Gordon2015 PDF

Journal of International Financial Management & Accounting 26:1 2015
The IASB’s Discussion Paper on the

Conceptual Framework for Financial Reporting:
A Commentary and Research Review
Elizabeth A. Gordon
Temple University, Fox School of Business and Management, 1801 Liacouras Walk,
Philadelphia, PA, 19122
e-mail: egordon@temple.edu
Jannis Bischof
University of Chicago, Booth School of Business, Chicago, IL, 60637
e-mail: jannis.bischof@chicagobooth.edu
Holger Daske
University of Mannheim, Area Accounting & Taxation, University of Mannheim, Schloss
Schneckenhof Nord, 68161, Mannheim, Germany
e-mail: daske@bwl.uni-mannheim.de
Paul Munter
Department of Professional Practice, KPMG LLP, 345 Park Ave, New York, NY,
e-mail: pmunter@kpmg.com
Chika Saka
Kwansei Gakuin University, School of Business Administration, 1-1-155, Ueghara,
Nishinomiya, Hyogo, 662-8501, Japan
e-mail: chika@kwansei.ac.jp
Kimberly J. Smith
College of William and Mary, The Mason School of Business, Williamsburg, VA, 23188
e-mail: kim.smith@mason.wm.edu
Elmar R. Venter
Department of Taxation, University of Pretoria, Lynnwood Road, Hatfield, Pretoria,
Gauteng, 0001, South Africa
e-mail: elmar.venter@up.ac.za
Abstract
Consistent with the mission of the International Association for Accounting Education
and Research (IAAER) to “promote global excellence in accounting education and
research, and to maximize accounting academics’ contribution to the development and
maintenance of high-quality, globally recognized standards of accounting practice,” this
© 2015 John Wiley & Sons Ltd, 9600 Garsington Road, Oxford OX4 2DQ, UK and 350 Main Street, Malden, MA 02148, USA.
Research and the Conceptual Framework 73
paper provides a commentary and research review by an ad hoc committee of the

IAAER on the IASB’s Discussion Paper DP/2013/1—A Review of the Conceptual
Framework for Financial Reporting. The comments focus on four main areas about
which prior academic research can inform standard setters in their consideration of the
revised Conceptual Framework: (1) recognition and derecognition, (2) measurement, (3)
presentation and disclosure, and (4) other comprehensive income. The views expressed
here by the ad hoc committee are those of the authors and do not necessarily reflect a
consensus view of the IAAER membership or its Executive Committee. The paper sup-
ports the IASB’s general objective of developing one set of globally acceptable account-
ing standards based on a cohesive and complete Conceptual Framework.
1. Introduction
The ad hoc committee of the International Association for Accounting
Education and Research (IAAER) was charged with the responsibility
of responding to the preliminary views on the revised Conceptual
Framework proposed by the International Accounting Standards
Board (hereafter, the IASB or the Board). The IASB’s preliminary
views are contained in Discussion Paper DP/2013/1—A Review of the
Conceptual Framework for Financial Reporting (hereafter, the Discus-
sion Paper) (IASB, 2013). This commentary paper provides an over-
view of the main issues we presented to the IASB in our response
letter, as well as the supporting prior literature that underpins our
views. It does not address all the aspects covered in the Discussion
Paper or in our original response.1
Our original response to the Discussion Paper was presented in the
context of concepts and principles already established in Chapters 1
and 3 of the Conceptual Framework (IASB, 2010a), in particular, the
objectives of general purpose financial reporting and the qualitative
characteristics of useful financial information. As these principles were
agreed upon through due process in the past and were not under
reconsideration, we did not evaluate them again (see Gebhardt et al.
(2014) for a discussion of these principles). Instead, the purpose of our
approach is to evaluate whether the concepts proposed in the Discus-
sion Paper fit into a cohesive and complete Conceptual Framework in a
manner which is internally consistent, as recommended by Barth
(2014).
The Conceptual Framework states that the objective of financial
reporting is to provide financial information about a reporting entity
that is useful to existing and potential investors, to lenders, and to
© 2015 John Wiley & Sons Ltd
74 Elizabeth A. Gordon et al
other creditors who want to make decisions about providing resources

to the entity (IASB, 2010a). The Conceptual Framework identifies the
qualitative characteristics of relevance (predictive value, confirmatory
value, or both) and faithful representation (complete, neutral, and free
from error) as fundamental characteristics of usefulness, and it lists
comparability, verifiability, timeliness, and understandability as
enhancing qualitative characteristics (IASB, 2010a).
Our main conclusions and recommendations are summarized below:
We agree that all assets and liabilities should be recognized if they
meet the definition of an element, because research shows that the
relevance of disclosed amounts is lower than that of the recognized
amount when reliability is a problem and disclosures are not salient.
This effect also varies with the level of sophistication of capital pro-
viders.
We propose giving additional consideration to the view that the rel-
evance of a particular measurement depends on the manner in
which investors, creditors, and other lenders are likely to assess how
an asset or a liability will contribute to future cash flows.
We argue that it is important for the revised Conceptual Framework
to provide additional guidance on how to make disaggregation
choices.
We suggest that the definition of useful information in the context
of the notes to the financial statements should also be tied to the
qualitative characteristics listed in Chapter 3 of the current Concep-
tual Framework. In particular, we believe that an important purpose
of the notes to financial statements is to ensure that the financial
statements combined with the notes reflect these qualitative charac-
teristics.
We propose that the prominent distinction between profit or loss
and other comprehensive income be dropped. Instead, the IASB
should investigate alternatives to improve the disaggregation of
comprehensive income.
In the remainder of this commentary, we focus on four areas where
academic research can inform the standard setters: (1) recognition and
derecognition, (2) measurement, (3) presentation and disclosure, and
(4) other comprehensive income (OCI). We acknowledge that our
discussion of academic research in this commentary does not constitute
a complete review of the academic literature. Instead, we select the

literature we regard as most pertinent to and informative about the

issues in the Discussion Paper.
2. Recognition and Derecognition

Recognition and derecognition are discussed in Section 4 of the Dis-
cussion Paper. The IASB’s preliminary view is that an entity should
recognize all its assets and liabilities, unless the IASB decides, in devel-
oping or revising a particular standard, that an entity need not, or
should not, recognize an asset or a liability because it would not be
relevant, or because no measure of the asset (or the liability) would
result in a faithful representation. This area has been of academic
interest for some time, because accounting standards have required,
and still require, that some items meeting the definitions of assets and
liabilities not be recognized in the financial statements, but rather dis-
closed. For example, derivative assets and liabilities were not recog-
nized prior to IAS 39, Financial Instruments: Recognition and
Measurement. Likewise, assets and liabilities arising from share-based
payments were not recognized prior to IFRS 2, Share-based payments,
but were disclosed in terms of IAS 19, Employee benefits. An existing
example includes assets and liabilities arising from operating lease con-
tracts, which are not recognized in terms of IAS 17, Leases, but are
accounted for as income or expense on a straight-line basis.
Academic research relevant to the question of recognition (and de-
recognition) examines whether there are differences between how capi-
tal market participants use information that is recognized versus how
they use information that is only disclosed. Overall, research suggests
that there are some differences in how capital market participants view
recognized information versus disclosed information. The differences in
the processing of recognized and disclosed amounts have been attrib-
uted to various causes, including the processing costs of footnote dis-
closures (Barth et al., 2003), the reliability or quality of information
(Choudhary, 2011), and behavioral biases (Hirshleifer and Teoh,
2003). However, there is limited direct evidence on the relevance of
recognized versus that of disclosed items. There has also been little
research on whether an item is a faithful representation.
To examine relevance, accounting research generally relies on a val-
uation model that investigates the association between market value
(or changes in market value) of equity securities on the one hand and
measures of the book value of equity (or earnings) on the other. In the
context of the recognition versus the disclosure of an unrecognized

