1. IAS 8 - Accounting changes and errors

2. Academic Resource Center Accounting changes and errors Page 2 Executive summary ► Both IFRS and US GAAP have similar recognition treatment for accounting changes, changes in estimates and corrections of errors. The required disclosures are also similar. ► IFRS provides an exception if it is impractical to restate financial statements for a correction of an error. US GAAP requires all material errors to be corrected by restating, and does not provide an impractical exception.

3. Academic Resource Center Accounting changes and errors Page 3 Adoption of a new accounting standard Upon adoption of a new accounting standard, the transition guidance in the standard, if any, should be followed. If no guidance is provided, then the new accounting standard should be applied retrospectively, when practical. Similar IFRSUS GAAP

4. Academic Resource Center Accounting changes and errors Page 4 Change in accounting policy A change in accounting policy is defined as a change from one generally accepted accounting principle to another generally accepted accounting principle. If practical, the change should be applied retrospectively. The initial adoption of an accounting principle for new events or to account for items that were previously immaterial is not considered a change in accounting. Similar IFRSUS GAAP Similar

5. Academic Resource Center Accounting changes and errors Page 5 Change in accounting policy ASC 250-10-45-6, when it is impracticable “to determine the period-specific effects of that change on all prior periods presented, the cumulative effect of the change to the new accounting principle shall be applied to the carrying amounts of assets and liabilities as of the beginning of the earliest period to which the new accounting principle can be applied. An offsetting adjustment, if any, shall be made to the opening balance of retained earnings (or other appropriate components of equity or net assets in the statement of financial position) for that period.” IFRSUS GAAP Similar: Per IAS 8, paragraph 25, “when it is impracticable to determine the cumulative effect, at the beginning of the current period, of applying a new accounting policy to all prior periods, the entity shall adjust the comparative information to apply the new accounting policy prospectively from the earliest date practicable.”

6. Academic Resource Center Accounting changes and errors Page 6 Example 2: During 2010, Cooper Company, Inc.’s (CCI) management installed a new computerized inventory accounting system. CCI reports under US GAAP. The new system allows management for the first time to determine the specific costs for each product in the 2010 ending inventory, but not for any date prior to the 2010 year-end. CCI turns its entire inventory three times a year. There were no lower-of-cost-or-market issues with inventory in 2009 or 2010. CCI’s effective income tax rate is 50%. CCI has had 2.0 million shares of common stock outstanding since its inception in 2008. Management decided to change its accounting policy for inventory costing from FIFO to the specific-identification method in 2010. Management believes this change will better match costs and revenues and is, therefore, a preferable change. Prospective application of a change in accounting principle example ► Assess how CCI would report this change in accounting principle under US GAAP. List any significant differences between US GAAP and IFRS. Additional information is shown on the next slide. In 2009, CCI’s accounting policy for inventory was as follows: inventory is stated at the lower of cost, FIFO or market.

7. Academic Resource Center Accounting changes and errors Page 7 Additional information (amounts in millions): Prospective application of a change in accounting principle example 20092010 Year-end inventory value using FIFO$ 10$ 11 Year-end inventory value using specific identification NA$ 13 Cost of sales using FIFO$ 30$ 33 Cost of sales using specific identification NA$ 31 Retained earnings using FIFO$110$120 Retained earnings using specific identification NA Note: NA indicates the information in not available.

8. Academic Resource Center Accounting changes and errors Page 8 Example 2 solution: Management cannot apply the new inventory accounting policy to the inventory balance at the end of 2009, nor to the beginning inventory balance in 2010, because the system needed to make the determination of specific identification of costs did not exist at that time. Therefore, neither the 2009 ending retained earnings balance nor the 2010 beginning retained earnings would be restated. The earliest date at which the change in accounting policy can be reflected is on the 2010 year-end balance sheet. The impact of the change is to decrease cost of sales by $2.0 million. The after-tax impact on the 2010 year-end financial information would be to increase net income and retained earnings by $1.0 million. There are no significant differences between US GAAP and IFRS. Prospective application of a change in accounting principle example

9. Academic Resource Center Accounting changes and errors Page 9 Changes in accounting estimates A change in estimate due to new developments or new information should be accounted for in the period of the change or in future periods, depending on the periods impacted by the change (i.e., the change should be accounted for prospectively). A change in depreciation methodology on existing assets is treated as a change in estimate. Similar IFRSUS GAAP

10. Academic Resource Center Accounting changes and errors Page 10 Correction of errors Generally requires that material, prior-period errors be corrected retrospectively by restating all prior reported accounts impacted by the error and recording a prior-period adjustment to the beginning retained earnings balance. Similar IFRSUS GAAP

11. Academic Resource Center Accounting changes and errors Page 11 Correction of errors IFRS ► IFRS provides an exception if it is impractical. IFRS narrowly defines impractical in IAS 8, paragraph 5, as follows: “Applying a requirement is impractical when an entity cannot apply it after making every reasonable effort to do so.” US GAAP ► All material errors should be corrected by restatement.

12. Academic Resource Center Accounting changes and errors Page 12 Correction of errors IFRS ► Definition of impractical (continued): “For a particular prior period, it is impractical to apply a change in accounting policy retrospectively or to make a retrospective restatement to correct an error if: ► “(a) The effects of the retrospective application or retrospective restatement are not determinable; ► “(b) The retrospective application or retrospective restatement requires assumptions about what management’s intent would have been in that period; or US GAAP ► All material errors should be corrected by restatement.

