Conceptual Framework - International Accounting Standards Board (IASB)
The International Accounting Standards Board (IASB) (Board) has a Conceptual Framework for
Financial Reporting (Conceptual Framework). This Framework is a comprehensive set of
concepts for financial reporting (i.e. the preparation and presentation of financial statement) for
external users.
The conceptual framework sets out:
a) the objective of financial reporting
b) qualitative characteristics of useful financial information
c) a description of the reporting entity and its boundary
d) definitions of an asset, liability, equity, income and expenses
e) criteria for including assets and liabilities in financial statements (recognition) and
guidance on when to remove them (de-recognition)
f) measurement bases and guidance on when to use them
g) concepts and guidance presentation and disclosure
The purpose of the framework work is to assist:
a) the Board to develop IFRS Standards (Standards) based on consistent concepts, resulting
in financial information that is useful to investors, lenders and other creditors
b) preparers of financial reports to develop consistent accounting policies for transactions or
other events when no Standard applies or a Standard allows a choice of accounting
policies
c) all parties to understand and interpret Standards
This framework is not an International Accounting Standard (IAS) and therefore does not
determine standards for any particular measurement or disclosure issue it does not override any
specific International Accounting Standards. It does provide concepts and guidance that underpin
the decisions the Board makes when developing Standards.
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Accounting Standards - International Financial Reporting Standards (IFRS)
High quality, reliable financial information is the lifeblood of capital markets.
Accounting provides companies, investors, regulators and others with a standardised way to
describe the financial performance of an entity. With accounting standards the preparers of the
financial statements have a set of rules to abide by when preparing an entity’s accounts. This
ensures the standardisation across the market. Companies listed on public stock exchanges are
legally required to publish financial statements in accordance with the relevant accounting
standards.
International Financial Reporting Standards (IFRS) is a single set of accounting standards,
developed and maintained by the IASB with the intention of those standards being capable of
being applied on a globally consistent basis—by developed, emerging and developing
economies—thus providing investors and other users of financial statements with the ability to
compare the financial performance of publicly listed companies on a like-for-like basis with their
international peers.
The goal of IFRS is to provide a global framework for how public companies prepare and
disclose their financial statements. IFRS provides general guidance for the preparation of
financial statements, rather than setting rules for industry-specific reporting.
THE PURPOSE OF FINANCIAL STATEMENTS (IAS 1)
The objective of financial reporting is to provide information about the financial position,
financial performance, and cash flows of an entity that is useful to users in making decisions
related to provide resources to the entity.
To meet that objective, financial statements provide information in a particular form that tells
about an entity's:

assets

liabilities

equity

income and expenses, including gains and losses

contributions by and distributions to owners (in their capacity as owners)

cash flows.
That information, along with other information in the notes, assists users of financial statements
in predicting the entity's future cash flows and, in particular, their timing and certainty.
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Components of financial statements
A complete set of financial statements includes:

a statement of financial position (balance sheet) at the end of the period

a statement of profit or loss and other comprehensive income for the period (presented as
a single statement, or by presenting the profit or loss section in a separate statement of
profit or loss, immediately followed by a statement presenting comprehensive income
beginning with profit or loss)

a statement of changes in equity for the period

a statement of cash flows for the period

notes, comprising a summary of significant accounting policies and other explanatory
notes

comparative information prescribed by the standard
Qualitative Characteristics of useful financial information
Because so many persons have a vested interest in the financial information, the accounting
information needs to be relevant and faithfully represent what it purports to represent. These are
fundamental qualitative characteristics of useful financial information.

Relevant - Information is relevant if it is capable of making a difference to the decisions
made by users. If the financial information us capable of making a difference in decisions
where it influences the economic decisions of users by helping them evaluate past,
present or future events or confirming, or correcting, their past evaluations then it is
relevant.

Faithfully representation - to be reliable, information must represent faithfully the
transactions and other events (substance) of what occurred during the period.
There are some enhancing qualitative characteristics of financial information as well. They
enhance the usefulness of information but cannot make non-useful information useful.