item, the measures of the book value and earnings can be based on the
disclosed amounts or estimated amounts that would be reported. If the
accounting measure is significantly associated with the market valua-
tion, then the measure is considered relevant, irrespective of whether it
is recognized or disclosed. Different weighting of the recognized versus
the disclosed amounts could indicate differences in relevance. Schipper
(2007) observes that there are at least three views on whether and how
capital market participants use recognized or disclosed amounts:
a “no differences” view, which suggests that all financial reporting
information is used in the same way, regardless of where it is
reported;
a “rational differences” view, which suggests that recognized and
disclosed items differ in information features such as reliability,
which affect decision usefulness2 ; and
a “user characteristics” view, which suggests that cognitive factors
including biases induce differences in how disclosed and recognized
items are used.
Academic research has identified differences in how capital market
participants use recognized versus disclosed items (e.g., Davis-Friday
et al., 1999; Ahmed et al., 2006). Therefore, the “no differences” view
is not descriptive, nor is it conclusive as to why differences exist. For
example, Davis-Friday et al. (2004) have investigated post-retirement
benefit disclosures required by the Securities and Exchange Commis-
sion’s Staff Accounting Bulletin 74 prior to recognition under SFAS
106 in the United States. Their findings indicate lower valuation
weights on the required disclosures than on the recognized amounts,
which implies that the disclosures are less reliable than the recognized
amounts. Similarly, Ahmed et al. (2006) have investigated differences
in the value relevance of the disclosed versus recognized fair value of
derivatives held by bank-holding companies in the context of SFAS
133. Prior to SFAS 133, the fair values of some derivatives were dis-
closed. Since the adoption of SFAS 133, fair values are recognized.
Ahmed et al. (2006) show that recognized fair values of derivatives are
significantly associated with market values, whereas disclosed fair val-
ues of derivatives are not.
Differences between disclosed and recognized amounts could be due
to distinct information features of the disclosed information (“rational
differences”) or cognitive factors in processing the information (“user
Table 3. (Continued)
IASB Preliminary View in
Questions Discussion Paper IAAER Ad Hoc Committee Response
The Discussion Paper presents a list of example We agree that this list provides good examples,
disclosures the Board can consider (see Table but we believe these examples could also be
7.1 of the Discussion Paper). discussed in terms of how they reflect the
qualitative characteristics of financial
information.
A complete set of financial statements includes We agree with this view, because it is based on
information about the preceding period. But the qualitative characteristic of comparability.
additional comparative information is
permitted and sometimes required. The IASB
regards this comparative information as an
integral part of the financial statements.
Research and the Conceptual Framework

91
statements, (2) the objective of primary financial statements, (3) classi-

fication and aggregation, (4) offsetting, and (5) the relationship
between primary financial statements. Table 2 summarizes these ques-
tions, the IASB’s preliminary views as expressed in the Discussion
Paper, and our responses. Below, we discuss research related to items
1, 3, and 5 above, as these are the most pertinent issues addressed in
the academic literature.
4.1.1. Identifying primary financial statements. Little research has

addressed the question of whether the statement of financial position,
the statement of profit or loss, the statement of changes in equity, and
the statement of cash flows should be regarded as primary financial
statements—this question has not been of interest, given the consensus
in the profession that these four kinds of statement are primary. How-
ever, a number of studies have been conducted in response to the
debate on whether to report items of OCI directly in shareholders’
equity, or in a performance statement. These studies are discussed
below.
Hirst and Hopkins (1998) conduct an experiment that suggests that
analysts are better able to adjust company valuations for earnings
management when net income and OCI are presented on the same
page. Thus, they provide evidence in support of contiguous (same
page) reporting for net income and OCI. However, they do not explic-
itly compare the option of a single performance statement title versus
two performance statement titles.
Hunton et al. (2006) show empirical evidence that financial execu-
tives are less likely to manage earnings through the selective sale of
securities when OCI is reported in a single statement of comprehensive
income. Although Hunton et al. (2006) used a single statement, they
compare the reporting of items in OCI between the statement of
changes in equity and a single performance statement. They do not
include the option of two performance statements in their empirical
design.
Lee et al. (2006) show that property-liability insurers who smooth
earnings by “cherry-picking” realized gains and losses on certain mar-
ketable securities are less likely to report comprehensive income in a
performance statement. Their sample included 29 companies with
separate statements of comprehensive income and 13 companies with a
combined statement (of a total of 82 companies), but separate tests for
these groups were not carried out. Chambers et al. (2007) also
Table 1. Measurement
Do you agree with The IASB’s preliminary view is In general, we agree with the stated objective of measurement that a single measurement
the IASB’s that the objective of measurement basis may not provide the most relevant information, that the IASB should consider the
preliminary views is to contribute to the faithful information in all financial statements, and that the benefits of a particular
on how the representation of relevant measurement should be sufficient to justify the costs. These parts are consistent with the
objective of information about the resources objective of general-purpose financial reporting and qualitative characteristics in the
financial reporting of the entity, claims against the current Conceptual Framework. However, although keeping the number of different
and the qualitative entity, and changes in resources measurement bases to a minimum is desirable, we do not consider it a primary goal.
characteristics of and claims; and how efficiently The selection of a measurement basis should be founded on the objective of financial
useful financial and effectively the entity’s reporting and qualitative characteristics.
information affect management and governing board
measurement? have discharged their
responsibilities to use the entity’s
resources. The Discussion Paper
states that a single measurement
basis for all assets and liabilities
may not provide the most
relevant information for users of
financial statements.
Further, when selecting the
measurement to use for a
particular item, the IASB should
consider what information that
measurement will produce in both
the statement of financial position
and the statement(s) of profit or
loss and OCI.

79
80

Do you agree with The IASB’s preliminary views on The IASB’s preliminary view that the relevance of a particular measurement depends on
the IASB’s the subsequent measurement of how investors, creditors, and other lenders are likely to assess how an asset or a liability
preliminary views assets are based on how an asset will contribute to future cash flows merits additional consideration. The Discussion
on the subsequent contributes to future cash flows Paper gives consideration to the qualitative characteristics and enhancing characteristics

