Week02 Preparation of Finanical Statements I.pptVIP

Incentives To increase managerial compensation, e.g., bonus and value of stock option To obtain finance, e.g., issuance of shares and borrowing To pay less taxes To obtain government subsidies To avoid hostile takeover Consequences Financial statements are biased and unreliable Resource allocation decision is sub-optimal Some parties gain at the expense of others Possible public outcry and government sanction Tarnish the image of accounting and auditing profession Practices Earnings management may but not must explicit itself in the following ways Beating earnings forecast Small profit figures Income smoothing Big bath Writing off a lot of assets when management changes * Statement of Changes in Equity To show: Total comprehensive income for the period Capital transactions / distributions Movements in each class of equity capital, share premium and each reserve * Statement of Changes in Equity - Example * Notes to Financial Statements To present the following information: The basis of preparation of financial statement and significant accounting policies Required by an accounting standard but not disclosed elsewhere To give a true and fair view To be cross-referenced to financial statements * Presentation of Accounting Policies In the accounting policies section of notes to the financial statement To disclose: Measurement basis (bases) Historical cost, replacement cost, net realisable value, etc. Significant accounting policies * Earnings Management Meaning The ‘management’ (manipulation) of earnings figures to achieve particular purposes of the management Means Through the use of accruals Through accounting policy changes Through real transactions, e.g., sale of non-current assets to maintain earnings level, cutting of discretionary expenses. Fraud? Most earnings management practices are within the boundary of accounting regulations Extreme ones are frauds * Some Related Terms Creative accounting The manipulation of financial statement figures for a desired