CHAPTER
2
Conceptual Framework
Underlying
Financial
Accounting
……..…………………………………………………………...
Conceptual Framework
 Coherent system
 Objectives & characteristics
 Principles & assumptions
 Within which rules and standards are developed
Levels within the Framework
Basic
objectives
Useful Information
Qualitative
characteristics
Unbiased
Basic
principles
Historical Cost Principle
Accounting
standards
Record plant assets at historical cost.
FIRST LEVEL: BASIC OBJECTIVES
 Information useful to stockholders and
creditors
 Helpful in assessing amount and timing of
future cash flows
 Information regarding assets and liabilities
SECOND LEVEL: FUNDAMENTAL CONCEPTS
Qualitative Characteristics
Useful
Relevant
Reliable
Comparable
Consistent
Relevant
Predictive
Value
Feedback
Value
Timely
Reliable
Verifiable
Faithful
Representation
Unbiased
Basic Elements
Assets
-
Liabilities
Increase in Net Assets
=
Decrease in Net Assets
Owner
Investment
Comprehensive
Income
Equity
Distribution
to Owners
Revenues Expenses
Gains
Losses
THIRD LEVEL:
RECOGNITION AND MEASUREMENT CONCEPTS
Basic Assumptions
 Economic entity
 Going concern
 Monetary unit
$
$
 Periodicity
Basic Principles
 Historical cost
Assets & liabilities
recorded at
historical cost
Verifiable
Unbiased
Exceptions:
investments
receivables
inventories
 Revenue recognition
Recognized when
realized
and earned.
Faithful
representation
Exceptions:
long-term contracts
minerals
installment sales
 Matching
“Let the expense
follow the
revenues.”
Predictive &
Feedback value
When there is no
connection:
rational allocation
expense immed.
 Full disclosure
Detail and
condensation for
informed decisions.
Predictive &
Feedback value
3 sources:
financial stmnts
notes
supplementary info
Exceptions to the Rules
 Costs outweigh the benefits

Cost of collecting information

Losing a competitive edge
 Amounts are immaterial

An impact on decision makers

Quantitative & qualitative factors
 Special industry practices
 Conservatism
Exercise 2-5
(b) Lower of cost or market is used to value inventories
instead of historical cost.
(e) Repair tools are expensed when purchased rather
than being recorded as assets and depreciated.
(h) All important aspects of bond contracts are reported,
not just the amount of the bond.