Introduction
This paper explores four aspects of financial reporting according to the US Generally Accepted Accounting Principles (GAAP), International Financial Reporting Standards (IFRS), and other statutory requirements of entities regarding financial reporting. The four will be managerial judgments, cash flow statements, and statements of comprehensive income, and they examine the purpose of liquidation and required disclosures. This paper aims to provide insights into various accounting principles under the IFRS, GAAP, and statutory requirements. The purpose of this report is to explore aspects of financial reporting, including cash flow statements, management decisions, comprehensive income statements, the objectives of liquidations, and the necessary disclosures.
Management Judgements
According to (IFRS) judgments, items included in the financial statements should be disclosed in the notes section of the financial statements. Unlike the US GAAP, IFRS states that the entities must disclose the most recent events that significantly affect the financial statements (Ravshanovna, 2023). Additionally, IFRS provides that organizations should report the major sources of estimates and all uncertainties that may have material significance in the carrying value of the assets and liabilities (Gordon et al., 2022). Putting these judgments in the notes section of the financial statements helps users to easily identify estimates that may bring wrong valuations of items and overall balances of the financial statements.
Many types of judgments could significantly impact the financial statements, two of which are recognition of revenue and selection of the accounting policies. Although the IFRS states when revenue should be recognized in a five-step process, identifying such criteria is subjective for the accounting department. Moreover, the management team has the role of determining the accounting policies that their entity will follow.
Examples of estimation uncertainties that could result in material adjustments in the future include estimating the useful life of an asset, inventory obsolescence, estimation of an asset’s fair value, and estimating the allowances for doubtful accounts. If an organization overestimates or underestimates the values or the economic values of any of the four, it has to be adjusted in the future (Ernst & Young Global Limited, 2017). These changes would result in material balances and outcomes in the organization’s financial statements.
Suppose an organization reports the value of an asset or liability based on the recently observed market value, and this valuation is likely to change in one year. In that case, it should report the expected valuation. The entity should disclose the nature and extent of the risk resulting from the uncertainty within the next year since this could affect a user’s decision-making by making them have a wrong valuation of the company’s financial position (Ernst & Young Global Limited, 2017). Volvo Ltd is an example of an entity where actual results may differ from previous estimates. Therefore, according to IAS 1, Volvo should disclose any sources of uncertainties that have material impacts (Ernst & Young Global Limited, 2017). By so doing, stakeholders could accurately gauge the valuations of the assets owned by the automobile based on facts.
Several judgments and estimates have been made in the notes to financial statements of Home Deport Annual Report 2020, which could differ from actual results due to uncertainties. Home Depot (2020) evaluates inventory using the cost method at the end of the year, which is carried lower than the cost of net realizable value. The company also makes assumptions in the valuation of property, plant, and equipment, using the straight-line method of depreciation over an asset’s economic life (Home Depot, 2020). Other judgments and estimates by Home Deport include determining an asset’s useful life, estimating doubtful debts and allowances, and revenue recognition estimates.
Cash Flow
The cash flow statement is a financial statement that shows the amount of cash that flows into and out of an entity in a particular period. The cash flow statement can be prepared using either direct or indirect methods. When preparing the cash flow statement, direct method entities first take cash from operating activities and add it to cash from investing activities and the cash from financing activities to get the net cash flow (Toudas et al., 2022). Conversely, when using the indirect method, the user begins with the net profits and then adjusts to rich at the net cash flow.
Whether you are using the direct or the indirect method, all three sections of the cash flow statement, cash from operating, investing, and financing activities, must be included. The presentation of the two methods is usually different. The direct method starts with the operational activities, while the indirect method starts with the net profit, although both methods have the same answer (Gordon et al., 2022). Investors and analysts prefer the direct method since it provides a detailed view of an organization’s sources and uses of cash. On the other hand, entities prefer the indirect method since it can help them cancel some strategies the organizations use to use their cash and achieve a competitive advantage.
When preparing a cash flow statement using the direct method, there are guidelines on how various items should be calculated. The cash collected from customers is calculated by adding up all the receivables and then adjusting them by subtracting accounts receivable (Napier & Stadler, 2020). Cash paid up for merchandise is calculated by adding up all the cash paid for the supply of the items and then making adjustments for accounts receivable (Gordon et al., 2022). Similarly, the cash paid up for employees and the cash paid up for accrued expenses is calculated by adding all the payments for labor and accrued expenses and making the necessary adjustments for changes in accrued liabilities. Cash paid up for operating costs, including insurance and other prepaid expenses, is calculated by adding up all operating costs cash payments and then adjusting for prepaid expenses.
Comprehensive Income
In accounting, comprehensive income refers to all changes of equity for a business during a particular period except those caused by investments from the owners and distributions to them. It is a requirement for financial statements to be concepts. Statement 5 says a statement of comprehensive income has to include a statement of financial position, a statement of assets and liabilities, a cash flow statement, and a comprehensive income statement (Financial Accounting Standards Board, 2007). The latter is important for an organization since it shows all incomes the entity generates without the involvement of the shareholders.
In theory, there are four methods that a business can use to report comprehensive income. There is the one-statement approach, where the business reports both the income statement and the statement of comprehensive income in a single statement. This method’s advantage is that it provides a complete picture of an organizational financial position, but it also has the disadvantage of being difficult to understand (Robinson, 2020). The two-step approach is an easier and more understandable approach for reporting comprehensive income. The income statement and the statement of comprehensive income are recorded in two separate columns (Gordon et al., 2022). However, the two-statement approach does not give a clear picture of the organizational financial position.
The statement of changes in equity reports changes in comprehensive income by recording the changes in equity in a particular period. This method is easy to understand and clearly depicts an organizational financial position. Finally, there is the adjustment of retained earnings approach, where retained earnings are adjusted according to when preparing the comprehensive income statement (Robinson, 2020). This method is easy to use and is also commonly used by entities. However, its disadvantage is that the adjusted retained earnings method does not paint a complete picture of the business, and some entries are ignored.
Liquidations
Liquidation is when an organization converts its assets into cash and uses it to settle creditors when anticipating to stop operations. Liquidation is considered imminent when it has been approved by people allowed to make such pronunciations (Sundermeier et al., 2020). Liquidation can also be considered imminent when it has been initiated by third parties with merit and is about to happen. Initial measurements of an asset refer to the amounts that an organization expects to make when it disposes of its assets in expectation of liquidation. Subsequent measurements follow initial measurements and include the amount the organization will pay during liquidation (Girardi et al., 2021). Some of the required disclosures include disclosing that the company is in liquidation, disclosing that a liquidator has been appointed, listing reasons for disclosure, and stating any conflicts of interest.
Conclusion
Judgments of management, cash flow statements, comprehensive incomes, and understanding the liquidation process are critical in preparing and using financial statements. For the financial statements to show a true and fair view of the organization at that time, users must be informed of all assumptions used in the notes section. Cashflow statements show how money flows in an organization and can be prepared using either direct or indirect methods. Comprehensive incomes show changes in equity in the organization without the involvement of the stakeholders. Financial statements also guide liquidation processes, stating the disclosures that must be revealed.
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