DEFINITIONAL
APPROACHES OF INTERNATIONAL ACCOUNTING
Most accounting students are familiar with financial accounting and
managerial accounting, but many have only a vague idea of what international
accounting is. Defined broadly, the accounting in international
accounting encompasses the functional areas of financial accounting, managerial
accounting, auditing, taxation, and accounting information systems. The word international
in international accounting can be defined at three different levels.
The first level is supranational
accounting, which denotes standards, guidelines, and rules of accounting, auditing,
and taxation issued by supranational organizations. Such organizations include
the United Nations, the Organization for Economic Cooperation and Development,
and the International Federation of Accountants.
At the second level, the company level, international accounting can be
viewed in terms of the standards, guidelines, and practices that a company
follows related to its international business activities and foreign
investments. These would include standards for accounting for transactions denominated
in a foreign currency and techniques for evaluating the performance of foreign
operations. At the third and broadest level, international accounting can be
viewed as the study of the standards, guidelines, and rules of accounting,
auditing, and taxation that exist within each country as well as comparison of
those items across countries.
Examples would be cross-country comparisons of (1) rules related to the financial
reporting of plant, property, and equipment; (2) income and other tax rates;
and (3) the requirements for becoming a member of the national accounting profession.
Clearly, international accounting encompasses an enormous amount of territory—
both geographically and topically. It is not feasible or desirable to cover the
entire discipline in one course, so an instructor must determine the scope of an
international accounting course. This book is designed to be used in a course that
attempts to provide an overview of the broadly defined area of international accounting
but that also focuses on the accounting issues related to international business
activities and foreign operations.
EVOLUTIONARY PATTERN OF A MULTINATIONAL CORPORATION AND ITS
INTERNATIONAL ACCOUNTING IMPLICATION
A multinational
corporation is a company that is headquartered in one country but has
operations in other countries. 12 The United Nations estimates that there are
more than 82,000 multinational companies in the world, with more than
810,000 foreign affiliates. 13 The 100 largest multinational companies
account for approximately 4 percent of the world’s GDP. 14 Companies located in
a relatively small number of countries conduct a large proportion of
international trade and investment. These countries—collectively known as the
triad—are the United States, Japan, and members of the European Union. As
Exhibit 1.4 shows, 83 of the 100 largest companies in the world are located in
the triad.
The largest companies are not
necessarily the most multinational. Of the 500 largest companies in the United
States in 2000, for example, 36 percent had no foreign operations. 15 In 2008
the United Nations measured the multinationality of companies by averaging
three factors: the ratio of foreign sales to total sales, the ratio of foreign
assets to total assets, and the ratio of foreign employees to total employees. Exhibit 1.5
lists the top 10 companies according to this measure.
To gain an appreciation for the
accounting issues related to international business, let us follow the
evolution of Magnum Corporation, a fictional auto parts manufacturer headquartered
in Detroit, Michigan. 2 Magnum was founded in the early 1950s to produce and
sell rearview mirrors to automakers in the United States.
For the first several decades, all of Magnum’s transactions occurred in
the United States. Raw materials and machinery and equipment were purchased
from suppliers located across the United States, finished products were sold to
U.S. automakers, loans were obtained from banks in Michigan and Illinois, and
the common stock was sold on the New York Stock Exchange. At this stage, all of
Magnum’s business activities were carried out in U.S. dollars, its financial
reporting was done in compliance with U.S. generally accepted accounting
principles (GAAP), and taxes were paid to the U.S. federal government and the
state of Michigan.
Foreign Direct Investment
Although the managers at Magnum at first were
apprehensive about international business transactions, they soon discovered
that foreign sales were a good way to grow revenues and, with careful
management of foreign currency risk, would allow the company to earn adequate
profit. Over time, Magnum became known throughout Europe for its quality
products. The company entered into negotiations and eventually landed supplier
contracts with several European automakers, filling orders through export sales
from its factory in the United States. Because of the combination of increased
shipping costs and its European customers’ desire to move toward just-in-time
inventory systems, Magnum began thinking about investing in a production
facility somewhere in Europe. The ownership and control of foreign assets, such
as a manufacturing plant, is known as foreign direct investment. Exhibit 1.1
summarizes some of the major reasons for foreign direct investment. Two ways
for Magnum to establish a manufacturing presence in Europe were to purchase an
existing mirror manufacturer (acquisition) or to construct a brandnew plant
(greenfield investment). In either case, the company needed to calculate the
net present value (NPV) from the potential investment to make sure that the
return on investment would be adequate. Determination of NPV involves
forecasting future profits and cash flows, discounting those cash flows back to
their present value, and comparing this with the amount of the investment. NPV
calculations inherently involve a great deal of uncertainty.
