Financial Accounting: Guidelines and Agencies Case Study

Generally Accepted Accounting Principles (US GAAP)

Generally Accepted Accounting Principles (US GAAP) is a set of guidelines that regulate the composition of basic financial reports such as balance sheets, profit and loss statements, and disclosures. GAAP regulates the main formatting aspects of these reports, including grammar and punctuation (Accounting Foundation, n.d.).

The main advantage of GAAP for financial accounting resides in the fact that it ensures industry-wide conformity of accounting terms, methods, and assumptions. In other words, with the help of GAAP, accountants can maintain the methodological consistency of any prepared financial documentation and can further guarantee that their reports meet universal standards and will be correctly interpreted by any external party. Taking into account the fact that the reporting structure has only become more and more complicated, GAAP seems to be the only way to deliver consistent financial reporting (Edwards & Hermanson, 2007). However, it should be pointed out that GAAP ensures the conformity of financial reports within the United States exclusively.

International Financial Reporting Standards (IFRS)

International Financial Reporting Standards (IFRS) is a set of internationally accepted reporting norms that provides a guideline for preparing relevant financial documentation. In other words, IFRS provides a common financial language that accountants are supposed to use in order to eliminate any potential barriers to the reports’ interpretation (Investopedia, 2016c).

The advantages of IFRS for financial accounting are similar to those offered by GAAP. Indeed, the only difference is that IFRS is mainly applied within the European Union and some Asian and South American countries, while GAAP is used in the United States.

Securities and Exchange Commission (SEC)

The Securities and Exchange Commission (SEC) is a body created by the U.S. government in order to protect stakeholders from market fraud and manipulations. The SEC exists to promote transparent and ethical business conduct. The SEC was founded in the United States after the devastating stock market crash of 1929, which had been provoked by reports of numerous cases of corrupted and misleading information (Investopedia, 2016e).

For an economy to function well, it is highly critical that investors have a committee whom they can address to receive assistance in protecting their actions. Hence, the SEC is a useful tool that gives investors access to essential security forms, registration forms, and other safety-related financial documents. In addition, the SEC has the authority to enforce punishments on firms that display unethical business practices ranging from fraud and insider trading to intentional informational misleading (Investopedia, 2016e).

Public Company Accounting Oversight Board (PCAOB)

The Public Company Accounting Oversight Board (PCAOB) is a non-profit organization that regulates the activities carried out by the auditors of publicly traded companies. The organization was created in 2002, and its key target resides in protecting stakeholders from corrupted audit reports (Investopedia, 2016e).

An audit report is of great significance in financial reporting as it provides key stakeholders such as investors with essential data regarding the health of a company. Based on an analysis of this data, investors can make consistent and well-informed decisions. Therefore, it is critical to ensure that this data is highly accurate. The main benefit of the PCAOB is that it plays the role of an additional auditor that controls the way traditional auditors work.

Annual report

An annual report is a report that a company gives to its stakeholders in order to acquaint them with the company’s operations and financial variables for a particular year (Investopedia, 2016a).

Annual reports help potential stakeholders make important investment decisions. Often the data provided in these reports reveals whether or not the company has pursued an effective commercial policy and has established a reliable reputation. Moreover, this data helps investors assess potential investment risks. Annual reports are likewise useful for existing stakeholders who can use the reports to track how their investments are being managed and to decide whether they want to continue the collaboration.

10-K, 10-Q, and 8-K

A requirement set by the SEC, a 10-K is an annual report that contains such information as the company’s “history, organizational structure, equity, holdings, earnings per share, [and] subsidiaries” (Investopedia, 2016i, para.1). A 10-Q is a similar report that is submitted quarterly (Investopedia, 2016i). These reports are useful for both potential and existing stakeholders as they ensure the transparency of certain pieces of specific data that might be absent from the company’s annual report.

An 8-K is a statement that includes details about such information as a company’s “acquisition, bankruptcy, resignation of directors or a change in the fiscal year” (Investopedia, 2016b, para.1). With the help of the 8-K, stakeholders can examine the unscheduled activities of the company and assess the relevant risks. The submission of this report is likewise required by the SEC.

