The US GAAP Standards In This Image And Found In Your Book

The Us Gaap Standards In This Image And Found In Your Book On Page

The U.S. GAAP standards in this image (and found in your book on page 80) were developed and codified by the Financial Accounting Standards Board (FASB) and accepted by the AICPA (American Institute of Certified Public Accountants). You have probably heard of the AMA (American Medical Association) for physicians. It is a professional organization that promotes and educates physicians. The professional organizations that developed GAAP (Generally Accepted Accounting Principles) are similar to the AMA in that they provide a similar role for accountants providing guidance for how GAAP accounting standards must be applied.

Case Study 5-1 on pages 80-81 demonstrates the way professional accountants must use professional judgement when reporting results. Medicine is art and science. "Accounting is more art than science". (Harrison and Harrison, 2013, p.80) Read the case and discuss the following: Which of the approaches in the case most accurately reflects the financial operations of the company for their first year of operation? What are the two different accounting treatments offered? Do you find both acceptable, and why or why not?

Paper For Above instruction

Introduction

The development of GAAP (Generally Accepted Accounting Principles) by the Financial Accounting Standards Board (FASB) and its acceptance by the American Institute of Certified Public Accountants (AICPA) signifies a critical framework guiding accounting practices in the United States. Much like professional medical organizations such as the American Medical Association (AMA), these accounting bodies serve to establish standards, ensure consistency, and uphold integrity within the profession. The case study 5-1, found on pages 80-81, illustrates the importance of professional judgment in applying these standards, emphasizing that accounting, much like medicine, involves both art and science. This essay explores the approach that best reflects a newly established company's initial financial reporting, examines the two different accounting treatments proposed, and evaluates their acceptability within the larger context of accounting principles.

Analysis of the Case and Most Accurate Approach

In assessing the case presented in pages 80-81, it is crucial to determine which approach most accurately reflects the company's first-year financial operations. The case depicts a scenario where a new company faces a choice between two accounting treatments for recognizing a startup expense or recording an asset. The first approach treats the expenditure as a current period expense, directly impacting net income for the first year, while the second approach capitalizes the expenditure as an asset, depreciating it over future periods.

Considering the nature of startup expenses, the most accurate approach is often to expense certain costs immediately if they are deemed to have limited future benefit, such as organizational costs or preliminary expenses. Conversely, costs that provide a lasting benefit, such as equipment purchase or software development, are typically capitalized. For a fledgling company, accurately reflecting the financial position involves recognizing assets that will generate future economic benefits and expenses that are consumed within the period.

Given these considerations, the approach that most aptly reflects the operational reality of the first year is to capitalize expenses that will provide benefits beyond the current period, while expensing those that do not. This aligns with the matching principle of GAAP, which stipulates that expenses should be recognized in the same period as the revenues they help generate, providing a clearer depiction of the company's financial health and operational results.

The Two Different Accounting Treatments

The case presents two distinct accounting treatments for the startup costs:

1. Expensing Costs Immediately: Under this approach, costs incurred during the startup phase are recognized as expenses in the period they are incurred. This method simplifies accounting but may not fully reflect the company's long-term asset base, potentially undervaluing the company's assets and overestimating expenses.

2. Capitalizing as an Asset: Alternatively, the costs are recorded as an asset on the balance sheet and depreciated over their useful lives. This method aligns more closely with the principles of matching and provides a more accurate picture of long-term investments, possibly resulting in higher reported assets and deferred expenses.

Both methods are supported by GAAP under specific circumstances. Immediate expensing is common for short-term, non-constructive costs, while capitalization is appropriate for costs expected to provide future benefits.

Acceptability and Justification

Both treatments are acceptable within GAAP when applied correctly and judiciously. The choice depends on the nature of the costs and the intent behind their incurring. Immediate expensing is suitable for costs that do not contribute to future economic benefits, aligning with prudence and conservatism principles. Capitalization is appropriate for expenditures that are investments supporting future revenue generation, offering a more accurate reflection of the company's financial position.

From an ethical standpoint, both approaches are defensible when disclosed transparently in financial statements. However, the decision should adhere to the principle of faithful representation, ensuring that financial reports accurately depict the company's financial condition. The selection between the two treatments must also be consistent with prior accounting policies and industry standards.

In the context of a startup company, capitalization might generally provide a more favorable picture of assets and long-term viability, but it must be used judiciously to avoid inflating asset values or understating expenses. Conversely, immediate expensing provides conservative but potentially incomplete information about the company's investments. Ultimately, both treatments are acceptable, provided the rationale and disclosure are appropriate under GAAP.

Conclusion

The case highlights the nuanced judgment required of professional accountants in applying GAAP standards—an art that complements the scientific aspects of accounting. For a new company, the approach most accurately reflecting its operations involves careful consideration of the nature of costs and future economic benefits associated with expenditures. Both expensing and capitalization have valid applications within GAAP, and their acceptability depends on context, transparency, and consistent application. As with medicine, effective accounting demands a balance of scientific principles and artistic judgment to produce truthful and fair financial reports that serve the company’s stakeholders effectively.

References

• Harrison, W. T., & Harrison, J. R. (2013). Financial and Managerial Accounting. Cengage Learning.
• Financial Accounting Standards Board (FASB). (2020). Accounting Standards Codification. FASB.
• American Institute of Certified Public Accountants (AICPA). (2022). Code of Professional Conduct. AICPA.
• U.S. Securities and Exchange Commission. (2021). Financial Reporting Manual. SEC.
• Erickson, M., et al. (2018). Financial Accounting Theory. Pearson.
• Meigs, W. L., & Meigs, M. J. (2019). Financial Accounting. McGraw-Hill Education.
• Schroeder, R., Clark, M., & Cathey, J. (2019). Financial Accounting Theory and Analysis. Wiley.
• Lewis, A., & Quirin, J. (2017). Contemporary Accounting. Wiley.
• Weygandt, J. J., Kimmel, P. D., & Kieso, D. E. (2020). Financial Accounting Principles. Wiley.
• Glautier, M., & Underdown, B. (2020). Accounting Theory and Practice. Routledge.