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Topic 3 , Week 4 : Conceptual Framework
References <ul><li>Text – Chapters 13, 14  </li></ul>
Learning Objectives <ul><li>At the conclusion of this lecture, you should have an appreciation of: </li></ul><ul><ul><li>t...
Learning Objectives <ul><li>At the conclusion of this lecture, you should have an appreciation of: </li></ul><ul><ul><li>s...
Learning Objectives <ul><li>At the conclusion of this lecture, you should have an appreciation of: </li></ul><ul><ul><li>t...
Key Terms & Concepts <ul><li>Conceptual framework (CF) </li></ul><ul><li>Reporting entity </li></ul><ul><li>Objectives of ...
What is the conceptual framework? …  a coherent system of interrelated objectives and fundamentals that is expected to lea...
COMPONENTS OF CF <ul><li>DEVELOPMENT OF AUSTRALIAN CF </li></ul><ul><ul><li>11/81  AcSB considers need for CF </li></ul></...
General Focus of the conceptual framework  <ul><ul><li>What is a reporting entity? (SAC1) </li></ul></ul><ul><ul><li>Users...
Specific Focus of the conceptual framework <ul><ul><li>Users </li></ul></ul><ul><ul><li>Their needs </li></ul></ul><ul><ul...
The Conceptual Framework in Australia <ul><li>Refer to diagram on page 411 of text </li></ul><ul><ul><li>SAC 1 - Definitio...
Why have a conceptual framework? <ul><ul><li>problems from a lack of a general theory </li></ul></ul><ul><ul><li>permissiv...
Benefits of a Conceptual Framework <ul><ul><li>consistent, logical reporting requirements </li></ul></ul><ul><ul><li>great...
Objectives of the Conceptual Framework <ul><ul><li>information for decision making </li></ul></ul>… the objective of gener...
Objectives of the Conceptual Framework <ul><ul><li>decision-theory approach </li></ul></ul>Overall theory of accounting In...
SAC 1 - The Reporting Entity <ul><ul><ul><li>The accounting bodies introduced this concept in 1990 to relieve entities tha...
SAC 1 - Defining the Reporting Entity <ul><ul><ul><li>Para. 40  Reporting entities are  all entities  (including economic ...
SAC 1 - The Reporting Entity Using Co. Law <ul><ul><ul><li>Under corporations law, corporate entities that are Pty Ltd com...
SAC 1 - The Reporting Entity Using Co. Law <ul><ul><li>An entity is deemed to be “large” and therefore a reporting entity ...
Preparation of General Purpose Financial Reports <ul><ul><li>Para. 41  Reporting Entities shall prepare general purpose fi...
SAC 2 - Objective of GPFR <ul><li>Par 43: GPFR shall provide information useful to users for making and evaluating decisio...
SAC 2 - Objective of GPFR <ul><li>Par.44: Managements and governing bodies shall present GPFR in a manner which assists in...
SAC 3 - Qualitative Characteristics of Financial Reports <ul><ul><ul><li>Para. 48  General purpose financial reports shall...
Summary: Qualitative characteristics of accounting information Usefulness to Decisions Relevance to decisions Reliability ...
SAC 4 - Definition & Recognition of Elements of Financial Statements <ul><ul><li>assets </li></ul></ul><ul><ul><li>liabili...
Assets, Liabilities & Owners’ Equity <ul><li>Assets </li></ul>… .future economic benefits controlled by the entity as a re...
Assets, Liabilities & Owners’ Equity <ul><li>Assets </li></ul><ul><ul><li>future economic benefits </li></ul></ul><ul><ul>...
<ul><li>Assets - recognition </li></ul>If it is probable that the feb embodies in the asset will eventuate and the asset p...
Assets, Liabilities & Owners’ Equity <ul><li>Liabilities </li></ul>… .future sacrifices of economic benefits that the enti...
Assets, Liabilities & Owners’ Equity <ul><li>Liabilities </li></ul><ul><ul><li>present obligations </li></ul></ul><ul><ul>...