In the early 1990s, Magnum identified a company in
Portugal (Espelho Ltda.) as a potential acquisition candidate. In determining
NPV, Magnum needed to forecast future cash flows and determine a fair price to
pay for Espelho. Magnum had to deal with several complications in making a
foreign investment decision that would not have come into play in a domestic
situation. First, to assist in determining a fair price to offer for the
company, Magnum asked for Espelho’s financial statements for the past five years.
The financial statements had been prepared in accordance with Portuguese
accounting rules, which were much different from the accounting rules Magnum’s
managers were familiar
with. The balance sheet did not provide a clear picture of the company’s.
FINANCIAL STATEMENT
A financial statement (or financial
report) is a formal record of the financial activities and position of a business,
person, or other entity.
Relevant financial information is
presented in a structured manner and in a form easy to understand. They
typically include basic financial statements, accompanied by a management
discussion and analysis:
1.
A balance sheet , also referred to as a statement of financial position,
reports on a company's assets , liabilities, and ownership equity at a given
point in time.
2.
An income statement, also known as a statement of comprehensive income,
statement of revenue & expense, P&L or profit and loss report, reports
on a company's income , expenses , and profits over a period of time. A profit
and loss statement provides information on the operation of the enterprise.
These include sales and the various expenses incurred during the stated period.
3.
A statement of changes in equity, also known as equity statement or statement
of retained earnings , reports on the changes in equity of the company during
the stated period.
4.
A statement of cash flows reports on a company's cash flow activities,
particularly its operating, investing and financing activities.
For
large corporations, these statements may be complex and may include an
extensive set of footnotes to the financial statements and management
discussion and analysis. The notes typically describe each item on the balance
sheet, income statement and cash flow statement in further detail. Notes to
financial statements are considered an integral part of the financial
statements.
Financial statements of
any company is basically the summarized financial reports which provide the
operating results and financial position of companies, and the detailed information
contained therein is useful for assessing the operational efficiency and
financial soundness of a company. The financial statements to be discuss
extensively in the work would be basically the Income Statement and Balance
Sheet. The information contained in each of these statements therefore requires
proper analysis and interpretation of such information for which a number of
techniques (tools) have been developed by financial experts. For a company to
keep on as a going concern in a world of high competiveness it primary
objectives must not be challenge negatively which are profitability and
solvency. According to Hermanson et al, (1992), profitability is the ability of
a business to make profit, while solvency is the ability of company to pay her
debts as they fall due. However, the achievement of these objectives requires
efficient management of all factors of production (resources) of the company
her managerial functions which include planning, coordinating, staffing,
controlling, forecasting and decision making. It should be noted that the
strength and weakness of the business must be identifies and adequate measures
that will be applied. Accounting provides us the basic information that will
foaster the detail analysis of companies performances as it is the principal
subject that is concerned with all process involved in collecting, recording,
grouping, classifying and summarizing financial data with some intention of
preparing financial statement/report to assist various financial users in analyzing
and taking crucial decision for efficient and effective operation. (Wole,
2011).
PURPOSES OF FINANCIAL
STATEMENTS
"The objective of financial
statements is to provide information about the financial position, performance
and changes in financial position of an enterprise that is useful to a wide
range of users in making economic decisions." [2] Financial statements
should be understandable, relevant, reliable and comparable. Reported assets,
liabilities, equity, income and expenses are directly related to an
organization's financial position.
Financial statements are intended to be
understandable by readers who have "a reasonable knowledge of business and
economic activities and accounting and who are willing to study the information
diligently."
Financial statements
may be used by users for different purposes:
Owners and managers require financial
statements to make important business decisions that affect its continued
operations.
Financial analysis is then performed on
these statements to provide management with a more detailed understanding of
the figures. These statements are also used as part of management's annual
report to the stockholders.
Employees also need these reports in
making collective bargaining agreements (CBA) with the management, in the case
of labor unions or for individuals in discussing their compensation, promotion
and rankings.
Prospective investors make use of
financial statements to assess the viability of investing in a business.
