Advanced Accounting

1.Finacial Reporting

Corporate Reporting: involves the disclose of relevant information about the business to outside
stakeholders (investors, creditors, government agencies, regulators, etc.)

1. Reports with financial information about business performance, liquidity, etc.

2. Reports with non-financial information: useful information for stakeholders to understand
different activities of the business and for accountability
2.1. Governance report
2.2. Sustainability report

Some e reports are mandatory: financial reports including financial statements

Some reports are voluntary: CSR reports

Financial Reporting

✓ Important for investors, creditors, etc. to evaluate the financial situation of the business.
✓ Financial statements, management report, audit report
✓ The financial information is prepared using GAAP, it is organized and structured in a
systematic and comparable way across firms
✓ Financial information is verified and monitored
• Internally by the board, audit committee, internal processes
• Externally by auditors and regulatory entities

Accounting harmonization

✓ Process to improve comparability of accounting practice (Nobes e Parker)

✓ Process of moving away from accounting diversity
✓ Increasing uniformity (Tay e Parker)
✓ Harmonization de jure
• Formal harmonization of rules and procedures, via accounting standards
✓ Harmonization de facto
• Harmonization in practice
• What companies really do in their financial reports

Cost of Accounting Diversity

✓ Less transparent information in some countries reduces investment flows to those countries
leading to less economic development
✓ Accounting differences between entities from different countries increase the cost of capital
Investor demand a higher risk premium for entities that have poor reported information
✓ Companies with operations in several countries
• Expend more resources to prepare and combine information ‒
 • Analysts and investors expend more resources to understand and process
information

Benefits of Harmonization

✓ Increase comparability across entities across countries

✓ Increment transnational investments
✓ More available funds to finance the businesses
✓ Facilitates consolidation of financial statements for groups of companies
✓ Reduce preparation cost of information

But…

Harmonization of accounting and reporting is complex, takes time, has implementation costs
(auditors, investors, students, etc. need to learn new system of reporting)

Harmonization Bodies

Reporting:

✓ International: IASB (International Accounting Standards Board)

✓ European: European Union
✓ National: USA: FASB (Financial Accounting Standard Board); Portugal: CNC (Comissão de
Normalização Contabilística)

Markets:

✓ International: IOSCO (International Organization of Securities Commissions)

✓ National: USA: SEC (Securities Exchange Commission), Portugal, CMVM (Comissão de
Mercado de Valores Mobiliários)

IASB

IFRS Foundation é is a private non-profit organization

Objectives:

✓ Develop International Financial Reporting Standards (IFRS) that bring transparency,

accountability and efficiency to financial markets around the world.
✓ Promote rigorous application of standards
✓ Consider reporting needs of emerging economies and small and medium entities
✓ Achieve convergence between local standards and IFRS

FASB

✓ Private body that sets accounting standards in the US

✓ The SEC endorses FASB standards as the reporting standards for entities under the SEC
supervisions, i.e. listed firms in US markets
✓ Significant national and international influence
✓ Created in 1973
European Union

Listed Companies

Must use IFRS

Non-Listed Companies

Use their national accounting systems

✓ 2013 EU Directive seeks to increase comparability of financial reports across EU Member

States, for companies that follow their national systems
✓ The idea is to simplify the preparation and disclosure of financial information for smaller
companies
• Small entities can prepare only a balance sheet, income statement, and notes; and
in abridged form
• Layouts of the financial statements are provided (see for example CNC)
• Entities can provide additional statements on a voluntary basis
✓ 2013 EU Directive is required to be used by companies for the year of 2016

Converge between the IFRS-USAGAAP

✓ In 2007 the SEC (Securities and Exchange Commission) waived the reconciliation required to
US GAAP for IFRS adopters listed in US markets
✓ EU proposed similar treatment for US firms using US GAAP that are listed in EU markets

American Companies that are listed in a EU stock market must use IFRS in Europe but must use IFRS
in America

Non-American companies that are listed in an American stock market, that already use IFRS can
continue to use IFRS.
 2.Financial Statements