Assets, Liabilities & Owners’ Equity <ul><li>Liabilities </li></ul><ul><ul><li>past transactions or events </li></ul></ul>...
<ul><li>Liabilities - recognition </li></ul>When it is probable that the future sacrifice of economic benefits will be req...
Assets, Liabilities & Owners’  Owners’ Equity  Equity <ul><li>Depends on asset and liability definitions! </li></ul>… .the...
Assets, L  Owners’ Equity  iabilities & Owners’ Equity <ul><ul><li>essential features </li></ul></ul><ul><ul><ul><li>right...
As Owners’ Equity  ts, Liabilities & Owners’ Equity <ul><ul><li>capital </li></ul></ul><ul><ul><li>classifications within ...
Revenue – definition Inflows or other enhancements, or savings in outflows, of feb in the form of increases in assets or r...
Revenue recognition … recognise in the reporting period if it is probable that the inflow or other enhancement or saving i...
Expense- definition Consumptions or losses of feb that result from transactions undertaken by, and other events affecting,...
Expenses - recognition … recognise in the reporting period if it is probable that the consumption or loss of feb resulting...
A critique of conceptual framework projects <ul><ul><li>descriptive and nonoperational </li></ul></ul><ul><ul><ul><li>onto...
A critique of conceptual framework projects <ul><ul><li>professional values </li></ul></ul><ul><ul><ul><li>the conceptual ...
The SAC 4 Controversy <ul><li>CF created barely a ripple until the issue of SAC 4, which was going to be mandatory </li></...
<ul><li>What was all the fuss about? Theory enables us to analyse the issue  </li></ul><ul><li>Definition of elements of f...
Concerns <ul><li>Balance Sheet approach (economic theory) vs. Income Statement approach (accounting practice)  </li></ul><...
Examples of differences <ul><li>inclusion of AEPU (executory) contracts as assets & liabilities on balance (e.g. leases, f...
The Concern <ul><li>If implemented and mandatory, potential major changes to current practice </li></ul><ul><li>So … if li...
<ul><li>Lobbying against SAC 4 lead by G100  </li></ul><ul><li>Accounting theory provides explanations as to why changes i...
Current Situation <ul><li>CF is now non-mandatory </li></ul><ul><li>Where existing standards and CF are in conflict, the s...
Summary <ul><li>The conceptual framework is intended to provide a coherent & prescriptive guide to practice </li></ul><ul>...
Summary <ul><li>The AASB has proposed definitions of assets, liabilities & owners’ equity </li></ul><ul><li>SAC 4 outlines...
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  • A conceptual framework is an attempt to establish the foundations for the preparation of GPFR. ED42 - Guide to Proposed Statement of Accounting Concepts Put up slide - tentative building blocks - students can refer to p368 of text book. This shows the stages in the development of the CF
  • SAC4 issued in March 1992 with an implementation date of 1 January 1994, defrred to 30 June 1995. Original version was revised in March 1995 Is this political process happening? Will the CF be a description of present acctg practice? (Think of SAC5 and the likely consequences)
  • What is needed for an asset to be recognised on the balance sheet: Must be: I) probable that the service potential or feb will eventuate and ii) it must be possible to reliably measure the asset Assets characteristics: 1. Service potential or economic benefit - does not depend on physical form 2. Control - this does not mean legally own 3. Past transactions or other events - signing of a contract is in effect the past event
  • See p 390 for detailed appendix with regulators preferred treatments of specific issues major changes would have been (if mandated): 1. Classification of debt versus equity 2. Recognitionof executory contracts 3. Implications for financing decisions such as sale and leaseback 4. Disallowance of provisions for future expenditure (ie provisions for mtce)
  • Will asset base be eroded? Will the liabilities increase?