Timeliness - means that information is available to decision-makers in time to be capable
of influencing their decisions; information should be provided when needed. If there is
undue delay in the reporting of financial information it may lose its relevance.
Management may need to balance the relative merits of timely reporting and the
provision of reliable information. To provide information on a timely basis it may often
be necessary to report before all aspects of a transaction or other event are known, thus
impairing reliability.
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
Comparability - Information about a reporting entity is more useful if it can be
compared with similar information about other entities and with similar information
about the same entity for another period or another date. Comparability enables users to
identify and understand similarities in, and differences among, items in order to identify
trends in the financial position and performance of entities. Hence, the measurement and
display of the financial effect of like transaction and other events must be carried out in a
consistent way throughout the enterprise and in a consistent way for different enterprises.

Understandability- the financial statements should be uncomplicated, structured and
clearly presented. Classifying, characterising and presenting information clearly and
concisely make it understandable. While some occurrences are inherently complex and
cannot be made easy to understand, to exclude such information would make financial
reports incomplete and potentially misleading. Financial reports are prepared for users
who have a reasonable knowledge of business and economic activities and who review
and analyse the information with diligence

Verifiability - the financial statements should be able to be reproduced by different
knowledgeable and independent observers, so that given the same data and assumption,
and independent party can produce the same results and reach a consensus, although not
necessarily complete agreement. Verifiability helps to assure users that information
represents faithfully the economic phenomena it purports to represent.
Accounting Principles, Concepts and Assumptions
It is important to have a basic understanding of these accounting principles, concepts and
assumptions when studying accounting. These principles are pervasive to the study of accounting
and show up in all aspects of accounting.
Historical Cost Principle – requires that entities record the purchase of goods, services or assets
at the amount of cash or cash equivalents paid or the fair value of the consideration given to
acquire them at the time of their acquisition. Assets are then to remain on the statement of
financial position without being adjusted for fluctuations in market value. Liabilities are recorded
at the amount of proceeds received in exchange for the obligation.
Revenue Recognition Principle - This principle states that a transaction should record revenue
when the event from which the transaction stems has taken place and the receipt of cash from the
transaction is reasonably certain (ties to the accruals and matching principle).
Accruals Principle - The accrual principle is an accounting concept that requires accounting
transactions to be recorded in the time period in which they occur, regardless of the time period
when the actual cash flows for the transaction are received. Financial statements prepared on this
basis inform users not only of past transactions involving the payment and receipt of cash but
also obligations to pay cash in the future and of resources that represent cash to be received in
the future.
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Matching Principle – states that all expenses must be matched and recorded with their
respective revenues in the period they were incurred instead of when they are paid and they are
recorded in the accounting records and reported in the financial statements of the period to which
they relate.
Full Disclosure Principle - Disclosure of all the relevant information that would materially
affect a financial statement user’s decision is needed on the face of the financial statements or by
way of notes, so that users can make rational decisions.
Prudence/Conservatism Principle - The preparers of financial statements have to contend with
the uncertainties that inevitably surround many events and circumstances, such as the
collectability of doubtful receivables and the probable useful life of fixed assets.
Prudence is the exercise of caution when making judgments needed in making estimates required
under conditions of uncertainty, it does not allow for the overstatement or understatement of
assets, liabilities, income or expenses.
Consistency Principle - This principle states that the presentation, classification of items,
accounting principles and assumptions in the financial statements should be retained from period
to the next unless:
a) a significant change in the nature of the operations of the business or a review of its
financial statement presentation demonstrates that the change will result in a more
appropriate presentation of events or transactions
b) a change in presentation is required by an IAS/IFRS
This ensures that the financial statements are comparable between periods and throughout the
entities history.
Business entity concept - This concept implies that the affairs of a business are to be treated
separately from the private affairs of the owner(s) and should be accounted for separately.
Going Concern concept – this concept states that the financial statements are normally prepared
on the assumption that an enterprise is a going to continue in operation for the foreseeable future.
Hence, it is assumed that the enterprise has neither the intention nor the need be dissolved or
declare bankruptcy unless we have evidence to the contrary. If we have evidence that the entity
