Derivatives tend to be an intricate topic in accounting. So to begin, a basic understanding of derivatives is that they are a binding contract between two or more parties. The contract is for a future transaction of some underlying financial asset. The purpose for companies to implement derivatives are to aide them in managing risk by using a type of financial forwards, futures, options, or swaps. For example, a forward contract is when Company A believes Company B’s stock price will substantially increase over the next year. However, Company A does not have the resources to purchase the stock today. Therefore, Company A and B enter a contract for delivery of 10,000 shares of Company B in one year at an agreed upon price. Furthermore, this
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Criticisms are understandable based on what Pylyenko stated in his article listed above. Walter Dolde and Robert J. Swieringa wrote an article shortly after the exposure draft was released listing some of the major criticisms. From the article, Dolde and Swieringa noted that, “Many public accountants and financial executives believe that the proposal [derivative standard] is too complex to be understandable, creates too many accounting anomalies, and would create artificial volatility in earnings and equity” (Dolde). Other concerns, were with the potential disclosure of sensitive competitive data. It has been found that because of the complexity of derivatives, many companies using derivatives do not apply the related accounting rules correctly or consistently, making it almost impossible for stakeholders to assess a firm’s derivatives activity from its financial …show more content…
In the early 1900s for example, there were numerous “derivative disasters.” Several derivative losses were reported shocking management and the board of directors for all sizes of corporations. So as a result, the business environment was allocating the blame to the auditors by questioning their extent of their testing of controls and transactions. As a result, in an article written by Barry N. Winograd and Robert H. Herz in 1995, they gave auditors insight on how they could better audit derivatives. First, they should fully understand the entity’s use of derivatives and in order to do so, “the auditor must be sufficiently involved with operational areas outside the financial reporting group, most notably the treasury function” (Winograd). Furthermore, the article made clear that testing the controls around derivatives will vary from one company to another. However, certain procedures can be commonly applied across organizations. For example, examining to see if the derivatives are in compliance with the terms of the contract. Another is ensuring the derivative was properly authorized, and that all transactions were completely recorded. Lastly, an important objective for the auditor is to test the valuation of the derivative. For instance, reviewing their internal derivative model, quoted prices, interest rates, and current relating market data. Derivatives are complex and typically have many
Criticisms are understandable based on what Pylyenko stated in his article listed above. Walter Dolde and Robert J. Swieringa wrote an article shortly after the exposure draft was released listing some of the major criticisms. From the article, Dolde and Swieringa noted that, “Many public accountants and financial executives believe that the proposal [derivative standard] is too complex to be understandable, creates too many accounting anomalies, and would create artificial volatility in earnings and equity” (Dolde). Other concerns, were with the potential disclosure of sensitive competitive data. It has been found that because of the complexity of derivatives, many companies using derivatives do not apply the related accounting rules correctly or consistently, making it almost impossible for stakeholders to assess a firm’s derivatives activity from its financial …show more content…
In the early 1900s for example, there were numerous “derivative disasters.” Several derivative losses were reported shocking management and the board of directors for all sizes of corporations. So as a result, the business environment was allocating the blame to the auditors by questioning their extent of their testing of controls and transactions. As a result, in an article written by Barry N. Winograd and Robert H. Herz in 1995, they gave auditors insight on how they could better audit derivatives. First, they should fully understand the entity’s use of derivatives and in order to do so, “the auditor must be sufficiently involved with operational areas outside the financial reporting group, most notably the treasury function” (Winograd). Furthermore, the article made clear that testing the controls around derivatives will vary from one company to another. However, certain procedures can be commonly applied across organizations. For example, examining to see if the derivatives are in compliance with the terms of the contract. Another is ensuring the derivative was properly authorized, and that all transactions were completely recorded. Lastly, an important objective for the auditor is to test the valuation of the derivative. For instance, reviewing their internal derivative model, quoted prices, interest rates, and current relating market data. Derivatives are complex and typically have many