FINANCIAL ACCOUNTING

Introduction
Financial Accounting is a systematic process of gathering, recording, classifying,
verifying, summarizing, and communicating financial data relating to an
organization. The systematic process is guided by Accounting standards and the
Generally Accepted Accounting Principles.
Financial accounting involves the following;
 Recording business transactions in books of original entry
 Analysis of transactions in the ledger accounts
 Summarising the transactions
 Preparation of financial statements
 Interpretation of Financial statements

Objectives of Financial Accounting

 To determine the profits earned by an organization in a given accounting
period
 To determine the net worth of a business
 To communicate to the various groups of people who have interests in the
organisation
 To have a systematic record of all the business activities for future reference

Status And Purpose Of The Conceptual Framework

The Conceptual Framework for Financial Reporting (Conceptual Framework)
describes the objective of, and the concepts for, general purpose financial
reporting. The purpose of the Conceptual Framework is to:
 Assist the International Accounting Standards Board (Board) to develop
IFRS Standards (Standards) that are based on consistent concepts
 Assist preparers to develop consistent accounting policies when no Standard
applies to a particular transaction or other event, or when a Standard allows
a choice of accounting policy
 Assist all parties to understand and interpret the Standards.

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The Conceptual Framework is not a Standard. Nothing in the Conceptual
Framework overrides any Standard or any requirement in a Standard. Other aspects
of the Conceptual Framework include:
 The qualitative characteristics of financial information,
 A reporting entity concept,
 Elements of financial statements,
Recognition and derecognition, measurement, presentation and disclosure—flow
logically from the objective.To meet the objective of general purpose financial
reporting, the Board may sometimes specify requirements that depart from aspects
of the Conceptual Framework.
If the Board does so, it will explain the departure in the Basis for Conclusions on
that Standard.
The Conceptual Framework may be revised from time to time on the basis of the
Board’s experience of working with it. Revisions of the Conceptual Framework
will not automatically lead to changes to the Standards.
Any decision to amend a Standard would require the Board to go through its due
process for adding a project to its agenda and developing an amendment to that
Standard.
The Conceptual Framework contributes to the stated mission of the IFRS
Foundation and of the Board, which is part of the IFRS Foundation. That mission
is to develop Standards that bring transparency, accountability and efficiency to
financial markets around the world.
The (ISAB) Board’s work serves the public interest by fostering trust, growth and
long-term financial stability in the global economy.
The Conceptual Framework provides the foundation for Standards that:
 Contribute to transparency by enhancing the international comparability and
quality of financial information, enabling investors and other market
participants to make informed economic decisions.
 Strengthen accountability by reducing the information gap between the
providers of capital and the people to whom they have entrusted their
money. Standards based on the Conceptual Framework provide information
needed to hold management to account. As a source of globally comparable

