Financial Accounting Theory And Analysis: Text And Cases, 10th Edition Solution Manual

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1Accounting Theory and Analysis10thEditionSolutions Manual and Test BankByRichard G. SchroederUniversity of North Carolina at CharlotteMyrtle W. ClarkUniversity of KentuckyJack M. CatheyUniversity of North Carolina at Charlotte

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2Table of ContentsPage numberUsing the Codification to Solve theFASB ASCCases3Solutions ManualChapter 16Chapter 232Chapter 358Chapter 465Chapter 574Chapter 6100Chapter 7127Chapter 8144Chapter 9167Chapter 10184Chapter 11211Chapter 12254Chapter 13276Chapter 14291Chapter 15307Chapter 16337Chapter 17359

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4Usingthe Codification to Solve theFASB ASCCasesPrior to attempting to use the codification website to solve theFASB ASCcases, it isrecommended that you read “Test Driving the Codification,” by Carolyn Ford and C. WilliamThomas,Journal of Accountancy, December, 2008.Available athttp://www.journalofaccountancy.com/Issues/2008/Dec/TestDrivingtheCodification.htm,andreview the tutorials on the codification website.Overview of the CodificationTheFinancial Accounting Standards Boardcodification (FASB ASC) is organized intogeneral topics listed on the left-hand side of the home page (General Principles, Presentation,etc.). Clicking on any of the general topics will bring up what the FASB terms a “landing page.”Each landing page contains a list of sub topics for that link. For example clicking on the generaltopic Assets brings up list of seven sub topics (Cash and Cash Equivalents, Receivables, etc.).Notice that each of the subtopics is identified by a three digit number. This allows for access viathe go to function that we will discuss later.Clicking on any of the subtopics brings up a second link to what are termed sections andcontain the content specific area of the FASB ASC.All Subtopics have a set of standardSections unless there is nothing to include in a particularstandardsection, in which case thatstandardSection is left out of theSubtopic and therefore the FASB ASC. There are sixteenstandard Sections for each Subtopic.Sectionsareindicated by a two digit number between 00and 99. Some of the most frequently used sections are: 25 Recognition, 30 Initial Measurement35 Subsequent Measurement, 50 Disclosure and Implementation Guidance and Instructions.Each Section has Paragraph numbers that start over at the beginning of each Section.Each Paragraph, therefore, has a two-part number. The first number is the Section number, andthe second part is the Paragraph number within that Section. The Paragraphs are where“substantive content”of the FASB ASC is found.The rest of the levels only exist to organizethe information in the Paragraphs and help navigate to the informationcontained in them. Inorder to view the specific content areas, it is necessary to click on theJOIN ALL SECTIONStab found on each section page. For example, assume we are interested in the authoritativeliterature on accounting for sales of products when a right to return exists. First, click on thetopic Revenue at the left-hand side of the home page, then on the landing page RevenueRecognition. Next, click on the products subsection. Finally click theJOIN ALL SECTIONStab and all of the paragraph content will appear. Page down through the material and you willfind that Paragraph 25-1 contains the authoritative guidance for accounting for sales of productswith a right to return.The home page also gives other options for navigating the FASB ASC. Two of these arethe SEARCH function and theGO TOoption.We have found that using these functions is aneasy way to start navigating the FASB ASC. To use the search method of navigating the FASBASC, first, type the general topic in the search box at the top right of the FASB ASC homepage. This will give you some references to specific FASB ASC sections where the topic isdiscussed. Choose the section that seems most appropriate and type the reference number in theGO TObox at the top left-hand side of the FASB ASC homepage. Once you are redirected tothe desired section, click combine sections and all of the information on the topic will be

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5displayed. You can then browse through the material to find the appropriate subsection thataddresses the case issue. Let’s use this option to find the authoritative literature on accountingfor sales of products with a right to returnType “right to return,”in the search box at the topright of the FASB ASC web page.You will get references to the place where this issue isdiscussed. Seven possibilities appear, but in reviewing we see that the criteria are contained in605-15-25-1. Type this number in thebox next to theGO TOlink at the top left-hand side ofthe FASB ASC homepage.This will redirect you to the content specific paragraph thatdiscusses accounting for sales of products where a right of return exists. (Note: in some searchesyou may be redirected to the section outline. If so, click theJOIN ALL SECTIONStab and allof the paragraph content will appear.If the issue involves accessing a previous specific pronouncement, it is also possible toaccess the topic through the cross reference function. On the home page, select Cross Reference.This feature allows you to access the relevant FASB ASC section by citing the original source.To use this feature, first access the drop down menu under Standard Type. (Standard Typerefers to the authoritative body that originally issued the pronouncement. For example theFinancial Accounting Standards Boards uses the acronym FAS. A discussion of the acronymsfor the various standard types is contained through a link in the directions). Next, use the dropdown menu under standard number and choose the appropriate number. Then clickGENERATE REPORT. When the results appear, click on the first paragraph number at the farright side. Next, click on the 3 digit topic at the top under Table of Contents. When the resultsappear, click and expand and all of the subtopics will appear. Choose the subtopic you wish toview and then combine sections and the relevant authoritative literature will be displayed.For example, to answer case 9-3, choose FAS from the drop down Standard Type menu.Then choose 143 from the standard number drop down menu. (Please note that the standardnumber for asset retirement obligations was misidentified in the case. It should be 143 not144).Click onGENERATE REPORTand when the results appear, click on 05-4 on the firstline under paragraph number. When the results appear, click 410 Asset Retirement andEnvironmental Obligations. When the results appear, the most appropriate section seems to be20 Asset Retirement Obligations. Select it and then click theJOIN ALL SECTIONStab and allof the paragraph content will appear.Finding original source material still contained in the CodificationSeveral of theFASB ASCcasesask for EITF pronouncements related to a particular topic. Inorder to find original source material from the EITF or any other authoritative body use thefollowing steps:1.Find the relevant topic in the FASB ASC2.Click expand for the relevant subtopic3.Click theJOIN ALL SECTIONStab4.From themenuselect Printer-friendly with sources5.Page through the material to find content originally sourced from the EITFƒ Page/Print functions

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6CHAPTER 1Case l-1a.The FASB had three primary goals in developing the Codification:1.Simplify user access by codifying all authoritative US GAAP in one spot.2.Ensure that the codified content accurately represented authoritative US GAAP as of July1,2009.3.Create a codification research system that is up to date for the released results ofstandard-setting activity.b.The Codification is expected toimprove accounting practice by:1.Reducingthe amount of time and effort required to solve an accounting research issue2.Mitigatingthe risk of noncompliance through improved usability of the literature3.Provide accurate information with real-time updates as Accounting Standards Updates arereleased4.AssistingtheFASB with the research and convergence efforts.c.The FASB ASC is composed of the following literature issued by various standard setters:1.Financial Accounting Standards Board (FASB)a. Statements (FAS)b. Interpretations (FIN)c. Technical Bulletins (FTB)d. Staff Positions (FSP)e. Staff Implementation Guides (Q&A)f. Statement No. 138 Examples.2.Emerging Issues Task Force (EITF)a. Abstractsb. Topic D.3.Derivative Implementation Group (DIG) Issues4.Accounting Principles Board (APB) Opinions5.Accounting Research Bulletins (ARB)6.Accounting Interpretations (AIN)7.American Institute of Certified Public Accountants (AICPA)a. Statements of Position (SOP)b. Audit and Accounting Guides (AAG)—only incremental accounting guidancec. Practice Bulletins (PB), including the Notices to Practitioners elevated to Practice Bulletinstatus by Practice Bulletin 1d. Technical Inquiry Service (TIS)—only for Software Revenue RecognitionAdditionally, in an effort to increase the utility of the FASB ASC for public companies, relevantportions of authoritative content issued by the SEC and selected SEC staff interpretations andadministrative guidance have been included for reference in the Codification, such as:1.Regulation S-X (SX)2.Financial Reporting Releases (FRR)/Accounting Series Releases (ASR)3.Interpretive Releases (IR)

