CHAPTER 1
FRAMEWORK FOR FINANCIAL
REPORTING
Connolly – International Financial Accounting and Reporting – 4th Edition
1.1 INTRODUCTION
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Communication of financial information
Annual report and financial statements
Regulatory and conceptual frameworks (See Section 1.2
and Section 1.3)
Connolly – International Financial Accounting and Reporting – 4th Edition
1.2 REGULATORY FRAMEWORK
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What and why?
Company law
Stock Exchange regulations
Accounting standards (See next)
Connolly – International Financial Accounting and Reporting – 4th Edition
Accounting standards
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Objectives of IASB
IASB’s process for the development of standards
IFRS Interpretations Committee
The IFRS Framework (See Section 1.3)
Connolly – International Financial Accounting and Reporting – 4th Edition
1.3 THE CONCEPTUAL FRAMEWORK FOR FINANCIAL REPORTING
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Definition
Purpose
Historical development (The Corporate Report,1975; IASC
Framework, 1988; Conceptual Framework for Financial
Reporting, 2010 [the IFRS Framework]) (See next)
Connolly – International Financial Accounting and Reporting – 4th Edition
Historical development
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Conceptual Framework for Financial Reporting (2010)
 Scope – general purpose financial reports
 Purpose (See next)
 Users of financial reports (See later)
 Content of the IFRS Framework (See later)
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Status – non authoritative
Accounting standards prevail
Living document – ‘conceptual accounting framework’
See Chapter 1, Table 1.2
Connolly – International Financial Accounting and Reporting – 4th Edition
Purpose
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To assist IASB in setting standards
To serve as a basis for harmonisation
To assist national standard-setters
To assist preparers, auditors and users
To assist in understanding of standard-setting
To reduce conflicts between Framework and Standards
Connolly – International Financial Accounting and Reporting – 4th Edition
Users of financial reports
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Investors
Employees
Lenders
Suppliers and other trade creditors
Customers
Government
Public
Connolly – International Financial Accounting and Reporting – 4th Edition
Content of the IFRS Framework
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Currently four chapters (See next)
An asset is a resource controlled by the enterprise as a
result of past events and from which future economic
benefits are expected to flow to the enterprise
A liability is a present obligation of the enterprise arising
from past events, the settlement of which is expected to
result in an outflow from the enterprise of resources
embodying economic benefits
Connolly – International Financial Accounting and Reporting – 4th Edition
Content of IFRS Framework
Chapter 1: Objective of General Purpose Financial Reporting
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To provide information about
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Economic resources and claims (SFP)
Changes in economic resources and claims (SPLOCI)
Financial performance reflected by past cash flows
(SCF)
Changes in economic resources and claims not
resulting from financial performance (SCE)
Connolly – International Financial Accounting and Reporting – 4th Edition
Content of IFRS Framework
Chapter 3: Qualitative Characteristics of Useful Financial
Information
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Relevance
Faithful representation
Comparability
Verifiability
Timeliness
Understandability
Connolly – International Financial Accounting and Reporting – 4th Edition
Content of IFRS Framework
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Constraints on relevant and reliable information
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Timeliness
Balance between costs and benefits
Balance between relevance and reliability
True and fair presentation
Connolly – International Financial Accounting and Reporting – 4th Edition
Content of IFRS Framework
Chapter 4: The Framework
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Underlying assumptions of financial reporting – going
concern and accruals accounting
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Elements of financial statements – asset, liability, equity,
income, expenses
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Recognition of the elements of financial statements –
probability and monetary value
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Measurement of the elements of financial statements –
historic cost, current cost, realisable value, present value
(See Section 1.4)
Connolly – International Financial Accounting and Reporting – 4th Edition
Content of IFRS Framework
Chapter 4: The Framework (cont’d)
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Concepts of capital maintenance
 Financial concept: NA @ EoP > NA @ SoP
 Physical concept: Physical productive capacity @ EoP
> Physical productive capacity @ SoP
Connolly – International Financial Accounting and Reporting – 4th Edition
1.4 Fair Value Measurement
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Background
Why is a single standard on fair value measurement
important?
