Get Rich Soon
The goodwill amortization example demonstrates clearly that estimates must be employed in the application of accounting principles. To a significant extent, financial statements are a collection of estimates. As can be seen from the following note taken from the Citigroup, Inc., 1999 annual report, the use of estimates adds to the flexibility inherent in the preparation of financial statements: (more…)
Another example of flexibility in the application of accounting principles is in the choice of amortization periods, that is, an estimate of the useful lives of assets. Consider the following amortization periods for goodwill taken from the footnotes to the 1999 annual reports of three medical products companies.
From the annual report of Matria Healthcare, Inc.: (more…)
As noted, accounting principles for software revenue recognition have been tightened in recent years. Today, at a minimum, software companies must have shipped their software products before recognizing revenue. All of the companies identified here now abide by that rule. However, when greater flexibility existed, they used it. (more…)
From the annual report of Autodesk, Inc.:
Revenue from sales to distributors and dealers is recognized when the products are shipped.10
From the annual report of Computer Associates International, Inc.:
Product license fee revenue is recognized after both acceptance by the client and delivery of the product.11
At the time, all four companies were following their interpretation of existing accounting rules for revenue (more…)
One example of flexibility in the application of accounting principles that has recently been tightened significantly by accounting regulators is in the area of software revenue recognition. The Microsoft example provided in Chapter 1 illustrated how changes in accounting standards have forced the company to accelerate the recognition of its software revenue. Additional sweeping changes in software revenue recognition have affected many other software firms.7 (more…)
As can be seen from the exhibit, there is a substantial difference between the company’s inventories measured at LIFO cost and FIFO cost. That difference totaled $42,151,000 in 1997, $47,999,000 in 1998, and $40,450,000 in 1999. Had the company used the FIFO method of inventory for those inventories for which it used the LIFO method, its reported inventories would have been higher by 50%, 57%, and 51%, respectively, in 1997, 1998, and 1999. The company’s shareholders’ equity also would have been affected. Under the FIFO method, and assuming a combined federal and state income tax rate of 40%, shareholders’ equity would have increased by $25,291,000, or 6%, in 1997, $28,799,000, or 7%, in 1998, and $24,270,000, or 6%, in 1999. (more…)
One of the more common examples of flexibility in the selection and application of accounting policies and the impact that flexibility can have on amounts reported in the financial statements is the selection of the method used to determine inventory cost. Companies have many inventory methods from which to choose. The more likely candidates are either the first-in, first-out (FIFO) method; the last-in, first-out (LIFO) method; or the average cost method. Data on the popularity of each of these methods taken from a survey of 600 companies conducted by the American Institute of Certified Public Accountants is provided in Exhibit 2.1. Companies are actively using the different methods available to them, with FIFO being the more popular and LIFO following closely behind.
When inventory costs are changing, each inventory cost method will result in a different earnings amount on the income statement and different amounts for inventory and shareholder’s equity on the balance sheet. Longview Fibre Co. uses the LIFO method of inventory cost determination for all of its inventories except supplies. Exhibit 2.2 provides the company’s inventory amounts taken from its 1999 annual report.
In the exhibit, Longview Fibre Co. discloses a LIFO reserve. For inventories carried on the LIFO method, the LIFO reserve measures the difference between inventories measured at LIFO cost and those same inventories measured at replacement cost—roughly FIFO cost. It is a SEC requirement that public companies using LIFO disclose the excess of replacement cost, generally approximated by FIFO, over LIFO cost.5
Taken From : The Financial Numbers Game
Consider MicroStrategy, Inc., discussed in Chapter 1. The company’s problems arose from its revenue recognition practices. Historically, the company had separated the revenue earned from large, complex contracts into elements, recognizing some elements up front while deferring others. On the surface, there was nothing wrong with such a practice provided the company could demonstrate that the up-front revenue had been earned at the time it was recognized. In early 2000 the company admitted to the difficulty of
demonstrating that certain portions of contract revenue had been earned up front and decided to begin (more…)
First Union Corp. managed to meet Wall Street’s forecasts for its third-quarter profit, in part because of a one-time gain the bank didn’t disclose in its initial report on the quarterly results. . . .1
The principal adjustments to net income are the result of improper capitalization of overhead expenses, improper charges to acquisition reserves and recognition of certain income in periods prior to earning
such income.2 (more…)
Creative financial statement presentation is the subject for the last three chapters of the book. In Chapter 9, “Getting Creative with the Income Statement: Classification and Disclosure,” and Chapter 10, “Getting Creative with the Income Statement: Pro-Forma Measures of Earnings,” the focus is on the reporting of earnings, both in accordance with the guidelines of generally accepted accounting principles and in pro-forma reports, where such formal guidelines do not presently exist. The book concludes with Chapter (more…)
