Intermediate Accounting Volume 1, 13th Canadian Edition by Donald E. Kieso Test bank

3.     Standard setting in a political environment. Since standard setting is part of the real world, accounting standards often arise from political action. The stakeholders who lobby the hardest may unduly influence new or revised accounting standards. This is not surprising since many accounting standards have economic consequences. Thus, standard setters such as the IASB must consider the needs of all stakeholders when creating or changing standards. The challenge is to find a balance between letting stakeholders have a say while not bowing to undue political pressure.
4.     Principles vs. rules. Rules-based, prescriptive systems (such as U.S. GAAP or the Canadian income tax system) have a significantly larger body of knowledge than a principles-based approach such as IFRS and ASPE. However, there is a tendency to interpret the rules literally with a rules-based approach, possibly because it may be easier to defend the accounting for a particular item. A disadvantage of the rules-based approach is that it may not always communicate the best information to the user. The principles-based approach is based on professional judgement, resulting in a carefully reasoned application of the principle to the business facts. Since the body of knowledge is smaller with a principles-based approach, the standard setters must ensure it rests on a cohesive set of principles and a conceptual framework, which is sufficiently flexible and detailed to provide good guidance.
Additional challenges include  the impact of technology and sustainability  reporting.
 
Difficulty: Easy
Learning Objective: Discuss some of the challenges and opportunities for accounting.
Section Reference: Challenges and Opportunities for the Accounting Profession
CPA: Communication
CPA: Financial Accounting
CPA: Management Accounting
CPA: Professional & Ethical Behaviour
Bloomcode: Comprehension
AACSB: Communication
 
 
P1-80 Shortcomings of rules-based approach
Discuss the shortcomings of the rules-based approach regarding GAAP.
 
Solution 1-80
In a rules-based approach there is a tendency for companies to interpret the rules literally and many companies take the view that, if there is no rule for a particular situation, the company is free to choose whatever treatment it thinks is appropriate (within reason). Similarly, many companies may also believe that as long as the entity  complies with a rule, even in a narrow sense, it is in accordance with GAAP. Consequently, the rules-based approach does not always emphasize the importance of communicating the best information to the  users. Just because a practice is defensible does not mean it provides the best information. This particular issue is a significant one for the United States as it continues to debate whether to adopt IFRS, which is principles-based rather than rules-based.
 
Difficulty: Easy
Learning Objective: Discuss some of the challenges and opportunities for accounting.
Section Reference: Challenges and Opportunities for the Accounting Profession
CPA: Financial Reporting
Bloomcode: Knowledge
AACSB: Analytic
 
 
P1-81 Sustainability Reporting
What is the goal of sustainability reporting? How has this changed the disclosure framework over the past several years, specifically related to governance? Provide examples of the types of information that would be included in these disclosures comparing to past practices.
 
Solution P1-81
CPA Canada defines value creation as “the process by which an organization creates the potential for: a) revenue and net income that can be realized in the future, and / or b) future benefits for the organization’s stakeholders.” Sustainability and working towards more positive societal goals are embraced in this definition and form the basis of sustainability reporting.
 
Institutional investors (and a broader group of stakeholders) are looking for more information on how a company deals with environmental, societal and governance (ESG) issues. These issues are closely related to a company’s ability to create economic value. As a result, disclosure models have evolved to include governance issues such as:

1. Quality of the board of directors (independence and accountability)
2. Oversight of executive performance and compensation
3. Oversight of a company’s strategy, risk management, performance and disclosure.

In the past, the discussion of value creation was limited to the profitability and the shareholder perspective only. It did not take into consideration these ESG factors and the impact these factors might have on either creating or destroying economic value. Even less familiar to many is the impact of environmental and social issues on value creation, specifically things like climate change, energy management, cybersecurity and data privacy, just to name a few.