measurement of and whether an asset is a financial of usefulness in determining the measurement basis. This focus on future cash flows
assets? asset. appears to emphasize the predictive value aspect of relevance. Information is not
Do you agree with The IASB’s preliminary views on necessarily relevant when it has the attribute of predicting itself (Barth, 2007; Footnote
the IASB’s the subsequent measurements of 10). For example, cost-based depreciation is persistent; in other words, it has the ability
preliminary views liabilities are based on whether a to predict future values of itself. However, cost-based depreciation may not necessarily
on the subsequent liability will be transferred or be predictive of future cash flows. The academic research shows that fair values help
measurement of settled. predict future cash flows (e.g., Easton et al., 1993; Aboody et al., 1999; Gordon, 2001;
Elizabeth A. Gordon et al
liabilities? Muller and Riedl, 2002). However, current fair values or changes in them do not
Do you agree with For some financial assets and necessarily predict future fair values or changes in them and need not do so to have
the IASB’s liabilities (e.g., derivatives), basing predictive value that is useful to financial statement users (Barth, 2007, Footnote 10).
preliminary views measurement on the way in which Further, as noted in the Discussion Paper, it is well established in economic theory that
on the most the assets contribute to cash firm value is the discounted sum of its future cash flows. Each asset and liability, then,
relevant measure flows, or the way in which the can also be measured at the present value of its future cash flows. Based on this, the
for certain financial liabilities are settled or fulfilled, value of an asset or liability is the sum of the present value of its future cash flows,
assets and financial may not provide useful regardless of how it is being used. That is, economic theory does not address how the
liabilities? information. individual asset or liability contributes to future cash flows.
As inventory is held for sale, there is also a question on the consistency of accounting
for inventory using a cost-based measure. Current market-based measures are being
considered for other assets held for sale. Although they are discussed in the Discussion
Paper (paragraphs 6.80 and 6.81), the arguments for the exclusion of inventory are not
internally consistent. Excluding inventory that is held for sale seems to be an exception
that does not exist at the conceptual level.
Moreover, the Discussion Paper does not allow for the revaluation of non-financial
assets, such as long-lived tangible and intangible assets, currently allowed under IFRS.
As discussed below, academic research suggests that long-lived asset revaluations are
related to firm value and are informative to financial statement users.
address measurement, this has been one of the most eagerly awaited
sections of the Discussion Paper.
The IASB identifies three measurement bases: (1) cost-based mea-
surements, (2) current market prices (including fair value), and (3) other
cash flow-based measurements. An important aspect of the IASB’s pre-
liminary views is that the most appropriate measurement basis for
assets or liabilities depends on how the asset or liability contributes to
an entity’s future cash flows. The IASB argues that assets such as prop-
erty, plant, and equipment used in business operations to generate reve-
nues, income, or expenses contribute indirectly to an entity’s cash flows.
Consequently, the IASB believes that the current market price does not
necessarily provide the best information about the cash flows that an
asset will generate for the firm and that a cost-based measurement may
be more appropriate for such assets. Because fair value captures the
present value of future cash flows that market participants expect from
the stand-alone asset (Barth, 2014), the IASB’s preliminary view sug-
gests that existing and potential capital providers find fair value infor-
mation less useful than cost-based measurements for such assets.
A key consideration in the Discussion Paper relating to the subse-
quent measurement of assets and liabilities appears to be how an asset
contributes to future cash flows. If the cash flows are largely indepen-
dent from other activities of a firm (e.g., because the asset or liability
is held for being sold separately), the future cash flow is best repre-
sented by an arm’s length market price, and the IASB argues that fair
value is the most appropriate measurement base for these kinds of
items. This view is consistent with a prominent stream of academic
research that explores the informativeness of fair values by examining
the association between fair values and future firm performance, fair
values and market values, and fair values and other relevant firm char-
acteristics.3 As the use of fair values is most widespread in accounting
for financial instruments, most studies have investigated the fair values
of financial assets and financial liabilities. As noted in Barth (2007),
these studies provide evidence that supports the view that fair value is
a valid measurement basis, consistent with the fundamental and
enhancing qualitative characteristics listed in the Conceptual Frame-
work. In other words, using fair values for financial assets and liabili-
ties results in relevant information, represents economic phenomena
faithfully, and enhances comparability within and across firms.

ally, if not separately reported, the question of recycling between profit

and loss and OCI becomes irrelevant. That is, comprehensive income
would be the key income measure. Recycling would no longer be
appropriate, because the items have already been reflected in a perfor-
mance measure.
5.4. Disaggregation and Remeasurement

Notwithstanding the conceptual shortcomings of the distinction
between profit and loss and OCI, users of financial statements desire
an earnings number that can be used for valuation purposes (Barker,
2004; Ohlson, 2006; Dichev, 2008; Dichev and Tang, 2008; Bromwich
et al., 2010; Rees and Shane, 2012). However, disaggregated disclo-
sures or an alternative presentation format for the statement of com-
prehensive income could be based on the concept of
“remeasurements.” The most significant advantage of using remeasure-
ments is that it is potentially less subjective than the attributes listed in
the Discussion Paper, as it does not vary along a continuum. Once a
remeasurement has been defined, a component of profit or loss is
either a remeasurement or it is not. Because remeasurements often
exhibit the attributes mentioned in Table 8.1 of the Discussion Paper—
they are unrealized and may be non-recurring, may be outside manage-
ment control, and may be subject to measurement uncertainty. Thus,
remeasurements may be able to provide useful information to the users
of financial statements about items of comprehensive income.
Previously, accounting standard setters have made various proposals
to incorporate requirements in the standards that oblige firms to pro-
vide information on remeasurements. Such proposals go back as far as
2001, when the matrix format of income statements was developed by
the IASB and the United Kingdom Accounting Standards Board (UK
ASB). The objective of their project was to ensure that the presenta-
tion of financial results would enhance users’ understanding of an
entity’s financial results by presenting a line-by-line disaggregation of
the income statement into columns for “remeasurements” and “before
remeasurements” (Barker, 2004). Barker (2004) argues in favor of the
matrix format, and Tarca et al.’s (2008) experiment to assess the
potential benefits of the matrix format shows that the matrix format
improves the accuracy with which users extract financial information
from an income statement.

5.5. Reconciliation Schedule

The IASB and the FASB developed a reconciliation schedule which
requires an entity to include a schedule in the notes to the financial
statements that reconciles cash flows with comprehensive income on a
line-by-line basis and that disaggregates comprehensive income into four
components, namely cash, accruals other than remeasurements, remea-
surements that are recurring fair value changes, and remeasurements
that are not recurring fair value changes (IASB, 2008). However, the
suggested reconciliation schedule has been criticized by the two Boards’
stakeholders, mainly due to the complexity of the preparation of the
schedule (IASB, 2009c). Despite such criticism, the findings of academic
research support this kind of detailed disaggregation (Lipe, 1986; Ohl-
son and Penman, 1992; Sloan, 1996; Dechow and Ge, 2006).
6. Conclusions
The ad hoc committee of the IAAER provided feedback to the IASB on
its Discussion Paper on the review of the Conceptual Framework. We
identify four areas in which academic research contributes to the stan-
dard setting debate: (1) recognition and derecognition, (2) measurement,
(3) presentation and disclosure, and (4) other comprehensive income.
Our review of the literature finds support for the IASB’s preliminary
view that all assets and liabilities should be recognized if they meet the
definition of an element, but we see no reason to demote the importance
of fair value measurement for assets and liabilities. We suggest that the
Conceptual Framework could benefit from a disclosure framework where
the purposes of disclosure are linked to the qualitative characteristics of
the financial information given. The literature does provide evidence
showing that items of OCI have different characteristics from items
included in profit or loss. The literature also shows that other items cur-
rently recognized within profit or loss behave in a similar fashion to
items of OCI. Based on this evidence, we recommend that the IASB
considers eliminating the distinction between profit or loss and OCI, and
investigate alternative disclosure practices to highlight the effect of any
remeasurements included in comprehensive income.

area has found that upward revaluations of long-lived assets are asso-
ciated with future firm performance and cash flows (Aboody et al.,
1999). However, this research has not specifically addressed how—
whether directly or indirectly—an asset or liability contributes to
future cash flows. For tangible long-lived assets, research shows that
fair value revaluations are related to firm market values (Easton et al.,
1993; Aboody et al., 1999; Gordon, 2001; Muller and Riedl, 2002).
These studies typically examine the association between the revalued
amount, or the increment between historical cost and the revalued
amount, and firm market prices or returns. The studies report that
revalued amounts are significantly related to market measures and usu-
ally increase the ability of accounting information to explain market
prices. By contrast, Barth and Clinch (1998) provide no evidence that
asset revaluations of long-lived tangible assets are related to firm value,
but suggest that those of intangible assets are.
Other studies question whether the informativeness of fair values is
associated with the source of the fair value estimate. Muller and Riedl
(2002) demonstrate that the fair value estimates of investment proper-
ties by appraisers are more relevant than those by managers. By con-
trast, Barth and Clinch (1998) report that the source of the fair value
for long-lived asset revaluations (management or external appraisers)
does not matter. The Discussion Paper does not propose to allow fair
value reporting for long-lived assets, but research indicates that there
are circumstances under which these amounts can be relevant and do
faithfully represent economic transactions and events.
3.3. Financial Statement Presentation

