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Jesica Islas Intermediate Accounting 1 January 22, 2007 Professor A.

Wu Chapter 2

Questions – Chapter 2
1. -What is a conceptual framework? Why is a conceptual framework necessary in financial accounting? A conceptual frame or! is coherent system of interrelated o"#ecti$es and fundamentals that can lead to consistent standards and that prescri"es the nature, function, and limits of financial accounting and financial statements. A conceptual frame or! is necessary in financial accounting for the follo ing reasons% 1. It ill ena"le the &A'( to issue more useful and consistent standards in the future. 2. )e issues ill "e more *uic!ly solu"le "y reference to an e+isting frame or! of "asic theory. ,. It ill increase financial statement users- understanding of and confidence in financial reporting. .. It ill enhance compara"ility among companies- financial statements. 2. -What are the primary objecti es of financial reporting as in!icate! in "tatement of #inancial $ccounting Concepts %o. 1? /he primary o"#ecti$es of financial reporting are as follo s% 1. Pro$ide information useful in in$estment and credit decisions for indi$iduals ho ha$e a reasona"le understanding of "usiness. 2. Pro$ide information useful in assessing future cash flo s. ,. Pro$ide information a"out enterprise resources, claims to these resources, and changes in them. &. -What is meant by the term '(ualitati e characteristics of accounting information? 01ualitati$e characteristics of accounting information2 are those characteristics hich contri"ute to the *uality or $alue of the information. /he o$erriding *ualitati$e characteristic of accounting information is usefulness for decision ma!ing. ). -*riefly !escribe the two primary (ualities of useful accounting information. 3ele$ance and relia"ility are the t o primary *ualities of useful accounting information. &or information to "e rele$ant, it should ha$e predicti$e $alue or feed"ac! $alue, and it must "e presented on a timely "asis. 3ele$ant information has a "earing on a decision and is capa"le of ma!ing a difference in the decision. 3ele$ant information helps users to ma!e predictions a"out the outcomes of past, present, and future e$ents, or to confirm or correct prior e+pectations. 3elia"le information can "e depended upon to represent the conditions and e$ents that it is intended to represent. 3elia"ility stems from representational faithfulness, neutrality, and $erifia"ility.

If its inclusion or omission ould ha$e no impact on a decision ma!er. A monetary unit assumption. -What is the !istinction between comparability an! consistency? Compara"ility facilitates comparisons "et een information a"out t o different enterprises at a particular point in time. Wu Chapter 2 +. . 2&. and materiality. and audit the information presented. /hese acti$ities are time8consuming and costly. Information that is immaterial is irrele$ant. – . . – What are the four basic assumptions that un!erlie the financial accounting structure? /he four "asic assumptions that underlie the financial accounting structure are% 1. /he costs of pro$iding accounting information are paid primarily to highly trained accountants ho design and implement information systems.. and conse*uently.. Accounting information is su"#ect to t o constraints% cost7"enefit considerations. and 526 hen earned. /he re$enue is e*ual to the amount of cash that ill "e recei$ed due to the operations of the current accounting period.escribe the two major constraints inherent in the presentation of accounting information. 1. Information is not orth pro$iding unless the "enefits it pro$ides e+ceed the costs of preparing it.. 2. 2). the information is immaterial.Jesica Islas Intermediate Accounting 1 January 22. "ut this amount ill not "e definitely !no n until such cash is collected. Consistency facilitates comparisons "et een information a"out the same enterprise at t o different points in time. not useful. – What are some of the costs of pro i!ing accounting information? What are some of the benefits of accounting information? . retrie$e and analy4e large amounts of data. 1). since informed financial decisions help allocate scarce resources to the most effecti$e enterprises. prepare financial statements in accordance ith authoritati$e pronouncements. A periodicity assumption. An economic entity assumption. A going concern assumption. . – When is re enue generally recogni-e!? Why has that !ate been chosen as the point at which to recogni-e the re enue resulting from the entire pro!ucing an! selling process? 3e$enue is generally recogni4ed hen 516 reali4ed or reali4a"le. 2007 Professor A.escribe cost-benefit factors that shoul! be consi!ere! when new accounting stan!ar!s are being propose!. /he "enefits of pro$iding accounting information are e+perienced "y society in general.

or item to informati$e disclosure and a proper presentation of financial positions and the results of operations.Jesica Islas Intermediate Accounting 1 January 22. the auditor concentrates efforts in proportion to degrees of materiality and relati$e ris! and disregards immaterial items. – 0ow are materiality 1an! immateriality2 relate! to the proper presentation of financial statements? What factors an! measures shoul! be consi!ere! in assessing the materiality of misstatement in the presentation of a financial statement? /he concept of materiality refers to the relati$e significance of an amount. the current ratio. acti$ity. In contrast a large misclassification among e+pense accounts may not "e deemed material if there is no misstatement of net income. or the de"t7e*uity ratio and ill consider such special circumstances as the effects on de"t agreement co$enants and the legality of di$idend payments. such as a *uestiona"le loan to a company officer. 2/. An accounting misstatement is said to "e material if !no ledge of the misstatement ill affect the decisions of the a$erage informed reader of the financial statements. Wu Chapter 2 9ccasionally ne accounting standards re*uire presentation of information that is not readily assem"led "y the accounting systems of most companies. may "e considered material e$en hen minor amounts are in$ol$ed. an error in current assets or current lia"ilities ill "e more important for a company ith a flo of funds pro"lem than for one ith ade*uate or!ing capital. /he lo er "ound of materiality has "een $ariously estimated at <= to 20= of net income. /here are no rigid standards or guidelines for assessing materiality. . /he effects upon assets and e*uities are also important as are misstatements of indi$idual accounts and su"totals included in the financial statements. A determination should "e made as to hether the incremental or additional costs of pro$iding the proposed information e+ceed the incremental "enefits to "e o"tained. /he effect upon net income 5or earnings per share6 is the most commonly used measure of materiality. /his reflects the prime importance attached to net income "y in$estors and other users of the statements. "oth the nature of the item and its relati$e si4e enter its e$aluation. 2007 Professor A. &inancial statements are misleading if they omit a material fact or include so many immaterial matters as to "e confusing. /he auditor ill note the effects of misstatements on !ey ratios such as gross profit. /he rele$ant criteria for assessing materiality ill depend upon the circumstances and the nature of the item and ill $ary greatly among companies. &or e+ample. /his determination re*uires careful #udgment since the "enefits of the proposed information may not "e readily apparent. :ateriality has *ualitati$e aspects. "ut the determination ill $ary "ased upon the indi$idual case and might not fall ithin these limits. In the e+amination. Certain items.