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74.SEC Staff guidance in:a.Staff Accounting Bulletins (SAB)b.EITF Topic D and SEC Staff Observer commentsd.TheFASB ASC contains all current authoritative accounting literature. However, if the guidance fora particular transaction or event is not specified within it, the first source to consider is accountingprinciples for similar transactions or events within a source of authoritative GAAP. If no similartransactions are discovered, nonauthoritative guidance from other sources may be considered.Accounting and financial reporting practices not included in the Codification are nonauthoritative.Sources of nonauthoritative accounting guidance and literature include, for example, the following:i.Practices that are widely recognized and prevalent either generally or in the industryii.FASB Concepts Statementsiii.American Institute of Certified Public Accountants (AICPA) Issues Papersiv.International Financial Reporting Standards of the International Accounting Standards BoardPronouncements of professional associations or regulatory agenciesv.Technical Information Service Inquiries and Replies included in AICPA Technical Practice Aidsvi.Accounting textbooks, handbooks, and articlesCase 1-2a.Inclusion or omission of information that materially affects net income harms particularstakeholders.Accountants must recognize that their decision to implement (or delay) reportingrequirements will have immediate consequences for some stakeholders.b.Yes.Because the FASB standard results in a fairer presentation, it should be implemented assoon as possible--regardless of its impact on net income.c.The accountant's responsibility is to provide financial statements that present fairly the financialcondition of the company. By advocating early implementation, Hogerfulfills this task.d.Potentiallendersandinvestors,whoreadthefinancialstatementandrelyonitsfairrepresentation of the financial condition of the company, have the most to gain by earlyimplementation.A stockholder who is considering the sale of stock may be harmed by earlyimplementation that lowers net income (and may lower the value of the stock).Case 1-3a.CAP.The Committee on Accounting Procedure, CAP, which was in existence from 1939 to1959, was a natural outgrowth of AICPA (then AIA) committees, which were in existenceduring the period 1933 to 1938.The committee was formed in direct response to the criticismreceived by the accounting profession during the financial crisis of 1929 and the years thereafter.The authorization to issue pronouncements on matters of accounting principles and procedureswas based on the belief that the AICPA had the responsibility to establish practices that wouldbecome generally accepted by the profession and by corporate management.As a general rule, the CAP directed its attention, almost entirely, to resolving specific accountingproblems and topics rather than to the development of generally accepted accounting principles.The committee voted on the acceptance of specific Accounting Research Bulletins published bythe committee.A two-thirds majority was required to issue a particular research bulletin.The

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8CAP did not have the authority to require acceptance of the issued bulletins by the generalmembership of the AICPA, but rather received its authority only upon general acceptance of thepronouncementbythemembers.Thatis,thebulletinssetforthnormativeaccountingprocedures that "should be" followed by the accounting profession, but were not "required" to befollowed.It was not until well after the demise of the CAP, in 1964, that the Council of the AICPAadopted recommendations that departures from effective CAP Bulletins should be disclosed infinancial statements or in audit reports of members of the AICPA.The demise of the CAPcouldprobably be traced byfour distinct factors:(1) the narrow nature of the subjects covered by thebulletins issued by the CAP,(2) the lack of any theoretical groundwork in establishing theprocedures presented in the bulletins,(3) the lack of any real authority by the CAP inprescribing adherence the procedures described by the bulletins, and (4) the lack of any formalrepresentation on the CAP of interest groups such as corporate managers, governmentalagencies, and security analysts.APB. The objectives of the APB were formulated mainly to correct the deficiencies of the CAPas described above.The APB was thus charged with the responsibility of developing writtenexpression of generally accepted accounting principles through consideration of the researchdone by other members of the AICPA in preparing Accounting Research Studies.Thecommittee was in turn given substantial authoritative standing in that all opinions of the APBwere to constitute substantial authoritative support for generally accepted accounting principles.If an individual member of the AICPA decided that a principle of procedure outside of theofficial pronouncements of the APB had substantial authoritative support, the member had todisclose the departure from the official APB opinion in the financial statements of the firm inquestion.ThemembershipofthecommitteecomprisingtheAPBwasalsoextendedtoincluderepresentation from industry, government, and academe.The opinions were also designed toinclude minority dissents by members of the board.Exposure drafts of the proposed opinionswere readily distributed.The demise of the APB occurred primarily because the purposes for which it was created werenot being accomplished.Broad generally accepted accounting principles were not beingdeveloped. The research studies supposedly being undertaken in support of subsequent opinionsto be expressed by the APB were often ignored.The committee in essence became a simpleextension of the original CAP in that only very specific problem areas were being addressed.InterestgroupsoutsideoftheaccountingprofessionquestionedtheappropriatenessanddesirabilityofhavingtheAICPAdirectlyresponsiblefortheestablishmentofGAAP.Politicization of the establishment of GAAP had become a reality because of the far-reachingeffects involved in the questions being resolved.FASB. The formal organization of the FASB represents an attempt to vest the responsibility ofestablishing GAAP in an organization representing the diverse interest groups affected by theuse of GAAP. The FASB is independent of the AICPA. It is independent, in fact, of any privateor governmental organization.Individual CPAs, firms of CPAs,accounting educators, andrepresentatives of private industry will now have anopportunity to make known their views tothe FASB through their membership on the Board.Independence is facilitated through thefunding of the organization and payment of the members of the Board.Full-time members are

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9paid by the organization and the organization itself is funded solely through contributions. Thus,no one interest group has a vested interest in the FASB.Conclusion.TheevolutionofthecurrentFASBcertainlydoesrepresent"increasingpoliticization of accounting standard setting."Many of the efforts extended by the AICPA canbe directly attributed to the desire tosatisfy the interests of many groups within our society. TheFASB represents, perhaps, just another step in this evolutionary process.b.Arguments for politicization of the accounting rule-making process:1.Accounting depends in large part on public confidence for its success.Consequently,the critical issues are not solely technical, so all those having a bona fide interest in theoutput of accounting should have some influence on that output.2.There are numerous conflicts between the various interest groups.In the face of this,compromise is necessary, particularly since the critical issues in accounting are valuejudgments, not the type which are solvable, as we have traditionally assumed, usingdeterministic models.Only in this way (reasonable compromise) will the financialcommunity have confidence in the fairness and objectivity of accounting rule making.3.Over the years, accountants have been unable to establish, on the basis of technicalaccountingelements, rules,which would bringaboutthedesired uniformityandacceptability. This inability itself indicates rule setting is primarily consensual in nature.4.The public accounting profession, through bodies such as the Accounting PrinciplesBoard, made rules which business enterprises and individuals "had" to follow.Formany years, these businesses and individuals had little say as to what the rules would be,in spite of the fact that their economic well being was influenced to a substantial degreeby those rules.It is only natural that they would try to influence or control the factorsthat determine their economic well being.c.Arguments against the politicization of the accounting rule-making process:1.Many accountants feel that accounting is primarily technical in nature.Consequently,they feel that substantive, basic research by objective, independent and fair-mindedresearchers ultimately will result in the best solutions to critical issues, such as theconcepts of income and capital, even if it is accepted that there isn't necessarily a single"right" solution.2.Even if it is accepted that there are no "absolute truths" as far as critical issues areconcerned, many feel that professional accountants, taking into account the diverseinterests of the various groups using accounting information, are in the best position,because of their independence, education, training, and objectivity, to decide whatgenerally accepted accounting principles ought to be.3.The complex situations that arise in the business world require that trained accountantsdevelop the appropriate accounting principles.4.The use of consensus to develop accounting principles would decrease the professionalstatus of the accountant.

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105This approach would lead to "lobbying" by various parties to influence the establishmentof accounting principles.Case 1-4a.The term "accounting principles" in the auditor's report includes not only accounting principles butalso\practices and the methods of applying them. Although the term quite naturally emphasizes theprimary or fundamental character of some principles, it includes general rules adopted or professedas guides to action in practice. The term does nothowever,meanrules from which there can be nodeviation. In some cases the question is which of several partially relevant principles hasdetermining applicability. Neither is the term "accounting principles" necessarily synonymouswith accounting theory. Accounting theory is the broad area of inquiry devoted to the definition ofobjectives to be served by accounting, the development and elaboration of relevant concepts, thepromotion of consistency through logic, the elimination of faulty reasoning, and the evaluation ofaccounting practice.b.Generally accepted accounting principles are those principles(whether or not they have onlylimitedusage)thathavesubstantialauthoritativesupport.Whetheragivenprinciplehasauthoritative support is a question of fact and a matter of judgment.Since September 15, 2009 theprimary source of GAAP has been the FASB’s accounting standards codification. However,if theguidance for a transaction or event is not specified within a source of authoritative GAAP for thatentity, an entity shall first consider accounting principles for similar transactions or events within asource of authoritative GAAP for that entity and then consider nonauthoritative guidance fromother sources(FASB ASC 105-10-5-2)..The CPA is responsible for collecting the availableevidence of authoritative support and judging whether it is sufficient to bring the practice withinbounds of generally accepted accounting principlesc.The auditor’s report states that a company’s financial statements present “fairly,” in all materialrespects, itsfinancial position,based on his or her judgmentas to whetherthe accountingprinciples selected and applied havegeneral acceptanceandthatthe accounting principlesselectedare appropriategiventhe circumstances.This statement is necessary because there are manyareas where companies make choices among and between accounting principles (Depreciationmethod, inventory cost flow assumptions, etc).Therefore,, it is expected that financial reports areprepared in a mannerthat reflectsthe underlying economic events and activities of the reportingentity.This expectation was stressed inSAS No. 90whichstated, "In each SEC engagement, theauditor should discuss with the audit committee the auditor's judgments about the quality, not justthe acceptability, of the entity's accounting principles applied in its financial reporting. Thediscussion should also include items that have a significant impact on the representationalfaithfulness, verifiability, and neutrality of the accounting information included in the financialstatements.“As a consequence, the choicesof accounting principlesmade by one companyareoften different than those made by another company.Case 1-6Another factor that influenced the development of accounting during the 19th century was theevolution of joint ventures into business corporations in England. The fact that many individuals,external to the business, needed information about the corporation's activities created thenecessity for periodic reports. Additionally, the emerging existence of corporations created theneed to distinguish between capital and income.The statutory establishment of corporations in England in 1845 stimulated the development ofaccounting standards, and laws were subsequently passed that were designed to safeguard

