2. Quality Spectrum of Financial Reports
b. describe a spectrum for assessing financial reporting quality;
c. distinguish between conservative and aggressive accounting;
In the quality spectrum of financial reports, what does "GAAP, Decision-Useful, Sustainable, and Adequate Returns" mean?
- GAAP compliance.
- Useful: helpful in decision-making. Relevant, faithful representation and material.
- Sustainable earnings indicate an adequate level of return on investment.
In the quality spectrum of financial reports, what does "GAAP, Decision-Useful, but Sustainable?" mean?
- GAAP compliance and useful.
- But not sustainable earnings.
In the quality spectrum of financial reports, what does "Biased Accounting Choices" mean?
- Reports are within GAAP
- Biased choices such as aggressive/conservative accounting, income smoothing, hidden reserves, and earnings management.
In the quality spectrum of financial reports, what does "Departures from GAAP" mean?
It is difficult or impossible to assess earnings quality. Engaging in fraudulent financial reporting provides no quality of earnings.
What is Big Bath Accounting?
The strategy of manipulating a company's income statement to make poor results look even worse. The big bath is often implemented in a bad year to artificially enhance next year's earnings. The big rise in earnings might result in a larger bonus for executives.
What is Cookie Jar Reserve Accounting?
Companies shift earnings around by creating overly large reserve accounts in good years then drawing them down in bad years.