VERSION 8 FALL 2010 FALL 2010 RSM 320H1 F Intermediate Financial Accounting II formerly MG

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VERSION 8 FALL 2010 FALL 2010 RSM 320H1 F Intermediate Financial Accounting II formerly MG Powered By Docstoc
					VERSION 8 FALL 2010




                                               FALL 2010

                                               RSM 320H1 F

Intermediate Financial Accounting II (formerly MGT322H1)

This course covers broader areas in financial reporting, drawing upon regulatory documents and corporate
communications. Topics include corporate reporting quality, employee future benefits, employee
compensation disclosure and analysis, income tax accounting, narrative reporting. Emphasis is on the
context of financial reporting including an organization‘s ‗tone at the top‘ and the adoption of international
standards.

Exclusion: MGT322H1
Prerequisite: MGT224H1/RSM221H1


RSM 320 Fall 2010 Classes Schedule

                               Monday                  Tuesday            Wednesday           Assignments
            Class     L0201       L5101                L0301              L0401
                      WO25        WO25                 WW119              WO25
                      4pm-6pm     6pm-8pm              12noon-2pm         12noon-2pm
            1         Sept 13     Sept 13              Sept 14            Sept 15
            2         Sept 20     Sept 20              Sept 21            Sept 22
            3         Sept 27     Sept 27              Sept 28            Sept 29
            4         Oct 4       Oct 4                Oct 5              Oct 6               Assignment #1
            5         Oct 18      Oct 18               Oct 12             Oct 13
            6         Oct 25      Oct 25               Oct 19             Oct 20
            7         Nov 1       Nov 1                Oct 26             Oct 27
            8         Nov 15      Nov 15               Nov 2              Nov 3               Assignment #2
            9         Nov 22      Nov 22               Nov 16             Nov 10
            10        Nov 29      Nov 29               Nov 23             Nov 17
            11        Dec 6       Dec 6                Nov 30             Nov 24
            12        Wed Dec 8   Wed Dec 8            Dec 7              Dec 1               Assignment #3
                      Location    Location
                      TBA         TBA
NOTE:
     Monday, Oct. 11 is Thanksgiving Holiday, no classes
     Monday, Nov. 8 and Tuesday, Nov. 9 are study break days, no classes

Instructor: Joel Amernic, #438 Rotman; amernic@rotman.utoronto.ca; telephone: 416-978-3796

I. THE COURSE: (website accessed via www.rotman.utoronto.ca/~amernic ):

I (a) Change and Reform in Accounting Education



                                                      1
VERSION 8 FALL 2010


Current initiatives in accounting education represent serious attempts to deal with important issues in
accounting and management, with a goal to assist students in becoming independent, self-reliant, socially-
aware and active members of professional communities, and thus responsible citizens in an increasingly-
complex society.

To achieve this goal, accounting education, both at the university level and at the professional level, is
increasingly based upon a "competency-based approach...[which] specifies expectations in terms of
outcomes, or what an individual can accomplish..." according to accounting professors J. Efrim Boritz and
Carla A. Carnaghan ("Competency-Based Education and Assessment for the Accounting Profession: A
Critical Review", Canadian Accounting Perspectives, 2(1), 2003, pp. 7-42. The quote is from p. 7).

The Canadian Institute of Chartered Accountants describes the concept of "competencies" in the following
way on its website, last visited August 12, 2010 (http://www.cica.ca/become-a-ca/ca-skills-and-
competencies/index.aspx ):

        CA Skills and Competencies

        The CA qualification process is designed to make sure you have the opportunity to develop all the
        skills and abilities you will need to begin your career as a CA. The process is based on
        professional competency that includes a significant body of knowledge and the skills, values and
        attitudes needed to analyze, synthesize and apply that knowledge effectively.

        You will have many opportunities to develop these competencies – during your university
        education, your subsequent professional education, your Provincial Institute/Ordre's professional
        education program, and while on the job as you fulfill your experience requirements.

        The UFE Candidates' Competency Map - Understanding the Professional Competencies Evaluated
        on the UFE – 2009 – effective for the 2010 UFE lays out the specific body of skills and
        knowledge you must acquire.

        The CA Competencies

        CA competencies are the specific skills you must perform at a defined proficiency level and in a
        manner that reflects the professional ethics, skills, knowledge and attitudes of a CA. The UFE
        Candidates' Competency Map - Understanding the Professional Competencies Evaluated on the
        UFE – 2009 – effective for the 2010 UFE presents two groups of competencies:

        1. Pervasive qualities and skills which include:
       Ethical behaviour and professionalism,
       Personal attributes such as accountability, adaptability to change and the ability to self manage,
        take initiative and add value; and
       Professional skills such as communication, problem solving and management.

        These are the "Hows" of being a CA and all CAs are expected to bring them to all their work.

        2. The specific competencies - in six categories:
       Governance, Strategy, and Risk Management
       Performance Measurement and Reporting
       Assurance
       Finance
       Management Decision Making; and
       Taxation



                                                     2
VERSION 8 FALL 2010

         The UFE Candidates' Competency Map - Understanding the Professional Competencies Evaluated
         on the UFE – 2009 – effective for the 2010 UFE also clearly defines the level of proficiency in
         each of these competencies that you must acquire and demonstrate on the UFE.

The president of Yale University recently added a historical perspective on the
importance of becoming an independent thinker:

         In today's knowledge economy, no less than in the nineteenth century, when the
         philosophy of liberal education was articulated by Cardinal John Henry Newman, it is not
         subject-specific knowledge but the ability to assimilate new information and solve
         problems that is the most important characteristic of a well-educated person. The Yale
         Report of 1828--an influential document written by Jeremiah Day (who was at the time
         president of Yale), one of his trustees, and a committee of faculty--distinguished between
         "the discipline" and "the furniture" of the mind. Mastering a specific body of knowledge--
         acquiring "the furniture"--is of little permanent value in a rapidly changing world.
         Students who aspire to be leaders in business, medicine, law, government, or academia
         need "the discipline" of mind--the ability to adapt to constantly changing circumstances,
         confront new facts, and find creative ways to solve problems.

         Cultivating such habits requires students to be more than passive recipients of
         information; they must learn to think for themselves and to structure an argument and
         defend or modify it in the face of new information or valid criticism. (Levin, R.C. (2010).
         'Top of the class: The rise of Asia's universities.' Foreign Affairs, 89(3): 63-75; the quotes
         are from page 71).

In RSM 320, we adopt a performance assessment and grading approach consistent with the idea of you
demonstrating that you are able to develop well-considered and well-argued responses to situations, in
other words, a competency-based approach. Marks are assigned based upon the quality of your work on a
question or assignment as a whole—that is, how you have interpreted questions that require interpretation,
how you have designed your approach, the maturity of your analyses, etc. Of course, this also presumes
that your knowledge of technical issues can support your interpretations and analyses. And this means that
you should resist memory dumping and resist applying answer templates without critical consideration. In
RSM 320, as in other Accounting courses, the main interest is in assisting in your cognitive and critical
development.