Financial statements according to IFRS

1. Statement of financial position as at the end of the period (with comparatives)

2. Statement of profit or loss and other comprehensive income

3. Statement of changes in equity

4. Statement of cash flows

5. Notes

Financial statements according to SNC

1. Balance sheet(s)

2. Income statement

3. Statement of changes in equity

4. Statement of cash flows

5. Annex

IFRS- International Financial Reporting Standards

✓ Global set of high quality accounting standards

✓ Adopted by more than 150 countries, including European Union
✓ ssued by an international non-governmental organization, the IASB (www.ifrs.org)
✓ Mostly used by large companies that are listed in capital markets
• But small and medium companies also use simplified versions of IFRS
✓ National accounting standards in many countries (SNC in Portugal) have been adapted to
Mimic IFRS
✓ However, not all countries use IFRS. Notably, US firms
• But foreign firms that use IFRS can be listed in US markets without converting
accounts to US GAAP
✓ Modern economies rely on cross-border transactions of goods and capital
✓ Investors look for investment opportunities across the world, companies raise capital and
have international operations in multiple countries.
✓ In the past, such cross-border activities were complicated by different countries maintaining
their own sets of national accounting standards
• This added cost, complexity and risk to companies, investors and others using those
financial statements to make economic decisions.
✓ Applying national accounting standards meant amounts reported in financial statements
might be calculated on a different basis.
Benefits of IFRS Accounting Standards

✓ IFRS offers international harmonization of accounting rules, which allow comparability of

financial statement numbers
✓ High-quality, internationally recognised set of accounting standards that bring transparency,
accountability and efficiency to financial markets around the world.

Advantages Disadvantages

✓ Comparability of financial statement ✓ Complex to implement: audit cost; train

✓ Investors (less information cost) staff; improve technology
✓ Regulators/ Government (easier to control ✓ Costly
business) ✓ Need internal management accounting
✓ Trans-national investments (M&A) system to measure detailed costs of
✓ More efficient to manage foreign productions
operations of economic groups ✓ Variations in how countries implement
✓ Transparency; IFRS
✓ Rules can be trusted; globally accepted ✓ Countries need to enforce proper use of
IFRS by companies

Statement of Financial Position

Elements:

Assets: An asset is a resource

✓ controlled by the entity

✓ as a result of past events; and
✓ from which future economic benefits are expected to flow to the entity

Current assets

• Expected to be realised in the entity's normal operating cycle

• Held primarily for the purpose of trading
• Expected to be realised within 12 months after the reporting period
• Cash and cash equivalents (unless restricted).

Non Current assets: all the other assets are non-current

Liability
 ✓ Is a present obligation of the entity
✓ Arising out of past events
✓ The settlement of which is expected to result in an outflow from the entity of resources
embodying economic benefits.

Current Liabilities

• Expected to be settled within the entity's normal operating cycle

• Held for purpose of trading Due to be settled within 12 months
• For which the entity does not have an unconditional right to defer settlement beyond 12
months (settlement by the issue of equity instruments does not impact classification).

Non-Current Liabilities: other liabilities are non-current

Limitations SFP

✓ Does not reflect market values

✓ Ignore time value of money
✓ Measurement of certain elements is based on estimations and thus subject to discretion
✓ Certain elements are excluded because they can not be measured with reliability

Statement of profit or loss and other comprehensive income

Help users to evaluate:

✓ Financial performance
✓ Uncertainty (risk) about future expected flows

There are two possible presentations:

In a single statement:

Profit of loss & comprehensive income

In two separate statements:

✓ A statement of profit or loss, and;

✓ A statement of comprehensive income that starts with profit or loss

Statement of changes in equity

Presents the movements in the components of equity and includes the following information:

✓ Total comprehensive income for the period

✓ Movements with owners
✓ For each component of equity, a reconciliation between the carrying amount at the
beginning and the end of the period
Statement of Cash Flow

✓ Profit (based on accrual principle) does not reflect cash

✓ Profit and loss does not show information about cash inflow and cash outflows
✓ SCF shows cash received and paid in each activity: operational, investing, financing

General Structure

Cash Flow from operating activities

Operating activities: Cash derived from the main or core revenue-producing activities of the
enterprises

Cash Flow (receipts)

✓ Sale of goods and rendering of services to customers

✓ Royalties, fees, commissions
✓ Other revenue
✓ Interests and dividend received (optional)

Cash outlows (payments)