The academic literature has also expressed concern about the effect of
a shift toward a fair value-based balance sheet on the usefulness of
earnings. As recognized fair value changes are reflected in profit or
loss, one consequence is that earnings are arguably measured closer to
“economic income.” However, economic income introduces transitory
elements that exhibit low persistence into earnings (Dichev, 2008; Di-
chev and Tang, 2008). In this regard, Schipper and Vincent (2003: 99)
argue that persistence is a desirable earnings quality attribute, because
a particular realization from a persistent earnings series “is a more
readily usable shortcut to valuation by, for example, a price-to-
earnings multiple.” Hence, the presence of transitory income
components makes current accounting earnings a poor proxy for
future expected earnings (Ohlson, 1999; Van Cauwenberge and de

Beelde, 2007).
The main concern with aggregate earnings incorporating unrealized
fair value changes of assets and liabilities is that such aggregate earn-
ings include non-recurring items that obscure the valuation properties
of earnings. Dichev and Tang (2008) document a deterioration of all
key properties of earnings, including persistence and volatility, over
40 years. They attribute their findings to the fact that standard setters
have moved away from matching to fair value accounting.
We therefore argue that it is appropriate for the IASB to consider
the effect of measurement on both the statement of financial position
and the statement of comprehensive income. In this regard, we believe
that the mixed measurement outcome reflected in earnings should be
addressed through the presentation and/or disclosure of remeasure-
ments, as we advocate in our discussion of the Statement of Compre-
hensive Income in Section 5 of this paper.
4. Presentation and Disclosure

Presentation and disclosure are discussed in Section 7 of the Discussion
Paper. Tables 2 and 3 summarize the questions on presentation and
disclosure, the IASB’s preliminary views as expressed in the Discussion
Paper, and our committee’s responses. The existing Conceptual Frame-
work does not present guidance on presentation or disclosure. Thus,
there is an opportunity to create a comprehensive and consistent
framework for presentation and disclosure.
4.1. Presentation in the Primary Financial Statements

At the start of this section, we would like to acknowledge the previous
work of the IASB and the FASB in the 2008 Discussion Paper,
Preliminary views on financial statement presentation (IASB, 2008). This
document established three objectives of financial statement presenta-
tion (cohesiveness, disaggregation, liquidity, and financial flexibility)
and related principles from the overall objective of financial reporting.
In our view, the Conceptual Framework would benefit from a greater
emphasis on these objectives and principles of financial statement
presentation.
The IASB discusses five aspects of presentation related to the
primary financial statements: (1) identifying the primary financial
Table 2. Presentation in the Primary Financial Statements
86
IASB Preliminary View in Discussion

Questions Paper IAAER Ad Hoc Committee Response
Should guidance designating the The primary financial statements are “(a) the We agree that the statement of financial
primary financial statements be statement of financial position, (b) the position, the statement of changes in equity,
included in the Conceptual statement of profit or loss and OCI (or the and the statement of cash flows are all

Framework on presentation? statement of profit or loss and the statement of primary financial statements. However, we
comprehensive income), (c) the statement of believe that all items of income and expense
changes in equity, and (d) the statement of (all non-owner changes in shareholders’
cash flows.” equity) should be presented in a single
statement of comprehensive income.
Should guidance on the The objective of the primary financial We agree with the objective of primary
objective of the primary statements is to provide “summarized financial statements, as it follows the
statements be included in the information about recognized assets, liabilities, objective of financial reporting already
Conceptual Framework on equity, income, expenses, changes in equity, established in the existing Conceptual
presentation? and cash flows that has been classified and Framework.
aggregated in a manner that is useful to users
of financial statements in making decisions
about providing resources to the entity.” This
information is intended to provide information
about financial position, financial performance,
and how efficiently and effectively management
has discharged its responsibility to use the
entity’s resources.
Should guidance on Classification is the “sorting of items based on The Discussion Paper provides guidance on
classification and aggregation shared qualities” and aggregation is “the how to classify and aggregate. Although the
be included in the Conceptual adding together of individual items within negative consequences of inappropriate
Framework on presentation? those classifications.” Items should be classified aggregation are pointed out, no guidance is
and aggregated into line items and subtotals if provided on the important issue of when to
they are similar in function (e.g., selling goods disaggregate items. The preliminary view, as
and services, or manufacturing), similar in written, could be interpreted to imply that
nature (e.g., wholesale and retail revenues, items should be disaggregated only if they
fixed-income and equity investments), or are dissimilar in function, dissimilar in
similar in measurement attribute (e.g., cost and nature, and dissimilar in measurement
fair value). attribute. Further, disaggregation decisions
appear to be left to the entity, with an
option for intervention by the IASB for
particular items. We believe that providing
additional guidance on how to make
disaggregation choices is critical for the
revised Conceptual Framework.
Should guidance on offsetting Offsetting is combining “dissimilar items (assets/ We agree with the view that offsetting does
be included in the Conceptual liabilities, income/expenses, cash receipts/cash not provide the most useful information.
Framework on presentation? payments, contributions to equity/distributions We agree that the IASB should require
of equity).” Offsetting generally does not disclosure of the gross amounts of items
provide the most useful information, but the that are offset in the financial statements.
IASB may choose offsetting when it provides a
more faithful representation, or for cost–
benefit reasons.

87
88

Should guidance on the No primary financial statement has primacy, We agree with the IASB that all four
relationship between primary but all of them should be looked at together. primary financial statements should be
financial statements be Furthermore, financial statements are more considered together. However, we would
included in the Conceptual informative to users if relationships between like to see the Board provide more definite
Framework on presentation? the statements and among the line items are guidance about how to clarify the
made clear. relationship between the statements and line
items. Specifically, we recommend the
Board consider requiring that companies
use the direct method to prepare their cash
flow statement, and provide reconciliations
between line items on the statement of
comprehensive income and the cash flow
statement.
Table 3. Disclosure in the Notes to the Financial Statements
Should guidance on the The objective of the notes to the financial We believe that the definition of useful
objective of the notes to the statements is “to supplement the primary information in the context of the notes to the
financial statements be financial statements by providing additional financial statements should also be tied to the
included in the Conceptual useful information about (a) the assets, qualitative characteristics in Chapter 3 of the
Framework on disclosure? liabilities, equity, income, expenses, changes in current Conceptual Framework. In particular,
equity, and cash flows of the entity and (b) we believe that an important purpose of the
how efficiently and effectively the entity’s notes to the financial statements is to ensure
management and governing board have that combined financial statements and notes
discharged their responsibilities to use the reflect these qualitative characteristics. Below,
entity’s resources.” The IASB defines useful we offer a revision of the first sentence of –34
information as information that helps users for the Board’s consideration:
understand the “amount, timing, and “To be useful, the information provided in the
uncertainty of an entity’s future net cash notes to the financial statements should reflect
inflows,” as well as how disclosures “reflect the qualitative characteristics of financial
actions taken by management to discharge information in order to help users of financial
their responsibilities to use the entity’s assets” statements understand the amount, timing, and
(e.g., by protecting the entity’s assets from uncertainty of an entity’s future net cash
unfavorable economic factors and ensuring flows.”
that the entity is in compliance with the
applicable laws, regulations, and contractual
provisions).