is going to cease to be in existence though, the financial statements may have to be prepared on a
different basis and, if so, the basis used is disclosed. If not we always assume that there will be
another accounting period.
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Materiality Concept - The relevance of information is affected its nature and materiality. In
some cases, the nature of information alone is sufficient to determine its relevance.
Information is material if omitting, misstating or obscuring it could reasonably be expected to
influence decisions that the primary users of general purpose financial statements make on the
basis of those financial statements which provide financial information about a specific reporting
entity.
In other words, if a business event occurred but is so insignificant that a user of the financial
statement would not care about it, the event need not be recorded.
Materiality depends on the size of the item or error judged in the particular circumstances of its
omission or misstatement. Thus materiality provides a threshold or cut-off point rather than
being a qualitative characteristic which information must have if it is to be useful.
Money measurement/Monetary Unit Assumption - Events, transactions or items can only be
reported in the financial statements, if they can be expressed in monetary terms.
Time period assumption - This concept states that the life of a business can be divided into
artificial time periods and that useful report covering those periods can be prepared for the
business. The standard time periods usually include a full year or quarter year.
True and fair view - Financial statements are frequently described as showing a true and fair
view of, or as presenting fairly, the financial position, performance and changes in the financial
position of an enterprise. As a whole it should be free from bias and independent. There should
be no attempt to persuade users to take certain actions.
Substance over Form - If information is to represent faithfully the transactions and other events
that it purports to represent, it is necessary that they are accounted for and presented in
accordance with their substance and economic reality and not merely their legal form. The
substance of transactions or other events is not always consistent with that which is apparent
from their legal or contrived form.
Aggregation - Each material item should be presented separately in the financial statements.
Immaterial amounts should be aggregated with amounts of a similar nature" or function and need
not be presented separately.
Offsetting - Assets and liabilities should not be offset except when offsetting is required or
permitted by another International Accounting Standard
Items of income and expenses should be offset when and only when:
a) an International Accounting Standard requires or permits it; or
b) gains, losses and related expenses arising from the same or similar transactions and
events are not material. Such amounts should be aggregated.
Duality - There are two aspects to the recording of a transaction, one is represented by the assets
of the business and the other the claims against them. The concept states that these two aspects
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are always equal to each other.
FINANCIAL ACCOUNTING TERMINOLOGY as per IASB
Asset – is a present economic resource controlled by an entity as a resulting from past events. An
economic resource is a right that has the potential to produce economic benefits.
Liability – is a present obligation of the entity to transfer an economic resource as a result of
past events. An obligation is a duty or responsibility that the entity has no practical ability to
avoid.
Equity – is the residual interest in the assets of the entity after deducting all its liabilities.
Income/Revenue – the increase in assets or decreases in liabilities that result in an increase in
equity, other than that relating to contributions from equity investors.
Expense – the decrease in assets or increases in liabilities that result in an decrease in equity,
other than that relating to distributions to from equity investors.
TYPES OF EXPENDITURE
CAPITAL AND REVENUE EXPENDITURE
Assets are classified under two broad headings; Non-Current and Current assets.
An asset should be classified as a current when it:
a) is expected to be realized in, consumed or sold in the normal course of the enterprise’s
operating cycle; or
b) is held primarily for trading purposes
c) is cash or a cash equivalent asset which is not restricted in its use
Examples include: inventory/stock, trade receivables/debtors/trade receivables, cash in hand and
at bank, prepaid expenses.
All other assets should be classified as Non-current assets. Non-current assets are bought for
continuing use in the business for the long term.
Examples, include: Motor vehicles, Equipment, Land, Patents, Copyrights and buildings
The life of an entity extends over a long period of time. The problem is that reports on the
profitability of the business are needed at fairly regular intervals, usually of twelve months. This
requirement gives rise to certain problems. For example, how one treats spending $12,000 on an
item of equipment which is expected to be useful to the enterprise for the next eight years as
opposed to spending the same $12,000 on inventory items expected to last less than one year?
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Such spending on the equipment is referred to as capital expenditure because of the long- term
nature of the benefits, which are expected to be received.
The distinction between capital and revenue expenditure derives from the fact that, by
convention, financial accounts are produced on an annual basis.
EXAMPLES
CATEGORY
Capital Expenditure
Revenue Expenditure
TYPES OF EXPENDITURE