  • Transcript of "Topic 3, Week 4: Conceptual Framework"

    1. 1. Topic 3 , Week 4 : Conceptual Framework
    2. 2. References <ul><li>Text – Chapters 13, 14 </li></ul>
    3. 3. Learning Objectives <ul><li>At the conclusion of this lecture, you should have an appreciation of: </li></ul><ul><ul><li>the structure of a conceptual framework of accounting </li></ul></ul><ul><ul><li>why a conceptual framework of accounting can be useful </li></ul></ul><ul><ul><li>the objectives of a conceptual framework of accounting </li></ul></ul>
    4. 4. Learning Objectives <ul><li>At the conclusion of this lecture, you should have an appreciation of: </li></ul><ul><ul><li>scientific, positive accounting research and professional criticisms of conceptual framework projects </li></ul></ul>
    5. 5. Learning Objectives <ul><li>At the conclusion of this lecture, you should have an appreciation of: </li></ul><ul><ul><li>the issues involved in defining assets & liabilities and applying those definitions </li></ul></ul><ul><ul><li>why those definition and recognition criteria are both important and controversial </li></ul></ul>
    6. 6. Key Terms & Concepts <ul><li>Conceptual framework (CF) </li></ul><ul><li>Reporting entity </li></ul><ul><li>Objectives of financial reporting </li></ul><ul><li>Qualitative characteristics </li></ul><ul><li>Definitions of elements </li></ul><ul><li>Recognition of elements </li></ul><ul><li>Benefits of a CF </li></ul><ul><li>Limitations of a CF </li></ul><ul><li>The CF as a theory of accounting </li></ul>
    7. 7. What is the conceptual framework? … a coherent system of interrelated objectives and fundamentals that is expected to lead to consistent standards and that prescribes the nature, function and limits of financial accounting and reporting. (FASB)
    8. 8. COMPONENTS OF CF <ul><li>DEVELOPMENT OF AUSTRALIAN CF </li></ul><ul><ul><li>11/81 AcSB considers need for CF </li></ul></ul><ul><ul><li>1982 A/c Theory Monographs & EDs </li></ul></ul><ul><ul><li>2/85 ASRB Release 100 </li></ul></ul><ul><ul><li>8/90 SAC 1, SAC 2, SAC 3 released </li></ul></ul><ul><ul><li>3/92 SAC 4 </li></ul></ul><ul><ul><li>7/93 SACs’ mandatory status withdrawn </li></ul></ul><ul><ul><li>3/95 SAC 4 was reissued </li></ul></ul>
    9. 9. General Focus of the conceptual framework <ul><ul><li>What is a reporting entity? (SAC1) </li></ul></ul><ul><ul><li>Users and their needs (SAC2) </li></ul></ul><ul><ul><li>Qualities required of financial reporting (SAC3) </li></ul></ul><ul><ul><li>Definitions and recognition criteria of key elements (SAC4) </li></ul></ul><ul><li>CF addresses the “Who are They” and “Types of information relevant to users’ needs” questions in the measurement-communication model </li></ul>
    10. 10. Specific Focus of the conceptual framework <ul><ul><li>Users </li></ul></ul><ul><ul><li>Their needs </li></ul></ul><ul><ul><li>Qualities required of financial reporting </li></ul></ul><ul><ul><li>Definitions and recognition criteria of key elements </li></ul></ul>
    11. 11. The Conceptual Framework in Australia <ul><li>Refer to diagram on page 411 of text </li></ul><ul><ul><li>SAC 1 - Definition of the Reporting Entity </li></ul></ul><ul><ul><li>SAC 2 - Objectives & General Purpose of Financial Reports </li></ul></ul><ul><ul><li>SAC 3 - Qualitative Characteristics of Financial Information </li></ul></ul><ul><ul><li>SAC 4 - Definition & Recognition of the Elements of Financial Statements </li></ul></ul>
    12. 12. Why have a conceptual framework? <ul><ul><li>problems from a lack of a general theory </li></ul></ul><ul><ul><li>permissiveness of accounting practice </li></ul></ul><ul><ul><li>inconsistency of practices </li></ul></ul><ul><ul><li>defense against political interference </li></ul></ul>
