Download Chapter 24 Glossary

Glossary—Chapter 24
accounting policies The specific accounting principles and methods a company currently uses and
considers most appropriate to present fairly its financial statements. (p. 1316).
adverse opinion An auditor’s report in which the exceptions to fair presentation are so material that in the
independent auditor’s judgment, the financial statements taken as a whole are not in accordance with
GAAP. Adverse opinions are rare; the SEC will not permit a company listed on an exchange to have an
adverse opinion. (p. 1338).
auditor An accounting professional who conducts an independent examination of a company’s accounting
data. (p. 1335).
auditor’s report The results of an independent examination of a company’s accounting data, including
whether the financial statements are in accordance with GAAP. (p. 1335).
common costs Those incurred for the benefit of more than one segment and whose interrelated nature
prevents a completely objective division of costs among segments. (p. 1328).
differential disclosure The FASB, in recognizing that certain disclosure requirements are costly and
unnecessary for certain companies, has eliminated reporting requirements for nonpublic enterprises in such
areas as fair values of financial instruments and segment reporting. (p. 1315).
disclaimer of an opinion Appropriate when the auditor has gathered so little information on the financial
statements that no opinion can be expressed. (p. 1338).
discrete approach The belief that companies should treat each interim period as a separate accounting
period. (p. 1330).
errors Unintentional accounting mistakes. (p. 1332).
financial forecast A set of prospective financial statements that present to the best of the responsible
party’s knowledge and belief, a company’s expected financial position, results of operations, and cash
flows. (p. 1341).
financial projection Prospective financial statements that present to the best of the responsible party’s
knowledge and belief, given one or more hypothetical assumptions, an entity’s expected financial position,
result of operations, and cash flows. (p. 1341).
fraud Intentional distortions of financial statements. (p. 1322).
fraudulent financial reporting Defined as “intentional or reckless conduct, whether act or omission, that
results in materially misleading financial statements.” (p. 1344).
full disclosure principle Accounting principle that dictates that in deciding what information to report,
companies follow the general practice of providing information that is of sufficient importance to influence
the judgment and decisions of an informed user. It recognizes that the nature and amount of information
included in financial reports reflects a series of judgmental tradeoffs between sufficient detail that makes a
difference to users, sufficient condensation to make the information understandable, and the costs and
benefits of providing the information. (p. 1314).
illegal acts Violations of laws and regulations, such as illegal political contributions, bribes, and kickbacks.
If a company derives revenue from an illegal act that is considered material in relation to the financial
statements, this information should be disclosed. (p. 1322).
integral approach The belief that the interim report is an integral part of the annual report and that
deferrals and accruals should take into consideration what will happen for the entire year. (p. 1330).
interim reports Financial reports that cover periods of less than one year, such as a quarterly reports on
Form 10-Q. (p. 1330).
management approach How a company can meet the segmented reporting objective, by providing
financial statements segmented based on how the company’s operations are managed. (p. 1326).
management’s discussion and analysis (MD&A) Mandated by the SEC, this section of the annual report
covers three financial aspects of an enterprise’s business: liquidity, capital resources, and results of
operations. In it, management highlights favorable or unfavorable trends and identifies significant events
and uncertainties that affect these three factors. (p. 1338).
nonrecognized subsequent event An event that provides evidence about conditions that did not exist at the
balance sheet date but arose subsequent to that date; adjustment of the financial statements is not necessary.
(p. 1323).
notes to financial statements A set of disclosures in a company’s financial statements that further explain
the items presented in the main body of the statements. The additional information provided in the notes
does not have to be quantifiable, nor does it need to qualify as an accounting element. Notes to the financial
statements are considered an integral part of the statements. (p. 1319).
operating segment A component of an enterprise (1) that engages in business activities from which it
earns revenues and incurs expenses, (2) whose operating results are regularly reviewed by the company’s
chief operating decision maker to assess segment performance and to allocate resources to the segment; and
(3) for which discrete financial information is available that is generated by or based on the internal
financial reporting system. (p. 1326).
post-balance-sheet events Significant financial events that took place after the formal balance sheet date
but before final issuance and that may materially affect the company’s financial position. Also referred to
as subsequent events. Some post–balance-sheet events require adjustments to the accounts. Notes to the
financial statements should explain post–balance-sheet events. (p. 1323).
qualified opinion An auditor’s report that contains an exception to the standard opinion, but usually not of
sufficient magnitude to invalidate the statements as a whole. (p. 1337).
recognized subsequent event An event that provides additional evidence about conditions that existed at
the balance sheet date, including the estimates inherent in the process of preparing financial statements.