89
90

Should guidance on the scope Disclosures that would normally be required in We believe this list could be expanded if the
of the notes to the financial a general disclosure standard or in particular Board considers tying the disclosure
statements, including the types standards include (a) information about the framework to the qualitative characteristics.

of information and disclosures reporting entity as a whole to understand the
that are relevant to meet the financial statements and the effectiveness of the
objective of the notes to the manager’s stewardship, (b) amounts recognized
financial statements, forward- in the primary financial statements, including
looking information, and changes in these amounts, for example, the
comparative information, be disaggregation of line items, roll-forwards, and
included in the Conceptual reconciliations, (c) the nature and extent of the
Framework on disclosure? entity’s unrecognized assets and liabilities, (d)
the nature and extent of risks arising from
(recognized or unrecognized) assets or
liabilities, and (e) the methods, assumptions
and judgments, and changes therein, which
affect the amounts presented or disclosed.
Forward-looking information should only be We believe the term “forward-looking
required in the notes to the financial information” in this context may be
statements if it provides “relevant information misleading. The financial statements and notes
about assets and liabilities that existed at the include forward-looking information in
end of the reporting period or during the numerous areas (estimates of useful lives, loan
reporting period.” Relevant information is that loss estimates, inventory reserves, cash flow
information needed to understand reported projections for impairment analysis, fair value
measures (e.g., measures based on future cash estimates, etc.). Therefore, we encourage the
flows) and to understand the sensitivity of Board to keep considering different types of
those measures to risk and to assumptions and forward-looking information and then derive
judgments made during measurement. the appropriate placement.
The Discussion Paper presents a list of example We agree that this list provides good examples,
disclosures the Board can consider (see Table but we believe these examples could also be
7.1 of the Discussion Paper). discussed in terms of how they reflect the
qualitative characteristics of financial
information.
A complete set of financial statements includes We agree with this view, because it is based on
information about the preceding period. But the qualitative characteristic of comparability.
additional comparative information is
permitted and sometimes required. The IASB
regards this comparative information as an
integral part of the financial statements.

91
statements, (2) the objective of primary financial statements, (3) classi-

fication and aggregation, (4) offsetting, and (5) the relationship
between primary financial statements. Table 2 summarizes these ques-
tions, the IASB’s preliminary views as expressed in the Discussion
Paper, and our responses. Below, we discuss research related to items
1, 3, and 5 above, as these are the most pertinent issues addressed in
the academic literature.
4.1.1. Identifying primary financial statements. Little research has

addressed the question of whether the statement of financial position,
the statement of profit or loss, the statement of changes in equity, and
the statement of cash flows should be regarded as primary financial
statements—this question has not been of interest, given the consensus
in the profession that these four kinds of statement are primary. How-
ever, a number of studies have been conducted in response to the
debate on whether to report items of OCI directly in shareholders’
equity, or in a performance statement. These studies are discussed
below.
Hirst and Hopkins (1998) conduct an experiment that suggests that
analysts are better able to adjust company valuations for earnings
management when net income and OCI are presented on the same
page. Thus, they provide evidence in support of contiguous (same
page) reporting for net income and OCI. However, they do not explic-
itly compare the option of a single performance statement title versus
two performance statement titles.
Hunton et al. (2006) show empirical evidence that financial execu-
tives are less likely to manage earnings through the selective sale of
securities when OCI is reported in a single statement of comprehensive
income. Although Hunton et al. (2006) used a single statement, they
compare the reporting of items in OCI between the statement of
changes in equity and a single performance statement. They do not
include the option of two performance statements in their empirical
design.
Lee et al. (2006) show that property-liability insurers who smooth
earnings by “cherry-picking” realized gains and losses on certain mar-
ketable securities are less likely to report comprehensive income in a
performance statement. Their sample included 29 companies with
separate statements of comprehensive income and 13 companies with a
combined statement (of a total of 82 companies), but separate tests for
these groups were not carried out. Chambers et al. (2007) also
aggregate companies reporting OCI in a single performance statement

with those reporting in two performance statements. Less than 20% of
the firms in their sample reported OCI in a single performance state-
ment, and the association of certain components of OCI with stock
returns for these companies was not value relevant. Chambers et al.
(2007) suggest that this finding may result from low power; they note
that “it is difficult to imagine reporting location affecting the pricing of
one component of OCI and not another” (p. 589).
Bamber et al. (2010) show that firms that exercise the choice in
accounting standards to present comprehensive income in equity rather
than in a performance statement tend to be headed by CEOs with
strong equity incentives and low job security. Although Bamber et al.’s
(2010) primary analysis combines companies reporting OCI in a single
performance statement with those reporting in two separate perfor-
mance statements, they also report evidence consistent with the
argument that companies reporting in a single statement are different
from those reporting in two separate performance statements (see
Bamber et al.: 120–121).
We conclude that the research to date provides evidence of the
usefulness of reporting OCI in a single performance statement of
comprehensive income. However, we also believe that more research
explicitly addressing whether it is useful to use one or two performance
statements could inform the debate further.
4.1.2. Aggregation and classification. A number of research studies have

found evidence of the usefulness of disaggregating components of
income based on particular principles such as value relevance, persis-
tence, and predictive value (see Lipe, 1986; Fairfield et al., 1996; Sloan,
1996; Ohlson, 1999; Barth et al., 2001; Burgstahler et al., 2002;
Dechow and Ge, 2006; Cready et al., 2010; Jones and Smith, 2011;
Libby and Brown, 2013; Venter et al., 2013). These characteristics are
also closely related to concepts in the Conceptual Framework.
Research in this area concludes that disaggregating components of
earnings with differing characteristics such as value relevance, persis-
tence, and predictive value is useful to investors and creditors. For
example, Lipe (1986) reports a stronger market reaction to components
of earnings which exhibit greater persistence. Fairfield et al. (1996)
show that forecasts of future return on equity improved when they
were based on components of earnings disaggregated by function.
Tarca et al. (2008) present experimental evidence that disaggregating
earnings into “earnings before remeasurements” and “remeasurements”

from the income statement. Venter et al. (2013) demonstrate that man-
datory disaggregation of certain earnings components in the case of
South Africa helps investors price components of earnings consistent
with their persistence. Finally, Libby and Brown (2013) show that pre-
senting disaggregated components of earnings may increase the reli-
ability of financial statements. Additional research related to
disaggregation that focuses on OCI is presented in Section 6 of this
paper.
The Discussion Paper gives guidance on how to classify and aggre-
gate. Although the negative consequences of inappropriate aggregation
are pointed out, guidance is not provided on the important issue of
when to disaggregate items. We recognize that it is difficult to opera-
tionalize the abstract principles upon which to base disaggregation
decisions. For example, what if two items are similar in terms of pre-
dictive value, but differ in persistence? Should there be a hierarchy of
principles? Moreover, once a set of principles for disaggregation is
determined, should management make the decision on which items to
disaggregate? Or should a characteristic such as persistence, for exam-
ple, be used to create mandatory disaggregation categories?
In spite of these difficulties, we believe that the IASB in its joint
financial statement project on financial statement presentation with the
FASB has made progress in this regard by documenting a disaggrega-
tion objective and related principles. We believe that the Conceptual
Framework would benefit from the inclusion of these objectives and
principles.
It is important to note that this section of the Discussion Paper explic-
itly addresses classification and aggregation on the face of the financial
statements. However, it is also important to note that even if items are
aggregated into one line on the financial statements, disaggregated infor-
mation can be provided in other ways. Options include presenting disag-
gregated information parenthetically on the face of a financial statement
(e.g., fair value measurements), in the notes to the financial statements
(e.g., pensions), and even in separate financial statements (e.g., OCI).
We discuss these and related issues later in this paper.
4.1.3. Relationship between primary financial statements. There is little

literature on this topic, broadly defined, but recent research has
addressed the issue of the usefulness of cash flow statements that
present cash flows from operations under the direct method. Hales and
Orpurt (2013) provide an overview of the academic literature on the
reporting of cash flows from operations. Their review emphasizes that
the direct method components of cash flow from operations contain
incremental information to the indirect method, which enhances pre-
dictions of future cash flows and earnings. The stock returns of firms
disclosing direct method information contain more information about
future performance than those of firms that disclose only indirect
method information.
In addition, the derivation of direct method cash flow components
from externally available information on the income statement and bal-
ance sheet (e.g., the derivation of cash received from customers from
sales revenues and changes in accounts receivables) may contain signifi-
cant measurement error. Important accounting issues resulting in the
lack of financial statement articulation are foreign currency translation
or M&A activities. Therefore, those derivations provide only proxies for
actual cash inflows and cash outflows from operating activities. Only
internal data could enable users to arrive at the actual cash flow without
error (see Austin and Bradbury, 1995; Krishnan and Largay, 2000; also
see Drtina and Largay, 1985; Huefner et al., 1989 on the general prob-
lem of non-articulation of the statement of cash flows). Consistent with
this research, our view is that the direct method of the cash flow state-
ment provides a clearer link between the statement of comprehensive
income and the operating section of the cash flow statement than the
indirect method. In considering whether to require companies to use the
direct approach, the costs to the company should also be considered.
Experimental research has also found evidence that the current
“reverse order” of the indirect method (i.e., starting from net income
and reconciling it to cash flow from operations by adding back non-
cash expenses) is more difficult for users to understand than a reconcil-
iation that would start with cash from operations and end with net
income (see Hodder et al., 2008). As a result, IASB could provide
more definite guidance on how to clarify the relationships between the
statements and line items, with a specific consideration of whether to
require companies to use the direct method to present their cash flow
statement, and provide reconciliations between line items on the state-
ment of comprehensive income and the cash flow statement. The IASB
could also consider whether changing the current “reverse order” of
the indirect method to a reconciliation that starts with cash flow from
operations and ends with net income is an improvement.
4.2. Disclosure in the Notes to the Financial Statements