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11shareholders against improper actions by corporate officers. Dividends were required to be paidfrom profits, and accounts were required to be kept and audited by persons other than thedirectors. However, initially anyone could claim to be an accountant, as there were no organizedprofessions or standards of qualifications.The industrial revolution and the succession of Companies Acts in England also served toincrease the need for professional standards and accountants. In the later part of the 19th century,the industrial revolution arrived in the United States, and with it came the need for more formalaccountingproceduresandstandards.Thisperiodwasalsocharacterizedbywidespreadspeculation in the securities markets, watered stocks, and large monopolies that controlledsegments of the United States economy.In the 19thcentury the progressive movement was established in the United States, and in 1898the Industrial Commission was formed to investigate and report on questions relating toimmigration, labor, agriculture, manufacturing, and business. Although no accountants wereeither on the Commission or used by the Commission, a preliminary report issued in 1900suggested that an independent public accounting profession should be established in order tocurtail observed corporate abuses.Although most accountants did not necessarily subscribe to the desirability of the progressivereforms, the progressive movement conferred specific social obligations on accountants. As aconsequence accountants generally came to accept three general levels of progressiveness: (1) afundamental faith in democracy, a concern for morality and justice and a broad acceptance of theefficiency of education as a major tool in social amelioration; (2) an increased awareness of thesocial obligation of all segments of society and introduction of the idea of accountability to thepublic of business and political leaders; and (3) an acceptance of pragmatism as the mostrelevant operative philosophy of the day.The major concern of accounting during the early 1900s was the development of a theory thatcould cope with corporate abuses that were occurring at that time, and capital maintenanceemerged as a concept. This concept evolved from maintaining invested capital intact, to themaintenance of the physical productive capacity of the firm, to the maintenance of real capital.In essence this last view of capital maintenance was an extension of the economic concept ofincome (see Chapter 3) that there could be no increase in wealth unless the stockholder or thefirm were better off at the end of the period than at the beginning.During the period 1900-1915 the concept of income determination was not well developed.There was, however, a debate over which financial statement should be viewed as mostimportant, the balance sheet or the income statement. Implicit in this debate was the view thateither the balance sheet or the income statement must be viewed as fundamental and the otherresidual, and that relevant values could not be disclosed in both statements.The1904InternationalCongressofAccountantsmarkedtheinitialdevelopmentoftheorganized accounting profession in the United States, although there had been earlier attempts toorganize and several states had state societies. At this meeting, the American Association ofPublic Accountants was formed as the professional organization of accountants in the UnitedStates. In 1916, after a decade of bitter interfactional disputes, this group was reorganized intothe American Institute of Accountants (AIA).

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12The American Association of the University Instructors in Accounting was also formed in 1916.Initially this group focused on matters of curriculum development, and it was not until muchlater that it attempted to become involved in the development of accounting theory.World War I changed the public's attitude toward the business sector. Many people believed thatthe successful completion of the war could be, at least partially, attributed to the ingenuity ofAmerican businesses. As a consequence, the public perceived that business had reformed, andexternal regulation was no longer necessary. The accountant's role changed from a protector ofthird parties to the protector of business interests.Criticsofaccountingtheoryduringthe1920ssuggestedthataccountantsabdicatedthestewardship role, placed too much emphasis on the needs of management, and permitted toomuch flexibility in financial reporting. During this time financial statements were viewed as therepresentations of management, and accountants did not have the ability to require businesses touse accounting principles they did not wish to employ.Case 1-7a.Historically, accounting has been considered a highly trustworthy profession. Public accountingfirms trained new accountants in the audit function with oversight from senior partners whobelieved that their firm’s integrity rode on every engagement. That is, new auditors wereassigned client responsibility after minimal formal audit training. Most of the training of newaccountants took place on-site, and the effectiveness of the new auditor depended on theeffectiveness of the instructor.CPA firms have always called their customers “clients” and have worked hard to cultivate them.Partners routinely entertained clients at sporting events, country clubs, and restaurants, and manyCPA firm employees later moved on to work in their clients’ firms. Any conflicts in theserelationships were, at least partially, offset by the CPA firm’s commitment to professionalethics.These relationships changed as information technology advisory services grew in the late 1970sand early ’80s. Also in the mid-1980s, the AICPA lifted its ban on advertising. As a result,revenue generation became more critical to partners’ compensation. Thereafter, the profitstructure of CPA firms changed dramatically and in 1999, revenues for management consultingaccounted for more than 50 percent of the then Big Five’s revenue.As a result, the audit function evolved into a loss leader that public accounting firms offered inconjunction with vastly more lucrative consulting engagements. But as pubic accounting firmscompeted more aggressively on price for audit engagements, they were forced by costconsiderations to reduce the number of procedures performed for each client engagement. Thisresulted in increased test of controls and statistical models, and fewer of the basic, time-consuming tests of transactions that increase the likelihood of detecting fraud. In addition, juniorauditors were frequently assigned the crucial oversight roles usually filled by senior partners,who were otherwise engaged in marketing activities to prospective clients. This reduced theeffectiveness of the instructor–new accountant training process.b.1. Arthur Andersen, formerly one the Big Five audit firms, has gone out of business.2. In July 2002, President George W. Bush signed into law the Sarbanes-Oxley Bill, whichimposes a number of corporate governance rules on publicly traded companies

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133. Establishment of PCAOB.Case 1-7a.The structure of the FASB is as follows. A board of trustees nominated by organizations whosemembers have special knowledge and interest in financial reporting is selected. Theorganizations originally chosen to select the trustees were the American AccountingAssociation; the AICPA; the Financial Executives Institute; the National Association ofAccountants (The NAA’s name was later changed to Institute of Management Accountants in1991) and the Financial Analysts Federation.In 1997 the Board of Trustees added four membersfrom public interest organizations.The board that governs the FASB is the Financial AccountingFoundation (FAF). The FAF appoints the Financial Accounting Standards Advisory Council(FASAC), which advises the FASB on major policy issues, the selection of task forces, and theagenda of topics. The number of members on the FASAC varies from year to year. The bylawscall for at least twenty members to be appointed. However, the actual number of members hasgrown to about thirty in recent years to obtain representation from a wider group of interestedparties.The FAF appoints the Financial Accounting Standards Advisory Council, which advises theFASB on major policy issues, the selection of task forces, and the agenda of topics. The FAF isalso responsible for appointing the seven members of the FASB and raising the funds to operatethe FASB. The FAF currently collects in excess of $11 million a year to support the activities ofthe FASB.b.The members of the Financial Accounting Foundation are nominated by electors from nineorganizations that support the activities of the FASB. These nine organizations are the AICPA,the Financial Executives Institute, the National Association of Accountants, the FinancialAnalysts Federation, the American Accounting Association, the Security Industry Association,and three not-for-profit organizations.c.A number of key characteristics or qualities that make accounting information desirable aredescribed in the Statement of Financial Accounting Concepts No. 2. The importance of three ofthese characteristics or qualities are discussed below.1.Understandability--informationprovidedbyfinancialreportingshouldbecomprehensible to those who have a reasonable understanding of business and economicactivities and are willing to study the information with reasonable diligence.Financialinformation is a tool and, like most tools, cannot be of much direct help to those who areunable or unwilling to use it or who misuse it.2.Relevance--the accounting information is capable of making a difference in a decisionby helping users to form predictions about the outcomes of past, present, and futureevents or to confirm or correct expectations.3.Reliability--the reliability of a measure rests on the faithfulness with which it representswhat it purports to represent, coupled with an assurance for the user, which comesthrough verification, that it has representational quality.(Note to instructor: Other qualities might be discussed by the student, such as secondaryqualities. All of these qualities are defined in the textbook.)

