Conceptual Framework for Financial

Reporting
Learning Outcomes

 Principles-based Vs rules-based framework

 Conceptual framework
 Fundamental and enhancing qualitative
characteristics
 Recognition in financial statements
 Apply the recognition criteria to assets, liabilities,
equity, income and expenses

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What is GAAP?
• GAAP = Generally Accepted Accounting
Principles
• A set of financial accounting standards and
reporting guidelines used to prepare
accounts
• May or may not have legal authority
• A dynamic concept.
 Sources of GAAP
• Regulatory framework
– Statute (e.g. Companies Acts)
– Accounting standards
• IFRSs
• UK FRS
• USA FAS
• Other sources
– Best practice
– Industry groups.
Role of statute and standards
Statute
• Detailed legal rules are often
geared to the calculation of profit
figure for taxation purposes
• Statute may provide a framework
of regulation supplemented by
standards
• Relatively little statute  heavy
reliance on standards. Standards
What is a Conceptual Framework ?

A conceptual framework is:

 A coherent system of interrelated objectives and

fundamental Principles

 A framework which prescribes the nature, function and

limits of financial accounting and financial statements.
Purpose of Conceptual Framework
• To assist the Board in:
 developing and reviewing IFRSs
 promoting harmonisation

• To assist national standard-setting bodies

• To assist preparers of financial statements in

applying IFRSs.

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Purpose (contd)

• To assist auditors in forming an opinion

• To assist users of financial statements in

interpreting information contained in
financial statements

• To provide interested parties with

information about how IFRSs are
formulated.

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Application of Framework (FW)
Common myths
• The Framework is not an IFRS
• It does not define standards
• Nothing in it overrides any specific IFRS

Application
• If a conflict between the Framework and an IFRS
arises, the IFRS prevails
• It applies to all commercial, industrial and
business reporting entities – public and private.

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Financial statements
Statement of profit or
A.Statement of
loss and other
financial position
comprehensive income
(SOFP)
(SOPL and OCI)

Statement of changes Statement of cash

in equity (SOCIE) flows (SOCF)

Notes, including a
summary of significant
accounting policies and
other explanatory
material.

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Not included

Directors’ reports Chairman’s statement

Discussion and analysis

by management and
similar items included
in a financial or annual
report

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 Users

• Providers of capital and their advisers

• Employees and their representatives
• Lenders
• Suppliers and other trade creditors
• Customers
• Governments and their agencies
• Public

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Objective and usefulness
• To provide information about:
–financial position  SOFP
–financial performance  SOCI
 SOCF
–changes in financial position

that is useful to a wide range of users in making

economic decisions.
• To show the results of management’s
stewardship.

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Underlying assumption

Going concern

– That the entity will continue in operation for

the foreseeable future

– Therefore there is no intention/need to

liquidate or curtail significantly the scale of
operations

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Qualitative characteristics

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Elements of financial statements

Asset Liability Equity

Income Expenses

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An asset

A present economic resource

Controlled by the entity

As a result of past events

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A liability

A present obligation of the entity

Arising from past events

To transfer economic resources

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Equity

The residual interest

In the assets of the entity

After deducting all its liabilities

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Income
Increase in assets or

decreases in liabilities or

Increases in equity

Other than those relating to contributions

from equity participants.

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Expenses
Decrease in assets

Increase in liabilities

That result in decreases in equity

Other than those relating to

distributions to equity participants.

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Recognition Criteria
Items are only recognised in the financial
statements if
• they meet the definition of one of the elements.
• Elements are recognised if recognition provides
users with useful financial information.

In other words recognition must provide:

• relevant information
• a faithful representation of the asset or
liability, and resulting income, expenses or
equity movements.

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Question
Consider the following situations. In each case, do we have an asset or
liability within the definitions given by the Conceptual Framework? Give
reasons for your answer.

(a) Pat Co has purchased a patent for $20,000. The patent gives the
company sole use of a particular manufacturing process which will save
$3,000 a year for the next five years.

(b) Baldwin Co paid Don Brennan $10,000 to set up a car repair shop, on
condition that priority treatment is given to cars from the company's
fleet.

(c) Deals on Wheels Co provides a warranty with every car sold.

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Answer

(a) This is an asset, albeit an intangible one. There is a past event, control
and future economic benefit (through cost savings).

(b) This cannot be classified as an asset. Baldwin Co has no control over

the car repair shop and it is difficult to argue that there are 'future
economic benefits’.

(c) The warranty claims in total constitute a liability; the business has
taken on an obligation. It would be recognised when the warranty is
issued rather than when a claim is made.

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Measurement bases
• Historical cost - The actual amount of cash paid
or consideration given for the item
• Current cost - The cash that would be paid to
replace the asset at current values, reflecting
the asset’s age and condition
• Present value - The cash that would be paid to
replace the asset at current values, reflecting
the asset’s age and condition
• Fair value - The discounted value of future cash
flows

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Example

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Answer

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Answer

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Thank You!