Question 1 15 pts The book talks extensively about relevance vs

Question 1    15 pts

Relevance Vs. Reliability

Relevance      

Relevance, as it relates to accounting, refers to the usefulness of accounting information for financial decision making. Therefore, financial information must have confirmatory value as well as predictive value. In this regard, accounting information is relevant if it offers helpful information about events in the past and aids in predicting future events. In addition, relevance involves timeliness, thus, information provided to users quickly as required is considered to have a high level of relevance.     

Reliability

Reliability is the quality of information that assures that it is reasonably free from errors. Therefore, reliability represents faithfulness, when information is an accurate representation of the company’s resources and transactions. To fully indicate reliability, accounting information must be complete, neutral, and free from errors.

Valuation of Property, Plant, and Equipment (PPE) under US GAAP

PPE is recorded on the balance sheet at historical cost. Historical costs may comprise of cash paid for the acquisition of the PPE, relocation of the asset and the cost of ensuring that PPE is in good working condition. These are known as capitalization costs, that comprise of sales tax, installation and shipping costs, and initial purchase price.  It is important to capitalize costs that can be directly traced to the preparation of PPE for service. Under US GAAP, it is important to take into account the expected use of PPE, the historical experience with similar assets and obsolescence. As it concerns the depreciation of PPE, US GAAP approves four depreciation methods, including straight line, sum of the years digits, units of production and declining balance. Usually, the depreciation of PPE does not stop even when idle.

Both reliability and relevance are useful in the valuation of PPE. Adherence to the reliability principle ensures that no costs are excluded when recording PPE. On the other hand, since PPE is recorded at historical cost, the relevance principle applies here. Under US GAAP, financial information is helpful if information is provided about past events, in this case, historical costs.

Valuation of assets developed from in house (internal) research and development.

Under US GAAP, organizations are obligated to expense research and development expenditures in the same financial period they occurred. When research and development costs are not capitalized, it is an indication that the total assets of the company do not accurately reflect the amount that has been invested into them. The assets developed are treated as noncurrent assets and the costs associated must be expensed over a number of years. Therefore, capitalization of the assets ensures that financial information is reliable. Particularly, when there are significant omissions in financial statements, it reduces the reliability of information. Information is thus reliable if it faithfully presents the information it purports to present.   

Question 2    15 pts

Construct validity relates to generalizing. Therefore, it refers to how well a test measures what it is supposed to measure. It is the extent to which conclusions can justifiably be made from operationalizations in research to theoretical inferences on which the operationalizations were founded.    

Restatements have low level of construct validity in the measurement of accounting quality. First, restatements include immaterial misstatements, correcting unintentional errors, and applying new pronouncements. Restatements usually measure errors, both intentional and unintentional, therefore, they are not a good proxy for the management of earnings. Individuals interpret accounting errors as an organization having weak accounting systems. It is no doubt that restatements reflect errors that result in users of accounting information revising their perception about information accuracy linked to the earnings of an organization.

Question 3    20 pts

FASB

FASB standards are crucial for the effective functioning of the U.S. economy. Compared to the congress developed GAAPs, FASB is more advantageous.

First, FASB actively promotes clear, and standardized set of accounting rules. Therefore, FASB suits oil and gas reserves better as it gives proper ways of accounting on different bases. Whereas there are no guidelines in GAAP on the recognition of intangible assets, FASB provides clear standards on how to record and change such assets.

Secondly, FASB is flexible, transparent, and thus helpful in problem solving. Particularly, FASB sets accounting standards and rules through procedures that are open and allow for extensive input from all the involved stakeholders. When it comes to the problems faced by the oil and gas reserves in financial reporting, FASB helps in the identification, reporting and correcting of such. On the contrary, GAAP is made in such a way that changes require a significant amount of time before making any revisions or updates.

Thirdly, FASB offers internationally recognized accounting standards. These ensures that financial reporting by organizations is accurate and represents fairness. Oil and gas reserve companies operate in different global zones. FASB makes it easier for the deeply connected financial markets in reporting their earnings.

Disclosures as part of audited statements

Disclosures are an important part of financial statements. They help in communicating deeper insights concerning the financial position as well as performance of an entity than is possible with the primary financial statements. Disclosures provide extensive decision-useful information which usually is more detailed and deals with issues that are subjective, such as assumptions adopted in reporting financial statements, models, and alternative measurement bases and sources of estimation uncertainty.

Question 4    20 pts

Bayes Theorem determines conditional probability, which is the potential for an outcome taking place, based on previous outcomes. Using Bayes Theorem, it helps in updating predicted probabilities of an event by taking in new information. When it comes to the stock market, the movement of the stock prices is a natural function of informational disclosures. For instance, negative news results in individuals selling stocks. When there is a lapse in corporate governance, report detailing bad earnings, and unfortunate occurrences, they translate to selling pressure by stockholders, which has a consequent effect on decreasing of the price of most stocks. For instance, the announcement that lockdowns would result in the closure of restaurants is an example of bad news. The closure of restaurants means low earnings reports and thus a bad economic indicator. In this situation, individuals sell their stocks, which in turn results in the decreasing of the stock prices.

On the other hand, with positive news, many people buy stocks. Good news is such as good earnings report and positive economic indicators. These translate to buying pressure, which in turn increase the prices of stock.

Question 5    10 pts

According to Desire at al. (2020), government assistance offered to U.S. Companies is an economically significant phenomenon. US GAAP do not yet offer guidance on the financial reporting for government assistance. Nonetheless, Desire et al. (2020) propose that US GAAP should require the recognition of assets, liabilities, and changes in equity, which arise from assistance agreements with government entities. Such disclosures are essential to help users comprehend the measurement, timing, and the uncertainty of the benefits as well as costs of such government agreements.

 Question 6   20 pts

The semi strong form efficiency (SSFE) is an efficient market hypothesis (EMH) that makes the assumption that the prices of securities/shares are bound to adjust swiftly to the new information and resuming the normal trend after a short while. With this hypothesis, there is no need of applying the conventional technical analysis tools. Traders who follow this hypothesis can just wait for the new information to dissipate and expect that the prices will immediately return to normal levels where the other technical analysis tools are applicable. With the SSFE, the use of traditional indicators such as historical prices, stock splits and rates of returns is suspended in additional to other analysis tools that are applied in the conventional analysis.

The fundamental assumption of this hypothesis is that the traders who apply new information in securities trade are likely to realize a high rate. Therefore, these investors who need to reap from the market when there is a flux of information flow must take a huge risk.

Example

The perfect example of a SSFE is, for instance, the case of an individual who purchases shares at the rate of say $45. After some time, there is important news which causes the shares to trade at $50 per share. If this investor decided to sell the shares at this rate, he/she will make a good profit. Otherwise, suppose the investor refuses to trade the shares and the news dissipate, there shall be a resumption of normalcy in the price of the shares and the price will probably return to $45. This illustration shows how the SSFE predicts the readjustment of prices after new information.

What SSFE means to regulators is that they must inform the traders on the short-lived impact of new information on the prices of the stocks and thus caution them about the high risk involved.