I (b) Canadian Adoption of International Financial Reporting Standards

Financial reporting is changing quickly. For example, Canada is on the verge of adopting International
Financial Reporting Standards. But some current evidence suggests that preparation for the changeover is
far from complete, even at this late date (August, 2010). For example, in the August, 2010, issue of CA
Magazine, published by the CICA, author John Lorinc writes:

"Stakeholders and IFRS
With IFRS, financial results should be more transparent to analysts,investors and regulators. But have
Canadian companies done their part to help external stakeholders make sense of IFRS?
By John Lorinc
In November 2009, Waterloo, Ont.‘s DALSA Corp., a digital imaging and semiconductor firm with 2009
revenue of $162.5 million, invited financial analysts to an investor presentation with CFO Wajid Ali. One
discussion topic was the new international financial reporting standards (IFRS) and the anticipated impact
on the firm‘s numbers.

At varying speeds, all Canadian publicly traded companies have been moving through the transition from
Canadian GAAP to IFRS over the past two-and-a-half years in anticipation of the January 1, 2011 launch.
The process has involved the creation of new accounting and IT systems, bulked-up financial teams,



                                                       3
VERSION 8 FALL 2010

enhanced disclosure and employee training.

At DALSA, at the time pushing to recover from a tough recessionary year, Ali‘s group and an outside
consultant had scrutinized the new standards to determine their impact on cash flow, depreciation,
amortization and even management compensation plans.

But that day spent with analysts proved to be an eye-opener. ―They didn‘t have a lot of knowledge about
IFRS,‖ Ali says. ―Their big concern was what would be the impact on operating earnings. I think what‘s
more valid is looking at its impact on cash flow.‖

In its annual financial statements, DALSA had published a six-page qualitative summary of each of the 12
items that would be affected, and the company‘s executives used a day-long session last summer to explain
the relevant details and stress which were the important metrics. A few months later at the end of their
November meeting, they made an in-company pledge to reconvene in the fourth quarter of this year, at
which point Ali will provide the analysts with a guided tour of the expected impact on the opening balance
sheet and the elections DALSA has taken.
                                                      …
As corporate Canada headed into the final pretransition year, however, such stories of proactive outreach
appear to be the exception and not the rule. Many companies, still scrambling to deal with the fallout of the
2008 credit crisis and last year‘s recession, have been slow to launch their internal IFRS conversion
systems and slower still when it comes to explaining what they‘re doing.

At the same time, the consumers and disseminators of financial information — shareholder groups, investor
relations managers, financial analysts and business journalists — haven‘t exactly been clamouring for
information about the shift to a global standard that promises greater transparency and broader coverage of
publicly traded shares.
                                                       …
…"

I (c) Financial Reporting Includes Much More Than Financial Statements

Financial reporting involves much more than the audited annual and unaudited interim financial statements.
The CEO letter to shareholders, the MD&A, the new Compensation Discussion and Analysis (CD&A), and
other regulatory filings such as proxy statements, and sustainability reports and press releases, etc, are all
important components of financial reporting. Even corporate blogs may be considered as part of financial
reporting, at least in an extended sense, as the following article abstract suggests:




Extension of notions of accountability, the needs of diverse and at times competing stakeholders, the
pervasive impact of technology (especially the Internet), and developing ways of accounting for new types


                                                      4
VERSION 8 FALL 2010

of assets, liabilities, and equities, all combine to make it crucial that financial professionals understand the
process and outputs of financial reporting and accounting.

II. COURSE MATERIALS:

  Kieso, Weygandt, Warfield, Young and Wiecek, Volume Two of Intermediate Accounting, Ninth
   Canadian Edition, Wiley, 2010 (abbreviated as "Kieso Ninth" in this course outline)
  Access to International Financial Reporting Standards (IFRS):
   http://edu.knotia.ca.myaccess.library.utoronto.ca/Home.aspx [click on "International Financial
Reporting Standards (2009)"]
  "CD 2 Advanced Financial Accounting Topics, Filling the GAAP to IFRS", available from: (free from
   the CICA):
   http://www.cica.ca/ifrs/ifrs-transition-resources/docs-&-files/item3019.pdf (free from the CICA)
  Access to CICA Handbook. The most current version available online, via the CA's                Virtual
   Professional Library, or on CD-ROM in the Rotman BIC.
  Material downloaded from the course website
   (accessed via http://www.rotman.utoronto.ca/~amernic ).
  Material from other websites,
  Journal articles available electronically via the University of Toronto website.

Canadian public companies have annual reports, financial statements, and other important documents on
file with the System for Electronic Document Analysis and Retrieval, or SEDAR, located on the Internet at
http://www.sedar.com . American public companies, including Canadian companies that are listed in the
U.S., file documents with the U.S. Securities and Exchange Commission‘s (SEC) EDGAR system, online
at http://www.sec.gov. And of course virtually all public companies have considerable financial
information available at their own websites

III. GRADING:

Component
Assignment #1 (due start of class, Class 4): See course website for details.                             15%
Assignment #2 (due start of class, Class 8): See course website for details.                             15%
Assignment #3 (due start of class, Class 12): See course website for details.                            20%
Final Exam [3 hours]                                                                                     50%
                                                                                                        100%
NOTE: Assignments in 12-point Times New Roman font, double-spaced.

Late assignment
A letter signed by an Ontario M.D., or other appropriate person, is normally required in order to provide
evidence of illness or other serious situations. Please consult with your instructor. Marks are usually
allocated to the final examination.

Self-study
Self-study problems and other materials will be assigned during the course.

Accessibility Needs
The University of Toronto is committed to accessibility. If you require accommodations for a disability, or
have any accessibility concerns about the course, the classroom or course materials, please contact
Accessibility    Services      as      soon   as      possible:      disability.services@utoronto.ca     or
http://www.accessibility.utoronto.ca/.
.
Academic Integrity
Academic Integrity is a fundamental value essential to the pursuit of learning and scholarships at the
University of Toronto. Participating honestly, respectively, responsibly, and fairly in this academic
community ensures that the UofT degree that you earn will continue to be valued and respected as a true



                                                       5
VERSION 8 FALL 2010

signifier of a student's individual work and academic achievement. As a result, the University treats cases
of academic misconduct very seriously.

