CHAPTER 1: CFAS - THE NEED FOR FINANCIAL REPORTING

Financial Reporting
- Disclosure of financial results and related information to management and external
stakeholders (ex. Investors, customers, regulators) about how a company is performing
over a specific period of time
- Its objective is to provide information about an entity that is intended to be useful in making
economic decisions

General Purpose Financial Statements (Basic Financial Statements)

- It does not cater to any specific needs of a particular user
- Preparation of these is governed by GAAP, embodied in IFRS/IAS/PFRS/PAS
- Ex.
 Statement of Financial Position (Balance Sheet)
- includes assets, liability, and owner’s equity/capital (elements of financial position)
- contains the information that users need:
 Liquidity (ability of the entity/enterprise to settle/pay its short-term obligations
when become due – different test on how liquid: current ratio (the ratio of the
entity’s current assets over its current liabilities – rule of thumb whether the liquidity
is acceptable or not = ratio 2:1 (indicates that for every peso of current liability, the
entity has available 2 pesos in order to pay for it), acid test ratio, and quick ratio);
 Solvency (measures the ability of the entity to pay its long term or non-current
liabilities when it is become due – different test on how solvent or not solvent an
entity is debt to asset ratio, debt to equity ratio, etc.
 Stability
 Statement of Comprehensive Income (Income Statement)
- shows information about the amount of profit generated or amount of loss suffered
by an entity for a given period of time
- also provides information about the revenues and expenses of the entity
 Statement of Changes in Equity
- factors that change the capital include withdrawal, investment, and profit/loss (sole)
 Statement of Cash Flows
- shows the ability of the enterprise/entity to generate a positive cash flows (means
that whether an entity is liquid enough to convert its non-cash assets into cash and to
maintain that level of liquidity showing 3 different activities: operating activities,
investing activities, financing activities – how an entity source its cash and use its
available cash
- you can see the amount of inflows and outflows of cash and the available balance
 Notes to the Financial Statements
 - it does not stand alone because it nearly supports or supplements additional
information not contained on the face of those 4 financial statements to achieve
completeness and understandability of the financial statements
- the information being presented are: significant accounting policies being adopted
by an entity, the breakdown/details of amounts presented on the face of financial
statements
Users of Financial Information
1. Internal Users
- Users of financial information who have ready access to specific types of
accounting information
- Active owners (participating actively to the day-to-day running operation; ex:
owner of the business if sole, capitalist partners = who contributed money
property and industrial partners = contributed his/her expertise/skills which
manages day-to-day activities = active, silent partners = not participating, receives
his/her shares/profits only therefore inactive, for the corporation: BOD) of the
business and the management
 to evaluate the entity’s performance, make financial and operational
plan and implement business decisions
 to continue or to liquidate, to infuse additional investments, to borrow
from creditors and to change business methods and strategies
- Management accounting reports usually provides the information needed by these
users
2. External Users
- Those who do not have ready access to readily available information about an
entity
- Examples: inactive owners, creditors (provides products/services using
contractual obligations) and lenders (financing companies like banks, lending
companies, pawnshops), suppliers, potential investors, taxing authorities (BIR &
BOC = tax on imported goods and commodities, both under DOF), regulatory
bodies (SEC regulates registration of partnerships and private corporations, BSP
regulates supervisions of banks), employees and employee unions, financial
analysts, financial advisers and consultants and the general public
- Information needs (profitability, liquidity, solvency, financial flexibility =
reaction to changes in its environment) by these users are provided by general
purpose financial reports (financial accounting)
3. Direct Users
- Users with direct interest
- Examples: owners, managers, creditors, suppliers, customers, employees, taxing
authority
4. Indirect Users
- Use accounting information to provide advice or to protect the interest of the
indirect user
 - Examples: regulatory agencies, labor unions, financial and legal consultants
Branches of Accounting
 Financial Accounting
- The broadest branch of accounting
- Concerned with recognition (when do we record a particular account/element),
measurement (at what amount we record these elements), and communication of
economic resources, economic obligations, and changes in economic resources
and economic obligations
- Information is communicated through complete set of financial statements
- Conform to the Generally Accepted Accounting Principles (GAAP)
 Management Accounting
- Serves the information needs of the internal users, specifically the active owners
and managers in making and implementing short-term and long-range plans for
the enterprise
- Reports are not required to conform with GAAP
 Cost Accounting
- Concerned with the measurement and recognition of cost of goods manufactured
and sold
 Tax Accounting
- Concerned with the computation of taxes and preparation of tax returns submitted
to a taxing authority
 Government Accounting
- The process of analyzing, classifying, summarizing, and communicating all
transactions involving the receipt and disposition of government funds and
property and interpreting the results thereof
Auditing
- Refers to an independent examination of the financial statements conducted by a
CPA for the purpose of rendering an opinion as to the fairness of the presentation
of the financial statements
FINANCIAL REPORTING AND THE STANDARD SETTING PROCESS
 Creation of International Accounting Standards Committee (IASC) in 1973
- Development of a set of uniform global accounting standards known as
International Accounting Standards (IAS)
 The IASC was reconstituted in 2001 as International Accounting Standards Board
(IASB) under the umbrella of the International Financial Reporting Standards (IFRS)
Foundation