Financial analyses are often used by investors and are prepared by
professionals (financial analysts), thus providing them with the basis for
making investment decisions.
Financial institutions (banks and other
lending companies) use them to decide whether to grant a company with fresh
working capital or extend debt securities (such as a long-term bank loan or
debentures) to finance expansion and other significant expenditures.
Consolidated financial
statements
Consolidated financial statements are
defined as "Financial statements of a group in which the assets ,
liabilities, equity, income , expenses and cash flows of the parent (company)
and its subsidiaries are presented as those of a single economic entity ",
according to International Accounting Standard 27 "Consolidated and
separate financial statements", and International Financial Reporting
Standard 10 "Consolidated financial statements".
Government financial
statements
The rules for the recording, measurement
and presentation of government financial statements may be different from those
required for business and even for non-profit organizations. They may use
either of two accounting methods : accrual accounting, or cost accounting, or a
combination of the two (OCBOA). A complete set of chart of accounts is also
used that is substantially different from the chart of a profit-oriented
business.
Personal financial
statements
Personal financial statements may be
required from persons applying for a personal loan or financial aid .
Typically, a personal financial statement consists of a single form for
reporting personally held assets and liabilities (debts), or personal sources
of income and expenses, or both. The form to be filled out is determined by the
organization supplying the loan or aid.
Audit and legal
implications
Although laws differ from country to
country, an audit of the financial statements of a public company is usually
required for investment, financing, and tax purposes. These are usually
performed by independent accountants or auditing firms. Results of the audit
are summarized in an audit report that either provide an unqualified opinion on
the financial statements or qualifications as to its fairness and accuracy. The
audit opinion on the financial statements is usually included in the annual
report.
There has been much legal debate over
who an auditor is liable to. Since audit reports tend to be addressed to the
current shareholders, it is commonly thought that they owe a legal duty of care
to them. But this may not be the case as determined by common law precedent. In
Canada, auditors are liable only to investors using a prospectus to buy shares
in the primary market. In the United Kingdom , they have been held liable to
potential investors when the auditor was aware of the potential investor and
how they would use the information in the financial statements. Nowadays
auditors tend to include in their report liability restricting language,
discouraging anyone other than the addressees of their report from relying on
it. Liability is an important issue: in the UK, for example, auditors have
unlimited liability.
In the United States, especially in the
post- Enron era there has been substantial concern about the accuracy of
financial statements. Corporate officers (the chief executive officer (CEO) and
chief financial officer (CFO)) are personally responsible for fair financial
reporting allowing those reading the report to have a good sense of the
organization.
Standards and
regulations
Different countries have developed their
own accounting principles over time, making international comparisons of
companies difficult. To ensure uniformity and comparability between financial
statements prepared by different companies, a set of guidelines and rules are
used. Commonly referred to as Generally Accepted Accounting Principles (GAAP),
these set of guidelines provide the basis in the preparation of financial
statements, although many companies voluntarily disclose information beyond the
scope of such requirements.
Recently there has been a push towards
standardizing accounting rules made by the International Accounting Standards
Board ("IASB"). IASB develops International Financial Reporting Standards
that have been adopted by Australia , Canada and the European Union (for
publicly quoted companies only), are under consideration in South Africa and
other countries . The United States Financial Accounting Standards Board has
made a commitment to converge the U.S. GAAP and IFRS over time.
Inclusion in annual
reports
To entice new investors, public
companies assemble their financial statements on fine paper with pleasing
graphics and photos in an annual report to shareholders , attempting to capture
the excitement and culture of the organization in a "marketing brochure
" of sorts. Usually the company's chief executive will write a letter to
shareholders, describing management's performance and the company's financial
highlights.
In the United States, prior to the
advent of the internet, the annual report was considered the most effective way
for corporations to communicate with individual shareholders. Blue chip
companies went to great expense to produce and mail out attractive annual
reports to every shareholder. The annual report was often prepared in the style
of a coffee table book .
Notes to financial
statements
Notes to financial statements (notes)
are additional information added to the end of financial statements that help
explain specific items in the statements as well as provide a more
comprehensive assessment of a company's financial condition. Notes to financial
statements can include information on debt , going concern criteria, accounts ,
contingent liabilities or contextual information explaining the financial
numbers (e.g. to indicate a lawsuit).
