Prelims

ISBN: 978-1-78743-737-1, eISBN: 978-1-78743-736-4

Publication date: 28 November 2017

pdf (177 KB) ePub (1.4 MB)

Citation

Bellandi, F. (2017), "Prelims", Materiality in Financial Reporting, Emerald Publishing Limited, Leeds, pp. i-xxix. https://doi.org/10.1108/978-1-78743-736-420171005

Publisher

:

Emerald Publishing Limited

Half Title Page

MATERIALITY IN FINANCIAL REPORTING

An Integrative Perspective

Title Page

MATERIALITY IN FINANCIAL REPORTING

An Integrative Perspective

BY

FRANCESCO BELLANDI

United Kingdom – North America – Japan – India – Malaysia – China

Copyright Page

Emerald Publishing Limited

Howard House, Wagon Lane, Bingley BD16 1WA, UK

First edition 2018

Reprints and permissions service

Contact: permissions@emeraldinsight.com

No part of this book may be reproduced, stored in a retrieval system, transmitted in any form or by any means electronic, mechanical, photocopying, recording or otherwise without either the prior written permission of the publisher or a licence permitting restricted copying issued in the UK by The Copyright Licensing Agency and in the USA by The Copyright Clearance Center. Any opinions expressed in the chapters are those of the authors. Whilst Emerald makes every effort to ensure the quality and accuracy of its content, Emerald makes no representation implied or otherwise, as to the chapters’ suitability and application and disclaims any warranties, express or implied, to their use.

British Library Cataloguing in Publication Data

A catalogue record for this book is available from the British Library

ISBN: 978-1-78743-737-1 (Print)

ISBN: 978-1-78743-736-4 (Online)

ISBN: 978-1-78743-843-9 (Epub)

