Chapter 9 Uniformity and Disclosure Relevant circumstances Nature

Chapter 9: Uniformity and Disclosure Relevant circumstances Nature of finite and rigid uniformity and flexibility Extent that standards are using finite uniformity, rigid uniformity, or flexibility Disclosure Items providing important information to users

Relevant Circumstances Are economically significant circumstances that can affect broadly similar events Two types of relevant circumstances Present magnitudes, conditions known at the time of the event Future contingencies, factors that can be known only at a later date Are an extremely important aspect of the uniformity issue

Management & Relevant Circumstances Selection of accounting methods might be affected by motives different than those dictated by the relevant circumstances maximize reported income. . . management compensation based on reported income Minimize reported income. . . fear of government intervention on antitrust grounds Smoothing income. . . less fluctuation = less risk Potentially capable of distorting income measurement

Uniformity Finite uniformity: Equates prescribed accounting methods with the relevant circumstances in generally similar situations Rigid uniformity: Prescribes one method for generally similar transactions Generally, if finite uniformity can be attained, it is superior to rigid uniformity for the standpoint of decision making

Broad Event Class Simple Event Rigid Uniformity Complex Event Measurement and/or Cost Constraints Measurable And Cost Effective Rigid Uniformity Finite Uniformity

Approaches to Uniformity Rigid uniformity Finite uniformity Flexibility applies to situations in which there are no discernible relevant circumstances but more than one possible accounting method exists Prevalent in GAAP

Disclosure Is related with information in both the financial statements and supplementary communicationsincluding Footnotes Post-statement events Management’s analyses Additional information beyond historical costs Refers to the whole area of financial reporting and not simply to the financial statements

Disclosure Function of SEC Protective disclosure Informative disclosure. . . the emphasis since early 1970 s

The Disclosure Process Today Differential disclosure Annual 10 -K Quarterly 10 -Q Aimed toward professional financial analysts Additional disclosure? Information overload Information asymmetry (selective disclosure) Signaling theory Cost of disclosure for big vs. small firms

Items Providing Important Information Summary Annual Report (SAR) Condensed financial statements that omit or boil down the detail contained in traditional audited financial statements Evolved from 1983 FEI study concerned with the readability of annual reports Jenkins Committee Report (1994) AICPA study 1991 -94 Concerned with helping users understand a company’s business

Key Jenkins Report Disclosures Segmental disclosures Core and non-core activities, separate then in the financial statements Interim reporting Secondary recommendations

Jenkins Secondary Recommendations a. b. c. d. Balance sheet items with low verifiability Innovative financial instruments (derivatives) Adequate data for user to make forecast Disclosure about alternatives and methods selected e. Valuing internally generated intangibles frowned upon f. Eliminate less relevant disclosures

Jenkins Committee Report Does not tangle with FASB’s mission of standard setting Recommends significant increase in disclosure & changing format of financial statements, at odds with SEC which would like to decrease disclosures in corporate annual reports Consistent with conceptual framework

Jenkins Committee Report Adopts the user outlook of SFAC No. 1 Appears to be cognizant of market efficiency and its ability to absorb new disclosures International implications. . . American firms would be at a disadvantage relative to foreign firms

Chapter 9: Uniformity and Disclosure Relevant circumstances Nature of finite and rigid uniformity and flexibility Extent that standards are using finite uniformity, rigid uniformity, or flexibility Disclosure Items providing important information to users