The notes clarify individual statement
line-items. For example, if a company lists a loss on a fixed asset impairment
line in their income statement, notes could corroborate the reason for the
impairment by describing how the asset became impaired. Notes are also used to
explain the accounting methods used to prepare the statements and they support
valuations for how particular accounts have been computed.
In consolidated financial statements,
all subsidiaries are listed as well as the amount of ownership (controlling
interest) that the parent company has in the subsidiaries. Any items within the
financial statements that are evaluated by estimation are part of the notes if
a substantial difference exists between the amount of the estimate previously
reported and the actual result. Full disclosure of the effects of the
differences between the estimate and actual results should be included.
Management discussion
and analysis
Management discussion and analysis or
MD&A is an integrated part of a company's annual financial statements. The
purpose of the MD&A is to provide a narrative explanation, through the eyes
of management, of how an entity has performed in the past, its financial
condition, and its future prospects. In so doing, the MD&A attempt to
provide investors with complete, fair, and balanced information to help them
decide whether to invest or continue to invest in an entity.
The section contains a description of
the year gone by and some of the key factors that influenced the business of
the company in that year, as well as a fair and unbiased overview of the
company's past, present, and future.
MD&A
typically describes the corporation's liquidity position , capital resources,
results of its operations, underlying causes of material changes in financial
statement items (such as asset impairment and restructuring charges), events of
unusual or infrequent nature (such as mergers and acquisitions or share
buybacks ), positive and negative trends, effects of inflation , domestic and
international market risks, [8] and significant uncertainties.
Moving to electronic
financial statements
Financial statements have been created
on paper for hundreds of years. The growth of the Web has seen more and more
financial statements created in an electronic form which is exchangeable over
the Web. Common forms of electronic financial statements are PDF and HTML.
These types of electronic financial statements have their drawbacks in that it
still takes a human to read the information in order to reuse the information
contained in a financial statement.
More recently a market driven global
standard, XBRL (Extensible Business Reporting Language), which can be used for
creating financial statements in a structured and computer readable format, has
become more popular as a format for creating financial statements. Many
regulators around the world such as the U.S. Securities and Exchange Commission
have mandated XBRL for the submission of financial information.
The UN/CEFACT created, with respect to
Generally Accepted Accounting Principles, (GAAP ), internal or external
financial reporting XML messages to be used between enterprises and their
partners, such as private interested parties (e.g. bank) and public collecting
bodies (e.g. taxation authorities). Many regulators use such messages to
collect financial and economic information.
CONTENT OF FINANCIAL
STATEMENTS
Structure
The income statement (statement of
income, statement of earnings, or statement of operations) reports the
accountant's primary measure of performance of a business, revenues less
expenses during the accounting period. While the term profit is used widely for
this measure of performance, accountants prefer to use the technical terms net
income or net earnings. Maxidrive's net income measures its success in selling
disk drives for more than the cost to generate those sales.
A quick reading of Maxidrive's income
statement (Exhibit 1.3 ) indicates a great deal about its purpose and content.
The heading identifies the name of the entity, the title of the report, and the
unit of measure used in the statement. Unlike the balance sheet, however, which
reports as of a certain date, the income statement reports for a specified
period of time (for the year ended December 31, 2009). The time period covered
by the financial statements (one year in this case) is called an accounting
period. Notice that Maxidrive's income statement has three major captions,
revenues, expenses, and net income. The income statement equation that
describes their relationship is
Elements
Companies earn revenues from the sale of
goods or services to customers (in Maxidrive's case, from the sale of disk
drives). Revenues normally are reported for goods or services that have been
sold to a customer whether or not they have yet been paid for. Retail stores
such as Wal-Mart and McDonald's often receive cash at the time of sale.
However, when Maxidrive sells its disk drives to Dell and Apple, it receives a
promise of future payment called an account receivable, which later is
collected in cash. In either case, the business recognizes total sales (cash
and credit) as revenue for the period. Various terms are used in income
statements to describe different sources of revenue (e.g., provision of
services, sale of goods, rental of property). Maxidrive lists only one, sales
revenue, in its income statement.
Income
Statement
Expenses represent the dollar amount of
resources the entity used to earn revenues during the period. Expenses reported
in one accounting period may actually be paid for in another accounting period.
Some expenses require the payment of cash immediately while some require
payment at a later date. Some may also require the use of another resource,
such as an inventory item, which may have been paid for in a prior period.