Expenditure on the acquisition of noncurrent assets required for use in the
business not for resale

Expenditure on existing non-current
assets aimed at improving their earning
capacity

Expenditure for the purpose of trade of
the business. This includes expenditure
for running the business (e.g. expenses)

Expenditure on maintaining the earning
capacity of non-current assets (e.g.
repairs and renewals)
In short:
Revenue expenditure: are expenses for the regular day to day running of the business such as
wages, utilities, stationery. These are accounted for in the statement of profit or loss. They
cannot be capitalised as a part of the non-current asset.
Capital expenditure : these are transactions for the acquisition or improvement to the
book value of fixed asset item, e.g. purchase of asset, delivery, installation, inspection, testing,
legal fees, contractors costs, cost involved in the removal of an older asset item. Capital
expenditure items are accounted for in the statement of financial position. They can be
capitalised as a part of the non-current asset.
Capital expenditure is financed via statement of financial position (i.e. capital, loans,
reserves, retained profits). However revenue expenditure should only be financed via
the statement of profit or loss ( i.e. turnover or other revenue).
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In some cases an extended expenditure may be divided to include both capital and revenue
sections. Example, acquiring and installing a vending machine (capital) which is then suited out
with sodas for sale (revenue)
Components of Cost
The cost of a non-current asset comprises its purchase price, including import duties and nonrefundable purchase taxes, and any directly attributable costs of bringing the asset to working
condition for its intended use; any trade discounts and rebates are deducted in arriving at the
purchase price. Examples of directly attributable cost are:
a)
b)
c)
d)
e)
f)
the cost of site preparation;
initial delivery and handling costs;
installation and assembly costs;
costs of testing whether the asset is functioning properly
professional fees such as for architects and engineers; and
the estimated cost of dismantling and removing the asset and restoring the site.
Subsequent expenditure
Subsequent expenditure relating to an item of property, plant and equipment should be added to
the carrying amount of the asset when it is probable that future economic benefits, in excess of
the originally assessed standard of the performance of the existing asset, will flow to the
enterprise.
All other subsequent expenditure should be recognized as an expense in the period in which it
was incurred.
Examples of improvements which result in increased future economic benefits include:
a) Modification of non-current asset to extend its useful life, including an increase in its
capacity
b) Upgrading machine parts to achieve a substantial improvement in the quality of output;
c) Adoption of new production processes enabling a substantial reduction in previously
assessed operating cost.
Most accounting transactions involve the expending of funds in return for some benefits derived.
The expenditure may be one of two types:
There are some activities that do not involve the expending of cash. These are called non cash
transactions. When they have had only a current impact on the firm’s resources they are written
off in the statement of profit or loss, e.g. Bad debts and discount allowed. However, where their
impact extends into the future they are passed through both the statement of profit or loss and the
statement of financial position, e.g. Provision for depreciation
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Tutorial Questions
Please note that it is the personal responsibility of each student to ATTEMPT the questions on
the tutorial sheet BEFORE going to tutorial. Your tutors are there to ASSIST you NOT do the
problems for you. Thank you for your co-operation.
1. In each of the scenarios below we need to identify and explain the concept that is
involved in each of the following. It may be that the concept is being violated or not :
a. A hotel has traditionally depreciated its fixed assets using the straight line
method. However this year it is contemplating a change to the reducing balance
method. Consistency
b. There are several minor expenses classified under ‘miscellaneous expenses’.
Aggregation
c. The production manager thinks that it is a waste of time to be preparing financial
statements every year, since most production contracts are on a long term basis.
Time Period Assumption
d. Several clients have either enquired about our service or have promised to place
substantial orders, but we have not yet contracted any business.
Realisation principle
e. The managing director wished that the excellent working conditions and worker
relations that they have worked so hard to maintain should be reflected in the
accounting statements. Money measurement