✓ Purchase of goods and services

✓ Salaries, employee benefits and social expenses
✓ Taxes
✓ Interests on borrowings (optional)

Two ways to calculate:

✓ Direct Method
✓ Indirect Method
 Indirect Method

+/-

Adjustments for non-cash items in profit/loss

+ depreciation/amortisation expense
+ impairment&provision expenses (non-working capit a
- gain on sale of non-current assets
+ loss on sale of non-current assets
+/-
Adjustment for changes in b/s working capital items
-increases in working capital
+decreases in working capital
=
Cash Flows from operating activites

Cash Flow from investing activities

Investing activities: cash resulting from buying and selling non-current assets

Cash inflows (receipts)

✓ Proceeds from sale of non-current assets (intangible, tangible, investments)

✓ Repayment of loans
✓ Interests and dividend received (optional)

Cash outlows (payments)

✓ Purchase of non-current assets (intangible, tangible, investments) – Loans granted

Cash Flows from financing activities

Financing activities: obtaining and repaying funds from /to shareholders and long-term debtholders

Cash inflows (receipts)

✓ Proceeds from issuing shares

✓ Proceeds from issuing debt

Cash outflows (payments)

✓ Repayment of debt
✓ Capital repayment in finance leases
✓ Share repurchases –
✓ Interests on borrowings (optional)
 ✓ Dividends paid

Cash and cash equivalents

✓ Cash comprises cash on hand and demand deposits.

✓ Cash equivalents are short-term, highly liquid investments that are readily convertible to
known amounts of cash (typically in less than three months) and which are subject to an
insignificant risk of changes in value

Notes

✓ Information on basis for preparation of financial statements

✓ Relevant information
✓ Notes should have cross-references with the financial statements
✓ Notes typically include:
• Entity identification
• Basis of preparation (accounting standards followed by the entity)
• Summary of accounting policies followed by the entity
• Information related to the financial statements
• Contingencies and commitements
• Information required by law

3.Revenues
What is a Revenue?

Revenue- Income arising in the course of an entity`s ordinary activities of an entity and is referred to
by a variety of different names including sales, fees, interest, dividends, royalties and rent.

increases in economic benefits during the accounting period in the form of inflows or enhancements
of assets or decreases of liabilities that result in increases in equity, other than those relating to
contributions from equity participants.

Important features:

✓ Gross inflow, i.e. before deduction of any expenses such as taxes, transportation
✓ From ordinary activities, i.e. revenue does not include other gains which are also part of the
net income, for example gains from sale of property
✓ Rise in equity, i.e. increases shareholder value (through profit)
✓ Excludes transactions with equity holders, i.e. revenue does not include increases in equity
due to capital contributions from shareholders.

Sources of Revenue

✓ Sales of goods
✓ Rendering goods
✓ Interest (related with ordinary activities), royalties and dividends
Recognition of revenue

When (recognition) and by how much (measurement) to recognize revenue from a sale?

✓ Recognition of revenue is straightforward in many transactions (for example: pingo doce

sells products on cash)
✓ But other transactions are more complex:
• Buy one, get one free
• Buy monthly prepaid plan + get handset for free
• Earn loyalty points and cash them or receive free goods later on
• Get bonuses for delivery on time
• Etc.

IFRS 15

Core principle is that an entity will recognize revenue to depict that transfer of goods or services
promised to customers in an amount reflecting the expected consideration (payment) in exchange
for those goods or services.

This core is applied in a 5 step approach

Step 1: Identify the contract(s) with a customer

✓ The contract has been approved in writing, orally, or in accordance with business practices
✓ Obligations for the parties are identified (to deliver goods, to provides services, to pay)
✓ Payment terms are identified
✓ The contract has commercial substance (i.e. the risk, timing or amount of the vendor’s
future cash flows is expected to change as a result of the contract)
✓ It is probable that the customer has ability and intention to pay