Maxidrive lists five types of expenses on its income statement, which are
described in Exhibit 1.3 . These expenses include income tax expense, which, as
a corporation, Maxidrive must pay on pretax income. 2
Net income or net earnings (often called
“the bottom line”) is the excess of total revenues over total expenses. If
total expenses exceed total revenues, a net loss is reported. 3 We noted
earlier that revenues are not necessarily the same as collections from
customers and expenses are not necessarily the same as payments to suppliers.
As a result, net income normally does not equal the net cash generated by
operations. This latter amount is reported on the cash flow statement discussed
later in this chapter.
1.
Learning which items belong in each of the income statement categories is an
important first step in understanding their meaning. Without referring to
Exhibit
1.3 , mark each income statement item in the following list as a revenue (R) or
an expense (E).
2.
During the period 2009, Maxidrive delivered disk drives for which customers
paid or promised to pay amounts totaling $37,436,000. During the same period,
it collected $33,563,000 in cash from its customers. Without referring to
Exhibit 1.3 , indicate which of these two amounts will be shown on Maxidrive's
income statement as sales revenue for 2009. Why did you select your answer?
3.
During the period 2009, Maxidrive produced disk drives with a total cost of
production of $27,130,000. During the same period, it delivered to customers
disk drives that had cost a total of $26,980,000 to produce. Without referring
to Exhibit 1.3 , indicate which of the two numbers will be shown on Maxidrive's
income statement as cost of goods sold expense for 2009. Why did you select
your answer?
After
you have completed your answers, check them with the solutions at the bottom of
the page.
1.
E, E, R, E (reading down the columns).
2.
Sales revenue in the amount of $37,436,000 is recognized. Sales revenue is
normally reported on the income statement when goods or services have been
delivered to customers who have either paid or promised to pay for them in the
future.
3.
Cost of goods sold expense is $26,980,000. Expenses are the dollar amount of
resources used up to earn revenues during the period. Only those disk drives
that have been delivered to customers have been used up. Those disk drives that
are still on hand are part of the asset inventory.
FINANCIAL
ANALYSIS Analyzing the Income Statement: Beyond the Bottom Line Investors such
as Exeter and creditors such as American Bank closely monitor a firm's net
income because it indicates the firm's ability to sell goods and services for
more than they cost to produce and deliver. Investors buy stock when they
believe that future earnings will improve and lead to a higher stock price.
Lenders also rely on future earnings to provide the resources to repay loans.
The details of the statement also are important. For example, Maxidrive had to
sell more than $37 million worth of disk drives to make just over $3 million.
If a competitor were to lower prices just 10 percent, forcing Maxidrive to do
the same, its net income could easily turn into a net loss. These factors and
others help investors and creditors estimate the company's future earnings.
FINANCIAL ANALYSIS Interpreting the Cash
Flow Statement
Many analysts believe that the statement
of cash flows is particularly useful in predicting future cash flows that may
be available for payment of debt to creditors and dividends to investors.
Bankers often consider the Operating Activities section to be most important
because it indicates the company's ability to generate cash from sales to meet
its current cash needs. Any amount left over can be used to pay back the bank
debt or expand the company. Stockholders will invest in a company only if they
believe that it will eventually generate more cash from operations than it uses
so that cash will become available to pay dividends and expand.
1. During the period 2009, Maxidrive
delivered disk drives to customers who paid or promised to pay a total of
$37,436,000. During the same period, it collected $33,563,000 in cash from
customers. Without referring to Exhibit 1.5 , indicate which of the two amounts
will be shown on Maxidrive's cash flow statement for 2009.
2. Your task here is to verify that
Maxidrive's cash balance decreased by $156 during the year using the totals for
cash flows from operating, investing, and financing activities presented in
Exhibit 1.5 . Recall the cash flow statement equation:
After you have completed your answers,
check them with the solutions at the bottom of the page.
Self-Study Quiz Solutions
1. The firm recognizes $33,563,000 on
the cash flow statement because this number represents the actual cash
collected from customers related to current and prior years' sales.
2. EXHIBIT 1.6 Relationships Among
Maxidrive's Statements
Relationships Among the Statements
Our discussion of the four basic
financial statements focused on what elements are reported in each statement,
how the elements are related by the equation for each statement, and how the
elements are important to the decisions of investors, creditors, and others. We
have also discovered how the statements, all of which are outputs from the same
system, are related to one another. In particular, we learned:
1. Net income from the income statement
results in an increase in ending retained earnings on the statement of retained
earnings.