The University of Toronto’s Code of Behaviour on Academic Matters
http://www.governingcouncil.utoronto.ca/policies/behaveac.htm outlines the behaviours that constitute
academic misconduct, the process for addressing academic offences, and the penalties that may be
imposed. You are expected to be familiar with the contents of this document. Potential offences include,
but are not limited to:

In papers and assignments:
     Using someone else's ideas or words without appropriate acknowledgement.
     Submitting your own work in more than one course without the permission of the instructor.
     Making up sources or facts.
     Obtaining or providing unauthorized assistance on any assignment (this includes collaborating
         with others on assignments that are supposed to be completed individually).

On test and exams:
     Using or possessing any unauthorized aid, including a cell phone.
     Looking at someone else's answers
     Misrepresenting your identity.
     Submitting an altered test for re-grading.

Misrepresentation:
     Falsifying institutional documents or grades.
     Falsifying or altering any documentation required by the University, including (but not limited to),
        medical notes.

All suspected cases of academic dishonesty will be investigated by the following procedures outlined in the
Code of Behaviour on Academic Matters. If you have any question about what is or not is permitted in the
course, please do not hesitate to contact the course instructor. If you have any questions about appropriate
research and citation methods, you are expected to seek out additional information from the instructor or
other UofT resources such as College Writing Centres or the Academic Success Centre.



COURSE TOPICS AND READINGS [subject to change]:

PART 1 OF THE COURSE:
QUALITY OF CORPORATE REPORTING, THE 'TONE AT THE TOP', AND THE CANADIAN
CONVERSION TO INTERNATIONAL FINANCIAL REPORTING STANDARDS (IFRS)
CLASS 1 CLASS 1:
          TOPIC:
          COURSE INTRODUCTION; THE DEMAND AND SUPPLY OF QUALITY
          FINANCIAL REPORTING INFORMATION

                                   Monday                 Tuesday              Wednesday
             Class     L0201          L5101               L0301                L0401
                       WO25           WO25                WW119                WO25
                       4pm-6pm        6pm-8pm             12noon-2pm           12noon-2pm
             1         Sept 13        Sept 13             Sept 14              Sept 15

            Agenda: [SEE COURSE WEBSITE FOR CLASS 1: ADDITIONAL NOTES FOR
            CLASS 1 RSM 320 FALL 2010.doc]
            1. Overview of course [course outline HANDOUT]
            2. This course covers broader areas in financial reporting, drawing upon regulatory


                                                     6
VERSION 8 FALL 2010

          documents and corporate communications. Topics include corporate reporting quality,
          employee future benefits, employee compensation disclosure and analysis, income tax
          accounting, narrative reporting. Emphasis is on the context of financial reporting
          including an organization‘s ‗tone at the top‘ and the adoption of international standards.
          HOW WOULD YOU DEFINE "FINANCIAL REPORTING"?
          3. How would you define "quality" with respect to "earnings" and/or "financial reporting"?
          [See APPENDIX 1 of this course outline].
          4. Examine the preliminary suggestions for determining the quality of financial reporting in
          APPENDIX 2 of this course outline.
          5. (a) What, in your supported opinion, causes the demand for good quality financial
          reporting information? (b) Are valuation and contracting uses of financial reporting
          information important factors in understanding the demand for quality financial reporting?
          6. (a) What does the phrase "efficient market" mean? (b) What are the implications of an
          efficient market for financial reporting?
          7. What does the term "tone at the top" mean in connection with financial reporting?
          8. What is "corporate governance", and how is it important in financial reporting?
          9. A CICA Annual Report award winner, Potash Corporation of Saskatchewan
          (PotashCorp), will be used at various points in the course. Today we will briefly examine
          the company's audited financial statements for the year ended December 31, 2009
          [HANDOUT]
          10. BP, the major energy petroleum company that has been in the news almost daily since
          April 20, 2010, will also be used at various points in the course [see Agenda item 4 for
          CLASS 2, below].
          11. NEXT CLASS
CLASS 2   CLASS 2:
          TOPIC:
          THE CANADIAN TRANSITION TO IFRS; NON-FINANCIAL LIABILITIES

                                 Monday                   Tuesday              Wednesday
           Class     L0201          L5101                 L0301                L0401
                     WO25           WO25                  WW119                WO25
                     4pm-6pm        6pm-8pm               12noon-2pm           12noon-2pm
           2         Sept 20        Sept 20               Sept 21              Sept 22

          Read:
          1. Visit: www.ifrs.org to learn about the International Accounting Standards Board and
          its governance and due process.
          2. Some arguments against IFRS adoption in the U.S.:
          http://profalbrecht.wordpress.com/ [just skim over one or two of these]
          3. John Lorinc, "Stakeholders and IFRS", CA Magazine, August, 2010, pp. 26-29; online
          at: http://www.camagazine.com/archives/print-
          edition/2010/Aug/features/camagazine39938.aspx
          4. "Kieso Ninth", read the following pages from Chapter 13, "Non-Financial and Current
          Liabilities": pages 832-835; 851-867; 873-875.

          Agenda:
          1. Will adoption of IFRS in Canada improve the quality of financial reporting? Explain.
          2. Identify, with support, costs and benefits of adopting IFRS in Canada, both in terms
          of the policy of switching to IFRS and the method of switching.
          3. CLASS DISCUSSION: Comparison of IFRS and Canadian GAAP Financial
          Statements: "HOMBURG INVEST INC: REPORTED EARNINGS UNDER
          CANADIAN GAAP VERSUS IFRS" [see APPENDIX 3 of this course outline]
          4. CLASS DISCUSSION: "WHEN IS A LIABILITY? TONE AT THE TOP AND
          CORPORATE CULTURE: SHOULD BP HAVE ACCRUED A SAFETY-RELATED
          LIABILITY UNDER IFRS BEFORE THE GULF OF MEXICO OIL SPILL?" [see
          APPENDIX 4 of this course outline]


                                                    7
VERSION 8 FALL 2010

           5. Which set of accounting numbers, including earnings, is of higher quality, IFRS or
           Canadian GAAP? Why?
           6. BRIEF DISCUSSION: "Stakeholders and IFRS", by John Lorinc, CA Magazine, August
           2010, pp. 26-29. [focuses on the question: "…have Canadian companies done their part to
           help external stakeholders make sense of IFRS?" Has PotashCorp done a good job in
           helping its stakeholders understand the conversion?]

