Corporate Financial Reporting I

1
Corporate Financial Reporting I

• Lecture 4
• The IASB Conceptual Framework

2
Aims and Outcomes

• Aims
• This lectures aims to introduce you to the
  conceptual framework of financial reporting
  adopted by the IASB and the ASB.
• Learning outcomes
• After the lecture and recommended reading
  students should be able to
• State and explain the contents of the IASB
  Framework and compare and contrast it with the
  ASB Statement of Principles
• Discuss the usefulness and validity of a number
  of criticisms of these frameworks

3
What is a conceptual framework?

• .. a coherent system of interrelated objectives
  and fundamentals that can lead to consistent
  standards and that prescribes the nature,
  function and limits of financial accounting and
  financial statements (FASB, 1967)

4
How has such a framework developed in the UK?

• The Corporate Report (1975)
• ICAS (1988) Making Corporate Reports Valuable
• Solomons (1989) Guidelines for Financial
  Reporting Standards
• ASB (1999) Statement of Principles for Financial
  Reporting
• From 2005 UK financial reporting will be
  influenced by IASC (1989) Framework for the
  Presentation and Preparation of Financial
  Statements
• Similar developments have also taken place in the
  USA, Australia, Canada and New Zealand.

5
Advantages/Disadvantages of a Conceptual
Framework

• A conceptual framework of accounting would
  provide the following features
• There would be less of a patchwork quilt feel to
  accounting information
• Issues can be ranked
• There would be scope for less political
  interference e.g. British Aerospace and SSAP12
• We would be able to see the overall picture of
  accounting and accounting information
• Maybe we would be able to satisfy the needs of
  all user groups?
• There might be a need for multiple conceptual
  frameworks?
• Whilst a conceptual framework might not make
  accounting standard setting and implementation
  easier, it would add a set of guidelines and
  procedures that would make those processes more
  certain

6
The Pro Lobby

• Without a framework, rational debate cannot occur
  because positions about the appropriate
  accounting treatment for a given transaction can
  neither be defended nor refuted, the appropriate
  treatment is simply "in the eye of the beholder."
  
• The credibility of financial reporting is
  enhanced when objectives and concepts are used to
  provide direction and structure to financial
  accounting and reporting.
• The framework helps by leading to the development
  of standards that are not only internally
  consistent but also consistent with each other.
• As a result, both preparers and users of
  financial statements benefit from financial
  statements that are based on a body of standards
  that is more internally consistent and less ad
  hoc. (Charles Horngren)

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The objectives of financial statements

• The Statement of Principles defines the objective
  of financial statements as
• to provide information about the reporting
  entitys financial performance and financial
  position that is useful to a wide range of users
  for assessing the stewardship of management and
  for making economic decisions.
• This definition provides the basis for developing
  all the subsequent principles within the
  Statement.
• Fundamentally, the Statement assumes that it can
  achieve this objective by focusing on the
  information needs of present and potential
  investors.
• This is because they need information about the
  organisations financial performance and financial
  position that is useful to them in evaluating its
  ability to generate cash, and in assessing its
  financial adaptability

8
Anthony Hopwoods view

• The UK was very late in following the fashion of
  having a conceptual framework
• Questioned to what extent the ASB was simply
  acquiring part of the trappings of Anglo-Saxon
  standard setting long after such a tool had
  ceased to be thought relevant other than for
  symbolic purposes.

9
More against lobbyists

• It is hard for people to get to grips with
  documents like the Statement of Principles,
  because it's very abstract, but in the last two
  years the ASB has proposed several standards that
  apply the concepts in it, and they give some
  funny answers in practice
• Ron Paterson, Head of Ernst Young's Technical
  Services Department (5/98)

10
The users of financial statements

• IAS 1(1974) Disclosure of Accounting Policies
• Shareholders, financial analysts
• Creditors and suppliers
• Employees, trades unions
• Customers
• Statisticians, economists and taxing and
  regulatory authorities
• Framework for the Preparation and Presentation of
  Financial Statements
• Investors and their advisors
• Lenders, suppliers and other trade creditors
• Employees and their representative groups
• Customers
• Governments and their agencies
• The public