2. Ending retained earnings from the
statement of retained earnings is one of the two components of stockholders'
equity on the balance sheet.
3. The change in cash on the cash flow
statement added to the beginning-of-the-year balance in cash equals the
end-of-year balance in cash on the balance sheet.
Thus, we can think of the income
statement as explaining, through the statement of retained earnings, how the
operations of the company improved or harmed the financial position of the
company during the year. The cash flow statement explains how the operating,
investing, and financing activities of the company affected the cash balance on
the balance sheet during the year. These relationships are illustrated in
Exhibit 1.6 for Maxidrive's financial statements.
UNDERLYING
ASSUMPTIONS ON THE PREPARATION OF FINANCIAL STATEMENT
Detail financial
information of a company is always provided in the annual financial statements
of a company which can be use to evaluate the performances of companies.
however, it should be noted Bat financial statements are not means to an end
and not end in themselves. Thus, the use of financial statements in evaluating
companies performances is not easy owing to the following problems
i. As
a result of the compressed (summarized) nature of financial information
contained in financial statements, they need to be analyzed and interpreted by
means of financial ratios to enable management and relevant stakeholders make
decision and as well to know the performances of companies.
ii. Many
users of financial statements are not knowledgeable about accounting ratios and
how the ratios can be applied to financial statements to assist than have
proper evaluation insight as to know the performances of companies.
iii. Despite the immense benefits of financial
statements analysis through the use of ratios there are lots of weaknesses or
limitations associated with it uses.
We have learned a great deal about the
content of the four basic statements. summarizes this information. Take a few
minutes to review the information in the exhibit before you move on to the next
section of the chapter.
1
A corporation is a business that is incorporated under the laws of a particular
state. The owners are called stockholders or shareholders. Ownership is represented
by shares of capital stock that usually can be bought and sold freely. The
corporation operates as a separate legal entity, separate and apart from its
owners. The stockholders enjoy limited liability; they are liable for the debts
of the corporation only to the extent of their investments. Chapter Supplement
A discusses forms of ownership in more detail.
2
This example uses a 25 percent rate. Federal tax rates for corporations
actually ranged from 15 percent to 35 percent at the time this book was written.
State and local governments may levy additional taxes on corporate income,
resulting in a higher total income tax rate.
3
Net losses are normally noted by parentheses around the income figure.
4
Other corporations report these changes at the end of the income statement or
in a more general statement of stockholders' equity,.
5
Net losses are subtracted.
6
Alternative ways to present cash flows from operations
Notes
At the bottom of each of Maxidrive's
four basic financial statements is this statement: “The notes are an integral
part of these financial statements.” This is the accounting equivalent of the
Surgeon General's warning on a package of cigarettes. It warns users that
failure to read the notes (or footnotes) to the financial statements will
result in an incomplete picture of the company's financial health. Notes
provide supplemental information about the financial condition of a company
without which the financial statements cannot be fully understood.
There are three basic types of notes.
The first type provides descriptions of the accounting rules applied in the
company's statements. The second presents additional detail about a line on the
financial statements. For example, Maxidrive's inventory note indicates the
amount of parts, drives under construction, and finished disk drives included
in the total inventory amount listed on the balance sheet. The third type of
note provides additional financial disclosures about items not listed on the statements
themselves. For example, Maxidrive leases one of its production facilities;
terms of the lease are disclosed in a note. Throughout this book, we will
discuss many note disclosures because understanding their content is critical
to understanding the company.
A
few additional formatting conventions are worth noting here. Assets are listed
on the balance sheet by ease of conversion to cash. Liabilities are listed by
their maturity (due date). Most financial statements include the monetary unit
sign (in the United States, the $) beside the first dollar amount in a group of
items (e.g., the cash amount in the assets). Also, it is common to place a
single underline below the last item in a group before a total or subtotal
(e.g., land). A dollar sign is also placed beside group totals (e.g., total
assets) and a double underline below. The same conventions are followed in all
four basic financial statements.