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14FASB ASC1-1Variable Interest EntitiesEntities(VIEs)Special purpose entities are accounted for by using the requirements for variable interest entities (VIEs).The information for this question is found by searching the topic “variable interest entities.”1.The definition of variable interest entities is contained in FASB ASC 810-10-05Overview andBackgroundConsolidation of VIEs05-8 The Variable Interest Entities Subsections clarify the application of the General Subsections tocertainlegal entitiesin which equity investors do not have the characteristics of a controllingfinancial interest or do not have sufficient equity at risk for the legal entity to finance its activitieswithout additionalsubordinated financial support. Paragraph810-10-10-1states that consolidatedfinancial statements are usually necessary for a fair presentation if one of the entities in theconsolidated groupdirectly or indirectly has a controlling financial interest in the other entities.Paragraph810-10-15-8states that the usual condition for a controlling financial interest is ownershipof a majority voting interest. However, application of the majority voting interest requirement in theGeneral Subsections of this Subtopic to certain types of entities may not identify the party with acontrolling financial interest because the controlling financial interest may be achieved througharrangements that do not involve voting interests.05-9 The Variable Interest Entities Subsections explain how to identifyvariable interest entities(VIEs) and how to determine when a reporting entity should include the assets, liabilities,noncontrolling interests, and results of activities of a VIE in its consolidated financial statements.Transactions involving VIEs have become increasingly common. Some reporting entities haveentered into arrangements using VIEs that appear to be designed to avoid reporting assets andliabilities for which they are responsible, to delay reporting losses that have already been incurred, orto report gains that are illusory. At the same time, many reporting entities have used VIEs for validbusiness purposes and have properly accounted for those VIEs based on guidance and acceptedpractice.05-10 Some relationships between reporting entities and VIEs are similar to relationships establishedby majority voting interests, but VIEs often are arranged without a governing board or with agoverning board that has limited ability to make decisions that affect the VIE's activities. A VIE'sactivities may be limited or predetermined by the articles of incorporation, bylaws, partnershipagreements, trust agreements, other establishing documents, or contractual agreements between theparties involved with the VIE. A reporting entity implicitly chooses at the time of its investment toaccept the activities in which the VIE is permitted to engage. That reporting entity may not need theability to make decisions if the activities are predetermined or limited in ways the reporting entitychooses to accept. Alternatively, the reporting entity may obtain an ability to make decisions thataffect a VIE's activities through contracts or the VIE's governing documents. There may be othertechniques for protecting a reporting entity's interests. In any case, the reporting entity may receivebenefits similar to those received from a controlling financial interest and be exposed to risks similarto those received from a controlling financial interest without holding a majority voting interest (orwithout holding any voting interest). Risks, benefits, or both are the determinants of consolidation inthe Variable Interest Entities Subsections. The ability to make decisions is considered an indicationthat a reporting entity may have sufficient benefits and risks to require consolidation. However,another key indicator is an ability to benefit from the results of those decisions. Therefore, theVariable Interest Entities Subsections provide guidance on determining whether fees paid to adecision maker should be considered a variable interest in a VIE. That guidance is provided to

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15distinguish between decision making of the kind performed by a hired agent or employee fromdecision making that is a key indicator of a controlling financial interest.05-11 VIEs often are created for a single specified purpose, for example, to facilitate securitization,leasing, hedging, research and development, reinsurance, or other transactions or arrangements. Theactivities may be predetermined by the documents that establish the VIEs or by contracts or otherarrangements between the parties involved. However, those characteristics do not define the scope ofthe Variable Interest Entities Subsections because other entities may have those same characteristics.The distinction between VIEs and other entities is based on the nature and amount of the equityinvestment and the rights and obligations of the equity investors.05-12 Because the equity investors in an entity other than a VIE generally absorb losses first, theycan be expected to resist arrangements that give other parties the ability to significantly increasetheir risk or reduce their benefits. Other parties can be expected to align their interests with those ofthe equity investors, protect their interests contractually, or avoid any involvement with the entity.05-13 In contrast, either a VIE does not issue voting interests (or other interests with similar rights)or the total equity investment at risk is not sufficient to permit the legal entity to finance its activitieswithout additional subordinated financial support. If a legal entity does not issue voting or similarinterests or if the equity investment is insufficient, that legal entity's activities may be predeterminedor decision-making ability is determined contractually. If the total equity investment at risk is notsufficient to permit the legal entity to finance its activities, the parties providing the necessaryadditional subordinated financial support most likely will not permit an equity investor to makedecisions that may be counter to their interests. That means that the usual condition for establishing acontrolling financial interest as a majority voting interest does not apply to VIEs. Consequently, astandard for consolidation that requires ownership of voting stock or some other form of decision-making ability is not appropriate for such entities.2.The guidance of the consolidation of VIEs is contained in 810-10-15-14 to 17.15-14Alegal entityshall be subject to consolidation under the guidance in the Variable InterestEntities Subsections if, by design, any of the following conditions exist (The phraseby designrefers tolegal entities that meet the conditions in this paragraph because of the way they are structured. Forexample, a legal entity under the control of its equity investors that originally was not avariable interestentity[VIE] does not become one because of operating losses. The design of the legal entity is importantin the application of these provisions.):a.The total equity investment (equity investments in a legal entity are interests that are required tobe reported as equity in that entity’s financial statements) at risk is not sufficient to permit thelegal entity to finance its activities without additionalsubordinated financial supportprovided byany parties, including equity holders. For this purpose, the total equity investment at risk has allof the following characteristics:1.Includes only equity investments in the legal entity that participate significantly in profitsand losses even if those investments do not carry voting rights2.Does not include equity interests that the legal entity issued in exchange for subordinatedinterests in other VIEs3.Does not include amounts provided to the equity investor directly or indirectly by thelegal entity or by other parties involved with the legal entity (for example, by fees,charitable contributions, or other payments), unless the provider is aparent,subsidiary, or

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16affiliate of the investor that is required to be included in the same set ofconsolidatedfinancial statementsas the investor4.Does not include amounts financed for the equity investor (for example, by loans orguarantees of loans) directly by the legal entity or by other parties involved with the legalentity, unless that party is a parent, subsidiary, or affiliate of the investor that is requiredto be included in the same set of consolidated financial statements as the investor.b.As a group the holders of the equity investment at risk lack any one of the following threecharacteristics of a controlling financial interest:1.The direct or indirect ability through voting rights or similar rights to make decisionsabout a legal entity's activities that have a significant effect on the success of the legalentity. The investors do not have that ability through voting rights or similar rights if noownershold voting rights or similar rights (such as those of a common shareholder in acorporation or a general partner in a partnership). Legal entities that are not controlled bythe holder of a majority voting interest because of minority veto rights as discussed inparagraphs810-10-25-2 through 25-14are not VIEs if the shareholders as a group havethe power to control the entity and the equity investment meets the other requirements ofthe Variable Interest Entities Subsections.2.The obligation to absorb theexpected lossesof the legal entity. The investor or investorsdo not have that obligation if they are directly or indirectly protected from the expectedlosses or are guaranteed a return by the legal entity itself or by other parties involved withthe legal entity. See paragraphs810-10-25-55 through 25-56and Example 1 (seeparagraph810-10-55-42) for a discussion of expected losses.3.The right to receive theexpected residual returnsof the legal entity. The investors do nothave that right if their return is capped by the legal entity's governing documents orarrangements with other variable interest holders or the legal entity. For this purpose, thereturn to equity investors is not considered to be capped by the existence of outstandingstock options, convertible debt, or similar interests because if the options in thoseinstruments are exercised, the holders will become additional equity investors.The objective of this provision is to identify as VIEs those legal entities in which the total equityinvestment at risk does not provide the holders of that investment with the characteristics of acontrolling financial interest. If interests other than the equity investment at risk provide theholders of that investment with the characteristics of a controlling financial interest or if interestsother than the equity investment at risk prevent the equity holders from having the necessarycharacteristics, the entity is a VIE.c.The equity investors as a group also are considered to lack the characteristic in (b)(1) if both ofthe following conditions are present:1.The voting rights of some investors are not proportional to their obligations to absorb theexpected losses of the legal entity, their rights to receive the expected residual returns ofthe legal entity, or both.2.Substantially all of the legal entity's activities (for example, providing financing orbuying assets) either involve or are conducted on behalf of an investor that hasdisproportionately few voting rights. This provision is necessary to prevent aprimary