Step 2: Identify the performance obligations

A performance obligation is a promise in a contract with a customer to transfer a good or service to

that customer. Distinct goods or services are accounted for separately as different performance
obligations. Promised goods or services, which are not distinct, are combined until the entity
identifies a bundle of goods or services which is distinct, thereby creating a single performance
obligation. A series of distinct goods or services that are substantially the same and have the same
pattern of transfer to the customer are treated as one performance obligation. In general, a good or
service is distinct if the customer can benefit from the good or service either on its own or together
with other resources which are readily available to that customer, and the entity’s promise to
transfer the good or service to the customer is separately identifiable from other promises in the
contract.
In determining the nature of the performance obligation, it is important to distinguish between a
principal and an agent. If the nature of the promise is a performance obligation to provide the
specified good or service itself, the entity is a principal. If the nature of the promise is to arrange for
those goods or services to be provided by the other party, the entity is an agent. An entity that is an
agent does not control the specified goods or service provided by another party before that good or
service is transferred to the customer. An entity determines whether it is a principal or an agent for
each specified good or service promised to the customer. When the entity is an agent, the fee or
commission is the revenue. Indicators that an entity is a principal:

✓ The entity is primarily responsible for fulfilling the promise to provide the specified good or
service. The entity has inventory risk before the specified good or service has been
transferred to a customer or after that transfer (for example, on return).
✓ The entity has discretion in establishing prices for the specified good or service.
✓ The entity is exposed to credit risk for the amount receivable from the customer.

Step 3: Determine the transaction price

The transaction price is the amount of consideration than an entity expects to be entitled in
exchange for transferring promised goods or services to a customer, excluding amounts collected on
behalf of third parties

It is an estimate of what the entity expects to receive (it may not be the price stated in the contract)

Factors to consider when estimating the transaction price

✓ Variable consideration – are there some bonuses or discounts?

✓ Constraining estimates in variable consideration – consideration of bonus in the transaction
price only when it is highly probable
✓ Significant financing component – if payment is significantly postponed consider the time
value of money
 ✓ Non-cash consideration – if there are non-cash items receipts Consideration payable to a
customer – when vouchers or coupons are provided to customers

Sale with variable consideration

When estimated amount to be received from the customer is variable the price may be estimated

✓ The expected value: the sum of probability-weighted amounts in a range of possible

consideration amounts;
✓ The most likely amount: the single most likely outcome of the contract
✓ But the variable amount can only be included in the price if it is highly probable
✓ At the end of each reporting period, the estimated transaction price shall be updated for the
reassessment of the variable consideration

Step 4: Allocate the transaction price to the performance obligations

Allocate the transaction price determined in step 3 to performance obligations identified in step 2

The general rule is that allocation is based on their relative stand-alone selling prices, but there are
special cases:

✓ When allocating discounts

✓ When allocating considerations to receive with variable amounts

Step 5: Recognize revenue when (or as) the entity satisfies a performance obligation

✓ Revenue is recognised when the vendor satisfies each of its performance obligations. This
happens when control over goods or services is transferred to the customer
✓ The amount of revenue recognized is the amount of the price allocated to each performance
obligation
✓ An entity recognizes revenue when (or as) it satisfies a performance obligation by
transferring a promised good or service to a customer. This transfer happens when the
customer obtains control of that good or service. The amount of revenue recognized is the
amount allocated to the satisfied performance obligation. Some indicators of the transfer of
control are:
(a) The entity has a present right to payment for the asset.
(b) The customer has legal title to the asset.
(c) The entity has transferred physical possession of the asset.
(d) The customer has the significant risks and rewards of ownership of the asset.
(e) The customer has accepted the asset.
 4.Financial Instruments
Financial Instrument: contract that gives rise to a financial asset of one entity and a financial liability
or equity instrument for another entity

Financial Asset

1. Cash
2. An equity instrument of another entity
3. A contractual right
3.1 To receive cash or another financial asset from another entity
3.2 To exchange financial instruments or financial liabilities with another entity under
conditions that are potentially favourable to the entity
4. A contract that will or may be settled in the entity´s own equity instruments and is:
4.1. A non-derivative for which the entity is or may be obliged to receive a variable number
of the entity´s own equity instruments
4.2. A derivative that will or may be settled other than by the exchange of a fixed amount of
cash or another financial asset for a fixed number of the entity`s own equity
instruments…
Financial Liability