FINANCIAL
ANALYSIS
Management
Uses of Financial Statements
In
our discussion of financial analysis thus far, we have focused on the
perspectives of investors and creditors. Managers within the firm also make
direct use of financial statements. For example, Maxidrive's marketing managers
and credit managers use customers' financial statements to decide whether to
extend credit for purchases of disk drives. Maxidrive's purchasing managers
analyze parts suppliers' financial statements to see whether the suppliers have
the resources to meet Maxidrive's demand and invest in the development of new
parts. Both the employees' union and Maxidrive's human resource managers use
Maxidrive's financial statements as a basis for contract negotiations over pay
rates. The net income figure even serves as a basis for calculating employee
bonuses. Regardless of the functional area of management in which you are
employed, you will use financial statement data. You also will be evaluated
based on the impact of your decisions on your company's financial statement
data.
Statement of Cash Flows
At the bottom of each of Maxidrive's
four basic financial statements is this statement: “The notes are an integral
part of these financial statements.” This is the accounting equivalent of the
Surgeon General's warning on a package of cigarettes. It warns users that
failure to read the notes (or footnotes) to the financial statements will
result in an incomplete picture of the company's financial health. Notes
provide supplemental information about the financial condition of a company
without which the financial statements cannot be fully understood.
There are three basic types of notes.
The first type provides descriptions of the accounting rules applied in the
company's statements. The second presents additional detail about a line on the
financial statements. For example, Maxidrive's inventory note indicates the
amount of parts, drives under construction, and finished disk drives included
in the total inventory amount listed on the balance sheet. The third type of
note provides additional financial disclosures about items not listed on the statements
themselves. For example, Maxidrive leases one of its production facilities;
terms of the lease are disclosed in a note. Throughout this book, we will
discuss many note disclosures because understanding their content is critical
to understanding the company.
A few additional formatting conventions
are worth noting here. Assets are listed on the balance sheet by ease of
conversion to cash. Liabilities are listed by their maturity (due date). Most
financial statements include the monetary unit sign (in the United States, the
$) beside the first dollar amount in a group of items (e.g., the cash amount in
the assets). Also, it is common to place a single underline below the last item
in a group before a total or subtotal (e.g., land). A dollar sign is also
placed beside group totals (e.g., total assets) and a double underline below.
The same conventions are followed in all four basic financial statements.
FINANCIAL ANALYSIS Management Uses of
Financial Statements
In our discussion of financial analysis thus
far, we have focused on the perspectives of investors and creditors. Managers
within the firm also make direct use of financial statements. For example,
Maxidrive's marketing managers and credit managers use customers' financial
statements to decide whether to extend credit for purchases of disk drives.
Maxidrive's purchasing managers analyze parts suppliers' financial statements
to see whether the suppliers have the resources to meet Maxidrive's demand and
invest in the development of new parts. Both the employees' union and
Maxidrive's human resource managers use Maxidrive's financial statements as a
basis for contract negotiations over pay rates. The net income figure even
serves as a basis for calculating employee bonuses. Regardless of the functional
area of management in which you are employed, you will use financial statement
data. You also will be evaluated based on the impact of your decisions on your
company's financial statement data.
REFERENCES
"IFRS 10 — Consolidated Financial
Statements" . www.iasplus.com . IAS Plus (This material is provided by
Deloitte Touche Tohmatsu Limited (“DTTL”), or a member firm of DTTL, or one of
their related entities. This material is provided “AS IS” and without warranty
of any kind, express or implied. Without limiting the foregoing, neither
Deloitte Touche Tohmatsu Limited (“DTTL”), nor any member firm of DTTL (a “DTTL
Member Firm”), nor any of their related entities (collectively, the “Deloitte
Network”) warrants that this material will be error-free or will meet any
particular criteria of performance or quality, and each entity of the Deloitte
Network expressly disclaims all implied warranties, including without
limitation warranties of merchantability, title, fitness for a particular
purpose, non-infringement, compatibility and accuracy.). Retrieved 2013-11-29.
"Presentation of Financial Statements"
Standard IAS 1, International Accounting Standards Board. Accessed 24 June
2007.
"The Framework for the Preparation and
Presentation of Financial Statements" International Accounting Standards
Board. Accessed 24 June 2007.
Alexander, D., Britton, A., Jorissen, A.,
"International Financial Reporting and Analysis", Second Edition,
2005, ISBN 978-1-84480-201-2
FASB, 2001. Improving Business Reporting: Insights
into Enhancing Voluntary Disclosures . Retrieved on April 20, 2012.
MD&A & Other Performance Reporting
Nico Resources Management's Discussion and Analysis
PepsiCo Management's Discussion and Analysis