    13. 13. Benefits of a Conceptual Framework <ul><ul><li>consistent, logical reporting requirements </li></ul></ul><ul><ul><li>greater compliance </li></ul></ul><ul><ul><li>enhanced accountability </li></ul></ul><ul><ul><li>fewer specific standards </li></ul></ul><ul><ul><li>enhanced understandability of reporting requirements </li></ul></ul>
    14. 14. Objectives of the Conceptual Framework <ul><ul><li>information for decision making </li></ul></ul>… the objective of general purpose financial reporting is to provide information to users that is useful in making and evaluating decisions about the allocation of scarce resources. AARF
    15. 15. Objectives of the Conceptual Framework <ul><ul><li>decision-theory approach </li></ul></ul>Overall theory of accounting Individual accounting system Prediction model of user Decision model of user
    16. 16. SAC 1 - The Reporting Entity <ul><ul><ul><li>The accounting bodies introduced this concept in 1990 to relieve entities that did not have general purpose report users of cumbersome and bureaucratic reporting requirements. The criteria applied in the decision as to whether an entity was relieved of certain legislative and reporting requirements was applied to all types of business structures. </li></ul></ul></ul>
    17. 17. SAC 1 - Defining the Reporting Entity <ul><ul><ul><li>Para. 40 Reporting entities are all entities (including economic entities) in respect of which it is reasonable to expect the existence of users dependent on general purpose financial reports for information which will be useful to them for making and evaluating decisions about the allocation of scarce resources . </li></ul></ul></ul>
    18. 18. SAC 1 - The Reporting Entity Using Co. Law <ul><ul><ul><li>Under corporations law, corporate entities that are Pty Ltd companies are considered to be preparing general purpose financial reports (and therefore in accordance with AASB accounting standards) if they are classified as a large entity. Small entities are deemed not to be required to prepare general purpose financial reports. </li></ul></ul></ul>
    19. 19. SAC 1 - The Reporting Entity Using Co. Law <ul><ul><li>An entity is deemed to be “large” and therefore a reporting entity if it meets two of the following three criteria: </li></ul></ul><ul><ul><ul><li>1. consolidated revenue in excess of $10 million, </li></ul></ul></ul><ul><ul><ul><li>2. consolidated assets in excess of $5 million, </li></ul></ul></ul><ul><ul><ul><li>3. more than 50 employees. </li></ul></ul></ul>
    20. 20. Preparation of General Purpose Financial Reports <ul><ul><li>Para. 41 Reporting Entities shall prepare general purpose financial reports. Such reports shall be prepared in accordance with Accounting Standards and UIG Consensus Views. </li></ul></ul>
    21. 21. SAC 2 - Objective of GPFR <ul><li>Par 43: GPFR shall provide information useful to users for making and evaluating decisions about the allocation of scare resources </li></ul><ul><li>Par. 16: There are three categories of users identified </li></ul><ul><ul><li>- resource providers (e.g.?) </li></ul></ul><ul><ul><li>- recipients of goods & services (e.g. ?) </li></ul></ul><ul><ul><li>- parties performing a review or oversight function (e.g.?) </li></ul></ul><ul><ul><li>- management </li></ul></ul>
    22. 22. SAC 2 - Objective of GPFR <ul><li>Par.44: Managements and governing bodies shall present GPFR in a manner which assists in discharging their accountability </li></ul><ul><li>Par. 45: GPFR shall disclose information relevant to the assessment of performance, financial position, financing and investing, including information about compliance . </li></ul><ul><li>Q: Non financial measures of performance? </li></ul>
    23. 23. SAC 3 - Qualitative Characteristics of Financial Reports <ul><ul><ul><li>Para. 48 General purpose financial reports shall include all financial information which satisfies the concepts of relevance and reliability and which passes the materiality test . </li></ul></ul></ul><ul><ul><ul><li>Para. 49 General purpose financial reports shall be presented on a timely basis and in a manner which satisfies the concepts of comparability and understandability . </li></ul></ul></ul><ul><ul><ul><li>Q: What is meant by relevance, reliability, materiality, timeliness, comparability and understandability? </li></ul></ul></ul>
