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Identify the four financial statements

PART A – THEORY

Question 1

Identify the four financial statements and the information they provide. Discuss the guidance Generally Accepted Accounting Principles (GAAP) provide concerning the information reported in financial statements and how GAAP assists in ensuring the objective of accounting is achieved. Explain whether users of financial statements should exercise caution when interpreting financial statement compliant with GAAP.

Question 2

Managers are permitted choice in the preparation of accounting information. Discuss the positive and negative implications of permitting choice in the preparation of accounting information. These implications should relate to financial statement users and preparers. You should refer not only to material covered in lectures and your textbook, but also the 2005 journal article by Gowthorpe & Amat “Creative Accounting: Some Ethical Issues of Macro- and Micro-Manipulation” (set as one of your readings this semester and available on UTSonline ‘Course Documents’).

Question 3

Diversified Rentals Ltd owns a large fleet of different vehicles which are each classified into one of three categories; supercars, vans and city rentals. Newly acquired supercars are very popular when first acquired, but rental demand quickly falls as newer models are released. Supercars are kept in the fleet for 3 years before being sold. Demand and rental revenues for vans are relevantly consistent through the vehicle life, regardless of condition or appearance. The vans are disposed of only when they are completely worn out. The vans are generally completely worn out once they have travelled 350,00km. Finally the demand and revenues for city rentals are relatively consistent up until a point when customers demand vehicles with higher safety standards and Diversified Rentals Ltd is required to dispose of these vehicles. The new chief financial officer of the firm requires advice on which depreciation method to use. Provide recommendations and justifications of which depreciation method(s) are appropriate in this case. Explain how the choice of depreciation method affects reported profits.

Question 4

How would the use of ‘cash accounting’ rather than ‘accrual accounting’ reduce ‘earnings management’? If over the life of a business, Cash Flows from Operations will equal Profits, why is it considered necessary to make adjustments (period end adjustments or adjusting entries) at the end of each accounting period? Explain why the advantages of ‘accrual accounting’ outweigh the disadvantages of ‘earnings management’.

Question 5

Explain how the perpetual and periodic inventory systems differ, especially in determining Cost of Goods Sold and Ending Inventory? Once a retailer has chosen the inventory system they then have a choice of inventory costing methods: First-In-First-Out (FIFO), Last-In-First-Out (LIFO), weighted average and specific identification. In times of changing inventory prices (both inflation and deflation) how can the choice of the inventory costing method impact reported profits?

Question 6

Is the Statement of Comprehensive Income necessary when we have the Statement of Cash Flows (and allowing external decision makers to predict future cash flows may be the primary function of financial statements)? In answering this question you should also consider the 2001 Accounting Review journal article (set as one of your readings this semester and available on UTSonline ‘Course Documents’) “Accruals and the Prediction of Future Cash Flows” Barth, Cram & Nelson.

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