Pamantasan ng Lungsod ng Valenzuela- Department of Accountancy

FAR2: Conceptual Framework and Accounting Standards

Course File M02: The 2018 Conceptual Framework

GENERAL INFORMATION ABOUT 2018 FRAMEWORK

History of the Conceptual Framework:

− 1989: IASC created the 1989 Framework entitled Framework for the Preparation and Presentation of Financial Statements
− 2004: IASB and FASB started an eight- phase joint project to revise the Conceptual Framework.
− 2010: The two parties released the 2010 Conceptual Framework for Financial Reporting with the new parts, Objective of
general- purpose financial reporting and Qualitative characteristics of useful financial information, and the rest of the issuance
were completely copied from the 1989 Framework.
− 2012: IASB restarted the project without the FASB with ASAF as consultative group of the project.
− 2018: IASB released the 2018 Conceptual Framework for Financial Reporting.

Conceptual Framework for Financial Reporting- also called the Conceptual Framework.
- Sets out the concepts that underlie the preparation and presentation of financial statements for external users (2010 version).
- Describes the objective of, and the concepts for, general- purpose financial reporting. (2018 version)
- An attempt to provide an overall theoretical foundation for accounting.
- Underlying theory for development of accounting standards and revision of previously issued accounting standards.

The Conceptual Framework provides the foundation for Standards that:

1. Transparency- through enhanced international comparability and quality of financial information
2. Accountability- through reduced information gap between provides of capital and people to whom they have entrusted their
money.
3. Economic Efficiency- through a help to investors in identifying opportunities and risks across the world.

Purposes of Conceptual Framework

1. Assist the IASB to develop IFRS (Standard) that are based on consistent concepts.
2. Assist financial statement preparers to develop consistent accounting policies:
a. When no Standard applies to a particular transaction or other event,
b. When an issue is not yet addressed by an IFRS, or
c. When a Standard allows a choice of accounting policy
3. Assist all parties to understand and interpret the Standard

Authoritative Status of Conceptual Framework

- This is not a Standard. Nothing in the Conceptual Framework overrides any Standard or any requirement in a Standard.
Nonetheless, in case when there is a conflict, requirements of the Standards shall prevail over the Conceptual Framework.
- In the absence of a standard or an interpretation that specifically applies to a transaction, management shall consider the
applicability of the Conceptual Framework in developing and applying an accounting policy that results in information that is
relevant and reliable.

Comparison of Contents of 2010 and 2018 Conceptual Framework

2010 Version
- Objectives of General- Purpose Financial Reporting
- Reporting Entity
- Qualitative Characteristics of Useful Financial
Information
- Remaining Text of 1989 Framework which Includes
(a) Underlying Assumptions, (b) Elements of Financial
Statements and its Recognition and Measurement, and
(c) Concepts of Capital and Capital Maintenance
2018 Version
- Objectives of Financial Reporting
- Qualitative Characteristics of Useful Financial Information
- Financial Statements and Reporting Entity
- Elements of Financial Statements
- Recognition and Derecognition
- Measurement
- Presentation and Disclosure
- Concepts of Capital and Capital Maintenance

CHAPTER 1 – OBJECTIVE OF FINANCIAL REPORTING

Overall Objective of General- Purpose Financial Reporting: To provide financial information about the reporting entity that is useful to
existing and potential investors, lenders and other creditors in making decisions about providing resources to the entity

− The financial information provided by general- purpose financial reporting is about reporting entity.
− The financial information is being addressed to primary users, i.e., existing and potential investors, lenders and other creditors. It is
being addressed to them because they are the users who provide resources to the entity.
− The decisions being made by the primary users generally relate to providing resources to the entity.

Users of Financial Information:

1. Primary Users
1.1. Existing and Potential Investors – concerned with risk inherent in and return provided by their investments.
1.2. Lenders and Other Creditors- concerned with information which enables them to determine whether their loans, interest
thereon and other amounts owing to them will be paid when due.
2. Other Users
2.1. Employees- interested in information about stability and profitability of the entity.
2.2. Customers- interested in information about continuance of an entity especially when they have a long- term involvement with
or are dependent on the entity.
2.3. Government and Their Agencies- interested in allocation of resources and therefore activities of the entity.
Series of 2021 • 1
 The 2018 Conceptual Framework FAR2

2.4. Public- interested in information about trend and range of its activities.
Specific Objectives of Financial Reporting:
1. To provide information useful in making decisions about providing resources to the entity
2. To provide information useful in assessing cash flow prospects of the entity
− Cash flow prospects may be dividends and/or share in net income (for investors) or principal and interest payments (for lenders
and other creditors). Financial reporting may provide relevant information regarding this matter.
3. To provide information about entity resources, claims and changes in resources and claims
− Economic resources and claims pertain to company’s financial position whereas changes in resources and claims pertain to
company’s to both (1) financial performance and (2) other events or transactions such as issuance of debt or equity instruments.

Financial position- information about entity’s economic resources and claims against it, i.e., assets, liabilities and equity.
Financial performance- information about the return the entity has produced from its economic resources, i.e., income and expenses.
This helps the users to understand the return that the entity has produced on the economic resources.
Cash Flows- information about the inflow and outflow of cash arising from any kind of transaction an entity undergoes.

Financial reports are basically prepared by applying the principle of accrual basis of accounting.
Accrual basis of accounting depicts the effects of transactions and other events and circumstances on a reporting entity’s economic
resources and claims in the periods in which those effects occur (when income is earned or when expense is incurred), even if the
resulting cash receipts and payments occur in a different period.

