Comprehensive summary of the lectures for the course Financial Reporting and Auditing. Suitable for students International Business. Given by Diane Breesch at the Vrije Universiteit Brussel in the academic year .
Summary:
Theory lectures Financial Reporting and Auditing
PROFESSOR: DIANE BREESCH
Gino Aytas | 1MA IB | Academic year 2021 – 2022
Version 1
,Practical information:
The grading of this course consists out of 3 elements. A test on the basics of accounting
for 5% of the final grade, a final written exam on 55% and an assignment for 40%.
Both the test will include multiple choice and true or false questions. Only the final
written exam will also include open questions as well as guess correction.
The assignment consists out of the analysis of the financial statements of a large listed
company.
1. Part 1: Basic Accounting Techniques
1.1. INTRODUCTION
Accounting is a process of identifying, recording, summarizing and reporting economic
information to decision makers in the form of financial statements.
The difference between financial accounting and management accounting is that our
information is focused on the specific needs of external stakeholders. Therefor our
financial statements will be according to the International Accounting Standards
(IAS/IFRS).
The financial statements of a company include:
• Statement of Comprehensive Income
• Statement of Changes in Equity
• Statement of Financial Position (Balance sheet)
• Statement of Cash Flows
1.2. STATEMENT OF FINANCIAL POSITION (BALANCE SHEET)
The balance sheet is composed out of assets on the one hand and liabilities & owner’s
equity on the other. These 2 sides always need to be equal. This gives us the balance sheet
equation:
In annual reports balance
sheets are usually reported
vertically.
PAGE 1
,An example of this would be when a Bank
lends a company $1000 to help fund operation.
This is displayed to the right.
Current assets are those that will be converted
into cash within 12 months or the operating
cycle of the company. Their primary goal is
trading, meant to be sold.
The operating cycle is the period in time between the receipt of your inventory, selling
that inventory and receiving cash for it. This consists of the average inventory period and
the average collection period. Usually this operating cycle is only a
few months, but exceptions are possible.
The IAS (International Accounting Standards) doesn’t specify a
specific format for the balance sheet. This can be different from
country to country.
The IAS define assets as an economic resource that the company
controls at reporting date as a result of a past event.
• Economic resource is the ‘right’ that has the potential to
produce economic benefits
o Capacity to contribute to the companies future cash flows
o Degree of certainty that the future flow of economic benefits will arise
(No minimum probability level, arbitrage)
• Controls is when the company
o Obtains substantially all of the economic benefits
o Has direct use of the resource and decision making rights
• Past event is mostly via exchange with third parties.
These 3 properties are a necessary condition, but do not suffice. You should also be able to
measure and put an amount on these future benefits.
• Measurement is the ability to express the asset in monetary terms
o Exact value
o Prediction with reasonable assurance
PAGE 2
, An example of such things that are hard to put a number on are mostly internally
generated intangible things such as know-how, intellectual property. That’s why they are
typically not included on the balance sheet. They are nevertheless still worth something,
remember this when reading a company its balance sheet.
Once an intangible asset is externally generated it is allowed to go on the balance sheet.
For example when a company is purchased by another for a certain amount of money. In
such a scenario we are certain of its value, because that is what we paid for it.
Groups of companies that are growing internally will therefore show less assets, but will
show R&D costs a lot. Whereas companies that grow by purchasing others will report a lot
more intangible assets and goodwill.
You can for example look at the share of intangible assets out of the total of assets present
to compare the way the company grew in comparison to competitors.
After some time these once externally obtained intangible assets have to be re-evaluated
as there is no recent purchase price for it anymore. Such a scenario will require some
guesstimation and creative accounting.
To summarise we can include an asset in the balance sheet when it exists and is
measurable with a reasonable degree of precision. The same thing goes for liabilities.
1.3. STATEMENT OF COMPREHENSIVE INCOME
The income statement is a statement over a certain time period. Typically done for one
accounting period, which is usually from the 1st of January till the 31st of December.
Income statements are composed out of
revenues generated and the expenses
incurred over one financial year.
Operation expenses can be shown by
nature (type). This doesn’t give an idea
what the types are composed of. For
example what is depreciated or where the
salaries & wages are being allocated.
Another way operation
expenses can be shown
is by function.
This for example groups
all expenses that relate
to production, selling
and so on.
PAGE 3
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