Recognized subsequent events require adjustments to the financial statements. (p. 1323).
related-party transactions When a company engages in transactions in which one of the parties has the
ability to significantly influence the policies of the other. Related-party transactions may also occur when a
nontransacting party has the ability to influence the policies of the two transacting parties. (p. 1321).
Glossary, Chapter 24 (cont’d.)
safe harbor rule The SEC-provided protection to a company that presents an erroneous forecast, as long as
that company prepared the forecast on a reasonable basis and disclosed it in good faith. (p. 1342).
seasonality When most of a company’s sales occur in one short period of the year, while certain costs are
spread more equally throughout the year, for example, the natural gas industry. (p. 1333).
subsequent events Significant financial events that took place after the formal balance sheet date but
before issuance and that may materially affect the company’s financial position. Also referred to as post–
balance-sheet events. Some subsequent events require adjustments to the accounts. Notes to the financial
statements should explain subsequent events. (p. 1323).
unqualified or clean opinion The auditor’s opinion that that the financial statement present fairly, in all
material respects, the financial position, results of operations, and cash flows of the entity in conformity
with GAAP. (p. 1337).
XBRL Extensible business reporting language, a computer language adapted from the code of the Internet
that “tags” accounting data to correspond to financial reporting items that are reported in the balance sheet,
income statement, and cash flow statement. (p. 1343).
Appendix 24A:
acid-test ratio Liquidity ratio that measures the ability of a company to meet its maturing obligations with
its available assets and to meet unexpected needs for cash. Computed as cash plus short-term investments
plus net receivables divided by current liabilities. A variation of the current ratio, the acid-test ratio
eliminates inventories and prepaid expenses from the amount of current assets, to provide better
information for short-term creditors. (p. 1351).
activity ratios Measures of how effectively a company is using its assets. Common activity ratios are:
receivables turnover, inventory turnover, and asset turnover. (p. 1350).
asset turnover Activity ratio that measures how efficiently a company uses its assets to generate sales.
Computed as net sales divided by average total assets for the period. The resulting number is the dollars of
sales produced by each dollar invested in assets. (p. 1351).
book value per share The amount each share of stock would receive if a company were liquidated, based
on the amounts reported on the balance sheet. Computed as common stockholders’ equity divided by the
number of outstanding shares of stock. If the valuations on the balance sheet do not approximate the market
value of the shares, the book value per share figure loses its relevance. (p. 1351).
cash debt coverage ratio Measure of solvency that indicates a company’s ability to repay its liabilities
from cash generated from operations (without having to liquidate productive assets). Computed as the ratio
of cash provided by operating activities to total debt, as represented by average total liabilities. (p. 1351).
common-size analysis Also called vertical analysis, the proportional expression of each financial statement
item in a given period to a base figure, with the result that all of the elements within each statement are
expressed in percentages of some common number and always add up to 100 percent. (p. 1354).
comparative analysis The use of the same information for two ore more different dates or periods, so that
like items may be compared. (p. 1353).
coverage ratios Measures of the degree of protection for long-term creditors and investors. Common
coverage ratios are: debt to total assets, times interest earned, the cash debt coverage ratio, and book value
per share. (p. 1350).
current cash debt coverage ratio Measure of liquidity that indicates a company’s ability to pay its shortterm debts. Computed as cash provided by operating activities divided by average current liabilities. (p.