           Background reference:
           1. "The CICA's Guide to IFRS in Canada", 2009 Edition [available online at CICA's
           website: http://www.cica.ca/ifrs/ifrs-transition-resources/docs-&-files/item2417.pdf]

          Class 2 Self-Study:
          1. Go to the website of Canadian Pacific Railway. Does this company plan to adopt
          IFRS? Explain. [see:
          http://www8.cpr.ca/cms/English/Investors/Events/Investors/2010/US+GAAP.htm ]
          2. The CICA published "The IFRS Changeover: A Guide for Users of Financial
          Reports" on July 20, 2010. The document is available at no cost at:
          http://www.cica.ca/news/media-centre/media-releases-and-
          backgrounders/2010/item40570.aspx . In your opinion, does the document assist in the
          changeover from Canadian GAAP to IFRS?
          3. "Kieso Ninth": IC13-1, pages 901-902; RA13-1 Eastern Platinum Limited", page 903.
PART 2 OF THE COURSE:
CRITICAL EXAMINATION OF SELECTED AREAS IN CORPORATE FINANCIAL
REPORTING AND ACCOUNTABILITY- A QUALITY PERSPECTIVE
CLASS 3 CLASS 3:
          TOPIC:
          REPORTING CORPORATE INCOME TAX INFORMATION 1

                                  Monday                 Tuesday              Wednesday
             Class    L0201          L5101               L0301                L0401
                      WO25           WO25                WW119                WO25
                      4pm-6pm        6pm-8pm             12noon-2pm           12noon-2pm
             3        Sept 27        Sept 27             Sept 28              Sept 29

           Read:
           1. "Kieso Ninth", chapter 18, pages 1144-1167
           Discussion:
           1. "Tellier Company" [Handout]
           2. "Kieso Ninth", P18-2, P18-8
           Class 3 Self-Study:
           1. "A Comprehensive Interperiod Tax Allocation Problem" [posted on course website]
           2. "Kieso Ninth", Brief Exercises BE18-1 to BE18-11; Exercises E18-1 to E18-5, E18-
           7, E18-10

CLASS 4    [Assignment #1 due]

           CLASS 4:
           TOPIC:
           REPORTING CORPORATE INCOME TAX INFORMATION 2

                                  Monday                 Tuesday              Wednesday
             Class    L0201          L5101               L0301                L0401
                      WO25           WO25                WW119                WO25
                      4pm-6pm        6pm-8pm             12noon-2pm           12noon-2pm
             4        Oct 4          Oct 4               Oct 5                Oct 6



                                                   8
VERSION 8 FALL 2010


          Read:
          1 "Kieso Ninth", chapter 18, "Income Taxes", pages 1167-1199.
          2.. Selected pages from: IAS 12, "Income Taxes"
          Prepare for Discussion:
          1. PotashCorp's income tax reporting 2009
          2. "Kieso Ninth", selected items
          3. Enron's 2000 audited income tax note [Handout]
          Class 4 Self-Study:
          1. "Kieso Ninth", Brief Exercises BE18-12 to BE18-21; Exercises E18-18E18-20;
          Problems P18-3, P18-6, P18-7, P18-14
          2. "THE IASB AND CHANGES TO IAS 12, 'INCOME TAXES': A LONG AND
          WINDING ROAD?" [available on course website in CLASS 4]
CLASS 5   CLASS 5:
          TOPIC:
          REPORTING EMPLOYEE FUTURE BENEFITS 1

                                 Monday                  Tuesday              Wednesday
           Class     L0201          L5101                L0301                L0401
                     WO25           WO25                 WW119                WO25
                     4pm-6pm        6pm-8pm              12noon-2pm           12noon-2pm
           5         Oct 18         Oct 18               Oct 12               Oct 13

          Read:
          1. "Kieso Ninth", chapter 19, "Pensions and Other Employee Future Benefits"
          Class Discussion:
          1. "Pension Worksheet Demo" [HANDOUT]
          Class 5 Self-Study:
          1. Technical problem to be posted on course website
          2. "Kieso Ninth", Appendix 19A; BE19-1 to BE19-17; E19-3; E19-9; E19-18,
CLASS 6   CLASS 6:
          TOPIC:
          REPORTING EMPLOYEE FUTURE BENEFITS 2

                                 Monday                  Tuesday              Wednesday
           Class     L0201          L5101                L0301                L0401
                     WO25           WO25                 WW119                WO25
                     4pm-6pm        6pm-8pm              12noon-2pm           12noon-2pm
           6         Oct 25         Oct 25               Oct 19               Oct 20

          Read:
          1. "Kieso Ninth", chapter 19, "Pensions and Other Employee Future Benefits"
          2. Beechy, (2009), "The Many Challenges of Pension Accounting", Accounting
          Perspectives, 8(2), pp. 91-111.
          3. Shapiro, (2002), "Rash Words, Insincere Assurances, Uncertain Promises: Verifying
          Employers' Intentions in Labour Contracts", Critical Perspectives on Accounting, 13, pp.
          63-88. SHOULD NON-PENSION DEFINED BENEFITS BE ACCOUNTED FOR ON
          AN ACCRUAL BASIS?
          Class Discussion:
          1. PotashCorp‘s employee future benefit reporting (bring 2009 audited financials)
          2. "Kieso Ninth", the Deutsche Lufthansa AG illustration on pages 1264-1267.
          Class 6 Self-Study:
          1. "Kieso Ninth", P19-2; P19-5; P19-10
CLASS 7   CLASS 7:
          TOPIC:



                                                   9
VERSION 8 FALL 2010

          REPORTING COMPENSATION 1: STOCK OPTIONS

                                Monday                  Tuesday             Wednesday
           Class    L0201          L5101                L0301               L0401
                    WO25           WO25                 WW119               WO25
                    4pm-6pm        6pm-8pm              12noon-2pm          12noon-2pm
           7        Nov 1          Nov 1                Oct 26              Oct 27

          Read:
          1. "Kieso Ninth", chapter 16 (pages 1046-1053; 1069-1074)
          2. Handout summarizing aspects of the following article: Templin, ―Expensing Isn‘t the
          Only Option: Alternatives to the FASB‘s Stock Option Expensing Proposal‖, 2005),
          Journal of Corporation Law, 30(2), pp. 357-404 [U of T e-journal collection]
          Prepare for Discussion:
          1. "Kieso Ninth", selected items TBA
          Class 7 Self-Study:
          1. "Kieso Ninth", selected items TBA
          2. Download the Excel spreadsheet option calculator from the course website. (a) Vary
          the input variables and assess the sensitivity of the expense number that GAAP requires.
          (b) Using the information disclosed by Potash Corporation of Saskatchewan, are you
          able to reconstruct the option expense number using the Excel spreadsheet option
          calculator? Explain.
CLASS 8   [Assignment #2 due]

          CLASS 8:
          TOPIC:
          REPORTING COMPENSATION 2: (A) STOCK OPTIONS AND IFRS 2; (B) THE
          COMPENSATION DISCUSSION & ANALYSIS (CD&A)

                                Monday                  Tuesday             Wednesday
           Class    L0201          L5101                L0301               L0401
                    WO25           WO25                 WW119               WO25
                    4pm-6pm        6pm-8pm              12noon-2pm          12noon-2pm
           8        Nov 15         Nov 15               Nov 2               Nov 3