11
IASB Framework for the Preparation and
Presentation of Financial Statements (and the ASB
Statement of Principles)

• Amendments
• The Objective of Financial Statements
• The objective of financial statements is to
  provide information about financial performance
  and position that is useful to a wide range of
  users for
• assessing the stewardship of management, and
• making economic decisions
• Gives priority to the investor group
• Their needs are to be met by general purpose
  financial statements
• financial performance
• financial position
• generation and use of cash
• financial adaptability

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Amendments

• The Reporting Entity
• Financial statements report on all activities and
  resources under the control of the entity
• The Qualitative Characteristics of Financial
  Information
• Financial information is useful if it is
• Relevant
• Reliable
• Comparable
• Understandable
• Material (threshold)

13
Amendments

• The elements of financial statements
• Reflecting transactions and events involves
  classification and aggregation into the various
  elements of financial statements. These are
• Assets
• Liabilities
• Ownership interest
• Gains
• Losses
• Contributions from Owners
• Distributions to Owners

14
Amendments

• Recognition in Financial Statements
• Recognition depicting in words and monetary
  amounts the effects that transactions and events
  have on the elements.
• Assets/liabilities recognition requires
• sufficient evidence of existence
• measurement at a monetary amount with sufficient
  reliability
• There are three stages to recognition
• initial recognition
• subsequent remeasurement
• derecognition
• When deciding on initial recognition there are
  two categories of uncertainty
• element uncertainty
• measurement uncertainty

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Amendments

• Measurement in Financial Statements
• Measurement - assigning a monetary carrying
  amount
• Selecting a measurement basis
• historic cost
• current value
• Determining the monetary amount under that basis
• on initial recognition this will be the same
  under both bases
• Revising monetary amounts where appropriate
• under historic cost to the lower of depreciated
  historical cost and recoverable amount
• under current value revision should follow value
  to the business rules
• The Statement envisages the adoption of a mixed
  measurement system

16
Amendments

• Presentation of financial information
• Discusses the aggregation and classification of
  information and gives details of good
  presentation practices
• Accounting for interests in Other Entities
• Discusses how interests in other entities should
  be fully reflected in the financial statements,
  particularly with respect to differences between
  single entity statements and consolidated
  statements

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Some possible issues

• Context issues
• Status of the Statement/Framework
• Relationship with the law
• Content issues
• Objectives - may conflict
• Principles - may conflict
• Elements and Recognition the balance sheet
  emphasis
• Measurement the role of current value
• Presentation - performance statements
• What would the standard setters response be?

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A model for considering the several regulatory
frameworks of financial reporting (Alexander 1999)

• The regulatory framework for financial reporting
  suggests that there are several levels of
  concept. These could be summarised as
• Type A
• The ultimate purpose of accounting e.g. true and
  fair view or present fairly
• Type B
• A series of derivative concepts and conventions
  e.g. those related to relevance and reliability
  etc. in the SoP/Framework, or the 5 principles
  contained within the Companies Act
• Type C
• Detailed technical rules of how to recognise,
  measure and present assets, liabilities, equity,
  revenues, expenses, cash flows and various
  related disclosures as found in various
  IASs/IFRS, SSAPs/FRSs and in the Companies Act
• Alexander (1999) argues for the pre-eminence of
  Type A concepts, because Type B concepts are
  inconsistent and such inconsistencies would then
  be reflected in Type C rules resulting in
  inconsistent financial reporting.
• Given international differences in accounting is
  this sensible?

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Type A pre-eminence

• A Type A concept would be used
• to guide standard setters when making Type C
  rules
• to guide preparers of financial statements and
  auditors in interpreting Type B concepts and Type
  C rules
• to guide preparers of financial statements and
  auditors in the absence of Type C rules
• to require preparers of financial statements to
  sometimes make extra disclosures in order to
  achieve the Type A concept
• in exceptional circumstances to require preparers
  of financial statements to depart from Type C
  rules in order to achieve the Type A concept
• The latter override makes sense allowing an
  override of detailed rules in order to meet an
  overall objective but it does raise the
  possibility of allowing preparers of financial
  statements to evade the rules that they do not
  like.
• Should we therefore restrict the override only to
  the preparers of the Type C rules (the standards
  setters) rather than to the preparers of
  financial statements (company directors)?