1. A contractual obligation:
1.1. To deliver cash or another financial asset to another enterprise entity, or
1.2. To exchange financial instruments assets of financial liabilities with another enterprise
entity under conditions that are potentially unfavourable to the entity
2. A contract that will or may be settled in the entity`s own equity instruments and is:
2.1. A non-derivative for which the entity is or may be obliged to deliver a variable number
of the entity`s own equity instruments,
2.2. A derivative that will or may be settled other than by the exchange for a fixed amount of
cash or another financial asset for a fixed number of the entity`s own equity
instruments…

Examples: bank loans, investment In equity of other entities

Measurement and classification

1. At initial recognition all financial assets and financial liabilities are measured at fair value

Fair value: Price that would be received to sell an asset or paid to transfer a liability in an
orderly transaction between market participants at the measurement date (IFRS 13)
2. Subsequent measurement depends on classification

IFRS 13: Fair Value Measurement

A. Look for the market value of the asset in an organized active market
B. Look for the market value of similar assets and then estimate the fair value
C. Fair value is estimated by management (ex PV of future cash flows)

Financial Asset classification

IFRS 9 classifies financial assets based on two characteristics:

 Business model for managing the asset What is the management objective of holding
financial assets? Collecting the contractual cash flows? Or selling?
 Contractual cash flows’ characteristics Are the cash flows from the financial assets on the
specified dates solely payments of principal and interest on the principal outstanding? Or, is
there something else?

1. What kind of income/cash flow is my financial asset generating?

2. Why do you want that financial asset? What’s the business plan?
Classification of Financial Assets

Types of Financial Assets

Financial Liabilities

IFRS 9 classifies financial liabilities:

 Financial liabilities at fair value trough profit or loss: financial liabilities are subsequently
measured at fair value.
 Other financial liabilities measured at amortized cost: using the effective interest method.
FA at fair value: example
Amortised Cost

 Amortised cost is calculated using the effective interest method on assets and liabilities
 The effective interest rate is the rate that exactly discounts estimated future cash receipts or
payments through the expected life of the financial instrument
 In the SFP asset or liability is recorded at amortised cost at the end of period =

 In the I/S interest expense/income is recorded based on the effective interest method

Example
The Group

Group of companies is characterized by having:

 Various legally independent companies (subsidiary companies) that depend economically

and legally of another company (holding or parent company)
 Various entities under a common control
 The nature of the relationship between the parent company and group entities determines
the way group financial statement are presented
Group Relationships

Accounting for investments

Depends on the type of the investment:

1. Subsidiaries
• Subsidiary is an entity controlled by another entity
• The basic indicator of control more than 50% capital
• If there is a control, the investment is accounted by acquisition method and investor
applies full consolidation procedures when making consolidated financial
statements.
 2. Associates
• Entity over which an investor has significant influence
• Basic indicator of control between 20% and 50%
• Investor recognized the investment using the equity method
• Evidence of significant influence:
✓ Representation on the board of directors or equivalent governing body of
the investee;
✓ Participation in policy-making processes;
✓ Material transactions between the investor and the investee;
✓ Interchange of managerial personnel; or
✓ Provision of essential technical information
3. Join Arrangement
• The parties need to exercise joint control over the arrangement
• Joint arrangement contractually agreed sharing of control of an arrangement, which
exists only when decisions about the relevant activities require the unanimous
consent of the parties sharing control.
• The parties need to exercise joint control over the arrangement, i.e. important
decisions require unanimous consent of all parties of the arrangement and no single
party can decide independently.
✓ If parties established joint venture, then each party accounts for its
investment using the equity method;
✓ If parties established joint operation, then each party accounts for its own
assets, liabilities, expenses, revenues, and its share on all items incurred
jointly.
4. Other investments
• Categories defined in the IFRS 9

Accounting Method
Equity Method

 At acquisition, the investment is recognized in the investor accounts, at acquisition cost, as

non-current asset
 Subsequently,
• As the net assets of the investee change, the carrying amount in the investor
balance sheet should proportionally change
• Profit or loss of the investee are recorded in the profit of the investor (against the
carrying amount of the investment)
• Dividends are recorded as a decrease to the investment account
• Goodwill, if any, should be tested for impairment
 Goodwill is the difference between investment value and the fair value of the assets and
liabilities acquired
• If goodwill is positive, recognize it as part of investment and perform impairment
test
• If goodwill is negative, recognize it as a gain

Example