Chapter 3 The Environment of Accounting Research

The accounting environment Accounting standards are influenced by: Accounting standards are influenced by: Federal bodies Federal bodies Tax laws Tax laws Specialized industries Specialized industries Inconsistencies in practice Inconsistencies in practice Disagreements among constituents Disagreements among constituents Professional organizations Professional organizations International influences International influences Litigation concerns Litigation concerns Public concerns Public concerns

The Securities and Exchange Commission (SEC) Established by the Securities and Exchange Act of 1934 Established by the Securities and Exchange Act of 1934 Ensure public companies fully and fairly disclose all material facts Ensure public companies fully and fairly disclose all material facts SEC has statutory authority to issue rules and regulation SEC has statutory authority to issue rules and regulation SEC’s Office of the Chief Accountant (OCA) establishes accounting policies followed by the SEC and is divided into three groups. SEC’s Office of the Chief Accountant (OCA) establishes accounting policies followed by the SEC and is divided into three groups. Accounting Accounting Professional Practice Professional Practice International Affairs International Affairs

The SEC - continued Five SEC divisions consulted by the OCA groups: Five SEC divisions consulted by the OCA groups: Corporate finance Corporate finance Trading and markets Trading and markets Enforcement Enforcement Investment management Investment management Risk, Strategy, and Financial Innovation Risk, Strategy, and Financial Innovation

The SEC - continued SEC delegated accounting standard setting to the FASB, but has an oversight function SEC delegated accounting standard setting to the FASB, but has an oversight function SEC rules and regulations SEC rules and regulations Definitions Definitions Regulations – compilations of rules – solicitation of proxies Regulations – compilations of rules – solicitation of proxies Procedural matters- proceedings Procedural matters- proceedings

The Financial Accounting Standards Board (FASB) Develop high quality financial reporting standards (GAAP) Develop high quality financial reporting standards (GAAP) Many entities involved: Many entities involved: Financial Accounting Foundation (FAF) Financial Accounting Foundation (FAF) FASB – members from CPA firms, corporations, academia, and industry. FASB – members from CPA firms, corporations, academia, and industry. FASB staff- approximately 70 professionals with various backgrounds. FASB staff- approximately 70 professionals with various backgrounds. Emerging Issue Task Force (EITF) Emerging Issue Task Force (EITF) Financial Accounting Standards Advisory Council (FASAC) – guides FASB on which projects to pursue and on task forces to be organized Financial Accounting Standards Advisory Council (FASAC) – guides FASB on which projects to pursue and on task forces to be organized

The FASB - continued Pronouncements: Pronouncements: Statement of Financial Accounting Standards (SFAS’s) Statement of Financial Accounting Standards (SFAS’s) A summary, a table of contents, introduction, the standard, the list of members voting, basis for decision or dissention, appendices. A summary, a table of contents, introduction, the standard, the list of members voting, basis for decision or dissention, appendices. Interpretations of Financial Accounting Standards – interpret SFAS’s and AICPA Accounting Research Bulletins (ARB’s) and APB Opinions. Interpretations of Financial Accounting Standards – interpret SFAS’s and AICPA Accounting Research Bulletins (ARB’s) and APB Opinions.

The FASB- continued Technical Bulletins – provide timely guidance on implementation issues Technical Bulletins – provide timely guidance on implementation issues Emerging Issues Task Force – established in 1984 – addresses issues not covered in pronouncements Emerging Issues Task Force – established in 1984 – addresses issues not covered in pronouncements Usually involve industry specific issues Usually involve industry specific issues FASB Staff Positions (FSP) – application guidance – posted on the website and remain until incorporated into Staff Implementation Guides FASB Staff Positions (FSP) – application guidance – posted on the website and remain until incorporated into Staff Implementation Guides

FASB Due Process 1. identify problem while considering legal pressures 1. identify problem while considering legal pressures 2. consider interested party input to determine if issue is worthy of consideration 2. consider interested party input to determine if issue is worthy of consideration 3. establish a task force 3. establish a task force 4. have research staff investigate issue 4. have research staff investigate issue 5. issue discussion memo 5. issue discussion memo 6. hold public hearings 6. hold public hearings 7. analyze results of investigation, communicate responses and conduct additional public hearings 7. analyze results of investigation, communicate responses and conduct additional public hearings 8. if appropriate, issue an exposure draft 8. if appropriate, issue an exposure draft 9. request additional comments and hold additional public hearings. 9. request additional comments and hold additional public hearings. 10. issue final SFAS after analyzing comments. 10. issue final SFAS after analyzing comments.

Conceptual Framework Statements of Financial Accounting Concepts (SFAC’s) – describe concepts and relationships that underlie financial accounting standards Statements of Financial Accounting Concepts (SFAC’s) – describe concepts and relationships that underlie financial accounting standards Elements of financial statements – measurement, recognition, display Elements of financial statements – measurement, recognition, display Capital maintenance Capital maintenance Unit of measure Unit of measure Criteria for measurement Criteria for measurement Qualitative characteristics Qualitative characteristics

Concept Statements Have not gone through due process Have not gone through due process SFAC1 – Objectives of financial reporting (Chpt 1 of SFAC 8 – Conceptual Framework for Financial Reporting) SFAC1 – Objectives of financial reporting (Chpt 1 of SFAC 8 – Conceptual Framework for Financial Reporting) SFAC 2 – qualitative characteristics (Chpt 3 of SFAC 8) SFAC 2 – qualitative characteristics (Chpt 3 of SFAC 8) SFAC 3 – replaced by 6 SFAC 3 – replaced by 6 SFAC 4 – objectives of financial reporting of nonbusiness organizations SFAC 4 – objectives of financial reporting of nonbusiness organizations SFAC 5 – recognition and measurement in financial statements SFAC 5 – recognition and measurement in financial statements SFAC 6 – elements of financial statements SFAC 6 – elements of financial statements SFAC 7 – using cash flow information and present value in accounting measurement SFAC 7 – using cash flow information and present value in accounting measurement