          Read:
          1. Selected pages TBA from: IFRS 2, "Share-Based Payment"
          3. Potash Corporation's CD&A
          Prepare for Discussion:
          1. TBA
          Class 8 Self-Study:
          1. TBA

CLASS 9   CLASS 9:
          TOPIC:
          SELECTED ASPECTS OF FINANCIAL INSTRUMENT REPORTING

                                Monday                  Tuesday             Wednesday
           Class    L0201          L5101                L0301               L0401
                    WO25           WO25                 WW119               WO25
                    4pm-6pm        6pm-8pm              12noon-2pm          12noon-2pm
           9        Nov 22         Nov 22               Nov 16              Nov 10

          Read:
          1. "Kieso Ninth", chapter 16 (pages 1020-1046; 1053-1055; 1058-1068)



                                                 10
VERSION 8 FALL 2010


            Prepare for Discussion:
            1." Kieso Ninth", selected items TBA
            Class 9 Self-Study:
            1. "Kieso Ninth", selected items TBA
CLASS       CLASS 10:
10          TOPIC:
            BACK TO CASH FLOWS

                                  Monday                 Tuesday             Wednesday
             Class    L0201          L5101               L0301               L0401
                      WO25           WO25                WW119               WO25
                      4pm-6pm        6pm-8pm             12noon-2pm          12noon-2pm
             10       Nov 29         Nov 29              Nov 23              Nov 17

            Read:
            1. "Kieso Ninth", chapter 22, "Statement of Cash Flows".
            2. "Cash Flow Pattern Analysis" [HANDOUT]
            Prepare for Discussion:
            1. "OEI Inc" [HANDOUT]
            2. "IFRS and Sinopec's Cash Flow Presentation" [HANDOUT]
CLASS       CLASS 11:
11          TOPIC:
            OTHER MEASUREMENT AND DISCLOSURE ISSUES:
            1. IMPORTANCE OF NARRATIVE DISCLOSURE IN CORPORATE
            FINANCIAL REPORTING;
            2. WEB-BASED CORPORATE REPORTING AND SOCIAL MEDIA

                                  Monday                 Tuesday             Wednesday
             Class    L0201          L5101               L0301               L0401
                      WO25           WO25                WW119               WO25
                      4pm-6pm        6pm-8pm             12noon-2pm          12noon-2pm
             11       Dec 6          Dec 6               Nov 30              Nov 24

          Read:
          1. Skim: "Kieso Ninth", chapter 23, "Other Measurement and Disclosure Issues"
          2. PotashCorp's fiscal year 2009 MD&A (available from the company's website or
          SEDAR).
          3. Amernic, (1998), "'Close Readings' of Internet Corporate Financial Reporting: Towards
          a More Critical Pedagogy on the Information Highway", The Internet and Higher
          Education, 1(2), pp. 87-112 [U of T e-journal collection]
          Discussion:
          1. Analysis of PotashCorp's MD&A and CEO letter
          2. Questions on Amernic (1998) article
          3. Corporate accountability and sustainability/ environmental reporting
          3. Corporate accountability and new media
PART 3 OF THE COURSE:
REVIEW
CLASS     [Assignment #3 due]
12
          CLASS 12:
          TOPIC:
          COURSE REVIEW

                                  Monday                 Tuesday             Wednesday



                                                   11
VERSION 8 FALL 2010

            Class    L0201           L5101            L0301            L0401
                     WO25            WO25             WW119            WO25
                     4pm-6pm         6pm-8pm          12noon-2pm       12noon-2pm
            12       Wed Dec 8       Wed Dec 8        Dec 7            Dec 1

         Discussion:
         TBA
RSM320F2010aa8.doc

APPENDIX 1
POSSIBLE DEFINITIONS OF 'QUALITY OF EARNINGS'

Rate the following definitions of QUALITY OF EARNINGS [suggestion: What are the strengths and
weaknesses of each definition? From whose perspective are you assessing strengths and weaknesses?]

   DEFINITIONS OF QOE                                                                   RATING
   a. ―QOE refers to the integrity of financial statements, including the notes. QOE
   is not reflected by the quantity of information disclosed, but rather by the type of
   information disclosed and its accuracy in allowing users of financial statements
   to determine the true financial standing of a corporation.‖
   b. ―QOE means how much the reported earnings of a company diverge from the
   actual earnings of the company.‖
   c. ―QOE means whether the company displays high, average, or low quality
   earnings.‖
   d. ―Good QOE means that the earnings reported are a good representation of the
   financial position of the company and have not been inflated through the
   manipulation of accounting estimates.‖
   e. ―QOE is based upon GAAP. If a company‘s financial statements are found to
   be in compliance with GAAP, then by definition the company has high quality
   earnings.‖
   f. ―QOE refers to the overall financial statement recognition, measurement, and
   disclosure, and whether the resulting financial statements represent faithfully
   what is happening in the company.‖
   g. ―QOE has two parts. The first focuses on whether the financial statements
   present the financial position, results of operations, and cash flows of the
   company in a fair manner. The second focuses on the sustainability of the
   particular company‘s earnings in the future.‖
   h. ―QOE reflects the degree to which the reported financial information acts as a
   sort of lens through which you view the company. The better the QOE, the
   clearer the picture; poor QOE results in a distorted, fuzzy view.‖
   i. ―QOE deals with the assessment of the quality of reporting by companies.
   High quality earnings means that the earnings are sustainable in the future and
   are derived from operating activities rather than from one-time gains. Higher
   quality is also achieved when a company is transparent in financial reporting and
   discloses more than the required minimum. Higher quality arises not from a mere
   compliance with GAAP, but rather from a fair representation of transactions.
   More conservative reporting means higher quality.‖
   j. "QOE" means the quality of financial reporting, where the term "quality of
   financial reporting" is much broader than QOE strictly is.
   k. "Quality of earnings relates to how well accrual accounting earnings capture
   the underlying economic performance of an enterprise for a particular period of


                                                 12
VERSION 8 FALL 2010

    time. One important dimension of earnings quality is how sustainable or
    persistent the reported earnings number is. Poor earnings quality occurs when
    there are transitory components embedded in earnings that are not sustainable,
    rendering the current earnings number a poor indicator of future performance.
    But no simple definition may be expected to capture this complex concept, since
    it involves disclosure (for example, disclosing "bad" news accurately and
    promptly, the readability and understandability of financial statement notes, the
    descriptions and analyses given in the MD&A), and management's strategic (for
    example, deciding to exit an unprofitable business, taking special care with
    respect to environmental insult) and operational actions (for example, ordering
    that maintenance be put off until early next period so that this period will not
    report the cost), in addition to the above-noted items."

