This document discusses key concepts in intermediate financial accounting, including the qualitative characteristics of useful financial information. It explains that substance over form, neutrality, prudence, completeness, comparability, timeliness, understandability, and relevance are important qualities of reliable financial reporting. The document also defines assets as future economic benefits controlled by the entity, and liabilities as present obligations arising from past events that will require settlement through an outflow of resources. Key aspects of assets and liabilities are described in further detail.

1. Intermediate Financial Accounting (IFA)
Lecture-4

2. Intermediate Financial Accounting (IFA)
• Substance over form: The principle that transactions
and other events are accounted for and presented in
accordance with their substance and economic
reality and not merely their legal form.

3. Intermediate Financial Accounting (IFA)

4. Intermediate Financial Accounting (IFA)

5. Intermediate Financial Accounting (IFA)
• Neutrality
• Information must be free from bias to be reliable.
Neutrality is lost if the financial statements are
prepared so as to influence the user to make a
judgement or decision in order to achieve a
predetermined outcome.

6. Intermediate Financial Accounting (IFA)
• Prudence
• Uncertainties exist in the preparation of financial information, e.g. the
collectability of doubtful receivables. These uncertainties are recognised through
disclosure and through the application of prudence. Prudence involves exercising a
degree of caution when making judgements in conditions of uncertainty.
Prudence does not, however, allow the creation of hidden reserves or excessive
provisions, understatement of assets or income or overstatement of liabilities or
expenses.
• Completeness
• Financial information must be complete, within the restrictions of materiality and
cost, to be reliable. Omission may cause information to be misleading.
• Comparability
• Users must be able to compare an entity's financial statements:
– Through time to identify trends.
– With other entities’ statements, to evaluate their relative financial
position, performance and changes in financial position.

7. Intermediate Financial Accounting (IFA)
• Comparability
• Users must be able to compare an entity's financial statements:
– Through time to identify trends.
• With other entities’ statements, to evaluate their relative financial position,
performance and changes in financial position

8. Intermediate Financial Accounting (IFA)
Constraints on useful information
– Timeliness
• Information may become irrelevant if there is a delay in
reporting it.
• Relevance v reliability
• Understandability v relevance
• Faithful recognition v completeness
• In some cases faithful recognition may override the
characteristic of completeness. For example, as internally
generated goodwill is not recognised as its measurement is
uncertain.

9. Intermediate Financial Accounting (IFA)

10. Intermediate Financial Accounting (IFA)

11. Intermediate Financial Accounting (IFA)

12. Intermediate Financial Accounting (IFA)
• Future economic benefit: The potential to contribute, directly
or indirectly, to the flow of cash and cash equivalents to the
entity. The potential may be a productive one that is part of
the operating activities of the entity. It may also take the form
of convertibility into cash or cash equivalents or a capability to
reduce cash outflows, such as when an alternative
manufacturing process lowers the cost of production.

13. Intermediate Financial Accounting (IFA)
• In simple terms, an item is an asset if:
– It is cash or the right to cash in future, e.g. a receivable, or a right to
services that may be used to generate cash, e.g. a prepayment.
• or
– It can be used to generate cash or meet liabilities, e.g. a tangible or
intangible non-current asset. The existence of an asset, particularly in
terms of control, is not reliant on:
– Physical form (hence intangible assets such as patents and copyrights
may meet the definition of an asset and appear on the balance sheet –
even though they have no physical substance).
– Legal ownership (hence some leased assets, even though not legally
owned by the company, may be included as assets on the balance sheet.
• Transactions or events in the past give rise to assets.
Those expected to occur in future do not in themselves
give rise to assets.

14. Intermediate Financial Accounting (IFA)
• Liabilities
• Again we look more closely at some aspects of the definition.
• An essential feature of a liability is that the entity has a
present obligation.
• Obligation: A duty or responsibility to act or perform in a
certain way. Obligations may be legally enforceable as a
consequence of a binding contract or statutory requirement.
Obligations also arise, however, from normal business
practice, custom and a desire to maintain good business
relations or act in an equitable manner.

15. Intermediate Financial Accounting (IFA)
• obligations may be:
– Legally enforceable as a consequence of a binding contract or statutory
requirement. This is normally the case with amounts payable for goods and
services received
– The result of business practice. For example, even though a company has no
legal obligation to do so, it may have a policy of rectifying faults in its products
even after the warranty period has expired.
• A management decision (to acquire an asset, for example) does not in itself create an
obligation, because it can be reversed. But a management decision implemented in a way
which creates expectations in the minds of customers, suppliers or employees, such as the
warranty example above, becomes an obligation. This is sometimes described as a
constructive obligation. This issue is covered more fully in Chapter 9 in the context of the
recognition of provisions.
• Liabilities must arise from past transactions or events. For example, the sale of goods is the
past transaction which allows the recognition of repair warranty provisions.
• Settlement of a present obligation will involve the entity giving up resources embodying
economic benefits in order to satisfy the claim of the other party. In practice, most liabilities
will be met in cash but this is not essential.