
Cash
PIC – T/S (plug) *or* a debit to RE (plug) if cash paid exceeds C/S and APIC
Ø Dividends in Arrears for Cumulative Preferred Stock
o Not accrued until declared
Ø If a year passes and no Cumulative Preferred Stock dividends are declared, then the dividends in arrears are included as a disclosure – not an accrual in the financial statements
Ø A transfer of a non-monetary asset to a shareholder
o You give them stock of another company
o Results in a Gain/Loss situation
Ø The gain or loss is the difference between the FMV of
the asset distributed at the date of distribution and its carry amount on the company’s books
Ø The effect on Retained Earnings is the Carrying Amount
of the asset
o RE will be debited when the dividend is declared for the FMV of the asset, which is more (or less) than the carrying amount
124
o Gain/Loss recorded when the asset is distributed
will offset the original effect of the debit to RE and will be a wash
o The net effect of the entry is that RE will decrease
by the CV of the asset
RE 78,000 Div Payable 78,000
Div Payable 78,000 Asset, CV 60,000 Gain 18,000 STOCK DIVIDENDS
Ø Stock Dividend < 25% of C/S Outstanding
o Debit RE for FMV of stock
Ø Stock Dividend > 25% of C/S outstanding
o Debt RE for Par Value Example: %: 10…FMV: 15,000…Par Value: 10,000 %: 28…FMV: 40,000…Par Value: 30,800 Debit RE for 45,800
Ø Stock dividends and stock splits both have no effect on Total Shareholder Equity
125
Ø Stock splits only affect par value
o APIC remains the same
STOCK OPTIONS
Ø Compensation expense is recorded at the time of grant if options are exercisable immediately
o They are based on past service
Ø Expense recognized = FV Stock Option x # of Shares Example: Option Granted
Deferred Comp 28,000 (FV of option x 1,000 shares) APIC – stock options 28,000 Example: Option Exercised Compensation Expense 28,000 Deferred Comp 28,000 Cash 20,000 (option price x shares) APIC – Stock Options 28,000 C/S 10,000 ($10 par x 1,000) APIC 38,000 (plug)
Ø The interest rate used to discount stock options is the risk-free interest rate
Ø The measurement date for share-based payments
classified as liabilities is the settlement date
126
Ø Compensation costs for share-based payments
classified as liabilities are measured by the change in the fair value of the instrument for each reporting period
REORGANIZATIONS
Ø In a reorganization where a company pays cash and issues stock to satisfy unsecured creditors
o The net increase to SHE is equal to:
Gain on settlement of debt + Credit to SHE from stock issuance
FV of liability to Unsecured Creditors 1,200,000 Cash Paid <400,000> Common Stock issued (80,000 x 1.25) <100,000> Gain on Settlement of Debt 700,000 Increase in SHE = 800,000 (700,000 gain to RE + 100,000 from C/S)
Ø The primary purpose of a quasi-reorganization is to eliminate a deficit balance in RE by restating its assets to fair value
o It does not directly protect a company from its creditors.
Ø Return on Common Stockholders’ Equity
(Net Income – P/S Dividends) / Average CSE
127
Note: Average CSE = Common Stock + RE
Ø Book Value Per Share of C/S
Total Stockholders’ Equity <Total Preferred Stock> <P/S Dividends in Arrears> <P/S Liquidation Premium> =Total Book Value
BV/Share: Total Book Value / Shares outstanding
Ø Dividend Per Share Payout Ratio
Dividends Per Share / Earnings Per Share
EARNINGS PER SHARE
Ø Basic EPS (Net Income – Preferred Dividends) / Avg C/S Outstanding
Ø Note – If Cumulative, subtract the P/S dividend regardless of whether or not they’re declared.
Ø If dividends are in arrears from a prior year on P/S,
don’t subtract that amount.
Ø The prior year P/S cumulative dividend reduces that year’s EPS. Only deduct the current year.
128
Ø For EPS purposes, treat C/S stock splits or stock dividends as if they occurred at the beginning of the year, regardless of when actually issued during the year
1/1: 20,000
2-for-1 split 4/1: 20,000
Shares issued 7/1: 10,000
Average C/S for EPS purposes: 45,000 (20k+20k+5k)
Ø EPS is only required to be shown for Income from
Continuing Operations and Net Income
o All others (Discontinued Operations) can be shown on the financial statements or in the notes
DILUTED EPS
Ø Stock options increase shares outstanding only if they are dilutive
o Their exercise price is less than market value
o If not, you ignore them in the calculation
Ø Treasure Stock Method of calculating the effect of stock options on denominator in diluted EPS calculation:
o Assume stock options were exercised (40k shares
at $15 exercise price) = $600k
o Stock issued was 40,000 shares (from above)
o Stock reacquired calc: ($600k proceeds/$20 current mkt price) = (30,000 shares)
129
o Shares issued, not reacquired from Stock Option =
10,000
o 325,000 average C/S + 10,000 from options = 335,000 Avg share
CONVERTIBLE P/S
Ø Net Income – P/S dividend + P/S dividend that wouldn’t be paid if converted (wash)
Ø Weighted average common stock + convertible
equivalents
Ø Basic EPS must be calculated first and then compared with Diluted EPS.
Ø If Diluted EPS is not less than Basic EPS, then it is anti-
dilutive and the security should not be included