IFRS 13 Fair Value Measurement (See next)
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Scope
 applies to IFRSs that require or permit fair value
measurements or disclosures about fair value
measurements (except for IFRS 2, IAS 2, IAS 17 and
IAS 36)
 IFRS 13 does not mandate when fair value
measurements should be used – this is dealt with in
other IFRSs
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Key definition
Fair value = ‘The price that would be received to sell an asset
or paid to transfer a liability in an orderly transaction between
market participants at the measurement date’. This is
sometimes referred to as an ‘exit price’.
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Determining fair value
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Identify the asset or liability
May be:
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A stand-alone asset or liability
A group of assets or a group of liabilities
A group of assets and liabilities
Level at which fair value is measured may depend
upon the level at which the asset or liability is
aggregated for recognition
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Determining fair value (cont’d)
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An entity should take into account the characteristics of
the asset or liability if market participants would take
those characteristics into account when pricing the
asset or liability
Such characteristics include:
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The condition and location of the asset
Restrictions, if any, on the sale or use of the asset
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Determining fair value (cont’d)
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A fair value measurement assumes that the
transaction takes place either:
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in the principal market for the asset or liability; or
in the absence of a principal market, in the most
advantageous market for the asset or liability
The principal market is the market with the greatest
volume and level of activity for that asset or liability
The most advantageous market is the market in which
the entity could achieve the most beneficial price
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Determining fair value (cont’d)
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An entity should measure the fair value of an asset or
a liability using the assumptions that market
participants would use when pricing the asset or
liability
Market participants are:
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Independent of each other and knowledgeable
about the asset or liability
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Able and willing to enter into a transaction for the
asset or liability
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Determining fair value (cont’d)
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A fair value measurement assumes that the asset or
liability is exchanged in an orderly transaction under
current market conditions at the measurement date
An ‘orderly transaction’ means that it is not a forced
transaction (liquidation or distress sale)
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Determining fair value (cont’d)
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For a non-financial asset, this takes into account a
market participant’s ability to generate economic
benefits by using the asset in its highest and best use
The highest and best use takes into account the use of
the asset that is:
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Physically possible (e.g. property location or size)
Legally permissible (e.g. property zoning laws)
Financially feasible (e.g. adequate return
generated)
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Determining fair value (cont’d)
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A fair value measurement of a liability or an entity’s
own equity instrument is based on the assumption that
the liability or equity instrument is transferred to a
market participant and would remain outstanding
It is a transfer value, not an extinguishment or
settlement
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Fair value hierarchy
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Level 1 – highest priority is given to quoted prices in
active markets for identical assets or liabilities
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Level 2 – observable inputs not included in level 1
(e.g. quoted prices for similar assets or liabilities in
active markets, quoted prices for identical or similar
assets or liabilities in markets that are not active)
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Level 3 – unobservable inputs developed using best
information available (e.g. entity’s own data)
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Fair value hierarchy (cont’d)
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Valuation techniques used to measure fair value
should maximise the use of relevant observable inputs
and minimise the use of unobservable inputs
o Observable inputs – developed using market data
such as publicly available information about actual
events or transactions
o Unobservable inputs – market data not available
and developed using best information available
about assumptions that market participants would
use
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Fair value measurement techniques
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When transactions are directly observable in a market,
the determination of fair value can be relatively
straightforward. In other circumstances, a valuation
technique is used.
IFRS 13 describes three valuation techniques:
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Market approach – uses prices generated by
market transactions
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Income approach – converts future amounts to a
single (present value) amount
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Cost approach – determines the value that
reflects current replacement cost
Connolly – International Financial Accounting and Reporting – 4th Edition
IFRS 13 Fair Value Measurement
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Disclosures include:
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Valuation techniques and inputs used to develop fair
value measurements (including the level of the
hierarchy within which the fair value measurements
are categorised)
Effect of measurements on profit/loss or OCI for the
reporting period for recurring fair value measurements
Additional disclosure requirements, particularly for fair
value measurements based on Level 2 and Level 3
inputs
Connolly – International Financial Accounting and Reporting – 4th Edition