A pertinent consideration in the Discussion Paper is the objective of
the notes to the financial statements. The IASB’s preliminary view is
that the objective of the notes to the financial statements is to supple-
ment the primary financial statements by providing additional useful
information about 1) the assets, liabilities, equity, income, expenses,
changes in equity, and cash flows of the entity and, 2) how efficiently
and effectively the entity’s management and governing board have dis-
charged their responsibilities to use the entity’s resources. Schipper
(2007), in her discussion of required disclosures, claims that standard
setters lack a conceptual purpose for disclosures and that decisions
about disclosure requirements in specific standards are ad hoc.4 She
hypothesizes that this is due to the difficulty in defining a clear objec-
tive function for required disclosures, which are “economy-level policy
choices, affecting multiple firms that differ in terms of both economic
circumstances and contracting arrangements and parties” (Schipper,
2007, p. 303). However, Schipper (2007) argues that the purposes of
disclosures are implicit in specific standards. For example, three
(apparent) purposes of disclosure in the FASB’s standards on pensions
and other post-retirement benefits (SFAS 132 and SFAS 132R) are
“disaggregation to aid in prediction; display of estimates and assump-
tions to facilitate the assessment of measurement uncertainty; provision
of an alternative accounting treatment” (Schipper, 2007, p. 305).
We cite the three examples of Schipper (2007) above to illustrate their
relation to the qualitative characteristics of financial information. Spe-
cifically, we believe that the implicit purpose of “disaggregation to aid in
prediction” is to ensure that the financial statements and notes reflect
the qualitative characteristic of relevance (namely the predictive value
and confirmatory value). In our opinion, “displaying estimates and
assumptions to facilitate the assessment of measurement uncertainty”
ensures that the financial statements and notes reflect the qualitative
characteristic of faithful representation. We also believe that “provision
of an alternative accounting treatment” helps financial statements and
notes to reflect the qualitative characteristic of comparability.
As the institutional environments of firms that are required to apply
IFRS (or do so voluntarily) are very heterogeneous, non-compliance
with mandatory footnote disclosures is a considerable risk that the
board should take into account when moving information from finan-
cial statements into footnotes. Empirical accounting research
documents that a substantial number of IFRS-adopting firms do not

fully comply with disclosure requirements when preparing audited
financial statements under IFRS (e.g., Glaum and Street, 2003; Glaum
et al., 2013; Bischof et al., 2014b). Compliance is positively associated
with the quality of the governance structure at the firm level and the
strength of enforcement and other supervisory institutions at the coun-
try level. As the strength of enforcement varies considerably across
IFRS-adopting countries (Brown et al. 2014), we caution that footnote
disclosures are not necessarily the best solution to overcome an alleged
lack of informativeness of the primary financial statements in any insti-
tutional environment.
Thus, we suggest that the IASB examine the explicit and implicit
purposes embodied in existing standards to determine whether the
Conceptual Framework could benefit from a disclosure framework
where the purposes of disclosure are linked to the qualitative charac-
teristics of financial information.
5. Other Comprehensive Income

Presentation in the Statement of Comprehensive Income is discussed in
Section 8 of the Discussion Paper. Table 4 summarizes the questions
on this topic, the IASB’s preliminary views as expressed in the Discus-
sion Paper, and our committee’s responses.
5.1. Distinction between Profit and Loss and OCI

The IASB’s preliminary view is that the distinction between profit or
loss and OCI should be retained and that items could be recognized in
OCI when that enhances the relevance of profit or loss for the period.
The existing Conceptual Framework does not contain a concept for
OCI. Advocates of OCI reporting often argue that OCI gains and
losses are transitory in nature and should therefore not be regarded as
representative of a firm’s recurring earnings.
Dhaliwal et al. (1999) conducted one of the earliest studies on com-
prehensive income, following the release of SFAS 130 in the United
States. They report that comprehensive income is not more strongly
associated with firm’s market return than net income and, thus, con-
clude that comprehensive income is not a superior summary measure
of firm performance.5 Chambers et al. (2007) report, using actual mea-
sures of OCI, that OCI is priced on a dollar-for-dollar basis and at a
Table 4. Other Comprehensive Income (OCI)
98

Topic Paper IAAER Ad Hoc Committee Response
Do you agree that the The Conceptual Framework should require a We agree that it is difficult to partition non-
Conceptual Framework total or subtotal for profit or loss. The Board owner-related changes in equity into a
should require a total or is persuaded by the arguments set out in component that reflects financial performance

subtotal for profit or loss? paragraph 8.20: (to include in profit/loss) and another
Why or why not? If you do “(a) users of financial statements are primarily component that does not (to include in OCI).
not agree do you think that interested in information about profit or loss Arguments have been made to justify such a
the IASB should still be and its consequences on the entity’s capacity to partitioning based on many different attributes:
able to require a total or pay dividends and to meet its obligations. operating/non-operating, realized/unrealized,
subtotal profit or loss when Presenting profit or loss as a total or subtotal persistent/transitory, predictive/non-predictive,
developing or amending therefore supports users’ needs. and value relevant/non-value relevant.
Standards? (b) profit or loss excludes remeasurement gains However, none of these attributes, singly or in
and losses that are potentially less predictive of combination, has yielded a clear and
future net cash inflows because they are not operationally satisfactory conceptual basis for
likely to persist or recur and are subject to partitioning non-owner changes in equity into
future changes in estimates or prices. In financial performance and “other.” Hence, this
addition, some remeasurements, such as those partitioning remains ad hoc in current
that result from factors such as changes in accounting standards. We recommend that a
interest rates, tend to unwind automatically subtotal for profit or loss not be required in
over the life of the remeasured asset or the Conceptual Framework unless the Board
liability. Consequently, the profit or loss total can present a clear conceptual basis for such a
or subtotal has more predictive value than partitioning, which can be operationalized in a
total comprehensive income. reasonable way. We believe that providing a
(c) profit or loss can be more closely aligned to statement of comprehensive income, with
an entity’s business model than total appropriately disaggregated information, but
comprehensive income and therefore provides without a subtotal for profit/loss (and thus
information from the perspective of without recycling), would be superior to a
management about how the entity’s resources statement partitioned on an ad hoc basis.
have been used.”
Topic Paper IAAER Ad Hoc Committee Response
Do you agree that the The Conceptual Framework should permit or As we do not support segregated reporting for
Conceptual Framework require at least some items of income and OCI gains and losses, the question about
should permit or require at expense previously recognized in OCI to be recycling is irrelevant, in our opinion. That is,
least some items of income recognized subsequently in profit or loss, in comprehensive income is an income measure,
and expense previously other words, recycled, as discussed in and therefore, recycling would not be
recognized in OCI to be paragraphs 8.23–8.26. appropriate, because the items have already
recognized subsequently in been reflected in a performance measure.
profit or loss, that is,
recycled?
Which of the two In the Discussion Paper, two approaches are We acknowledge that users of financial
approaches described in the explored that describe which items could be statements need an earnings figure number that
Discussion Paper regarding included in OCI: a narrow approach can be used for valuation purposes. We believe
which items could be (Approach 2A described in paragraphs 8.40– that this can be achieved with disaggregated
included in OCI do you 8.78) and a broad approach (Approach 2B disclosures or an alternative presentation
support, and why? If you described in paragraphs 8.79–8.94). format for the statement of comprehensive
support a different income based on the concept of
approach, please describe “remeasurements.”
that approach and explain
why you believe it is
preferable to the
approaches described in
this Discussion Paper.