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17beneficiaryfrom avoiding consolidation of a VIE by organizing the legal entity withnonsubstantive voting interests. Activities that involve or are conducted on behalf of therelated parties of an investor with disproportionately few voting rights shall be treated asif they involve or are conducted on behalf of that investor. The termrelated partiesinthis paragraph refers to all parties identified in paragraph810-10-25-43, except for defacto agents under paragraph810-10-25-43(d)(1).For purposes of applying this requirement, reporting entities shall consider each party’sobligations to absorb expected losses and rights to receive expected residual returns related to allof that party’s interests in the legal entity and not only to its equity investment at risk.15-15Portions of legal entities or aggregations of assets within alegal entityshall not be treated asseparate entities for purposes of applying the Variable Interest Entities Subsections unless the entireentity is a VIE. Some examples are divisions, departments, branches, and pools of assets subject toliabilities that give the creditor no recourse to other assets of the entity. Majority-owned subsidiaries arelegal entities separate from their parents that are subject to the Variable Interest Entities Subsections andmay be VIEs.15-16Because reconsideration of whether a legal entity is subject to the Variable Interest EntitiesSubsections is required only in certain circumstances, the initial application to a legal entity that is in thedevelopment stage is very important. Guidelines for identifying adevelopment stage entityappear inparagraph915-10-05-2. A development stage entity is a VIE if it meets any of the conditions inparagraph810-10-15-14. A development stage entity does not meet the condition in paragraph810-10-15-14(a)if it can be demonstrated that the equity invested in the legal entity is sufficient to permit it tofinance the activities it is currently engaged in (for example, if the legal entity has already obtainedfinancing without additional subordinated financial support) and provisions in the legal entity’sgoverning documents and contractual arrangements allow additional equity investments. However,sufficiency of the equity investment should be reconsidered as required by paragraph810-10-35-4, forexample, if the legal entity undertakes additional activities or acquires additional assets.15-17The following exceptions to the Variable Interest Entities Subsections apply to all legal entitiesin addition to the exceptions listed in paragraph810-10-15-12:a.Not-for-profit entities(NFPs) are not subject to the Variable Interest Entities Subsections, exceptthat they may be related parties for purposes of applying paragraphs810-10-25-42 through 25-44.In addition, if an NFP is used by business reporting entities in a manner similar to a VIE in aneffort to circumvent the provisions of the Variable Interest Entities Subsections, that NFP shall besubject to the guidance in the Variable Interest Entities Subsections.b.Separate accounts of life insurance entities as described in Topic944are not subject toconsolidation according to the requirements of the Variable Interest Entities Subsections.c.A reporting entity with an interest in a VIE or potential VIE created before December 31, 2003, isnot required to apply the guidance in the Variable Interest Entities Subsections to that entity if thereporting entity, after making an exhaustive effort, is unable to obtain the information necessaryto do any one of the following:1.Determine whether the legal entity is a VIE2.Determine whether the reporting entity is the VIE's primary beneficiary

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183.Perform the accounting required to consolidate the VIE for which it is determined to bethe primary beneficiary.This inability to obtain the necessary information is expected to be infrequent, especially if thereporting entity participated significantly in the design or redesign of the legal entity. The scopeexception in this provision applies only as long as the reporting entity continues to be unable toobtain the necessary information. Paragraph810-10-50-6requires certain disclosures to be madeabout interests in legal entities subject to this provision. Paragraphs810-10-30-7 through 30-9provide transition guidance for a reporting entity that subsequently obtains the informationnecessary to apply the Variable Interest Entities Subsections to a legal entity subject to thisexception.d.A legal entity that is deemed to be abusinessneed not be evaluated by a reporting entity todetermine if the legal entity is a VIE under the requirements of the Variable Interest EntitiesSubsections unless any of the following conditions exist (however, for legal entities that areexcluded by this provision, other generally accepted accounting principles [GAAP] should beapplied):1.The reporting entity, its related parties (all parties identified in paragraph810-10-25-43,except for de facto agents under paragraph810-10-25-43(d)(1)), or both participatedsignificantly in the design or redesign of the legal entity. However, this condition does notapply if the legal entity is an operating joint venture under joint control of the reportingentity and one or more independent parties or a franchisee.2.The legal entity is designed so that substantially all of its activities either involve or areconducted on behalf of the reporting entity and its related parties.3.The reporting entity and its related parties provide more than half of the total of theequity, subordinated debt, and other forms of subordinated financial support to the legalentity based on an analysis of the fair values of the interests in the legal entity.4.The activitiesd financings or single-lessee leasing arrangements.A legal entity that previously was not evaluated to determine if it was a VIE because of thisprovision need not be evaluated in future periods as long as the legal entity continues to meet theconditions in (d).Transition Date:December 15, 2008Transition Guidance:860-10-65-2The following exceptions to the Variable Interest Entities Subsections apply to all legal entities inaddition to the exceptions listed in paragraph810-10-15-12:a.Not-for-profit entities(NFPs) are not subject to the Variable Interest Entities Subsections, exceptthat they may be related parties for purposes of applying paragraphs810-10-25-42 through 25-44.In addition, if an NFP is used by business reporting entities in a manner similar to a VIE in aneffort to circumvent the provisions of the Variable Interest Entities Subsections, that NFP shall besubject to the guidance in the Variable Interest Entities Subsections.b.Separate accounts of life insurance entities as described in Topic944are not subject toconsolidation according to the requirements of the Variable Interest Entities Subsections.c.A reporting entity with an interest in a VIE or potential VIE created before December 31, 2003, isnot required to apply the guidance in the Variable Interest Entities Subsections to that entity if the

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19reporting entity, after making an exhaustive effort, is unable to obtain the information necessaryto do any one of the following:1.Determine whether the legal entity is a VIE2.Determine whether the reporting entity is the VIE's primary beneficiary3.Perform the accounting required to consolidate the VIE for which it is determined to bethe primary beneficiary.This inability to obtain the necessary information is expected to be infrequent, especially if thereporting entity participated significantly in the design or redesign of the legal entity. The scopeexception in this provision applies only as long as the reporting entity continues to be unable toobtain the necessary information. Paragraphs810-10-50-6(for a nonpublic entity) and810-10-50-16(for a public entity) require certain disclosures to be made about interests in legal entitiessubject to this provision. Paragraphs810-10-30-7 through 30-9provide transition guidance for areporting entity that subsequently obtains the information necessary to apply the VariableInterest Entities Subsections to a legal entity subject to this exception.d.A legal entity that is deemed to be abusinessneed not be evaluated by a reporting entity todetermine if the legal entity is a VIE under the requirements of the Variable Interest EntitiesSubsections unless any of the following conditions exist (however, for legal entities that areexcluded by this provision, other generally accepted accounting principles [GAAP] should beapplied):1.The reporting entity, its related parties (all parties identified in paragraph810-10-25-43,except for de facto agents under paragraph810-10-25-43(d)(1)), or both participatedsignificantly in the design or redesign of the legal entity. However, this condition doesnot apply if the legal entity is an operating joint venture under joint control of thereporting entity and one or more independent parties or a franchisee.2.The legal entity is designed so that substantially all of its activities either involve or areconducted on behalf of the reporting entity and its related parties.3.The reporting entity and its related parties provide more than half of the total of theequity, subordinated debt, and other forms of subordinated financial support to the legalentity based on an analysis of the fair values of the interests in the legal entity.4.The activities of the legal entity are primarily related to securitizations or other forms ofasset-backed financings or single-lessee leasing arrangements.A legal entity that previously was not evaluated to determine if it was a VIE because of thisprovision need not be evaluated in future periods as long as the legal entity continuesto meet theconditions in (d).FASB ASC 1-2 Status of ARBsRevenue and Gains

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20Search ARB 43 in cross reference 60525-1 to 525-1The recognition of revenue and gains of an entity during a period involves consideration of thefollowing two factors, with sometimes one and sometimes the other being the more importantconsideration:a.Being realized or realizable.Revenue and gains are generally not recognized until realized orrealizable.Paragraph 83(a) of FASB Concepts Statement No. 5,Recognition and Measurement inFinancial Statements of Business Enterprises, states that revenue and gains are realized whenproducts (goods or services), merchandise, or other assets are exchanged for cash or claims tocash. That paragraph states that revenue and gains are realizable when related assets received orheld arereadily convertibleto known amounts of cash or claims to cash.b.Being earned. Paragraph 83(b) of FASB Concepts Statement No. 5,Recognition andMeasurement in Financial Statements of Business Enterprises, states that revenue is notrecognized until earned. That paragraph states that an entity's revenue-earning activities involvedelivering or producing goods, rendering services, or other activities that constitute its ongoingmajor or central operations, and revenues are considered to have been earned when the entity hassubstantially accomplished what it must do to be entitled to the benefits represented by therevenues. That paragraph states that gains commonly result from transactions and other eventsthat involve no earning process, and for recognizing gains, being earned is generally lesssignificant than being realized or realizable.25-2See paragraphs605-10-25-3 through 25-4for the limited circumstances in which revenue andgains may be recognized using the installment or cost-recovery methods.>Installment and Cost Recovery Methods of Revenue Recognition25-3Revenue should ordinarily be accounted for at the time a transaction is completed, withappropriate provision for uncollectible accounts. Paragraph605-10-25-1(a)states that revenue and gainsgenerally are not recognized until being realized or realizable and until earned. Accordingly, unless thecircumstances are such that the collection of the sale price is not reasonably assured, the installmentmethod of recognizing revenue is not acceptable.25-4There may be exceptional cases where receivables are collectible over an extended period of timeand, because of the terms of the transactions or other conditions, there is no reasonable basis forestimating the degree of collectibility. When such circumstances exist, and as long as they exist, eitherthe installment method or the cost recovery method of accounting may be used. As defined in paragraph360-20-55-7 through 55-9, the installment method apportions collections received between costrecovered and profit. The apportionment is in the same ratio as total cost and total profit bear to the salesvalue. Under the cost recovery method, equal amounts of revenue and expense are recognized ascollections are made until all costs have been recovered, postponing any recognition of profit until thattime.)25-5In the absence of the circumstances referred to in this Subtopic or other guidance, such as that inSections360-20-40and360-20-55, the installmentmethod is not acceptable.Treasury Stock505-30-25 and 30 use print function printer friendly with sources to find relevant sections505-30-25-2[Laws of some states govern the circumstances under which an entity may acquire its ownstock and prescribe the accounting treatment therefor. If such requirements are at variance with therequirements of paragraphs505-30-25-7and505-30-30-6 through 30-10, the accounting shall conformto the applicable law. [ARB43,paragraphCh. 1B Par. 11A,sequence128.1]]