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 information, those Standards are also of vital importance to regulators
around the world.
 Contribute to economic efficiency by helping investors to identify
opportunities and risks across the world, thus improving capital allocation.
For businesses, the use of a single, trusted accounting language derived from
Standards based on the Conceptual Framework lowers the cost of capital and
reduces international reporting costs.
Objective, Usefulness and Limitations of General Purpose Financial Reporting
The objective of general purpose financial reporting forms the foundation of the
Conceptual Framework. The objective of general purpose financial reporting is to
provide financial information about the reporting entity to the different users i.e
existing and potential investors, lenders and other creditors in making decisions
relating to providing resources to the entity. Those decisions involve decisions
about:
 Buying, selling or holding equity and debt instruments
 Providing or settling loans and other forms of credit;
 Exercising rights to vote on, or otherwise influence, management’s actions
that affect the use of the entity’s economic resources
These decisions depend on:
 The returns Expected by existing and potential investors
 Timing and uncertainty of (the prospects for) future net cash inflows to the
entity
 Their assessment of management’s stewardship of the entity’s economic
resources.
. To make these assessments, the users of Financial Statements need information
about:
 The economic resources of the entity, claims against the entity and changes
in those resources and claims
 How efficiently and effectively the entity’s management and governing
board have discharged their responsibilities to use the entity’s economic
resources
All the different users of Financial Statements cannot require reporting entities to
provide information directly to them and must rely on general purpose financial
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reports for much of the financial information they need. Consequently, they are the
primary users to whom general purpose financial reports are directed.
However, general purpose financial reports do not and cannot provide all of the
information that existing and potential investors, lenders and other creditors need.
Those users need to consider pertinent information from other sources, for
example, general economic conditions and expectations, political events and
political climate, and industry and company outlooks.
General purpose financial reports are not designed to show the value of a reporting
entity; but they provide information to help existing and potential investors,
lenders and other creditors to estimate the value of the reporting entity.
Individual primary users have different, and possibly conflicting, information
needs and desires. The Board, in developing Standards, will seek to provide the
information set that will meet the needs of the maximum number of primary users.
However, focusing on common information needs does not prevent the reporting
entity from including additional information that is most useful to a particular
subset of primary users.
The management of a reporting entity is also interested in financial information
about the entity. However, management need not rely on general purpose financial
reports because it is able to obtain the financial information it needs internally.
Other parties, such as regulators and members of the public other than investors,
lenders and other creditors, may also find general purpose financial reports useful.
However, those reports are not primarily directed to these other groups.
To a large extent, financial reports are based on estimates, judgements and models
rather than exact depictions.
The Conceptual Framework establishes the concepts that underlie those estimates,
judgements and models. The concepts are the goal towards which the Board
(IASB) and preparers of financial reports strive. As with most goals, the
Conceptual Framework’s vision of ideal financial reporting is unlikely to be
achieved in full, at least not in the short term, because it takes time to understand,
accept and implement new ways of analyzing transactions and other events.
Nevertheless, establishing a goal towards which to strive is essential if financial
reporting is to evolve so as to improve its usefulness.

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Information about a reporting entity
General purpose financial reports provide information about the financial position
of a reporting entity, which is information about the entity’s economic resources
and the claims against the reporting entity. Financial reports also provide
information about the effects of transactions and other events that change a
reporting entity’s economic resources and claims. Both types of information
provide useful input for decisions relating to providing resources to an entity
including:
 Economic resources and claims
 Changes in economic resources and claims
 Financial performance reflected by accrual accounting
 Financial performance reflected by past cash flows
 Changes in economic resources and claims not resulting from financial
performance
 Information about use of the entity’s economic resources

Users of Financial Statements

These are the different parties interested in the financial statements of a business
entity. There are internal users and external users.
Internal users
Employees need information about:
 Current job security
 The ability of the company to pay remunerations on time
 Future job prospects

The managements are interested in:

 The earnings for a given accounting period and the related growth
 The ability of the employees to interpret the company polices and
procedures
 Management accounting information

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External users
Investors are the providers of capital.
 The information act as a guide to investment decision
 They need information on the return on investments, Earnings per share and
share prices.
 They use the information to test on the stewardship of the management

Lenders are providers of borrowed capital.

 They assess the liquidity of the company
 They assess the value of securities provided

Suppliers and third parties trading with the company.

They are interested in the continued business now and in the future and the ability
of the company to pay accounts when due.
Customers need to know whether the company will be able to continue producing
and supplying goods and services.
The government interest in a company relate to:
 A supplier or a customer
 Income tax paid by the company
 Compliance with other statutory requirements

Competitors need to know the market share relating to their products and services
The public is interested i the financial statements due to the following;
 Availability of employment opportunities
 Enhancing of other economic activities
 Corporate social responsibility

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Qualitative Characteristics of Financial Statements
These relate to the attributes that make the information provided in the financial
statements useful to the users. The purpose of the establishing the qualitative
characteristics, is to provide a framework for the accountants when making choices
regarding measurement and disclosure in financial statements. This framework
defines the different aspects that should be considered in reporting
The qualitative characteristics of financial information are those that are likely to
be most useful to all the different users of Financial Statements, for making
decisions about the reporting entity on the basis of information in its financial
report (financial information).
 Financial reports provide information about the reporting entity’s economic
resources
 Claims against the reporting entity
 The effects of transactions and other events and conditions that change those
resources and claims.
Some financial reports also include explanatory material about management’s
expectations and strategies for the reporting entity, and other types of forward-
looking information.
The qualitative characteristics of useful financial information apply to financial
information provided in financial statements, as well as to financial information
provided in other ways.
Cost, which is a pervasive constraint on the reporting entity’s ability to provide
useful financial information, applies similarly. However, the considerations in
applying the qualitative characteristics and the cost constraint may be different for
different types of information.
For example, applying them to forward-looking information may be different from
applying them to information about existing economic resources and claims and to
changes in those resources and claims. Qualitative characteristics of useful
financial information
If financial information is to be useful, it must be relevant and faithfully represent
what it purports to represent. The usefulness of financial information is enhanced if
it is comparable, verifiable, timely and understandable. The fundamental
qualitative characteristics are:

