It is often alleged that the value of financial statement information is compromised by the latitude that GAAP gives to management. Companies can use different accounting methods to summarize and report the outcome of otherwise similar transactions. Inventory valuation and depreciation are examples in which GAAP allows several alternative accounting methods.

At one extreme, the FASB and the SEC could limit accounting flexibility by establishing a single set of accounting methods and procedures that all companies would apply. At the other extreme, the FASB and the SEC could simply require companies to provide relevant and reliable financial information to outsiders without placing any restrictions on the accounting methods used.

Required:

1. Why should managers be allowed some flexibility in their financial accounting and reporting choices?

2. Of the two approaches to accounting standards setting that are mentioned, which better describes the current financial reporting environment in the United States?

3. Describe the advantages and disadvantages of these two approaches to accounting standards setting, and tell how these advantages and disadvantages vary across different groups of financial statement users.