    24. 24. Summary: Qualitative characteristics of accounting information Usefulness to Decisions Relevance to decisions Reliability FeedbackValue PredictiveValue Timeliness Agreement Between Measure &Attribute Verifiability Neutrality Consistency & Comparability Efficiency Materiality Understandability
    25. 25. SAC 4 - Definition & Recognition of Elements of Financial Statements <ul><ul><li>assets </li></ul></ul><ul><ul><li>liabilities </li></ul></ul><ul><ul><li>revenues </li></ul></ul><ul><ul><li>expenses </li></ul></ul><ul><ul><li>equity </li></ul></ul>
    26. 26. Assets, Liabilities & Owners’ Equity <ul><li>Assets </li></ul>… .future economic benefits controlled by the entity as a result of past transactions or events. SAC 4
    27. 27. Assets, Liabilities & Owners’ Equity <ul><li>Assets </li></ul><ul><ul><li>future economic benefits </li></ul></ul><ul><ul><li>control by reporting entity </li></ul></ul><ul><ul><li>past transactions or events </li></ul></ul><ul><ul><li>exchangeability </li></ul></ul>
    28. 28. <ul><li>Assets - recognition </li></ul>If it is probable that the feb embodies in the asset will eventuate and the asset possess a cost or other value that can be measured reliably SAC 4 par38
    29. 29. Assets, Liabilities & Owners’ Equity <ul><li>Liabilities </li></ul>… .future sacrifices of economic benefits that the entity is presently obliged to make to other entities as a result of past transactions or events. SAC 4
    30. 30. Assets, Liabilities & Owners’ Equity <ul><li>Liabilities </li></ul><ul><ul><li>present obligations </li></ul></ul><ul><ul><ul><li>legal enforceability </li></ul></ul></ul><ul><ul><ul><li>settlement of liability </li></ul></ul></ul><ul><ul><ul><li>deferred credits </li></ul></ul></ul>
    31. 31. Assets, Liabilities & Owners’ Equity <ul><li>Liabilities </li></ul><ul><ul><li>past transactions or events </li></ul></ul><ul><ul><li>loss contingencies </li></ul></ul><ul><ul><ul><li>superannuation </li></ul></ul></ul><ul><ul><ul><li>long-service leave </li></ul></ul></ul>
    32. 32. <ul><li>Liabilities - recognition </li></ul>When it is probable that the future sacrifice of economic benefits will be required and the amount of th eliability can be measured reliably SAC 4 par14
    33. 33. Assets, Liabilities & Owners’ Owners’ Equity Equity <ul><li>Depends on asset and liability definitions! </li></ul>… .the residual interest in assets of the entity after deduction of its liabilities. SAC 4
    34. 34. Assets, L Owners’ Equity iabilities & Owners’ Equity <ul><ul><li>essential features </li></ul></ul><ul><ul><ul><li>rights of the parties </li></ul></ul></ul><ul><ul><ul><li>economic substance </li></ul></ul></ul>Rights Economic substance Interest & settlement/ Participation in profits Risk & return Use of assets Control
    35. 35. As Owners’ Equity ts, Liabilities & Owners’ Equity <ul><ul><li>capital </li></ul></ul><ul><ul><li>classifications within owners’ equity </li></ul></ul><ul><ul><ul><li>employee shares </li></ul></ul></ul>
    36. 36. Revenue – definition Inflows or other enhancements, or savings in outflows, of feb in the form of increases in assets or reductions in liabilities of the entity, other than those relating to contributions by owners that result in an increase in equity during the reporting period SAC 4 par111
    37. 37. Revenue recognition … recognise in the reporting period if it is probable that the inflow or other enhancement or saving in outflows of feb has occurred & the inflow or other enhancement or saving in outflows of feb can be measured reliably SAC 4 par125