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  Relevance
 Faithful representation
 Understandability
 Reliability
 Comparability

Relevance
Relevant financial information is capable of making a difference in the decisions
made by users. Information may be capable of making a difference in a decision
even if some users choose not to take advantage of it or are already aware of it
from other sources.
Financial information is capable of making a difference in decisions if it has
predictive value, confirmatory value or both.
Financial information has predictive value if it can be used as an input to
processes employed by users to predict future outcomes. Financial information
need not be a prediction or forecast to have predictive value. Financial information
with predictive value is employed by users in making their own predictions.
Financial information has confirmatory value if it provides feedback about
(confirms or changes) previous evaluations
Timeliness
Timeliness means having information available to decision-makers in time to be
capable of influencing their decisions. Generally, the older the information is the
less useful it is. However, some information may continue to be timely long after
the end of a reporting period because, for example, some users may need to
identify and assess trends.
Faithful representation
Financial reports represent economic phenomena in words and numbers. To be
useful, financial information must not only represent relevant phenomena, but it
must also faithfully represent the substance of the phenomena that it purports to
represent. In many circumstances, the substance of an economic phenomenon and
its legal form are the same.
If they are not the same, providing information only about the legal form would
not faithfully represent the economic phenomenon.
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 To be a perfectly faithful representation, a depiction would have three
characteristics. It would be complete, neutral and free from error. Of course,
perfection is seldom, if ever, achievable. The Board’s objective is to maximise
those qualities to the extent possible.
Understandability
Classifying, characterizing and presenting information clearly and concisely
makes it understandable. Some phenomena are inherently complex and cannot be
made easy to understand. Excluding information about those phenomena from
financial reports might make the information in those financial reports easier to
understand. However, those reports would be incomplete and therefore possibly
misleading.
Financial reports are prepared for users who have a reasonable knowledge of
business and economic activities and who review and analyze the information
diligently. At times, even well-informed and diligent users may need to seek the
aid of an adviser to understand information about complex economic phenomena.
Verifiability
Verifiability helps assure users that information faithfully represents the economic
phenomena it purports to represent. Verifiability means that different
knowledgeable and independent observers could reach consensus, although not
necessarily complete agreement, that a particular depiction is a faithful
representation. Quantified information need not be a single point estimate to be
verifiable. A range of possible amounts and the related probabilities can also be
verified.
Comparability
Users’ decisions involve choosing between alternatives, for example, selling or
holding an investment, or investing in one reporting entity or another.
Consequently, information about a reporting entity is more useful if it can be
compared with similar information about other entities and with similar
information about the same entity for another period or another date.
Comparability is the qualitative characteristic that enables users to identify and
understand similarities in, and differences among, items. Unlike the other
qualitative characteristics, comparability does not relate to a single item. A
comparison requires at least two items.

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The business entity will be in operation for more than one accounting period;
hence, the accounting information should be produced on a consistent basis so that
valid comparisons can be made with information from previous periods and with
the information produce by other sources. The aspect of comparison is to
determine;
 Growth of the business – trend analysis
 Intercompany analysis – to assess the market share
 Accounting policies employed in the preparation of the financial statements
 Compliance with accounting standards

Reliability
To be useful, the accounting information must be reliable. Reliable information is
free from material error and bias. The information can be relied upon.
Reliability is enhanced by;
 Accuracy
 Completeness i.e ensure that all required information is disclosed
 Truthful representation of facts. This is enhanced by auditing

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