1351).
current ratio Liquidity ratio that measures the ability of a company to meet its maturing obligations with
its available assets and to meet unexpected needs for cash. Computed as total current assets divided by total
current liabilities. (p. 1351).
debt to total assets ratio Coverage ratio that measures the percentage of the total assets provided by
creditors. Computed as total debt divided by total assets. The higher the percentage of debt to total assets,
the greater the risk that the company may be unable to meet its maturing obligations. (p. 1351).
earnings per share (EPS) A distilled and important income figure, calculated as net income minus
preferred dividends (income available to common stockholders), divided by the weighted average of
common shares outstanding. Companies must disclose earnings per share on the face of the income
statement. (p. 1351).
horizontal analysis The proportionate change over a period of time. (p. 1354).
inventory turnover The number of times on average a company sells its inventory during the period.
Computed as the cost of goods sold divided by the average inventory on hand during the period. Analysts
compute average inventory from beginning and ending inventory balances. (p. 1351).
liquidity ratios Measures of a company’s short-run ability to pay its maturing obligations. Common
liquidity ratios are: the current ratio, the quick or acid-test ratio, and the current cash debt coverage ratio.
(p. 1350).
payout ratio Profitability ratio that measures the percentage of earnings a company distributes to common
stockholders in the form of cash dividends. Computed as cash dividends paid to common stockholders
divided by net income available to common stockholders (net income minus preferred dividends). (p.
1351).
percentage analysis Reducing a series of related amounts to a series of percentages of a given base, e.g.,
expressing all items in an income statement as a percentage of sales. (p. 1354).
profit margin on sales ratio Profitability ratio that measures the company’s use of its assets to produce net
income. Also called rate of return on sales. Computed as net income divided by net sales. This measure
indicates the percentage of each dollar of sales that results in net income. By relating the profit margin on
sales to the asset turnover for the period, we can find out how profitably the company used assets during
that period of time. (p. 1351).
Glossary, Chapter 24 (cont’d.)
profitability ratios Measures of the degree of success or failure of a given company or division for a given
period of time. Common profitability ratios are: profit margin on sales, rate of return on assets, rate of
return on common stock equity, earnings per share, the price-earnings ratio, and the payout ratio. (p. 1350).
quick ratio Liquidity ratio that measures the ability of a company to meet its maturing obligations with its
available assets and to meet unexpected needs for cash. Computed as cash plus short-term investments plus
net receivables divided by current liabilities. A variation of the current ratio, the quick ratio (also referred to
as the acid-test ratio) eliminates inventories and prepaid expenses from the amount of current assets, to
provide better information for short-term creditors. (p. 1351).
rate of return on assets (ROA) The rate of return a company achieves through use of its assets. Computed
as net income divided by average total assets. ROA indicates the amount of net income generated by each
dollar invested in assets. By relating the profit margin on sales to the asset turnover for the period, analysts
can find out how profitably the company used assets during that period of time. (p. 1351).
rate of return on common stock equity Profitability ratio that indicates how many dollars of net income
the company earned for each dollar invested by the common stockholders. Also called return on equity
(ROE). Computed as net income less preferred dividends divided by average common stockholders’ equity.
(p. 1351).
receivables turnover An activity ratio that measures the number of times, on average, a company collects
receivables during a period. Computed by dividing net sales by average (net) accounts receivable
outstanding during the year. Barring significant seasonal factors, average receivables outstanding can be
computed from the beginning and ending balances of net trade receivables. (p. 1351).
times interest earned Solvency ratio that indicates the company’s ability to meet interest payments as they
come due. Computed as income before income taxes and interest expense divided by interest expense. (p.
1351).
vertical analysis The proportional expression of each financial statement item in a given period to a base
figure. (p. 1354).
Appendix 24B:
converge, convergence Elimination of the differences between international and U.S. accounting
standards. (p. 1356).
iGAAP All the accounting rules issued by the International Accounting Standards Board and its
predecessor organizations and accepted for international use (p. 1358).
IASC Predecessor international standard-setting organization to the International Accounting Standards
Board. The IASC was restructured to provide an independent, objective international standard-setter – the
IASB. (p. 1358).
International Accounting Standards Board (IASB) The organization, based in London, that sets
accounting standards accepted for international use. Those international standards, many of which are
similar to U.S. GAAP, are known as iGAAP. Currently, the FASB and the IASB are working on a
convergence project to result in one set of high-quality standards. (p. 1358).
International Financial Reporting Standards (IFRS) The accounting rules accepted for international
use, issued by the International Accounting Statements Board (p. 1358).