AN EXAMPLE OF PRACTICAL APPLICATION OF THE QUALITY OF EARNINGS
CONCEPT: AIR NORTH 20091

Air North is a regional airline founded in Winnipeg, Manitoba in December, 2001. It provides both
freight and passenger services from its Winnipeg headquarters to various points in central Canada
and the northern U.S.2, with its fleet of five company-owned 727 jets and four leased Dash 8
propeller-driven planes. The company has built up a solid reputation over the past few years in the
post-911 world, and has solidified its niche in the low-cost, highly-reliable end of the market, where
convenience outweighs time as a primary factor. In fact, revenues have more than doubled over the
past year, and profits have more than quadrupled, with the company outperforming its competitors in
a difficult industry.

It is now March 2009, and Schyler North, Air North's founder, president, and sole shareholder, has
been approached by a major national airline with a proposal that Mr. North sell to the national airline
100% of his common shares. The national airline is extremely interested in Air North's impressive
growth, and sees a role for Air North as its regional "partner". The per-share price will be based
upon a multiple of Air North's "sustainable" 2008 earnings from continuing operations, after review
by an independent consulting firm, Alpha Inc. (AI), which was retained jointly by the two parties.

The main features of the offer are outlined in Exhibit 1. As a financial analyst employed by AI, you
have made the notes reproduced in Exhibit 2; selected information from Air North's recent financial
statements is presented in Exhibit 3.

Your boss at AI has asked you to prepare a confidential report outlining the issues which, in your
professional opinion, will bear upon the estimate of "sustainable" earnings, and then to prepare an
estimate of such earnings. Your report should, in your boss' words, "be comprehensive enough to be
unassailable in front of both Schyler North and the people at [the major national airline] who are
negotiating the deal."

                                                 EXHIBIT 1
                                              Excerpts from Offer

1. The Company will acquire 100 % of the 20,000 common shares held by Mr. Schyler North.

1
 Adapted from ―Air West‖.
2
 As of early 2009, Air North's destinations included Brandon, Thunder Bay, Toronto, Regina, Saskatoon,
Calgary, Minneapolis-St. Paul, and Rapid City, South Dakota.



                                                  13
VERSION 8 FALL 2010


2. The price per share will be Air North's 2008 sustainable earnings from continuing operations, multiplied by
ten, and then divided by 20,000.

3. The phrase "sustainable earnings" in 2 above is to be based upon, but not necessarily equal to, net income
computed according to generally accepted accounting principles, as certified by an independent accountant.

4. Both parties agree that Alpha Inc. will review the computations required by 2 and 3 above, and will submit a
fair and unbiased opinion to the parties as to Air North's 2008 sustainable earnings from continuing operations.

5. Mr. Schyler North will remain as president of Air North for five years after this transaction is complete, and
will receive compensation equal to $120,000 per year, plus 10 % of Air North's net income.

                                                   EXHIBIT 2
                              Notes Made by Financial Analyst Over a Two-Day Period

1. Airline passenger and freight sales are recognized as operating revenues when the transportation services are
provided. The value of unused paid transportation is included in current liabilities. Unused but unpaid
transportation is recorded only in memo form, while receivables are set up for used but unpaid transportation.

2. During 2008, the four Dash 8's were sold to a financial institution and leased back. The gain of $304,000
was accounted for as income.

3. Interest on funds used to finance the purchase of new flight equipment is capitalized for periods preceding
the in-service dates of such assets. Amount capitalized (as of December 31) for 2008 was $91,000; for 2007,
$85,000.

4. During 2008, the company conducted a program of re-estimating the residual values of aircraft spare parts.
As a result, this led to a decrease in depreciation expenses of $225,000.

5. One of the 727's no longer qualifies as flightworthy in Canada and the U.S. for passenger service. As of
December 1, 2008, a decision was made to invest approximately $1.2 million to upgrade this aircraft. The
funds will be expended in March and April 2010, and will be raised using short-term liabilities.

6. Approximately 1,000 liability claims currently exist against the company, totalling $0.5 million. The claims
are mainly for lost and damaged luggage and freight. The "Allowance for claims" account on the company's
balance sheet has shown the following activity over the past two years:

            Date                            Dr                            Cr                          Balance

 January 1/07                                                                                                325,000 cr
 2007 settlements                                  305,000                                                     20,000 cr
 December 31/07                                                                  100,000                     120,000 cr
 2008 settlements                                   21,000                                                     99,000 cr
 December 31/08                                                                    21,000                    120,000 cr

7. The company launched a frequent flyer program in January 2007; this is the item that concerns me the most.
As of December 31, 2007, there was approximately $1.5 million (at retail value) of unaccrued obligations,
while at December 31, 2008 this had increased to $3.2 million. The program has been, apparently, highly
successful, to the extent that the company has had to "bump" regular (paying) customers off certain flights in
order to fulfill frequent flyer obligations. With ever-increasing competition and the need to control costs, this




                                                      14
VERSION 8 FALL 2010

program will be expanded considerably, according to Schyler North. "Retaining and building customer loyalty
is a prime objective", according to Mr. North.

The program has, according to management, been a major influence in increasing the company's load factor (or
the percentage of seats occupied on flights) from 60 % in the previous year to 70 % in 2008. Awards granted
under the program are earned by program members when they fly a specified number of kilometres with Air
North:
         -the right to free travel on Air North or on a particular airline,
         -the right to purchase tickets at discounts,
         -the right to non-travel awards, such as discounts on hotel rooms.

The company's policy is not to account for this program as the awards are earned by passengers, on the grounds
that it is a marketing cost of the period in which the paid flight takes place. A memo record is kept on the
company's computer of each program member's cumulative eligible travel totals, and a special quarterly report
is prepared for top management which indicates the free travel earned (at retail), based upon the threshold level
that customers have exceeded. This total amount is used extensively in Air North's advertising -- the value
itself is overstated since it assumes that-
           -all earned free travel will be taken,
           -it will be taken in the next quarter,
           -its value is based upon "full fare", and
           -only free travel will be taken; no discount tickets will be purchase nor non-travel awards  selected.
On the other hand, the loss of revenue incurred when fare-paying passengers are displaced by frequent flyer
program passengers, is ignored.

8. Training costs of flight and ground personnel, which are classified as "Administration", are expensed as
incurred, a conservative policy. While $1.2 million in training costs were incurred in 2007, only $410,000 was
incurred in 2008, a saving of about $0.8 million.

9. The company acquired Reginair Airlines Limited early in 2008 for $2.1 million. Reginair's assets consisted
of one 727 aircraft (net book value at the time of acquisition of $225,000; replacement cost at the time of
acquisition was certified by Reginair to be $1.9 million; other assets acquired -- mainly ground equipment --
was valued at $200,000). Subsequently in early March 2008, further inspection, including test flights, indicated
that the aircraft required considerable upgrading to make it flightwothy (see note 5. above). No depreciation
was recorded in 2008 on this aircraft since it was not in service for the year.