99
lower valuation multiple than net income, consistent with the economic
theory that OCI items are transitory. Other studies also show that
OCI has characteristics that differ from those of items included in
profit or loss (e.g., Cahan et al., 2000; Kanagaretnam et al., 2009).
Part of the debate over OCI is due to the lack of a precise definition
of financial performance or earnings. Rees and Shane (2012) review
alternative items for inclusion in profit and loss (core items, persistent
items, items under management control, remeasurements), but con-
clude that, with the exception of remeasurements, these items are con-
tinuous in nature, which leads to difficulties in implementing a
partition and potential for manipulation. Barker (2004) also discusses
this issue, concluding that an economy-level definition of financial per-
formance that affects multiple firms with differing economic character-
istics and contracting arrangements is not a realistic objective for a
standard setter. Barton et al. (2010) show that no performance mea-
sure (such as net income or total comprehensive income) dominates
around the world. They deduce that “standard-setters should focus not
on what performance measure is ‘best’ at a given point in time, but on
the underlying attributes that investors find most relevant” (p. 753).
5.2. Non-GAAP Earnings

The Board agrees with the view that users of financial statements are
primarily interested in profit and loss. However, the literature shows
that financial statement users (such as analysts) are skilled at selecting
the components of earnings they believe to be most useful in forecast-
ing future cash flows and earnings if they are disclosed or presented in
the financial statements. In this regard, researchers have studied the
voluntary reporting of non-GAAP earnings.6 Dichev and Tang (2008,
p. 1455) describe a rapid increase in firms providing non-GAAP earn-
ings as an attempt to clarify “the important distinction between persis-
tent and recurring components of earnings [and] sporadic and non-
recurring components.” Hence, firms often engage in non-GAAP earn-
ings reporting in an attempt to provide an improved measure of
GAAP earnings for the purposes of predicting future cash flows and
firm value by disaggregating non-recurring items from recurring items
(Bhattacharya et al., 2007; Kolev et al., 2008).
Research suggests that non-GAAP earnings is a better summary
measure of performance than GAAP earnings. For example, Bradshaw
and Sloan (2002) show that Institutional Broker’s Estimate (I/B/E/S)
earnings, which exclude various non-recurring items reported under

GAAP, are more value relevant than GAAP earnings. Brown and Si-
vakumar (2003) report similar findings. Bhattacharya et al. (2003) con-
sidered actual non-GAAP press releases and, using short-window
abnormal returns, report that non-GAAP earnings are more informa-
tive and persistent than GAAP earnings. Entwistle et al. (2010) extend
these studies by showing that actual non-GAAP measures contained in
earnings press releases are more value relevant than I/B/E/S earnings,
which in turn are more value relevant than GAAP earnings.
One concern about value relevance studies of non-GAAP earnings
is that managers often use non-GAAP earnings reporting in opportu-
nistic ways. Venter et al. (2014) discuss the use of mandatory non-
GAAP earnings in South Africa, where managers’ motivation for
opportunistic reporting is minimized by the fact that such reporting is
mandatory, a consistent definition of non-GAAP earnings is used
across all firms and the figure is subject to audit. They demonstrate
that non-GAAP earnings reported under such a mandatory regime
have higher value relevance than GAAP earnings. Moreover, Venter
et al. (2013) show that the mispricing of special items (non-recurring
items recognized in profit or loss) in the United States, documented by
Dechow and Ge (2006), is not evident in the South African setting,
where reporting non-GAAP earnings is mandatory. This evidence sug-
gests that when the reporting of non-recurring items is compulsory,
investors are able to price earnings components in a manner consistent
with the actual persistence of these earnings components.
5.3. Special Items and OCI

A related stream of literature investigates a group of gains and losses
referred to as “special items” in the United States.7 Special items are rele-
vant to the OCI debate because, like OCI, they are assumed to be transi-
tory or non-recurring. However, unlike OCI, special items are
recognized in profit or loss. Various researchers have demonstrated
empirically that the value relevance of special items is lower than that of
other components of earnings (Dechow, 1994; Cheng et al., 1996; Col-
lins et al., 1997; Easton et al., 2000). This finding is consistent with the
argument that special items represent transitory income items (Collins
et al., 1997). In addition, Dechow and Ge (2006) present evidence that
the cash flow component of earnings has higher persistence than pre-spe-
cial item accruals, which is in turn more persistent than special items.
Jones and Smith (2011) compare OCI and special items in terms of
their value relevance, persistence, and predictive value.8 They show
that special items exhibit zero persistence, whereas OCI items exhibit
negative persistence, which suggests that OCI items partially reverse
over time. OCI is value relevant, but less so than special items and
other net income. Special items predict future net income and cash
flows for at least five years, whereas OCI predicts future income only
one year ahead. Jones and Smith (2011) report findings that support
providing disaggregated information about both special items and
OCI. However, they note that the usefulness of their results to deter-
mine presentation (inclusion in profit/loss or OCI) depends on the cri-
teria standard setters select (such as predictive value, persistence, and/
or value relevance). For example, Jones and Smith (2011) note that if
standard setters focus on predictive value, their results can be inter-
preted as supporting the inclusion (exclusion) of special item gains and
losses (OCI gains and losses) in net income. However, a focus on
persistence would raise questions about including special item gains
and losses, which are largely transitory, and questions about how to
treat OCI gains and losses, which exhibit negative persistence (albeit
possibly due to recycling).
Based on our discussion above, the academic literature supports the
view that OCI gains and losses have different degrees of persistence,
predictive ability, and/or value relevance, compared to items currently
included in profit or loss. The cited research supports that disaggre-
gating OCI gains and losses from other items of income and expense
could assist users of financial statements in assessing the amount, tim-
ing, and uncertainty of future cash flows. However, the literature also
shows that special items and non-GAAP earnings exclusions have dif-
ferent levels of persistence, predictive value, and value relevance from
other items included in profit or loss. This inconsistency raises a num-
ber of questions about the desirability of adopting different account-
ing treatments for items with similar characteristics. Furthermore,
while the findings in the OCI literature support the presentation of di-
saggregated information about items with different levels of
persistence, predictive value, and value relevance, there are many
approaches to providing disaggregated information. The literature
does not show that disaggregation should be achieved by separating
profit/loss and OCI.
To summarize, research does not provide a conceptual justification
for retaining the distinction between net income and OCI. Addition-
ally, if not separately reported, the question of recycling between profit

and loss and OCI becomes irrelevant. That is, comprehensive income
would be the key income measure. Recycling would no longer be
appropriate, because the items have already been reflected in a perfor-
mance measure.
5.4. Disaggregation and Remeasurement

Notwithstanding the conceptual shortcomings of the distinction
between profit and loss and OCI, users of financial statements desire
an earnings number that can be used for valuation purposes (Barker,
2004; Ohlson, 2006; Dichev, 2008; Dichev and Tang, 2008; Bromwich
et al., 2010; Rees and Shane, 2012). However, disaggregated disclo-
sures or an alternative presentation format for the statement of com-
prehensive income could be based on the concept of
“remeasurements.” The most significant advantage of using remeasure-
ments is that it is potentially less subjective than the attributes listed in
the Discussion Paper, as it does not vary along a continuum. Once a
remeasurement has been defined, a component of profit or loss is
either a remeasurement or it is not. Because remeasurements often
exhibit the attributes mentioned in Table 8.1 of the Discussion Paper—
they are unrealized and may be non-recurring, may be outside manage-
ment control, and may be subject to measurement uncertainty. Thus,
remeasurements may be able to provide useful information to the users
of financial statements about items of comprehensive income.
Previously, accounting standard setters have made various proposals
to incorporate requirements in the standards that oblige firms to pro-
vide information on remeasurements. Such proposals go back as far as
2001, when the matrix format of income statements was developed by
the IASB and the United Kingdom Accounting Standards Board (UK
ASB). The objective of their project was to ensure that the presenta-
tion of financial results would enhance users’ understanding of an
entity’s financial results by presenting a line-by-line disaggregation of
the income statement into columns for “remeasurements” and “before
remeasurements” (Barker, 2004). Barker (2004) argues in favor of the
matrix format, and Tarca et al.’s (2008) experiment to assess the
potential benefits of the matrix format shows that the matrix format
from an income statement.