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21Subsequent Resale of Shares Repurchased505-30-25-7After an entity's repurchase of its own outstanding common stock, sometimes it may eitherretire the repurchased shares and issue additional common shares, or, as an alternative, resell therepurchased shares. In either case, the price received may differ from the amount paid to repurchase theshares.[While the net asset value of the shares of common stock outstanding in the hands of the publicmay be increased or decreased by such repurchase and retirement, such transactions relate to the capitalof the corporation and do not give rise to corporate profits or losses. There is no essential differencebetween the following: [ARB43,paragraphCh. 1B Par. 7,sequence118.2.1]]a.[The repurchase and retirement of a corporation's own common stock and the subsequent issue ofcommon shares [ARB43,paragraphCh. 1B Par. 7,sequence118.2.2.1]]b.[The repurchase and resale of its own common stock. [ARB43,paragraphCh. 1B Par. 7,sequence118.2.2.2]]505-30-25-8[Even though there may be cases where the transactions involved are so inconsequential asto be immaterial, as a broad general principle, such transactions shall not be reflected in retainedearnings (either directly or through inclusion in the income statement). [ARB43,paragraphCh. 1B Par.10,sequence126]][The qualification shall not be applied to any transaction that, although in itselfinconsiderable in amount, is a part of a series of transactions that in the aggregate are of substantialimportance. [ARB43,paragraphCh. 1B Par. 11,sequence127]]505-30-25-9[The difference between the repurchase and resale prices of a corporation's own commonstock shall be reflected as part of the capital of a corporation and allocated to the different componentswithin stockholder equity as required by paragraphs505-30-30-5 through 30-10. [ARB43,paragraphCh. 1B Par. 5,sequence116]]Allocating the Cost of Treasury Shares to Components of Shareholder Equity Upon Formal orConstructive Retirement505-30-30-6[Once the cost of the treasury shares is determined under the requirements of this Section,and if a corporation's stock is acquired for purposes other than retirement (formal or constructive), or ifultimate disposition has not yet been decided, paragraph505-30-45-1permits the cost of acquired stockto either be shown separately as a deduction from the total of capital stock, additional paid-in capital, andretained earnings, or be accorded the following accounting treatment appropriate for retired stock. [ARB43,paragraphCh. 1B Par. 7,sequence122.1]]505-30-30-7[The difference between the cost of the treasury shares and the stated value of acorporation's common stock repurchased and retired, or repurchased for constructive retirement, shall bereflected in capital. [ARB43,paragraphCh. 1B Par. 7,sequence118.1]]505-30-30-8[When a corporation's stock is retired, or repurchased for constructive retirement (with orwithout an intention to retire the stock formally in accordance with applicable laws), [ARB43,paragraphCh. 1B Par. 7,sequence119]][an excess of repurchase price over par or stated valuemay beallocated between additional paid-in capital and retained earnings. [ARB43,paragraphCh. 1B Par. 7,sequence120.1.1]][Alternatively, the excess may be charged entirely to retained earnings in recognitionof the fact that a corporation can always capitalize or allocate retained earnings for such purposes. [ARB43,paragraphCh. 1B Par. 7,sequence120.2.2.2.2]][If a portion of the excess is allocated to additional

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22paid-in capital, it shall be limited to the sum of both of the following: [ARB43,paragraphCh. 1B Par.7,sequence120.1.2]]a.[All additional paid-in capital arising from previous retirements and net gains on sales of treasurystock of the same issue [ARB43,paragraphCh. 1B Par. 7,sequence120.2.1]]b.[The pro rata portion of additional paid-in capital, voluntary transfers of retained earnings,capitalization of stock dividends, and so forth, on the same issue. [ARB43,paragraphCh. 1BPar. 7,sequence120.2.2.1]][For this purpose, any remaining additional paid-in capitalapplicable to issues fully retired (formal or constructive) is deemed to be applicable pro rata toshares of common stock. [ARB43,paragraphCh. 1B Par. 7,sequence120.2.2.2.1]]505-30-30-9[When a corporation's stock is retired, or repurchased for constructive retirement (with orwithout an intention to retire the stock formally in accordance with applicable laws),an excess of par orstated value over the cost of treasury sharesshall be credited to additional paid-in capital. [ARB43,paragraphCh. 1B Par. 7,sequence121]]505-30-30-10[Gains on sales of treasury stock not previously accounted for as constructively retiredshall be credited to additional paid-in capital; losses may be charged to additional paid-in capital to theextent that previous net gains from sales or retirements of the same class of stock are included therein,otherwise to retained earnings. [ARB43,paragraphCh. 1B Par. 7,sequence122.2]]Comparative Financial Statements205-10-45 Use print function printer friendly with sources205-10-45-1[The presentation of comparative financial statements in annual and other reportsenhances the usefulness of such reports and brings out more clearly the nature and trends of currentchanges affecting the entity. Such presentation emphasizes the fact that statements for a series of periodsare far more significant than those for a single period and that the accounts for one period are but aninstallment of what is essentially a continuous history. [ARB43,paragraphCh. 2A Par. 1,sequence130] ]205-10-45-2[In any one year it is ordinarily desirable that the statement of financial position, theincome statement, and the statement of changes in equity be presented for one or more preceding years,as well as for the current year. [ARB43,paragraphCh. 2A Par. 2,sequence131.1] ]205-10-45-3[Prior-year figures shown for comparative purposes shall in fact be comparable with thoseshown for the most recent period. Any exceptions to comparability shall be clearly brought out asdescribed in Topic250. [ARB43,paragraphCh. 2A Par. 3,sequence132] ]205-10-45-4[Notes to financial statements, explanations, and accountants' reports containingqualifications that appeared on the statements for the preceding years shall be repeated, or at leastreferred to, in the comparative statements to the extent that they continue to be of significance. [ARB43,paragraphCh. 2A Par. 2,sequence131.2.1] ]FASB ASC 1-3 Accounting for the Investment Tax Credit

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23Search investment tax credit740-10-25-46While it shall be considered preferable for the allowable investment credit to be reflected in net incomeover the productive life of acquired property (the deferral method), treating the credit as a reduction offederal income taxes of the year in which the credit arises (the flow-through method) is also acceptable.740-10-47-27 & 28Statement of Financial Position45-27The reflection of the allowable credit as a reduction in the net amount at which the acquiredproperty is stated (either directly or by inclusion in an offsetting account) may be preferable in manycases. However, it is equally appropriate to treat the credit as deferred income, provided it is amortizedover the productive life of the acquired property.>>Income Statement45-28It is preferable that the statement of income in the year in which the allowable investment creditarises should be affected only by the results which flow from the accounting for the credit set forth inparagraph740-10-25-46. Nevertheless, reflection of income tax provisions, in the income statement, inthe amount payable (that is, after deduction of the allowable investment credit) is appropriate providedthat a corresponding charge is made to an appropriate cost or expense (for example, to the provision fordepreciation) and the treatment is adequately disclosed in the financial statements of the first year of itsadoption.740-10-25-45Anticipated Future Tax CreditsIn the separate financial statements of an entity that pays dividends subject to the tax credit to itsshareholders, a deferred tax asset shall not be recognized for the tax benefits of future tax credits thatwill be realized when the previously taxed income is distributed; rather, those tax benefits shall berecognized as a reduction of income tax expense in the period that the tax credits are included in theentity's tax return.740-10-50-20Investment Tax Credit Recognition Policy50-20Paragraph740-10-25-46identifies the deferral method and the flow-through method asacceptable methods of accounting for investment tax credits. Whichever method of accounting for theinvestment credit is adopted, it is essential that full disclosure be made of the method followed andamounts involved, when material.FASB ASC 1-4 SEC Commentsa.Search revenue recognition customer payment and incentives 605-50