                                               EXHIBIT 3
                      Selected Excerpts from Air North's Recent Financial Statements
                                              Consolidated Condensed Statements of Income
                                             Years Ended December 31 (in millions of dollars)


                                                                                                2008          2007

 Operating revenues

 Passenger                                                                                             47.2          22.2

 Freight                                                                                               15.5           6.7

                                                                                                       62.7          28.9

 Operating expenses

 Salaries, wages & benefits- flight crew                                                               19.1           8.7

 Aircraft fuel                                                                                          9.4           4.9

 Depreciation, amortization & obsolescence                                                              3.8           1.9




                                                             15
VERSION 8 FALL 2010


    Marketing, administration & other                                                       28.3                   12.2

                                                                                            60.6                   27.7

    Operating income                                                                         2.1                    1.2

    Non-operating (income) expense

    Interest                                                                                 2.6                    1.3

    Gain on asset disposal                                                                  (0.6)                  (0.2)

    Other                                                                                   (1.0)                  (0.3)

                                                                                             1.0                    0.8

    Income before income taxes                                                               1.1                    0.4

    Provision for income tax expense                                                         0.2                    0.2

    Net income                                                                               0.9                    0.2


REQUIRED:

Prepare the confidential report.

APPENDIX 2
ASSESSING THE QUALITY OF A COMPANY'S CORPORATE REPORTING- SOME START-
OF-COURSE SUGGESTIONS

       Learn about the company and its industry (from where?)
       Read the company‘s MD&A
       Know the GAAP/IFRS standards, and their strengths and weaknesses
       Read audited I/S, B/S, CFS, etc carefully and slowly, observing the completeness and level of
        disclosure (is disclosure just GAAP- or IFRS-compliant, or beyond?), and links back to the audited
        notes
       Read audited notes carefully, slowly (look for interconnections; look for imprecise language, rhetorical
        subtleties, etc.)
       Judge whether you understand the company's accountings; has management told the company's story
        in a transparent and understandable way? Are you required in the case of this company to make
        unwarranted "leaps of faith"?
       Re-read the company‘s MD&A
       From the company's regulatory filings, and other sources if available, learn as much about the
        management compensation system as possible to learn about accounting links; do the same for debt
        covenants, etc.
       How does all the above compare with what the company's peers are doing (i.e., benchmark)?
       How does all the above work with the company's communications strategy and outputs (for e.g., the
        CEO letter in the company's annual report; CEO and other senior executive speeches; corporate news
        releases; the company's website; the MD&A; the company's regulatory filings on www.sedar and/or on
        www.sec.gov
       Other?

APPENDIX 3
HOMBURG INVEST INC: REPORTED EARNINGS UNDER CANADIAN GAAP
VERSUS IFRS

The company describes itself on its website [http://www.homburginvest.com/home?locale=en_US] as
follows:



                                                        16
VERSION 8 FALL 2010

        About our company

        Homburg Invest Inc. (HII) is a real estate investment and development company, publicly
        traded on the Toronto Stock Exchange (TSX) and on the NYSE Euronext Amsterdam.
        Over the past 40 years HII has built a strong and stable business model.

        The activities consist of acquiring interests in real estate. The investment policy of HII
        calls for a mixed portfolio of residential and office buildings with multiple units, retail
        and industrial buildings with a wide geographic spread. The portfolio of HII has a total
        asset value of CAD $ 4.1 billion worldwide

The gateway to the company's financial statements is via:
http://www.homburginvest.com/investor_relations/financial_information

HOMBURG'S REPORTED EARNINGS 1999-2009

YEAR        CANADIAN GAAP EARNINGS                         IFRS EARNINGS
1999        (157,314)*                                     115,334
2000        1,240,142                                      2,515,463
2001        1,363,999                                      3,517,134
2002        1,371,698                                      3,833,996
2003        2,846,143                                      9,359,976
2004        2,419,894                                      22,961,727
2005**      14,578,000                                     53,562,000***
2006        22,962,000                                     94,766,000
2007        79,168,000                                     140,495,000
2008        (96,083,000)                                   (276,653,000)
2009        (247,690,000)                                  (449,262,000)
*Restated
**The company began reporting in thousands
***Restated to $54,863,000 in the 2006 comparatives

Comment on the earnings differences between Canadian GAAP and IFRS. Which earnings stream is more
volatile? Why do you think this is? Check the audited financial statements for the year ended December 31,
2009 to see if your explanation seems plausible.

APPENDIX 4:
WHEN IS A 'LIABILITY'? TONE AT THE TOP AND CORPORATE CULTURE: SHOULD BP
HAVE ACCRUED A SAFETY-RELATED LIABILITY UNDER IFRS BEFORE THE GULF OF
MEXICO OIL SPILL?

A commentator on the BP Gulf oil crisis wrote:
        "Given its safety-related record, a strong case can be made that BP’s financial statements for
        accounting periods before April 20, 2010, should have established, and added to annually, a
        “provision for disasters”, consistent with the broad tenor of International Financial
        Reporting Standards (IFRS)."
Do you agree? Discuss.
Reading:
1. Extract from the ―Notes on Financial Statements‖ in BP‘s Annual Report and Accounts, 2009 (see
    below).
2. Deloitte. IAS 37: Provisions, Contingent Liabilities and Contingent Assets. Summaries of International
    Financial Reporting Standards. IAS PLUS website. http://www.iasplus.com/standard/ias37.htm (see
    extract below)