5.5. Reconciliation Schedule

The IASB and the FASB developed a reconciliation schedule which
requires an entity to include a schedule in the notes to the financial
statements that reconciles cash flows with comprehensive income on a
line-by-line basis and that disaggregates comprehensive income into four
components, namely cash, accruals other than remeasurements, remea-
surements that are recurring fair value changes, and remeasurements
that are not recurring fair value changes (IASB, 2008). However, the
suggested reconciliation schedule has been criticized by the two Boards’
stakeholders, mainly due to the complexity of the preparation of the
schedule (IASB, 2009c). Despite such criticism, the findings of academic
research support this kind of detailed disaggregation (Lipe, 1986; Ohl-
son and Penman, 1992; Sloan, 1996; Dechow and Ge, 2006).
6. Conclusions
The ad hoc committee of the IAAER provided feedback to the IASB on
its Discussion Paper on the review of the Conceptual Framework. We
identify four areas in which academic research contributes to the stan-
dard setting debate: (1) recognition and derecognition, (2) measurement,
(3) presentation and disclosure, and (4) other comprehensive income.
Our review of the literature finds support for the IASB’s preliminary
view that all assets and liabilities should be recognized if they meet the
definition of an element, but we see no reason to demote the importance
of fair value measurement for assets and liabilities. We suggest that the
Conceptual Framework could benefit from a disclosure framework where
the purposes of disclosure are linked to the qualitative characteristics of
the financial information given. The literature does provide evidence
showing that items of OCI have different characteristics from items
included in profit or loss. The literature also shows that other items cur-
rently recognized within profit or loss behave in a similar fashion to
items of OCI. Based on this evidence, we recommend that the IASB
considers eliminating the distinction between profit or loss and OCI, and
investigate alternative disclosure practices to highlight the effect of any
remeasurements included in comprehensive income.

Notes
1. Our detailed submission to the IASB can be found at http://www.ifrs.org/Cur-
rent-Projects/IASB-Projects/Conceptual-Framework/Discussion-Paper-July-2013/Pages/
Comment-letters.aspx.
2. Much of the academic accounting literature examines the qualitative characteristics
of reliability rather than a faithful representation. In part, this difference is due to the
fact that reliability was a qualitative characteristic of accounting information until the
revised Conceptual Framework (IASB, 2010a) was issued. In this discussion, we refer to
reliability in a manner similar to Bratten et al. (2013: page 1180), who see reliability as
a construct that subsumes “the constructs represented by ‘verifiability’ and ‘representa-
tional faithfulness’ in Statement of Accounting Concepts No. 8 (FASB 2010), where
faithful representation means that a depiction is complete, neutral, and free from error.
Freedom from error refers to the inputs and process used to produce reported informa-
tion. Verifiability means that different knowledgeable and independent observers would
reach consensus.” Under IFRS terms, “reliability” is encapsulated by “faithful represen-
tation” (see discussion in Basis for Conclusions IASB, 2010a CF par BC3.20–3.25).
3. Several studies discuss the use of fair value accounting and the 2008 financial crises.
The overall conclusion of these studies is that the use of true fair value measures was not
very widespread before the crisis and that it is thus highly unlikely that fair value played
any causal role in the financial crisis (see SEC, 2008; Laux and Leuz, 2009, 2010; Barth
and Landsman, 2010). While these studies are informative about the specific context, we
did not review them for a discussion about measurement in the conceptual framework.
4. We note that much of the academic literature related to disclosure has focused on
voluntary disclosure choices made by companies (see Healy and Palepu, 2001) rather
than required disclosures. Few studies have found changes in company behavior result-
ing from required disclosures. One exception is Chuk (2013), who examines whether
entities alter their behavior in response to new financial statement disclosures. She
shows that new disclosures related to expected rates of return (ERR) on pension assets
(in SFAS No. 132R) led entities with upward-biased ERRs to respond to the new stan-
dard by increasing asset allocations to equities and/or by reducing ERRs. Her study is
the first to document changes in company behavior resulting from changes in disclosure
requirements.
5. Dhaliwal et al. (1999) used “as if” measures of comprehensive income, because they
conducted their study prior to the effective date of SFAS 130.
6. We use the term “non-GAAP earnings” to refer to both analysts’ and managers’
exclusions from GAAP earnings. In the literature, manager-reported non-GAAP earn-
ings are known as pro forma earnings, while analyst-reported non-GAAP earnings are
known as Street earnings.
7. These items are identified by Compustat from income statements and footnotes. The
composition of the “special items” data item is determined, not by a formal definition
specified in GAAP, but rather by Compustat’s own definition (Burgstahler et al., 2002;
Chen and Wang, 2004).
8. See Francis et al. (2004) for an overview of earnings attributes.
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Journal of International Financial Management & Accounting 26:1 2015

The IASB’s Discussion Paper on the

paper provides a commentary and research review by an ad hoc committee of the

other creditors who want to make decisions about providing resources

© 2015 John Wiley & Sons Ltd

literature we regard as most pertinent to and informative about the

2. Recognition and Derecognition

context of the recognition versus the disclosure of an unrecognized

© 2015 John Wiley & Sons Ltd

statements, (2) the objective of primary ﬁnancial statements, (3) classi-

4.1.1. Identifying primary financial statements. Little research has

© 2015 John Wiley & Sons Ltd

IASB Preliminary View in

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

ally, if not separately reported, the question of recycling between proﬁt

5.4. Disaggregation and Remeasurement

© 2015 John Wiley & Sons Ltd

5.5. Reconciliation Schedule

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3.3. Financial Statement Presentation

future expected earnings (Ohlson, 1999; Van Cauwenberge and de

4. Presentation and Disclosure

4.1. Presentation in the Primary Financial Statements

IASB Preliminary View in Discussion

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

IASB Preliminary View in

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

statements, (2) the objective of primary ﬁnancial statements, (3) classi-

4.1.1. Identifying primary financial statements. Little research has

aggregate companies reporting OCI in a single performance statement

4.1.2. Aggregation and classification. A number of research studies have

earnings into “earnings before remeasurements” and “remeasurements”

4.1.3. Relationship between primary financial statements. There is little

4.2. Disclosure in the Notes to the Financial Statements

documents that a substantial number of IFRS-adopting ﬁrms do not

5. Other Comprehensive Income

5.1. Distinction between Profit and Loss and OCI

IASB Preliminary View in Discussion

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

5.2. Non-GAAP Earnings

earnings, which exclude various non-recurring items reported under

5.3. Special Items and OCI

ally, if not separately reported, the question of recycling between proﬁt

5.4. Disaggregation and Remeasurement

© 2015 John Wiley & Sons Ltd

5.5. Reconciliation Schedule

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

© 2015 John Wiley & Sons Ltd

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