13. Academic Resource Center Accounting changes and errors Page 13 Correction of errors IFRS ► Definition of impractical (continued): ► “(c) The retrospective application or retrospective restatement requires significant estimates of amounts and it is impossible to distinguish objectively information about the estimates that: ► “(i) provides evidence of circumstances that existed on the date(s) at which those amounts are to be recognized, measured, or disclosed; and ► “(ii) would have been available when the financial statements for that prior period were authorized for issue, from other information.” US GAAP ► All material errors should be corrected by restatement.

14. Academic Resource Center Accounting changes and errors Page 14 Correction of errors IFRS ► IAS 8, paragraphs 44 and 45, provide guidance when it is impractical to correct an error by retrospective restatement. The opening balances should be restated for the earliest period possible. The standard notes restatement may be limited in some cases to the current period. US GAAP ► All material errors should be corrected by restatement.

15. Academic Resource Center Accounting changes and errors Page 15 Example 3 When preparing a comparative analysis of income tax expense in 2010, the Modern Art Company (MAC) discovered that the 2009 calculation did not include foreign income taxes of $2.0 million. Management determined this error is material and that the financial statements need to be corrected. MAC reports under US GAAP. Additional information is on the following slide. Correction of an error example ► Determine how MAC should report the correction of this error in the balances shown above. List any significant differences between US GAAP and IFRS.

16. Academic Resource Center Accounting changes and errors Page 16 Correction of an error example 20102009 Net income before income taxes$20$14 Income taxes 8 5 Net income$12$ 9 Beginning retained earnings$52$50 Net income129 Dividends paid (10) (7) Ending retained earnings$54$52 Example 3 (continued): Extracts from the statements of income and retained earnings, before correcting the error, are as follows (amounts in millions):

17. Academic Resource Center Accounting changes and errors Page 17 Correction of an error example Example 3 solution: 2010 Restated 2009 Net income before income taxes$20$ 14 Income taxes 8 7 Net income$12$ 7 Beginning retained earnings$50 Net income127 Dividends paid(10) (7) Ending retained earnings$52$50 There are no significant differences between US GAAP and IFRS.

18. Academic Resource Center Accounting changes and errors Page 18 Example 4 The ABC Company (ABC) has been valuing its inventory using FIFO since its inception on January 1, 2009. All inventory calculations were done manually until December 31, 2011, when a new, computerized costing system was fully implemented. The controller compared the closing inventory value at December 31, 2010, which had been calculated manually, and the opening inventory value on January 1, 2011, which had been calculated using the new computerized costing system, and noted the inventory was overstated by $2.0 million. Management doubled-checked the new inventory costing program and determined the computer program was valuing inventory properly. Management determined this error is material and that the financial statements need to be corrected. After some research of the manual inventory records for 2010 and 2009, management concluded it was impractical to determine if the error in valuing the inventory occurred in 2010 or 2009, or in both years. ABC has incurred losses since its inception and has not paid any income taxes. Additional information is shown on the following slide. Correction of an error example ► Determine how ABC should report the correction of this error in the balances shown above. ► List any significant differences between US GAAP and IFRS.

19. Academic Resource Center Accounting changes and errors Page 19 Correction of an error example 20102009 Revenue$ 30$10 Cost of sales209 Selling and administrative cost 12 10 Net loss$ (2)$ (9) Beginning retained deficit$ (9)$ – Net loss (2) (9) Ending retained deficit$(11)$ (9) Example 4 (continued): Extracts from the statement of operations and statement of retained deficit, before correcting the error, are as follows (amounts in millions):

20. Academic Resource Center Accounting changes and errors Page 20 Correction of an error example 2010 Restated 2010 Revenue$ 30 Cost of sales2022 Selling and administrative cost 12 Net loss$ (2)$ ( 4) Beginning retained deficit$ ( 9) Net loss (2) (4) Ending retained deficit$(11)$(13) Example 4 solution: US GAAP does not provide an impractical exception, but instead requires the error to be corrected in the period it arose. Additional work needs to be done to determine the impact of the correction of the error on the 2009 and 2010 financial information. IFRS provides an impractical exception for correcting an error. When it is impractical to determine the period in which the error arose, the earliest period for which a determination can be made should be restated. In this example, the ending balance of the December 31, 2010, inventory should be reduced by $2.0 million and the cost of sales should be increased by $2.0 million in 2010.

21. Academic Resource Center Accounting changes and errors Page 21 Disclosures Change in accounting principle If the change is due to new accounting guidance, that guidance should be identified. An explanation of why the change in accounting is preferable. Similar – a description of how the change provides more reliable and relevant information is required. IFRSUS GAAP The method of applying the change, which is generally the retrospective application to the earliest period presented. Similar

22. Academic Resource Center Accounting changes and errors Page 22 Disclosures Change in accounting estimates Generally, no separate disclosure of changes in estimates is required unless the change is viewed as material to understanding the current year’s financial statements or the impact on future periods is expected to be material. Similar IFRSUS GAAP

23. Academic Resource Center Accounting changes and errors Page 23 Disclosures Correction of errors The nature of the error and the periods affected. The impact on each financial statement line item restated, including the impact on earnings per share, if applicable. The cumulative impact of the restatement on the earliest year restated. Similar IFRSUS GAAP Similar