Accounting: Financial Reporting I Chapter 2

Conceptual Framework

establishes the concepts that underlie financial reporting

Conceptual Framework provides guidance on

Identifying the boundaries of financial reporting
Selecting the transactions, events, and circumstances to be represented
How they should be recognized and measured
How they should be summarized and reported

The need for a conceptual framework

to develop a coherent set of standards and rules
to solve new and emerging practical problems

Why is conceptual framework important

can lead to consistent standards and it prescribes the nature, function, and limits of financial accounting and financial statements

Level I

Basic Objectives

Objective of general-purpose financial reporting

to provide information about the reporting entity that is useful to present and potential equity investors, lenders, and other creditors in making decisions about providing resources to the entity

According to the FASB conceptual framework, the objectives of financial reporting for business enterprises are based on

the needs of the users of the information

Level II

Qualitative Characteristics and Elements

Qualitative Characteristics

distinguish better (more useful) information from inferior (less useful) information for decision-making purposes

Decision Usefulness

Must be relevant and reliable (faithful representation)

Relevance elements

Must have predictive value, confirmative value, and materiality

Relevance

Must be capable of making a difference in a decision

Predictive Value

has value as an input to predictive processes used by investors to form their own expectations about the future;
uses historical information to help predict the future

Confirmative Value

helps users confirm or correct prior expectations;

Materiality

significant in either nature or magnitude

Reliability (Faithful Representation) elements

Must have completeness, neutrality, and be free from error

Faithful Representation

numbers and descriptions match what really existed or happened; accurate information we can depend on

Completeness

all information that is necessary for faithful representation is provided

Neutrality

information cannot be biased; company cannot select information that favors one party over another

Free from Error

accurate information

Comparability

information that is measured and reported in a similar manner for different companies

Verifiability

occurs when independent measurers, using the same methods, obtain similar results

Timeliness

having information available to decision-makers before it loses its capacity to influence decisions

Understandability

reasonably informed users can see its significance

Moment in Time

Assets, Liabilities, Equity

Period of Time

Investment by owners
Distribution to owners
Comprehensive income
Revenue
Expenses
Gains
Losses

Level III

Recognition, measurement, and disclosure concepts

Economic Entity

company keeps its activity separate from its owners and other businesses

Going Concern

company to last long enough to fulfill objectives and commitments

Monetary Unit

money is the common denominator

Periodicity

company can divide its economic activities into time periods

Measurement Principle

the most commonly used measurements are based on historical cost and fair value

Historical Cost

provides a reliable benchmark for measuring historical trends

Fair Value

information may be more useful

Revenue Recognition

generally occurs (1) when realized or realizable and (2) when earned

Expense Recognition

Let the expense follow the revenues

Full Disclosure

providing information that is of sufficient importance to influence the judgment and decisions of an informed user (through Financial Statements, Notes to the Financial Statements, and Supplementary Information)

Cost Constraint

cost of providing information must be weighed against the benefits that can be derived from using it

According to the conceptual framework, the process of reporting an item in the financial statements of an entity is

Recognition

Conceptully, interim financial statements can be described as emphasizing

Timeliness over faithful representation

According to the conceptual framework, the usefulness of providing information in financial statements is subject to the constraint of

cost-benefit

What is the conceptual framework intended to establish?

the objectives and concepts for use in developing standards of financial accounting and reporting

When a parent-subsidiary relationship exists, consolidated financial statements are prepared in recognition of the accounting concept of

Economic entity

According to the FASB conceptual framework, predictive value is an ingredient of

Relevance, but not faithful representation

The FASB is a(n)

Private sector body