Standard setting started in sass – six accounting professional bodies set up steering committee which was changed to Accounting Standards Steering committee which had representatives from all ELK accounting bodies. Was very much a consensus seeking approach, an interactive approach. Lasted around 20 years and by the sass there were many criticisms Of the process/ First Of all it covered topics such as goodwill, consolidations, R+D and accounting concepts. Then the issued a discussion document, which announced the areas they felt were important and how they would be covered and these are he types of accounting we are considering.
Then invited responses from key stakeholders e. G. Accounting firms, companies, government, lawyers investors, stock exchanges, pressure groups. – anyone who was impacted or interest with financial standards. – Then a consultation would take place and if the committee felt a consensus opinion came the rough about certain view Potts then an exposure draft would be produced showing the final statement, for example SAPP. SAPP identifies 4 fundamental accounting standards. They would then ask the key stakeholders what they thought of the exposure draft. If consensus was reached on the standard then it would be implemented.
If consensus couldn’t be reached, they would issue another exposure draft until consensus could be reached. It wasn’t a top down approach, they took the views of many in a consultative process. Why we needed standard setting- Standards are needed because accounting numbers are important when defining contractual entitlements. Contracting parties frequently define the rights between themselves in terms of accounting numbers (Whittier and Simmer, 1992). For example, the remuneration of director’s and managers eight be expressed in terms of a salary plus a bonus based on agreed performance measures.
However, there is a risk of irresponsible behavior by directors and managers if it appears that earnings will not meet performance targets. They might be tempted to adopt measures that increase the PIT but which are not in the best interests of the shareholders. This would not preclude companies from taking typical steps such as deferring discretionary expenditure, e. G. Research, advertising etc. Deferring amortizing, e. G. Making optimistic sales projections in order to classify research as development expenditure which can capitalized.
Reclassifying deterioration current assets as non-current assets to avoids the need to recognize a loss under the lower Of cost and net realizable value rule applicable to current assets. -Mandatory standards are needed therefore to define the way in which accounting numbers are presented in financial statements, so that their measurement and presentation are less subjective. I t had been thought that the accounting profession could obtain uniformity of disclosure by persuasion but in reality, the profession found it difficult to resist management pressure. What led to standard setting? During the 1 sass the financial sector of the UK economy lost confidence in the accounting profession when internationally known I-J based companies were seen to have published financial data that were materially incorrect. Two scandals which disturbed the public at the time were GEE take over of EAI and the Bergamot Press according to Farmer (1986). The two scandals both made public lack confidence when the same basic information was disclosed in two manners created two materially different pictures. GEE/EAI expected to show E mm profit however after the aka over GEE revalued the accounts and they showed a loss of E. M. Bergamot Press produced audited accounts for 1 968 showing profit of EOM however an independent investigation by PWS found that profit should have been reduced by 75%. Following the two scandals an embarrassed, disturbed profession announced in 1 969, via the CHEW, that there was a majority view supporting the introduction of Statements of Standard Accounting Practice to us plenty legislation. Arguments in support of Standard Setting – Creditability; informality was seen as essential if financial reports were to disclose a true and fair value.
However, it has been a continuing view in the UK the Standards should not be a comprehensive code of rigid rules. The aim not to supersede the exercise of informed judgment in determining what constituted a true and fair view in each circumstance. 2 Discipline – Directors are under pressure to maintain and improve the market valuation of their company’s securities. There is therefore a temptation to influence any financial statistic that has an impact on the market valuation, such as the trend in the PEPS figure, the net asset backing for the shares or the gearing ratios which show the level of borrowing.
This is an ever present risk and the financial reporting council showed awareness of the need to impose discipline throughout its meetings. 3 Comparability -? For investors to be able to make valid interception comparisons of performance and trends, investors need relevant and reliable data that has been standardized. If companies were to continue to apply different accounting pool ices to identical commercial activities then investors could be misled in making their investment decisions.