                                                   17
VERSION 8 FALL 2010

Extract from “Notes on Financial Statements” in BP Annual Report and Accounts, 2009
From Note 1: Significant Accounting Policies
Provisions and contingencies
Provisions are recognized when the group has a present obligation (legal or constructive) as a result of a
past event, it is probable that an outflow of resources embodying economic benefits will be required to
settle the obligation and a reliable estimate can be made of the amount of the obligation. Where
appropriate, the future cash flow estimates are adjusted to reflect risks specific to the liability. If the effect
of the time value of money is material, provisions are determined by discounting the expected future cash
flows at a pre-tax rate that reflects current market assessments of the time value of money. Where
discounting is used, the increase in the provision due to the passage of time is recognized within finance
costs. Contingent liabilities are possible obligations whose existence will only be confirmed by future
events not wholly within the control of the group. Contingent liabilities are not recognized in the financial
statements but are disclosed unless the possibility of an outflow of economic resources is considered
remote.
Environmental expenditures and liabilities
Environmental expenditures that relate to current or future revenues are expensed or capitalized as
appropriate. Expenditures that relate to an existing condition caused by past operations and do not
contribute to current or future earnings are expensed. Liabilities for environmental costs are recognized
when a clean-up is probable and the associated costs can be reliably estimated. Generally, the timing of
recognition of these provisions coincides with the commitment to a formal plan of action or, if earlier, on
divestment or on closure of inactive sites. The amount recognized is the best estimate of the expenditure
required. Where the liability will not be settled for a number of years, the amount recognized is the present
value of the estimated future expenditure.
From Note 34: Provisions
The group makes full provision for the future cost of decommissioning oil and natural gas production
facilities and related pipelines on a discounted basis on the installation of those facilities. The provision for
the costs of decommissioning these production facilities and pipelines at the end of their economic lives has
been estimated using existing technology, at current prices or long-term assumptions, depending on the
expected timing of the activity, and discounted using a real discount rate of 1.75% (2008 2.0%). These
costs are generally expected to be incurred over the next 30 years. While the provision is based on the best
estimate of future costs and the economic lives of the facilities and pipelines, there is uncertainty regarding
both the amount and timing of incurring these costs. Provisions for environmental remediation are made
when a clean-up is probable and the amount of the obligation can be reliably estimated. Generally, this
coincides with commitment to a formal plan of action or, if earlier, on divestment or on closure of inactive
sites. The provision for environmental liabilities has been estimated using existing technology, at current
prices and discounted using a real discount rate of 1.75% (20082.0%). The majority of these costs are
expected to be incurred over the next 10 years. The extent and cost of future remediation programmes are
inherently difficult to estimate. They depend on the scale of any possible contamination, the timing and
extent of corrective actions, and also the group’s share of the liability. The litigation category includes
provisions for matters related to, for example, commercial disputes, product liability, and allegations of
exposures of third parties to toxic substances. Included within the other category at 31 December 2009 are
provisions for deferred employee compensation of $789 million (2008 $792 million) and for expected rental
shortfalls on surplus properties of $246 million (2008 $251 million).These provisions are discounted using
either a nominal discount rate of 4.0% (2008 2.5%) or a real discount rate of 1.75% (2008 2.0%), as
appropriate.

Extract from IAS PLUS website: Summary of IAS 37: Provisions, Contingent Liabilities and Contingent
Assets.
Objective
The objective of IAS 37 is to ensure that appropriate recognition criteria and measurement bases are
applied to provisions, contingent liabilities and contingent assets and that sufficient information is disclosed
in the notes to the financial statements to enable users to understand their nature, timing and amount. The
key principle established by the Standard is that a provision should be recognised only when there is a
liability i.e. a present obligation resulting from past events. The Standard thus aims to ensure that only




                                                       18
VERSION 8 FALL 2010

genuine obligations are dealt with in the financial statements - planned future expenditure, even where
authorised by the board of directors or equivalent governing body, is excluded from recognition.

Scope
IAS 37 excludes obligations and contingencies arising from: [IAS 37.1]
    financial instruments that are in the scope of IAS 39
    non-onerous executory contracts
    insurance company policy liabilities (but IAS 37 does apply to non-policy-related liabilities of an
     insurance company)
    items covered by another IAS. For example, IAS 11, Construction Contracts, applies to obligations
     arising under such contracts.

Key Definitions [IAS 37.10]
Provision: a liability of uncertain timing or amount.
Liability:
    present obligation as a result of past events
    settlement is expected to result in an outflow of resources (payment)

Contingent liability:
    a possible obligation depending on whether some uncertain future event occurs, or
    a present obligation but payment is not probable or the amount cannot be measured reliably

Contingent asset:
 a possible asset that arises from past events, and
 whose existence will be confirmed only by the occurrence or non-occurrence of one or more uncertain
   future events not wholly within the control of the entity.

Recognition of a Provision
An entity must recognise a provision if, and only if: [IAS 37.14]
   a present obligation (legal or constructive) has arisen as a result of a past event (the obligating event),
   payment is probable ('more likely than not'), and
   the amount can be estimated reliably.

An obligating event is an event that creates a legal or constructive obligation and, therefore, results in an
entity having no realistic alternative but to settle the obligation. [IAS 37.10]

A constructive obligation arises if past practice creates a valid expectation on the part of a third party, for
example, a retail store that has a long-standing policy of allowing customers to return merchandise within,
say, a 30-day period. [IAS 37.10]

A possible obligation (a contingent liability) is disclosed but not accrued. However, disclosure is not
required if payment is remote. [IAS 37.86]

In rare cases, for example in a lawsuit, it may not be clear whether an entity has a present obligation. In
those cases, a past event is deemed to give rise to a present obligation if, taking account of all available
evidence, it is more likely than not that a present obligation exists at the balance sheet date. A provision
should be recognised for that present obligation if the other recognition criteria described above are met. If
it is more likely than not that no present obligation exists, the entity should disclose a contingent liability,
unless the possibility of an outflow of resources is remote. [IAS 37.15]

Measurement of Provisions
The amount recognised as a provision should be the best estimate of the expenditure required to settle the
present obligation at the balance sheet date, that is, the amount that an entity would rationally pay to settle
the obligation at the balance sheet date or to transfer it to a third party. [IAS 37.36] This means:


                                                      19
VERSION 8 FALL 2010

        Provisions for one-off events (restructuring, environmental clean-up, settlement of a lawsuit) are
         measured at the most likely amount. [IAS 37.40]
        Provisions for large populations of events (warranties, customer refunds) are measured at a
         probability-weighted expected value. [IAS 37.39]
        Both measurements are at discounted present value using a pre-tax discount rate that reflects the
         current market assessments of the time value of money and the risks specific to the liability. [IAS
         37.45 and 37.47]

In reaching its best estimate, the entity should take into account the risks and uncertainties that surround the
underlying events. [IAS 37.42]

If some or all of the expenditure required to settle a provision is expected to be reimbursed by another
party, the reimbursement should be recognised as a separate asset, and not as a reduction of the required
provision, when, and only when, it is virtually certain that reimbursement will be received if the entity
settles the obligation. The amount recognised should not exceed the amount of the provision. [IAS 37.53]

In measuring a provision consider future events as follows:
     forecast reasonable changes in applying existing technology [IAS 37.49]
     ignore possible gains on sale of assets [IAS 37.51]
     consider changes in legislation only if virtually certain to be enacted [IAS 37.50]

QUESTIONS:
1. (a) Should BP have accrued a liability (provision) each year for the estimated cost of
operational safety risk of its portfolio of operations, including deepwater drilling rigs?
Justify your answer. (b) Outline how such a number might be estimated.
2. Suppose IFRS required companies like BP to record such a provision as described in
Question 1. Assume the decrease in the provision for a hypothetical energy company
(Company X) for FY 2009 was $100,000,000. Prepare a suitable journal entry as of
December 31, 2009 (Company X's fiscal year end). Be as specific as possible with your
account titles.




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