f. There is some uncertainty about the future of the company, and some
shareholders are contemplating the sale of their shares as quickly as possible
Going concern
g. Most of the assets were bought a long time ago, and would worth much more than
the books show today.
Historical Cost
h. During the year, an entity was contracted as advertising agent for the local
newspaper. The commission revenue earned was 5% of the $3 million transacted.
However at year end, only one half of this income was received.
Accrual
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i. Two boxes of paper were in stores at the end of the year of a very large marketing
firm. They were omitted from the financial statements. As the accounting
manager you are now wondering what you should do with the financial
statements.
Materiality
j. Prior to the preparation of the statement of profit or loss, the firm took into
account the significant reduction in the value of the non-current assets that were
used during the year.
Prudence.
2. The following is a list of accounting concepts and principles:
a)
b)
c)
d)
e)
f)
g)
h)
i)
j)
Economic/Business entity assumption
Matching principle/Accruals
Monetary unit assumption/Money measurement
Going concern assumption
Revenue recognition/Realization principle
Time period assumption
Historical Cost principle
Materiality
Full disclosure assumption
Prudence/Conservatism
Identify by letter the accounting concept or principle that describes each
situation below. Do not use a letter more than once
Gooding Concern 1. It is reason why assets are not reported at the value to sell
them if a business is shutting down. (Do not use the historical cost principle)
BUSINESS ENTITY 2. Indicates that personal and business record keeping
should be separately maintained.
FULL DISCLOSURE 3. Ensure that all relevant financial information is reported.
MONETARY MEASUREMENT 4. Assumes that the dollar is the “measuring
stick” used to report financial information.
MATERIALITY 5. Requires the accounting standards to be followed for all
significant items.
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TIME PERIOD ASSUMPTION 6. Separates financial information into time
periods for reporting purposes.
MATCHING CONCEPT 7. Required recognition of expenses in the same
accounting period as related revenues.
HISTORICAL COST 8. Indicates that the market value changes subsequent to
purchase are not recorded in the accounts.
3. It is the role of the accountant to follow generally accepted accounting principles, even
when these are in conflict with the desires of management. What are your thoughts on the
above statement?
Ethics
4. Classify the following expenditures into revenue and capital expenditure. Indicate
which financial statement the expenditure would be recorded in (Statement of financial
position or Statement of profit or loss)
a)
b)
c)
d)
e)
f)
g)
h)
i)
j)
k)
l)
The purchase of a new computer Capital Expenditure
Redecoration of the office Revenue Expenditure
Cost of rebuilding warehouse wall which had fallen down. Revenue Expenditure
Legal fees incurred in the acquisition of land Capital Expenditure
Cost of clearing site to construct new apartments Capital Expenditure
Customs duty incurred on importation of a truck Capital Expenditure
Freight and Insurance costs on importation of computer system Capital Expenditure
Rental expense of factory Revenue Expenditure
Cost of testing new computer system Capital Expenditure
Cost of replacing wooden truck body with metal body Capital Expenditure
Legal cost incurred in the collection of bad debts Revenue Expenditure
Carriage cost on the purchase of inventory for resale. Capital Expenditure
5. A business purchases a building for $30,000. It then adds an extension to the building at
accost $10,000. The building needed to have a few broken windows mended, its floors
polished and some missing roof tiles replaced. These cleaning and maintenance jobs cost
$900.
Identify the capital and revenue expenditure if any in the above scenarios.
CAPEX
Purchase of building
Building Extension
OPEX
Windows repair
Floor Polish
Tiles Replacement
Maintenance Cost
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6. Monsoon Trucking Company bought a truck in the United States, and imported to
Jamaica. The following costs in relation to the truck were incurred.
.
Cost of truck from manufacturer
$810 000
Freight cost
$120 000
Freight insurance
$ 50 000
Customs duty
$380 000
Transportation from local wharf to
truck yard
$10 000
Cost of overhauling truck engine to
get truck ready for use
$40 000
The company received a trade discount of 10% on the manufacturer’s price.
Determine the cost of the truck to the company, and hence its total capital expenditure.
Maroon Trucking Company
CAPEX
Cost of truck from Manufacturer 810000 (10%)
Freight Cost
Freight Insurance
Customs Duty
Transportation from local to wharf
Cost of overhauling truck engine
729000
120000
50000
380000
10000
40000
132,9000
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