SFAC

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SFAC 2

• Summary

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Purpose of SFAC 2

• to examine the characteristics that make
  accounting information useful.
• usefulness must be evaluated in relation to the
  purposes to be served
• optimal information for one user will not be
  optimal for another.

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Decision Usefulness

• hierarchy of qualities, with usefulness for
  decision making of most important
• Without usefulness, there would be no benefits
  from information to set against its costs
• while it does distinguish between primary and
  other qualities, it does not assign priorities
  among qualities.

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Understandability

• governed by a combination of user characteristics
  and characteristics inherent in the information
• Shown in hierarchy as a link between the
  characteristics of users (decision makers) and
  decision-specific qualities of information.

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Relevance

• information must be capable of making a
  difference in a decision
• predictions about the outcomes of past, present,
  and future events
• confirm or correct expectations.
• Information may confirm expectations or it may
  change them

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Components of Relevance

• Feedback Value
• The quality of information that enables users to
  confirm or correct prior expectations.
• Predictive Value
• The quality of information that helps users to
  increase the likelihood of correctly forecasting
  the outcome of past or present events.
• Knowledge about the outcome of actions already
  taken will generally improve decision makers'
  abilities to predict
• Timeliness
• Having information available to a decision maker
  before it loses its capacity to influence
  decisions.

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Reliability

• Faithfulness, coupled with an assurance for the
  user, which comes through verification
• Representational Faithfulness
• Correspondence or agreement between a measure or
  description and the phenomenon that it purports
  to represent
• a.k.a. validity
• Degrees of Representational Faithfulness
• Reliability does not imply certainty or
  precision.

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More Components of Reliability

• Lack of bias
• Bias is the tendency of a measure to fall more
  often on one side than the other of what it
  represents instead of being equally likely to
  fall on either side.
• Measurement method may be biased
• Measurer, through lack of skill or lack of
  integrity, or both, may misapply the measurement
  method chosen

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Completeness

• Also part of reliability
• Completeness
• The inclusion in reported information of
  everything material that is necessary for
  faithful representation
• Relevance of information is adversely affected if
  a relevant piece of information is omitted, even
  if the omission does not falsify what is shown.

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Verifiability

• The ability through consensus among measurers to
  ensure that information represents what it
  purports to represent
• more successful in minimizing measurer bias than
  measurement bias
• Verification implies consensus.
• Some accounting measurements are more easily
  verified than others.
• measurement or allocation methods are often
  verifiable even if the measures they
• produce result in a very low degree of
  representational faithfulness.

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Neutrality

• Absence in reported information of bias intended
  to attain a predetermined result or to induce a
  particular mode of behavior.
• Neutrality means that either in formulating or
  implementing standards, the primary concern
  should be the relevance and reliability of the
  information that results, not the effect that the
  new rule may have on a particular interest.

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Reliability and Relevance

• often impinge on each other.
• Whether there is a net gain to users of the
  information obviously depends on the relative
  weights attached to relevance and reliability
• Conservatism
• A prudent reaction to uncertainty to try to
  ensure that uncertainty and risks inherent in
  business situations are adequately considered.
• Historically, managers, investors, and
  accountants have generally preferred that
  possible errors in measurement be in the
  direction of understatement rather than
  overstatement of net income and net assets.
• introduces a bias into financial reporting,
• should no longer connote deliberate, consistent
• understatement of net assets and profits.

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Comparability

• gains greatly in usefulness if it can be compared
  with similar information about other enterprises
• difficulty in making financial comparisons among
  enterprises because of different accounting
  methods has been the principal reason for the
  development of GAAS.
• Purpose of comparison is to detect and explain
  similarities and differences.

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Consistency

• Applying accounting methods over a span of time
• Auditors must specify if thats not the case
• If pushed too far, can inhibit accounting
  progress.

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Materiality

• continually confront the need to make judgments
  about materiality.
• Materiality judgments are primarily quantitative
  in nature
• Pervasive nature of materiality makes it
  difficult to consider the concept except as it
  relates to the other qualitative characteristics
• More important a judgment item is, the finer the
  screen should be

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Costs and Benefits

• Accounting information must attain some minimum
  level of relevance and also some minimum level of
  reliability if it is to be useful
• Unless the benefits to be derived from a
  commodity or service exceed the costs associated
  with it, it will not be sought after.
• Finis!