Income Statement

An income statement provides information regarding the company’s revenues and expenses. Income statements typically come in one of two types of formats: a multi-step format and a single-step format. In the multi-step format, the company states four profitability measures: after-tax, operating, gross, and pretax income. The single-step format is less complicated, as it does not include such variables as gross income and operating income. It is implied that these variables can be calculated on the basis of other figures (Edwards & Hermanson, 2007). In general, potential and existing investors are more likely to prefer receiving an income statement composed in the multi-step format, as this more detailed format allows them to carry out a quick and accurate data analysis.

Balance Sheet

A balance sheet is a type of financial statement that provides an overview of “a company’s assets, liabilities and shareholders’ equity” for a targeted time period (Business School, 2012). The balance sheet format is rather simple, and it is based on the following formula:

• Assets = Liabilities + Shareholders’ Equity

It should be pointed out that each of these components comprises several minor elements. For instance, the assets component includes both current assets—such as inventory, prepaid expenses, and marketable securities—and long-term assets such as intangible assets and fixed assets. The liabilities component likewise comprises current liabilities—such as wages payable and bank indebtedness—and long-term liabilities such as deferred tax liabilities and long-term debt. The shareholders’ equity component is composed of such elements as treasury stock and retained earnings (Edwards & Hermanson, 2007). It is because the balance sheet provides the most detailed picture of the company’s financial situation that it has such a complex structure.

Statement of Cash Flows

A statement of cash flows is a complementary report that provides additional information regarding the entry and exit flows of cash. The report has a three-component structure. The first component is operations, which illustrates the amount of cash that the company has managed to generate from its services and products. The second component is investing, which shows the amount of cash generated from investments. The third component is financing, which reveals the amount of so-called “cash-in” capital (Heakal, n.d.). All three of these components are critical to both potential and existing stakeholders of a company.

Statement of Retained Earnings

A statement of retained earnings is a financial report that illustrates changes in the amount of retained earnings for the target time period. The statement is commonly formatted in accordance with GAAP norms and standards. This format entails representing all information associated with the company’s retained earnings, such as its net income (Investopedia, 2016f).

The analyzed three-component formula should be described as follows:

• Assets = Liabilities + Shareholders’ Equity

As mentioned above, each of the formula components comprises several minor elements. In order to illustrate this complex structure, an examination of Coca-Cola’s balance sheet for 2015 is helpful. In this balance sheet, it can be seen that apart from the formula’s major components (i.e., assets, liabilities, and shareholder’s equity), this report contains such variables as short-term investments, net receivables, inventory, goodwill, intangible assets, accounts payable, current long-term debt, minority interest, long-term debt, deferred long-term liability charges, common stock, retained earnings, treasury stock, capital surplus, and other stockholder equity (The Coca-Cola Company, 2015). The table below illustrates how these elements should be classified into each formula component with the standard double-entry accounting bookkeeping system.

Table 1 “Classification”.

Reference List

Accounting Foundation. (n.d.). The importance of generally accepted accounting principles (GAAP). Web.

Business School. (2012). Introduction to Financial Accounting. Web.

Edwards, J.D., & Hermanson, R.H. (2007). Accounting Principles: A Business Perspective. Zurich, Switzerland: Global Text.

Heakal, R. (n.d.). What is a Cash Flow Statement? Web.

Investopedia. (2016a). Annual Report. Web.

Investopedia. (2016b). 8-K. Web.

Investopedia. (2016c). International Financial Reporting Standards – IFRS. Web.

Investopedia. (2016d). Public Company Accounting Oversight Board – PCAOB. Web.

Investopedia. (2016e). Securities and Exchange Commission – SEC. Web.

Investopedia. (2016f). Statement of Retained Earning. Web.

Investopedia. (2016g). 10-K. Web.

Investopedia. (2016h). 10-Q. Web.

The Coca-Cola Company. (2015). Web.