Which of the following statements about the primary purpose of financial reporting is most correct?

2022 Curriculum CFA Program Level I Financial Reporting and Analysis

Learning Outcomes

Summary

An awareness of financial reporting and underlying financial reporting standards can assist in security valuation and other financial analysis. This reading describes the conceptual objectives of financial reporting standards, the parties involved in standard-setting processes, and the implication for analysts in monitoring developments in reporting standards.

Some key points of the reading are summarized below:

• The objective of financial reporting is to provide financial information about the reporting entity that is useful to existing and potential investors, lenders, and other creditors in making decisions about providing resources to the entity.

• Financial reporting requires policy choices and estimates. These choices and estimates require judgment, which can vary from one preparer to the next. Accordingly, standards are needed to ensure increased consistency in these judgments.

• Private sector standard setting bodies and regulatory authorities play significant but different roles in the standard setting process. In general, standard setting bodies make the rules, and regulatory authorities enforce the rules. However, regulators typically retain legal authority to establish financial reporting standards in their jurisdiction.

• The IFRS framework sets forth the concepts that underlie the preparation and presentation of financial statements for external users.

• The objective of fair presentation of useful information is the center of the IASB’s Conceptual Framework. The qualitative characteristics of useful information include fundamental and enhancing characteristics. Information must exhibit the fundamental characteristics of relevance and faithful representation to be useful. The enhancing characteristics identified are comparability, verifiability, timeliness, and understandability.

• IFRS Financial Statements: IAS No. 1 prescribes that a complete set of financial statements includes a statement of financial position (balance sheet), a statement of comprehensive income (either two statements—one for net income and one for comprehensive income—or a single statement combining both net income and comprehensive income), a statement of changes in equity, a cash flow statement, and notes. The notes include a summary of significant accounting policies and other explanatory information.

• Financial statements need to reflect certain basic features: fair presentation, going concern, accrual basis, materiality and aggregation, and no offsetting.

• Financial statements must be prepared at least annually, must include comparative information from the previous period, and must be consistent.

• Financial statements must follow certain presentation requirements including a classified statement of financial position (balance sheet) and minimum information on both the face of the financial statements and in the notes.

• A significant number of the world’s listed companies report under either IFRS or US GAAP.

• In many cases, a user of financial statements will lack the information necessary to make specific adjustments required to achieve comparability between companies that use IFRS and companies that use US GAAP. Instead, an analyst must maintain general caution in interpreting comparative financial measures produced under different accounting standards and monitor significant developments in financial reporting standards.

• Analysts can remain aware of ongoing developments in financial reporting by monitoring new products or types of transactions; actions of standard setters, regulators, and other groups; and company disclosures regarding critical accounting policies and estimates.