    38. 38. Expense- definition Consumptions or losses of feb that result from transactions undertaken by, and other events affecting, the entity during the reporting period. Consumptions or losses of feb occur in the form of reductions in assets or increases in liabilities SAC 4 par118
    39. 39. Expenses - recognition … recognise in the reporting period if it is probable that the consumption or loss of feb resulting in a reduction in assets &/or an increase in liabilities has occurred and the consumption or loss of feb can be measured reliabbly SAC 4 par132
    40. 40. A critique of conceptual framework projects <ul><ul><li>descriptive and nonoperational </li></ul></ul><ul><ul><ul><li>ontological and epistemological assumptions </li></ul></ul></ul><ul><ul><ul><li>circularity of reasoning </li></ul></ul></ul><ul><ul><ul><li>an unscientific discipline </li></ul></ul></ul><ul><ul><li>positive research </li></ul></ul>
    41. 41. A critique of conceptual framework projects <ul><ul><li>professional values </li></ul></ul><ul><ul><ul><li>the conceptual framework as a policy document </li></ul></ul></ul><ul><ul><ul><li>professional values & self-preservation </li></ul></ul></ul>
    42. 42. The SAC 4 Controversy <ul><li>CF created barely a ripple until the issue of SAC 4, which was going to be mandatory </li></ul><ul><li>Intense lobbying against the SAC resulted in it being withdrawn and eventually re-issued in a watered-down, non-mandatory form </li></ul>
    43. 43. <ul><li>What was all the fuss about? Theory enables us to analyse the issue </li></ul><ul><li>Definition of elements of financial statements all revolve around asset definition: </li></ul><ul><li>“… service potential/future economic benefits controlled by the entity as a result of past transactions or other past events” </li></ul>
    44. 44. Concerns <ul><li>Balance Sheet approach (economic theory) vs. Income Statement approach (accounting practice) </li></ul><ul><li>Reduced conservatism </li></ul><ul><li>SAC4 treatment of certain items differed to existing stds and GAAP </li></ul>
    45. 45. Examples of differences <ul><li>inclusion of AEPU (executory) contracts as assets & liabilities on balance (e.g. leases, fwd exchange contracts, futures contracts, purchase orders) </li></ul><ul><li>classification of financial instruments depending on economic substance </li></ul><ul><li>exclusion of deferred debits & credits </li></ul><ul><li>disallowance of self-created provisions </li></ul>
    46. 46. The Concern <ul><li>If implemented and mandatory, potential major changes to current practice </li></ul><ul><li>So … if likely wealth effects </li></ul>LOBBY
    47. 47. <ul><li>Lobbying against SAC 4 lead by G100 </li></ul><ul><li>Accounting theory provides explanations as to why changes in practices were opposed. Suggestions? </li></ul><ul><li>Economic self-interest theories of regulation also explain the lobbying behaviour of interest groups. Explain </li></ul>
    48. 48. Current Situation <ul><li>CF is now non-mandatory </li></ul><ul><li>Where existing standards and CF are in conflict, the standard prevails </li></ul><ul><li>HOWEVER, subsequent new standards issued apply CF concepts, and firms must apply these mandatory standards </li></ul><ul><li>As previously discussed, development of SAC 5 on measurement likely to be controversial </li></ul>
    49. 49. Summary <ul><li>The conceptual framework is intended to provide a coherent & prescriptive guide to practice </li></ul><ul><li>If effective it should result in the communication of more useful information to users </li></ul><ul><li>Many criticisms of the conceptual framework exist </li></ul>
    50. 50. Summary <ul><li>The AASB has proposed definitions of assets, liabilities & owners’ equity </li></ul><ul><li>SAC 4 outlines specific recognition criteria depending on the nature of the item </li></ul><ul><li>Definitions are general and need interpretation </li></ul>
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