Accounting changes: mandated change in accounting principle

FASB will sometimes change an accounting rule. FASB chooses 1 of 3 approaches in how they require companies to implement the change.

• 1. Retrospective approach: Change the accounting for every period. If your financial statements show 3 years of income statement information, you need to apply the new rule to both the current period and prior periods.

  2. Modified retrospective approach: Change current and future periods AND book a cumulative adjustment for impact on prior periods income in current period’s retained earnings.

  3. Prospective approach: Change current and future periods without a cumulative adjustment.

Accounting changes: voluntary change in accounting principle

• • Change in accounting estimate: Reflected in the financial statements of the current and future periods (no retroactive adjustments).

  • Change in depreciation, amortization, or depletion method: Treat it the same way as a change in estimate.

Correction of accounting errors

• • Prior period adjustments: addition to or reduction in the beginning retained earnings balance in a statement of shareholders’ equity due to a correction of an error.

Earnings per share

Earnings per share (EPS) is the amount of income earned by a company expressed on a per share basis.

• • Basic EPS: Net income divided by weighted average number of common shares outstanding.

  • Diluted EPS: Company issues stock options to employees. If employee exercises their option to buy company stock, then the number of shares outstanding increases.