Dedication

To Anna, constant presence and support

List of Figures

Part II
Figure 1	Qualitative Characteristics under the IASB (1989) IASB Framework (reframed to compare with the FASB, 1985, CON 2).	12
Figure 2	Qualitative Characteristics under the Common Conceptual Framework (reframed to compare with the FASB, 1985, CON 2).	13
Figure 3	Qualitative Characteristics under the IPSAS Framework (reframed to compare with the FASB, 1985, CON 2).	14
Figure 4	Relevance and Materiality in FASB (1985), CON 2.	17
Figure 5	Relevance and Materiality in the IASB (1989), IASB Framework.	18
Figure 6	Relevance and Materiality in Integrated Reporting.	19
Figure 7	Reliability and Materiality in FASB (1985), CON 2.	22
Figure 8	Reliability and Materiality in the IASB (1989), IASB Framework.	23
Figure 9	Relationships between Materiality, Relevance, Completeness, and Reliability in FASB (1985), CON 2.	24
Figure 10	Relationships between Materiality, Relevance, Completeness, and Reliability in the IASB, 1989, IASB Framework.	25
Figure 11	Comparisons of Definitions of Materiality.	34
Part III
Figure 12	A Positive versus a Negative Concept of Materiality.	83
Figure 13	Graduation of Materiality.	85
Figure 14	Material Information in Users’ Decision Process.	87
Figure 15	Multiplying Risk-Level Graphs.	88
Figure 16	Decoupled Effect Risk-Level Graphs.	89
Figure 17	Single Effect Risk-Level Graphs.	89
Figure 18	Recognition versus Disclosure along the Likelihood Axis.	90
Figure 19	The Materiality/Disclosure Dilemma.	94
Figure 20	Possible Dimensions of Materiality.	96
Figure 21	The Flexibility Zone.	97
Figure 22	Eyes of Management versus Eyes of Investors.	98
Figure 23	The Ownership Triangle.	100
Figure 24	Materiality as a Planning Tool.	104
Figure 25	Consensus Materiality.	105
Part IV
Figure 26	IFRS Disaggregation or Aggregation Model for Presentation and Disclosure.	128
Figure 27	Materiality Dimensions for Disclosure.	137
Figure 28	Disclosure Based on Disclosure Relevance.	137
Figure 29	SEC’s 1987 Approach to Forward-Looking Disclosure.	146
Figure 30	SEC’s 1989 Approach to Known Trends or Uncertainties.	147
Figure 31	Classification of Assertions.	161
Figure 32	Relationship between Audit Risk and Materiality.	163
Figure 33	Examples of Effects of Materiality on Audit Risk.	164
Figure 34	Interaction of Materiality and Inherent Risk.	166
Figure 35	Second-guessing Management’s Determination of Users’ Needs.	167
Figure 36	How Materiality Affects Auditors’ Communication.	169
Figure 37	Effects of Materiality on Auditor’s Response to Fraud.	170
Figure 38	Effects of Materiality on Auditor’s Response to Illegal Acts.	171
Figure 39	Representation of Internal Control Deficiencies in Risk Maps.	174
Figure 40	Relationship between Risk Appetite and Risk Tolerance.	179
Figure 41	Interlock of Risk, Risk Appetite, Risk Tolerance, and Precision of Internal Controls.	179
Figure 42	Risk Tolerance as an Indirect Measure of Materiality.	181
Figure 43	Planned Materiality versus Risk Tolerance and Performance Materiality.	182
Figure 44	Precision of an Internal Control.	182
Figure 45	Inherently Imprecise Controls.	184
Figure 46	Role of Materiality in Testing ICOFR.	186
Part V
Figure 47	Small versus Large Misstatements Materiality.	221
Figure 48	Use of Performance Materiality to Assess Estimation Uncertainty.	222
Figure 49	The Use of Performance Materiality to Assess a Point Estimate.	223
Figure 50	Component versus Group Materiality.	229
Figure 51	Effect on the Details of Comparative Information of Corresponding versus Comparative Approach.	241
Figure 52	Disaggregation Based on the Corresponding Figure Approach.	242
Figure 53	Disaggregation Based on the Comparative Financial Statements Approach.	243
Figure 54	Materiality of Prior Period Misstatements.	247
Figure 55	Accumulation of Prior Period Errors in the Disclosure Initiative Tentative Model.	250
Figure 56	Risk of Material Misstatement of an Accounting Estimate.	254
Figure 57	Inherent Estimation Uncertainty.	255
Figure 58	Assessment of a Material Misstatement in an Estimation Range.	257
Figure 59	Assessment of a Material Misstatement in a Point Estimate.	257
Figure 60	Likelihood/Magnitude Mapping Applied to Reliability.	261
Figure 61	Summary of Treatment of Errors.	276
Figure 62	Effect on Materiality and Audit Risk of the Degree of Estimation of Interim Amounts.	282
Figure 63	Materiality Augmentation in Segment Reporting.	286
Part VI
Figure 64	Risk-Level Graph.	312
Figure 65	Significance/Influence Matrix.	316
Part VII
Figure 66	What Standards Say Users Want.	327
Figure 67	References to Materiality Triggering-Specific Actions.	343

About the Author

Francesco Bellandi, US CPA (Certified Public Accountant); CGMA (Certified Global Management Accountant); Dottore Commercialista (Italian Chartered Accountant); Diploma in International Financial Reporting from the ACCA (The Association of Chartered Certified Accountants, UK); Degree in Economics (summa cum laude), LUISS University; M.B.A., SDA Bocconi School of Business, Bocconi University; Diploma in Private Equity from the A.I.F.I. (Italy’s private equity association).

Francesco Bellandi is a practitioner in US GAAP/IFRSs dual reporting. Named by the AICPA as a worldwide IFRS US GAAP Subject Matter Expert, he is a member of the AICPA, the NYSSCPA (New York State Society of Certified Public Accountants), the NYSSCPA’s International Accounting & Auditing Committee where he has chaired the IFRS and the FASB subcommittees. He has been an Editorial Review Board Member of The CPA Journal, New York, USA.

Francesco Bellandi is a forensic auditor. He has served as a board director, chief financial officer, and finance director in several multinational companies around the globe and contract university professor in Audit and in IFRS.

He has authored several publications, including two books published by Wiley & Sons, 2012: The Handbook to IFRS Transition and to IFRS U.S. GAAP Dual Reporting and Dual Reporting for Equity and Other Comprehensive Income under IFRS and U.S. GAAP.

He can be reached at francesco_bellandi@yahoo.com or francesco.bellandi@dualgaap.com.