Arguments against Standard setting – 1 Consensus seeking can lead to the issuing of standards that are over influenced by those ho fear that a new standard will adversely affect their statements of UP as seen by the retail companies that oppose the proposal to put operating leases on the SSP. 2 Standards are general purpose and fail to recognize the differences between large and small entities and interim and final accounts. There are too many standard setters with differing requirements. 3 information overload. Still a large amount of judgment involved 5 costly 6 no legal backing so if companies didn’t follow the rules very little was done. Dominated by the accounting profession ASS set the standards and ASS is made up of accountants. Latest Changes to UK standard setting system -1 FRR board, includes wider interest group sets agenda and identifies issues, appoints members of others bodies, intended to be open. 2 Codes and Standards Committee, advise FRR on matter relating to codes, standard setting and policy. 3 Accounting Council, replaces accounting standards board, advises on draft national and international standards. Audit and Assurance Council, audit issues. 5 Conduct committee, advises FRR on matters relating to conduct to promote high quality corporate reporting including monitoring, oversight, investigations and disciplinary issues. 6 Monitoring committee and case management committee, assessment and review of audit quality and decisions. 7 Financial reporting review panel and tribunal, responsible for overseeing companies, review material departures from accounting standards, right to apply to court for companies to restate financial statements.
Process for promulgating Iris’s – 1 setting the agenda 2 project planning 3 development and publication of a discussion paper 4 development and publication of an exposure draft 5 development and publication of an RIFFS 6 procedures after and FIRS is issued. Intangible Assets – Research & Development and Goodwill Intangible Asset definition: assets are rights to probable future economic benefit controlled by an entity as a result of a past transaction an intangible asset is an identifiable non-monetary asset without physical form or substance.
Nature of Intangible Asset: – no physical form and cost hard to identify – may not be able to differentiate intangibles from other assets ex brands from goodwill – may be more uncertainty over cash flows generated changing business practices have made intangibles more important. Regulation when should they be recognized/capitalized: FIRS 10 -? included in he balance sheet only if they can be clearly identified as a separate asset. Cost measured independently of goodwill and other assets. – separate market for intangibles. Ђ? historical cost readily ascertainable. ASSAI: – Separately identifiable or arise from separate contractual or legal rights. – Controlled by the entity. – If it is probable that the expected future economic benefits that are attributable to the asset will flow to the entity. – Cost of asset can be measured reliably. Research and Development: R&D often viewed as strategic investment to enhance future competitiveness, arrival or profits. House of Lords say the has to be regarded as an investment which leads to growth and not as a cost.
Nature of R&D: Intangible and often speculative – Future scofflaws uncertain – Some will not be successful -? May be difficult to establish link between expenditure and benefit with reasonable certainty. Accounting Treatment of R&D (ASPI 3)- Considerable difficulty in producing standard. Defines pure research, applied research and development. Write off pure and applied research to expense. Write off development too unless certain criteria met, may then capitalism and amortize. Re and Applied Research: Expenditure on pure and applied research (it is expenditure on fixed assets, which should be capitalized and amortized over their useful lives) should be written off in the year of expenditure through the profit/loss account. Development: Development expenditure should also be written off in the year of expenditure except in certain strictly defined circumstances. For instance where all the relevant criteria are met, it is permissible to defer development expenditure to the extent that its recovery can reasonably be regarded as assured.
Such deferred development costs must be amortized in future years. Criteria for Capitalization: Clearly defined project. Related expenditure is separately identifiable. Outcome of project has been assessed with reasonable certainty. Technically feasible and commercial viability. Differed development costs and future development costs are expected to be exceeded by future revenue. Adequate resources exist, or are reasonably expected to be available, to enable the project to complete.
Research ASSAI: Expenditure on research shall be recognized as an expense since an entity cannot demonstrate that an intangible asset exists that will generate probable future economic benefits. Activities aimed at obtaining new knowledge, search for evaluation and final selection of, applications of research findings or other knowledge. Search for alternatives for materials, devices, products, systems and services. The formulation, design, evaluation and final selection of possible alternatives for new or improved materials, devices, processes, systems or services.
Developmental: Expenditure is recognized as development if the entity can identify an intangible asset and demonstrate that the asset will generate probable future economic benefits; Design, construction and testing retypes and new technologies – Design, construction and operation of a pilot plant. Capitalization of development cost ASSAI: – Intangible assets shall be capitalized if and only if an entity can demonstrate all of the following: technical feasibility – intention to complete the asset. Ability to use/sell the asset – asset will generate probable economic benefit – availability of adequate technical, financial and other resources – ability to measure reliably the expenditure attributable to asset during its development. Application of ASSAI for R&D: can capitalism costs only after the project satisfies ASSAI arterial -? All research and development costs that are used into eh project are capitalized IEEE staff costs, material costs, overheads, depreciation pan non current assets. – Amortization of usually amortized when the product is being sold. Amortization policy in proportion to sales value of product. Marketing and sales expenses are not included in R&D. Comparison of SAPPY and AS 38 in relation to R&D: SAPPY – Research and Development – Splits into three categories 1 Applied research 2 Pure Research 3 Development. With 1 and 2 written off in IS and 3 do the same or if certain criteria is met capitalism/amortize. Directors decide but they should act in behalf of shareholders, however selflessness could be an issue. Criteria:Clearly defined project, probable future benefit, management support, technical feasibility, commercial, revenue greater than costs.
