![]() The basics of accounting discussed in this chapter are the same under either set of guidelines. The SEC regulates the financial reporting of companies selling their shares in the United States, whether US GAAP or IFRS are used. Some companies that operate on a global scale may be able to report their financial statements using IFRS. The SEC not only enforces the accounting rules but also delegates the process of setting standards for US GAAP to the FASB. As a result, financial statement users are more informed when making decisions. By having proper accounting standards such as US GAAP or IFRS, information presented publicly is considered comparable and reliable. ![]() The SEC is an independent federal agency that is charged with protecting the interests of investors, regulating stock markets, and ensuring companies adhere to GAAP requirements. Publicly traded companies (those that offer their shares for sale on exchanges in the United States) have the reporting of their financial operations regulated by the Securities and Exchange Commission (S.E.C.). International accounting rules are called International Financial Reporting Standards (I.F.R.S.). If US accounting rules are followed, the accounting rules are called US GAAP. GAAP are the concepts, standards, and rules that guide the preparation and presentation of financial statements. The Financial Accounting Standards Board (F.A.S.B.) is an independent, nonprofit organization that sets the standards for financial accounting and reporting, including generally accepted accounting principles (G.A.A.P.), for both public- and private-sector businesses in the United States. This flexibility in applying GAAP is why financially intelligent managers need to understand the estimates, bias, and assumptions behind these judgment calls, and how they affect the financials.1.7 Accounting Principles, Concepts and Assumptions But GAAP doesn’t spell out everything it allows for plenty of discretion and judgment calls. It helps to ensure the statements’ validity and reliability, and allows for easy comparison between companies and across industries. GAAP defines the standard for creating financial reports in the United States. (Excerpts from Financial Intelligence, Chapter 8 – Costs and Expenses) So long as a company’s logic is reasonable, and so long as that logic is applied consistently, whatever it wants to do in this instance is OK. The key to proper application of GAAP, as accountants like to say, is reasonableness and consistency. Companies take those guidelines and apply a logic that makes sense for their particular situations. ![]() For example, what about the salary of the person who manages the plant where the product is manufactured? What about the wages of the plant supervisors? You’d think GAAP would say, “The plant manager is out,” or “The supervisor is in.” No such luck GAAP only provides guidelines. Conversely, the cost of supplies used by the accounting department and the salary of the human resources manager are definitely in SG&A, not in COGS or COS.īut then there’s the gray area-and it’s enormous. Some of these decisions are easy: for example the wages of the people on the manufacturing line or the cost of materials used to make the product should definitely go in COGS or COS. The accounting department has to make decisions about what to include in COGS or COS and what to put somewhere else. Another category of operating expense is selling, general, and administrative expenses (SG&A). It includes all the costs directly involved in producing a product or delivering a service. ![]() Cost of goods sold or cost of services (also known as COGS and COS) is one category of business expenses. For example, the same expense might be accounted for differently by two different companies, and both companies might still be in perfect compliance with GAAP. GAAP says that all operating expenses must be reflected on a company’s books however, it does not say how to categorize them specifically. One example of the way GAAP can be applied concerns how to account for operating expenses. When a company wants to change how they apply GAAP, they must publicly disclose the change. However, once they pick how they are going to apply GAAP, they must be consistent and use it on an on-going basis. GAAP runs for thousands of pages and spells out a lot of detailed rules. The Financial Accounting Standards Board (FASB) defines and amends GAAP. Securities and Exchange Commission (SEC) requires that GAAP be followed by all companies whose stock is publicly traded on the open market. GAAP stands for Generally Accepted Accounting Principles.
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