Preface

For financial statement neophytes, materiality looks like a philosophical issue, thought to be of little importance to practitioners and financial statements preparers adept to hard life. Yet, most of the internal management battles for what to filter through the internal reporting layers and what and how to disclose it in the external financial statements run on the verge of materiality.

Experienced financial statements preparers know that much of the discussion at the top management and board levels is on what to or not to present and disclose, justified on the grounds of materiality, but often for some other reason indeed. Auditors know that unless they can prove that a misstatement is material, their bullet would be smoothed. And if they did uncover something, they would pray that it was immaterial. Forensic analysts are aware that when a company says that something is not material, this alone is a good reason to investigate what this statement is trying to conceal.

Materiality is a slippery issue. Being so difficult and tricky, the FASB appears determined not to search for its definition in an accounting context. Standard-setters must serve a large audience, from preparers to investors. But preparers, indeed, are also among their stakeholders. They must find some trade-off: accounting is not for scientists and cannot be so difficult to be impossible or excessively costly. So, preparers push for materiality, invoking users, but really do users invoke materiality? Is this license too wide? It depends on how sophisticated the glasses of readers are, and from what angle they are viewing the scene. What could seem a departure from GAAP may in essence be acceptable as — somebody heard the auditor saying — it is not material. In a win-win situation, proving immateriality may give apparent relief to management for light sins and on the other hands be a useful defense to auditors. Investors, at least the most sophisticated of them, and financial analysts would rather have more information, because they know how to decide what is material to them. Securities regulators are obviously stricter than standard-setters.

Take it to the limit, somebody may have said after the fact, that it was too an immaterial issue to be of interest to users, and so this statement would be used to prove that before the fact there was an intent of fraud. The Court may have to say the last word.

This book offers an integrated perspective of materiality from the different angles of accounting standards for annual, interim, and segment reporting (including IFRS, US GAAP and SEC Rules and Regulations), auditing standards (including US and international ones), internal control over financial reporting, management commentary, financial analysis and management control, forensic analysis, sustainability reporting, corporate responsibility, assurance standards, integrated reporting, and limited legal considerations.

Part I introduces the background, including the scenario of the current debate as part of the IASB’s Disclosure Initiative, the FASB’s Disclosure Framework and the SEC’s Disclosure Effectiveness Initiative.

Part II contrasts the views of the accounting conceptual frameworks. It then compares the definition of materiality in different standards and contexts, to then draw a taxonomy of materiality and its attributes.

Part III reviews the uses and effects of materiality as an accounting, legal, audit, and managerial concept. It counterbalances the interests and positions of the various stakeholders involved, such as investors, preparers, standard-setters, auditors, regulators, financial analysts, and other users of the financial statements. It then capitalizes on the author’s vast experience in industry to devise alternative and complementary models of materiality with their pros and cons.

Part IV provides readers with interlinked guidance in accounting and audit about the extant requirements for the application of materiality to recognition, measurement, presentation and disclosure in the financial statements. It also expands to issues that are typical of management commentary. It informs about the complexities and subtle differences between financial statements and bookkeeping on the subject. Two full sections cover the application of materiality in auditing and in internal control over financial reporting, respectively.

Part V of the book goes into the details of how to assess materiality. It draws from a plethora of different disciplines to go to the essence of the very meaning and application of professional judgment and its multifaced aspects in specific scenarios and decisions. This section goes into practical guidance that rarely can be found on a such judgmental topic.

Part VI illustrates different approaches concerning the processes and methods that an entity can establish to determine materiality. Given the highly subjective nature of materiality assessments, proper processes, systems and methodologies are at the forefront of the recent and future developments in this area.

Part VII tackles specific issues of application of materiality. This section includes an illustration of SEC Staff comments on materiality in the review of Form 20-F of foreign private issuers and a checklist of specific accounting pronouncements relating to specific materiality decisions.

Part VIII of the book wraps up the whole content in showing how an experienced professional can handle discussions with management to uncover inappropriate schemes, manipulation tactics, if not frauds.

Book Chapters

Prelims

Part I Introduction and Background

Part II Conceptual Bases of Materiality

Part III Actors and Models of Materiality

Part IV Application of Materiality

Part V Assessing Materiality

Part VI The Materiality Determination Process

Part VII Where Standard Specifically Require Materiality Judgments

Part VIII Accounting Materiality in the Real World

References

Index