ADVANTAGES: Clear to the point, shorter + easier to read, tackled very important issues. DISADVANTAGES: Not enough detail, lacks examples, practice, complexity. Not international. Not good quality, conceptual frameworks, other standards, concepts. Definition hard to apply due to lack of detail. Doesn’t provide reasons for its decisions. Comparison of SAPPY and AS 38 in relation to R: ASSAI -? Intangible assets – R. Research write off to IS. Development meet criteria write off or capitalism. Broadly similar to SAPPY with regards to treatment.
Similar in: Accounting Treatment, Criteria, Definition, Judgment and separate identity. Different to SAPPY as it splits R into 2 where as SAPPY has 3 definitions. Clearer in its guidance or practice – choice – level of detail. ADVANTAGES: detailed, descriptive, concepts, standards, conceptual frameworks, gives reasons for choices, gives more examples, accepts that there is complexity within accounting and provides a dissenting view. DISADVANTAGES: Complexity+judgment=prescriptive. Very long and detailed, makes it hard to find required parts.
Complex standard. Enforcement of this standard could be problematic. Choice, level of judgment is it appropriate. Incremental Changes from SAPPY to AS 38: Companies accepted the changes with choice and once these had been accepted the accounting profession tightened the rules. Criteria: was to check in reality, how do you separate and identify. Revenue can be hard to predict. Hard to identify when criteria is so vague. How do you verify these in practice as auditors to not have the skills to verify these criteria.
Intangible Assets Goodwill ASAP 22 and AS 38 Future economic benefits arising from assets that are not capable of being individually identified and separately recognized. Arises due to assets used together having higher value then individual assets. Intangibles and Goodwill are hard to account for – characteristics and nature, conflicting accounting policies, economic consequences of treatment. Characteristics of goodwill: Incapable of realization separately from the business. Value of GO highly subjective. No reliable or predictable relationship to costs.
Individual factors which may contribute to GO hard to value. SAPPY – Goodwill – The first UK accounting standard SAPPY Accounting for Goodwill was issued in 1984. This allowed entities two alternative treatments. 1 write off the goodwill directly to reserves in the year of acquisition. 2 or amortize the goodwill to the Statement of Comprehensive Income over its expected life. Almost all UK companies used the first treatment, as it had no effect on reported profit in the current or future years, (treatment 2 reduced profit because of the amortization charge).
The problem with using treatment 1 is that it reduces shareholders funds, which could become negative. As treatment 1 reduces shareholder funds, it increases the capital gearing of the company. Which could lead to breach of covenant. 2 types of Goodwill under SAPPY Internally generated ) expense in IS) and Purchased Goodwill (capitalism and amortize or EEL). ADVANTAGES of SAPPY Goodwill: easier to follow. Gives choice so easier for companies. First standard to tackle GO. Narrowed choice to some extent.
More prescriptive, rules. DISADVANTAGES of SAPPY Goodwill: Choice enabled companies to impact financial statements, bad for investors. Not much detail, few examples, lacks complexity, therefore how applicable in practice. Economic consequence – choice was to capitalism and amortize or write off against reserves, preferred treatment writing off reserves, resistance to capitalism and amortize, fitted in with dominance of prudence concept at the time, argument was that the whole economy would be effected.
However under ASSAI the preferred treatment is capitalism with periodic impairment review, showing a move away from prudence to matching and from reliability to relevance. ASSAI – Intangibles splits GO into Internally Generated and Purchased GO. (Internally Generated to income statement, unless there is a market). Internally Generated GO falls within the scope of AS 38 Intangible Assets, which states that ‘internally generated GO shall not be recognized as an asset’.
If companies were allowed to include internally generated GO as an asset in the SSP, it would boost total assets and produce a more favorable view of SSP, for examples by reducing the gearing ratio. Purchased Goodwill; capitalism and amortize or capitalism + impairment review (if there is impairment it will be seen in AS). The key distinction between internally generated GO and purchased GO is that purchased GO has an identifiable ‘cost’, being the difference between fair alee of the total consideration that was paid to acquire a business and the fair value of the identifiable net assets acquired.