American Institute of Certified Public Accountants (AICPA) Was the standard setting body before the FASB Was the standard setting body before the FASB AICPA’s Committee on Accounting Procedures issued ARB’s (Accounting Research Bulletins) from 1939 to 1959 – some still apply AICPA’s Committee on Accounting Procedures issued ARB’s (Accounting Research Bulletins) from 1939 to 1959 – some still apply The Accounting Principles Board (APB) issued APB’s from 1959 until The Accounting Principles Board (APB) issued APB’s from 1959 until The Accounting Standards Division previously through the Accounting Standards Executive Committee (AcSEC), now known as the Financial Reporting Executive Committee (FinREC) influences standard setting through comment letters and Issue papers The Accounting Standards Division previously through the Accounting Standards Executive Committee (AcSEC), now known as the Financial Reporting Executive Committee (FinREC) influences standard setting through comment letters and Issue papers Statement of Positions were previously issued by AICPA, but currently are issued by the FASB. Statement of Positions were previously issued by AICPA, but currently are issued by the FASB. Other publications – Accounting Research Monographs, US GAAP Financial Statements Best Practices and Disclosure Other publications – Accounting Research Monographs, US GAAP Financial Statements Best Practices and Disclosure

The Governmental Accounting Standards Board (GASB) Sets financial and reporting standards for the public sector Sets financial and reporting standards for the public sector Established in 1984 by the Financial Accounting Foundation (FAF), seven members Established in 1984 by the Financial Accounting Foundation (FAF), seven members Created the Government Finance Officers Association (GFOA) and the National Association of State Auditors, Comptrollers, and Treasurers Created the Government Finance Officers Association (GFOA) and the National Association of State Auditors, Comptrollers, and Treasurers

The GASB - continued Due process similar to the FASB Due process similar to the FASB Advisory council is the Governmental Accounting Standards Advisory Council (GASAC) Advisory council is the Governmental Accounting Standards Advisory Council (GASAC) Publications – GASB Codification of Government Accounting & Financial Reporting Studies, the US Comptroller General’s “Yellow Book” (codification of audit standards for government organizations), US Congress’s “Single Audit Actof 1984” Publications – GASB Codification of Government Accounting & Financial Reporting Studies, the US Comptroller General’s “Yellow Book” (codification of audit standards for government organizations), US Congress’s “Single Audit Actof 1984”

Other organizations influencing accounting standard setting Cost Accounting Standards Board (CASB) Cost Accounting Standards Board (CASB) Income tax laws Income tax laws Securities Industry Associates (SIA)- represents investment bankers and financial analysts Securities Industry Associates (SIA)- represents investment bankers and financial analysts National Association of State Auditors, Controllers, and Treasurers National Association of State Auditors, Controllers, and Treasurers Financial Executives Institute (FEI) – active committees, research, conferences Financial Executives Institute (FEI) – active committees, research, conferences Institute of Management Accountants (IMA) – committees, foundation, research Institute of Management Accountants (IMA) – committees, foundation, research American Accounting Association (AAA) – theoretical research, publications American Accounting Association (AAA) – theoretical research, publications Institute of Internal Auditors (IIA)- research, committees Institute of Internal Auditors (IIA)- research, committees

Generally accepted accounting principles (GAAP) The conventions, rules, and procedures necessary to define accounting practice at a particular time. The conventions, rules, and procedures necessary to define accounting practice at a particular time. Two functions Two functions Measurement Measurement Disclosure Disclosure Financial statements must be in conformity with GAAP in order for CPA’s to express an opinion on them Financial statements must be in conformity with GAAP in order for CPA’s to express an opinion on them

Pre-Codification Hierarchy of GAAP Level A Level A FASB statements, APBs, ARBs, SEC Rules (10K, 8K) FASB statements, APBs, ARBs, SEC Rules (10K, 8K) Level B Level B AICPA Industry guides, SOPs, FASB technical bulletins AICPA Industry guides, SOPs, FASB technical bulletins Level C Level C AcSEC practice bulletins, EITFs, SEC speeches AcSEC practice bulletins, EITFs, SEC speeches Level D Level D AICPA interpretations, FASB implementation guides, industry practices, uncleared SOPs AICPA interpretations, FASB implementation guides, industry practices, uncleared SOPs Level E Level E APB statements, AICPA issue papers, FASB concepts statements, IASB statements, journal articles, textbooks APB statements, AICPA issue papers, FASB concepts statements, IASB statements, journal articles, textbooks

Post-Codification GAAP Two levels (Figure 3-5) Two levels (Figure 3-5) Authoritative Authoritative Most prior levels A-D, some level E Most prior levels A-D, some level E Non-authoritative Non-authoritative Most level E and some level D Most level E and some level D If a non-governmental source is not found in the Codification, it is not GAAP If a non-governmental source is not found in the Codification, it is not GAAP

Accounting Authoritative Support- Figure 3-7 Primary Support Primary Support General Application and Special Application (FASB standards, AICPA SOPs) General Application and Special Application (FASB standards, AICPA SOPs) Secondary Support Secondary Support Official publications of bodies and other sources (SEC staff bulletins, FASB technical bulletins) Official publications of bodies and other sources (SEC staff bulletins, FASB technical bulletins)

Reading a pronouncement Introduction Introduction Background Background Board’s conclusion Board’s conclusion Opinion or statement Opinion or statement Effective date Effective date Illustrations Illustrations Required disclosures Required disclosures