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24Comments Made by SEC Observer at Emerging Issues Task Force (EITF) Meetings>>>SEC Observer Comment: Accounting for Consideration Given by a Vendor to aCustomer (Including Reseller of the Vendor's Products)S99-1The following is the text of SEC Observer Comment: Accounting for ConsiderationGiven by a Vendor to a Customer (Including Reseller of the Vendor's Products).As it relates to consideration given by a vendor to a customer the SEC staff believes that theexpense associated with a "free" product or service delivered at the time of sale of anotherproduct or service should be classified as cost of sales.b.Search debt with conversions and other options 470-20Comments Made by SEC Observer at Emerging Issues Task Force (EITF) Meetings>>>SEC Observer Comment: Debt Exchangeable for the Stock of Another EntityS99-1The following is the text of the SEC Observer Comment: Debt Exchangeable for the Stock ofAnother Entity.An issue has been discussed involving an enterprise that holds investments in common stock of otherenterprises and issues debt securities that permit the holder to acquire a fixed number of shares ofsuch common stock. These types of transactions are commonly affected through the sale of eitherdebt with detachable warrants that can be exchanged for the stock investment or debt withoutdetachable warrants (the debt itself must be exchanged for the stock investment-also referred to as"exchangeable" debt). Those debt issues differ from traditional warrants or convertible instrumentsbecause the traditional instruments involve exchanges for the equity securities of the issuer. Therehave been questions as to whether the exchangeable debt should be treated similar to traditionalconvertibles as specified in Subtopic470-20or whether the transaction requires separate accountingfor the exchangeability feature. The SEC staff believes that Subtopic470-20does not apply to theaccounting for debt that is exchangeable for the stock of another entity and therefore separation ofthe debt element and exchangeability feature is requiredc.Searchsoftware cost of sales and services 985-705Comments Made by SEC Observer at Emerging Issues Task Force (EITF) Meetings>>>SEC Observer Comment: Accounting for the Film and Software Costs Associated withDeveloping Entertainment and Educational Software ProductsS99-1The following is the text of SEC Observer Comment: Accounting for the Film and SoftwareCosts Associated with Developing Entertainment and Educational Software Products.The SEC staff has become aware of diversity in the application of generally accepted accountingprinciples to exploitation, film, and other software development costs associated with EE products.The SEC staff has learned that certain registrants are recording all costs incurred in the developmentof EE products pursuant to the provisions of Topics340,720, and985.Other registrants are separating exploitation and film costs from other software development costsand accounting for the other software development costs using Topic985and capitalizing film andexploitation costs as film cost inventory as described in Topic926.Still other registrants, principally film production companies, are capitalizing all costs relating to thedevelopment of EE products as film cost inventory.

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25The SEC staff views stated here are not intended to apply to costs incurred to produce computer-generated special effects and images used in products that are exhibited in theaters or licensed totelevision stations because those costs are addressed by Topic926.Topic985establishes standards of financial accounting and reporting for the costs of all computersoftware to be sold, leased, or otherwise marketed as a separate product or as part of a product orprocess, whether internally developed and produced or purchased.The SEC staff believes that EE products that are sold, leased, or otherwise marketed are subject tothe accounting requirements of Topic985.The SEC staff does not believe that other standards of financial accounting and reporting or thatindustry practice are acceptable alternatives to those requirements.The SEC staff also believes that film costs incurred in the development of an EE product should beaccounted for under the provisions of Topic985, not the provisions of Topic926.In addition, exploitation costs should be expensed as incurred unless those costs include advertisingcosts that qualify for capitalization in accordance with the provisions of Topics340and720.FASB ASC 1-5 GAAP GuidelinesSearch “generally accepted accounting principles.”105Generally Accepted Accounting Principles10Overall105-10-05Overview and BackgroundGeneral05-1Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1This Topic establishes theFinancial Accounting Standards Board (FASB) Accounting StandardsCodification™(Codification) as the source of authoritative generally accepted accounting principles(GAAP) recognized by the FASB to be applied bynongovernmental entities. Rules and interpretivereleases of the Securities and Exchange Commission (SEC) under authority of federal securities laws arealso sources of authoritative GAAP for SEC registrants. In addition to the SEC’s rules and interpretivereleases, the SEC staff issues Staff Accounting Bulletins that represent practices followed by the staff inadministering SEC disclosure requirements, and it utilizes SEC Staff Announcements and Observercomments made at Emerging Issues Task Force meetings to publicly announce its views on certainaccounting issues for SEC registrants.05-2Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1If the guidance for a transaction or event is not specified within a source of authoritative GAAP for thatentity, an entity shall first consider accounting principles for similar transactions or events within asource of authoritative GAAP for that entity and then consider nonauthoritative guidance from othersources. An entity shall not follow the accounting treatment specified in accounting guidance for similartransactions or events in cases in which those accounting principles either prohibit the application of theaccounting treatment to the particular transaction or event or indicate that the accounting treatmentshould not be applied by analogy.05-3Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1

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26Accounting and financial reporting practices not included in the Codification are nonauthoritative.Sources of nonauthoritative accounting guidance and literature include, for example, the following:a.Practices that are widely recognized and prevalent either generally or in the industryb.FASB Concepts Statementsc.American Institute of Certified Public Accountants (AICPA) Issues Papersd.International Financial Reporting Standards of the International Accounting Standards Boarde.Pronouncements of professional associations or regulatory agenciesf.Technical Information Service Inquiries and Replies included in AICPA Technical Practice Aidsg.Accounting textbooks, handbooks, and articles.The appropriateness of other sources of accounting guidance depends on its relevance to particularcircumstances, the specificity of the guidance, the general recognition of the issuer or author as anauthority, and the extent of its use in practice.05-4Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1The Codification contains the authoritative standards that are applicable to both public nongovernmentalentities andnonpublicnongovernmental entities. Content contained in the SEC Sections (designated byan “S” preceding the Section number) is provided for convenience and relates only to SEC registrants.The SEC Sections do not contain the entire population of SEC rules, regulations, interpretive releases,and staff guidance. Content in the SEC Sections is expected to change over time, and there may bedelays between SEC and staff changes to guidance and Accounting Standards Updates. The Codificationdoes not replace or affect guidance issued by the SEC or its staff for public entities in their filings withthe SEC.05-5Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1As of the effective date in paragraph105-10-65-1(a), the FASB will not consider Accounting StandardsUpdates as authoritative in their own right. Instead, new Accounting Standards Updates will serve onlyto update the Codification, provide background information about the guidance, and provide the basesfor conclusions on the change(s) in the Codification. Other than the standards listed in paragraph105-10-65-1(d), all nongrandfathered non-SEC accounting guidance not included in the Codification issuperseded and deemed nonauthoritative.05-6Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1The provisions of the Codification need not be applied to immaterial items.105-10-10ObjectivesGeneral10-1Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1The objective of this Topic is to establish theFinancial Accounting Standards Board (FASB) AccountingStandards Codification™as the source of authoritative principles and standards recognized by the FASBto be applied bynongovernmental entitiesin the preparation of financial statements in conformity withgenerally accepted accounting principles (GAAP). Rules and interpretive releases of the Securities andExchange Commission (SEC) under authority of federal securities laws are also sources of authoritativeGAAP for SEC registrants.10-2

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27Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1This Topic also identifies the sources of accounting principles and the framework for selecting theprinciples used in the preparation of financial statements of nongovernmental entities that are presentedin conformity with GAAP in the United States (the GAAP hierarchy).105-10-15Scope and Scope ExceptionsGeneral>Entities15-1Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1TheFinancial Accounting Standards Board (FASB) Accounting Standards Codification™applies tofinancial statements ofnongovernmental entitiesthat are presented in conformity with generallyaccepted accounting principles (GAAP).15-2Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1Content in the Securities and Exchange Commission (SEC) Sections of the Codification is provided forconvenience and relates only to financial statements of SEC registrants that are presented in conformitywith GAAP.105-10-20GlossaryNongovernmental EntityNote: The following definition is Pending Content; see Transition Guidance in105-10-65-1.An entity that is not required to issue financial reports in accordance with guidance promulgated by theGovernmental Accounting Standards Board or the Federal Accounting Standards Advisory Board.Nonpublic EntityNote:The following definition is Pending Content; see Transition Guidance in105-10-65-1.Any entity that does not meet any of the following conditions:a.Its debt or equity securities trade in a public market either on a stock exchange (domestic orforeign) or in an over-the-counter market, including securities quoted only locally or regionally.b.It is a conduit bond obligor forconduit debt securitiesthat are traded in a public market (adomestic or foreign stock exchange or an over-the-counter market, including local or regionalmarkets).c.It files with a regulatory agency in preparation for the sale of any class of debt or equity securitiesin a public market.d.It is required to file or furnish financial statements with the Securities and Exchange Commission.e.It is controlled by an entity covered by criteria (a) through (d).

