Special Items: If an item is unusual in nature or infrequent in occurrence, but not both, and if it is material, then it must be shown separately on the income statement (usually as part of income from continuing operations). This special item will not be reported net of tax. Extraordinary: These are items that are material and are both infrequent in nature and unusual in occurrence. Extraordinary items should be very rare. Appear after net income from discontinued operations and before the effect of changes in accounting principles Discontinued Operations: A component of a business is defined as a segment for which operations and cash flows can be distinguished both operationally and for financial reporting purposes. It has to be sold in full. Check of impairment of segment if not sold off by the end of the year. Reported net of tax and must restate all previous reports. Asset Impairment: check undiscounted cf and reduce to fair value. Cannot reverse in following years. Usually will be included in operating income and needs to be separate and clear. CF Statement
Why is it important? BK, manipulation, DCF. A lot use FCF (many def, a good one is ops minus inv in productive assets). Dividends and interest get wrong classification that must be accounting for. (move interest expense net of tax benefit) Reasons for differences in BS changes vs cash flow numbers: write-offs, noncash transactions, translation adjustments, acquisitions Ways to manipulate: securitization via SPEs, exchanges listed as sales and purchases. Revenue and Expense Recognition
Realized and earned: Persuasive evidence of an arrangement exists; Delivery has occurred or services have been rendered; The seller’s price to the buyer is fixed or determinable; Collectibility is reasonably assured.
Gross vs net: acts as a principal in the transaction; takes title to the products; has risks and rewards of ownership, such as the risk of loss for collection, delivery, or returns, and; acts as an agent or broker (including performing services, in substance, as an agent or broker) with compensation on a commission or fee basis.
Multiple Deliverables: to recognize an item already delivered: the item must have value to the customer on a standalone basis. An item has value on a standalone basis if it is sold separately by a vendor or if the customer could resell the delivered item on a standalone basis; if the arrangement includes a general right of return relative to the delivered item, delivery or performance of the undelivered item is considered probable and substantially under the control of the vendor. The revenue recognized will be determined by:
the price at which the firm sells the item on a standalone basis (if it does sell the item on a standalone basis) or • the price at which a third-party sells a largely interchangeable item on a standalone basis (if the firm does not), or, if neither the firm nor a third party sells the item on a standalone basis, • the firm’s best estimate of the selling price for the item. Note:
Manipulation: set up a related party and have deals with it
Percentage completion: To be able to use percentage completion, estimates of progress, revenues, and costs must be reasonably reliable and: • The contract clearly states the rights of the buyer to specific performance and of the seller to progress payments reflecting the buyer’s ownership interest;
• The buyer is expected to satisfy all of his/her obligations;
• The contractor is expected to perform what is required under the contract. The extent to which a project is completed is measured by costs incurred to date, efforts expended to date, or units of work performed.
Progress recognition: Revenues and profits according to % – what was already recognized. Inv=cost incurred+profit to date-billing Intercorporate Investments
Less than 20% debt: held till maturity. Regular. Amortize premium or discount. no changes in fv Less than 20% securities trading: realized and unrealized gains go on the income statement. Dividend declared also goes on income statement and does not affect balance of investment Less than 20% available for sale: changes in fair value go to OCI. Remove OCI when sold and goes to NI Equity Method: book value changes according to earnings and dividends. Purchase diff is amortized. Calculate share by assets may be too high because of diff, by ni may below because of amor of diff Fair Value
Eligible financial instruments include recognized financial assets and liabilities, except for: • investments in a consolidated subsidiary or variable interest entity;
• pension assets and liabilities;
• leasing assets and liabilities;
• a financial institution’s deposit liabilities that can be withdrawn upon demand;
• financial instruments that appear within shareholders’ equity.
the holder intends to sell or believes it is more likely-than-not that it will be required to sell prior to the recovery of its cost basis, it would be required to recognize the entire OTTI loss in the income statement.
o to the extent the entity does not intend to sell or does not think that it is more likely-than-not that it would be forced to sell prior to recovery, it would then consider whether any credit losses exist.
if credit losses do exist, they are recognized through earnings, while the non-credit losses are recognized through other comprehensive income.
if all losses relate to non-credit factors, such as a deterioration in market liquidity, then the investment is not considered to be
other-than-temporarily-impaired and there is no impact on income or other comprehensive income.
Downsides: ratios, growth, solvency, blah blah
Under acquisition accounting it is capitalized on the balance sheet at fair value, as an indefinite-lived intangible asset. It is tested yearly for impairment. Amortization of the IPRD begins at the time that the associated research projects are completed.
Share based securities
Plain vanilla conv debt is treated as a liability. At conv it goes to PIC. Conv debt that may be settled in cash is separated (retro starting 09, equity to PIC) Mandatorily redeemable pref stock is shown under liabilities, recorded at fair value (changes go to interest) Options: incentive: no tax on employee till sale, can get capital tax if holds long enough, no tax deduction for firm. Nonqualified: employee pays tax for diff between market price and current price at exc, firm gets deduction at exercise for diff between market price and exc price. EPS: if conv for convertibles and pref stock, treasury method for options and warrants PENSIONS:
Service+interest+actuarial loss+prior service-benefits.
Contingencies – if probable and can estimate liability, if reasonably possible or probable but note both footnote if remote nothing Commitments – take or pay is an example capital if ownership changed, bargain option, 75% of life, 90% of FV. Miminum payments: period payments, residual , fines, bargain Lessee: the lowest of lessors rate and lessee’s borrowing discount rate