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28105-10-65Transition and Open Effective Date InformationGeneral>Transition Related to FASB Statement No. 168, The FASB Accounting Standards Codification™and the Hierarchy of Generally Accepted Accounting Principles65-1The following represents the transition and effective date information related to FASB StatementNo. 168,TheFASB Accounting Standards Codification™and the Hierarchy of Generally AcceptedAccounting Principles:a.The pending content that links to this paragraph shall be effective for financial statements issuedfor interim and annual periods ending after September 15, 2009.b.TheFinancial Accounting Standards Board (FASB) Accounting Standards Codification™shallbecome the source of authoritative generally accepted accounting principles (GAAP) recognizedby the FASB to be applied bynongovernmental entities. Rules and interpretive releases of theSecurities and Exchange Commission (SEC) under authority of federal securities laws are alsosources of authoritative GAAP for SEC registrants.c.As of the effective date stated in paragraph105-10-65-1(a), all then-existing non-SEC accountingand reporting standards that had been included in levels (a) through (d) GAAP are superseded,except as noted in paragraph105-10-65-1(d)and as described in Section105-10-70.Concurrently, all nongrandfathered, non-SEC accounting literature not included in theCodification is deemed nonauthoritative.d.The following standards shall remain authoritative until such time that each is integrated into theCodification:1.FASB Statement No. 164,Not-for-Profit Entities: Mergers and Acquisitions2.FASB Statement No. 166,Accounting for Transfers of Financial Assets3.FASB Statement No. 167,Amendments to FASB Interpretation No. 46(R)4.FASB Statement No. 168,TheFASB Accounting Standards Codification™and theHierarchy of Generally Accepted Accounting Principles.e.Nonpublicnongovernmental entities that previously have not applied the guidance in theparagraphs listed below shall account for the adoption of that guidance as a change in accountingprinciple on a prospective basis for revenue arrangements entered into or materially modified inthose fiscal years beginning on or after December 15, 2009, and interim periods within thoseyears:1.Paragraph855-10-60-42.Paragraphs985-605-15-3 through 15-43.Paragraphs985-605-55-4 through 55-1184.Paragraphs985-605-55-186 through 55-203

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295.Paragraphs985-845-25-1 through 25-76.Paragraphs985-845-55-1 through 55-8.f.The appropriate disclosures related to that adoption shall be made in accordance with Section250-10-50.105-10-70Grandfathered GuidanceGeneral70-1Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1Financial Accounting Standards Board (FASB) Statement No. 162,The Hierarchy of GenerallyAccepted Accounting Principles,contained a description of the categories of the generally acceptedaccounting principles (GAAP) hierarchy that existed before the Codification. An entity that hasfollowed, and continues to follow, an accounting treatment that was previously in category (c) orcategory (d) of that GAAP hierarchy as of March 15, 1992, need not change to an accounting treatmentin a higher category ((b) or (c)) of that hierarchy if its effective date was before March 15, 1992. Forexample, anongovernmental entitythat followed a prevalent industry practice (category (d)) as of March15, 1992, does not have to change to an accounting treatment included in a standard in category (b) orcategory (c) (such as an accounting principle in a cleared American Institute of Certified PublicAccountants [AICPA] Statement of Position or Accounting Standards Executive Committee PracticeBulletin) whose effective date is before March 15, 1992. For standards whose effective date is afterMarch 15, 1992, and for entities initially applying an accounting principle after March 15, 1992 (exceptfor Emerging Issues Task Force consensus positions issued before March 16, 1992, which becomeeffective in the hierarchy for initial application of an accounting principle after March 15, 1993), anentity shall follow guidance in the Codification.70-2Pending Content:Transition Date:September 15, 2009Transition Guidance:105-10-65-1Certain accounting standards have allowed for the continued application of superseded accountingstandards for transactions that have an ongoing effect in an entity’s financial statements. That supersededguidance has not been included in the Codification, shall be considered grandfathered, and shall continueto remain authoritative for those transactions after the effective date of FASBStatement No. 168,TheFASB Accounting Standards Codification™and the Hierarchy of Generally Accepted AccountingPrinciples.While not comprehensive, the following are examples of such grandfathered items:a.Pooling of interests in a business combination (originally addressed by APB Opinion No. 16,Business Combinations) described in paragraph B217 of FASB Statement No. 141,BusinessCombinationsb.Pension transition assets or obligations described in paragraph 77 of FASB Statement No. 87,Employers’ Accounting for Pensionsc.Employee stock ownership plan shares (originally addressed by AICPA Statement of Position 76-3,Accounting Practices for Certain Employee Stock Ownership Plans) purchased by, and held asof, December 31, 1992, as described in paragraphs 97 and 102 of AICPA Statement of Position93-6,Employers’ Accounting for Employee Stock Ownership Plans

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30d.Loans restructured in a troubled debt restructuring before the effective date of FASB StatementNo. 114,Accounting by Creditors for Impairment of a Loan,described in paragraph 24 of FASBStatement No. 118,Accounting by Creditors for Impairment of a Loan—Income Recognition andDisclosurese.Stock compensation fornonpublicand other entities (originally addressed by FASB StatementNo. 123,Accounting for Stock-Based Compensation,or APB Opinion No. 25,Accounting forStock Issued to Employees) described in paragraph 83 of FASB Statement No. 123 (revised2004),Share-Based Paymentf.For nonpublic entities electing the deferral of FASB Interpretation No. 48,Accounting forUncertainty in Income Taxes,FASB Statement No. 109,Accounting for Income Taxes,andrelated standardsg.For business combinations with an acquisition date before the first annual reporting periodbeginning on or after December 15, 2008, Statement 141 and any other relevant standardsh.For not-for-profit entities, pooling of interests as allowed for under Opinion 16, even though ithas been superseded by Statement 141 until FASB Statement No. 164,Not-for-Profit Entities:Mergers and Acquisitions,is effectivei.For goodwill and intangible assets arising from a combination between two or more not-for-profitentities or acquired in the acquisition of a for-profit business entity by a not-for-profit entity untilStatement 164 is effective, Opinion 16 and APB Opinion No. 17,Intangible Assets.Room for DebateDebate 1-1This question has no one correct answer.It is meant to get students talking about something that theyprobably haven’t thought about before.Students in favor of the SEC being the rule making body could argue that the FASB has failed to ensurethat financial statements fairly presentthe resultsofoperations.They could then cite the recent scandals.They could argue that the SEC has the power to regulate and they don’t see why the profession shouldthen need to be self regulated.They could also argue that under the FASB there is too much flexibilityand too much reliance on managerial intent, thereby allowing management to manage earnings andotherwise manipulate its financial statements.Moreover, lack of exercise of government direct oversightcould resultindiminishingthe effectiveness of accountants to audit due to a potential erosion ofindependence.They could point to Sarbanes-Oxley.Students in favor of the FASB making the rules could argue against big government.They could pointout that government sets accounting standards in countries that are not capitalistic.The result in thosecountries is a cookie cutter approach to financial statements and lack of flexibility that leaves no roomfor professional judgment.Whereas, the standards provided by the FASB are aimed to provide financialstatements that fairly present financial statements, taking into consideration the circumstances in which acompany operates.They could also argue that accountants, not government officials, best understandtheir role and how best to measure and report financial information.

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31Debate 1-2 Should the scope of accounting standards be narrowed further?:Team 1.This question should prompt the student to investigate how management might benefit from alternativeaccounting choices. They can go to the web and find out that accounting choices provide managerialincentives that are either income increasing or income decreasing. They may also find instances thatmanagement can choose methods of presenting financial information that make the company appear lessrisky.Income-increasing choices afford management the ability to paint a better picture of companyperformance. Management may be inclinedto select income increasing policies because•they believe the stock market will react favorably and their own personal wealth and position inthe firm may be more secure.•their bonus may be tied to the bottom line.•The company may appear better able to pay suppliers and thus may be in a better position tonegotiate favorable terms with suppliers•The company may appear better able to repay debt and thus look good to a lender.•Students can cite real-world examples, eg., World Com capitalized expensesIncome-decreasing choices may be selected by companies that•Are highly regulated, such as utility companies. Poor performance can support the notion thatthe company deserves a rate increase•If a company is having a bad year, it may choose to load up the income statement with expensesand losses so that it will appear better off in future years.•Have labor unions hope to farebetter in negotiations for labor contractsCompanies have used off-balance sheet financing to improve the perception of a company’s riskiness.Enron is a prime example. Enron used special purpose entities to hide debt from investors.The student can also argue that accounting choice can be used to provide more relevant financialstatements. For example, SFAS 115 provides choices that are intended to result in financials that betterdisclose the results of management investment choices.Team 2.All of the above can be used as arguments against the proliferation of accounting choices. Narrowingaccounting choices has been a goal of accounting professionals for many years. For example, one of theobjectives of the APB was to narrow areas of difference in GAAP.Critics maintain that management is allowed too much leeway in the selection of the accountingprocedures used in corporate financial reports. These criticisms revolve around two issues (1) Executivecompensation is frequently tied to reported earnings, so management is inclined to adopt accountingprinciples that increase current revenues and decrease current expenses and (2) the value of a firm in themarketplace is determined by its stock price. This value is highly influenced by financial analysts’quarterly earnings estimates. Managers are fearful that failing to meet these earnings estimates willtrigger a sell-off of the company’s stock and a resultant decline in the market value of the firm.The large number of accounting frauds that were evident during recent years provide examples of theways that management has manipulated financial statement in order to fool the public. Many of these

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