Limitations of General- Purpose (GP) Financial Reporting:

1. GP financial reports do not and cannot provide all of the information that primary users need.
2. GP financial reports are not designed to show the value of a reporting entity but these reports provide information to help users
estimate the value of the reporting entity.
3. GP financial reports are intended to provide common information to users and cannot accommodate every request for
information.
4. To a large extent, GP financial reports are based on estimate and judgment rather than exact depiction.

Management Stewardship- a.k.a. management performance; this can be assessed through information about how efficiently and
effectively management has discharged its responsibilities to use entity’s economic resources. In effect, such information is also useful
for predicting how management will use entity’s economic resources in future periods.

CHAPTER 2 – QUALITATIVE CHARACTERISTICS OF USEFUL FINANCIAL INFORMATION

Qualitative Characteristics- attributes that make financial accounting information useful to the users.

Classification:
1. Fundamental Qualitative Characteristics – directly relate to the content or substance of financial information; these qualitative
characteristics dictate whether information is useful or not.
2. Enhancing Qualitative Characteristics – directly relate to the presentation or form of the financial information; these qualitative
characteristics intend to increase the usefulness of the financial information

Items Under Fundamental Qualitative Characteristics:

1. Relevance- this refers to capacity of the information to influence a decision. An information is considered relevant if it is related
or pertinent to the economic decision to be made. Ingredients of relevance include:
a. Predictive Value- information has this when it can be used as an input to processes employed by users to predict future
outcome
b. Confirmatory Value- information has this when it provides feedback about previous evaluations
Materiality – also known as doctrine of convenience; sub-quality of relevance; practical rule in accounting which dictates that strict
adherence to GAAP is not required when the items are not significant enough to affect the evaluation, decision and fairness of the
financial statements
- Based on nature or magnitude (relative size) or both of the items to which the information relates.
- Dependent on good judgment, professional expertise and common sense
- Information is material if omitting, misstating, or obscuring it could reasonably be expected to influence the economic decisions
that primary users of general – purpose financial statements make on the basis of those statements which provide financial
information about a specific reporting entity.
2. Faithful Representation- this means that financial reports represent economic phenomena or transactions in words and numbers.
Ingredients of faithful representation include:
a. Completeness – relevant information should be presented in a way that facilitates understanding and avoids erroneous
implication; result of principle of full disclosure (also called as adequate disclosure standard). This leads to
accompaniment of general- purpose financial statements of notes to financial statements.
b. Neutrality- means that the financial statements should be prepared so as to favor/bias one party to the detriment of
another party.
c. Free From Error- no material error or omission in description of transaction; process used to produce the reported
information has been selected and applied with no errors in the process.

Other Concepts Affecting Fundamental Qualitative Characteristics:

1. Substance Over Form – means that transactions should be accounted in accordance with their substance and reality and not
merely their legal form.
2. Prudence- exercise of care and caution when dealing with uncertainties in the measurement process such that assets or income
are not overstated and liabilities or expenses are not understated. By exercising prudence, neutrality is observed.

Series of 2021 • 2
 The 2018 Conceptual Framework FAR2

3. Conservatism – synonymous with prudence; means that when alternatives exist, the alternative which has the least effect on
equity shall be chosen.

Items Under Enhancing Qualitative Characteristics:

1. Comparability- ability of information to be brought together for the purpose of noting points of likeness and difference.
1.1. Intracomparability – comparability within an entity; aka horizontal comparability
1.2. Intercomparability – comparability across entities; aka dimensional comparability

Consistency – refers to use of same method for the same item, either from period to period within an entity, or in a single period across
entities; this can be violated if such change would result to more useful and meaningful information (though such change should be fully
disclosed).

2. Understandability – requires that financial information must be comprehensible or intelligible if it is to be most useful, with the
assumption that users of the information have reasonable knowledge of business and economic activities of the entity.
3. Verifiability – means that different knowledgeable and independent observes could reach consensus, although not necessarily
complete agreement, that a particular depiction is a faithful representation
3.1. Direct Verification – applied through direct observation
3.2. Indirect Verification – applied through use of model, formula or other technique to recalculate inputs
4. Timeliness – means that financial information must be available or communicated early enough when a decision is to be made

Cost – pervasive constraint on information that can be provided by financial reporting

- consideration of cost incurred in generating financial information against benefit to be obtained from having information
- benefit derived from information should exceed the cost incurred in obtaining information
- assessing whether cost of reporting outweighs or falls short of the benefit is difficult to measure and becomes a matter of
professional judgment.

CHAPTER 3 – FINANCIAL STATEMENTS AND REPORTING ENTITY

Objective of Financial Statements- to provide information about elements of financial statements useful to users in:
1. Assessing future cash flows to the reporting entity
2. Assessing management stewardship of the entity’s economic resources

Types of Financial Statements under 2018 Framework:

1. Consolidated Financial Statements – these are the financial statements prepared when the reporting entity comprises both parent
and its subsidiaries.
- What it provides – consolidated information (both parent and subsidiary) used in assessing net cash inflows to parent
- Limitation – there’s no information about a particular subsidiary; separate FS of the subsidiary does that.
2. Unconsolidated Financial Statements – these are the financial statements prepared when the reporting entity is the parent alone.
- What it provides – information related to the parent only
- Limitation – not a substitute for consolidated FS; not sufficient to meet the information of primary users
3. Combined Financial Statements – these are the financial statements when the reporting entity comprises two or more entities
that are not linked by a parent – subsidiary relationship.

Reporting Entity – entity that is required or chooses to prepare financial statements (not necessarily a legal entity)

Forms of Reporting Entity:

1. Individual corporation, partnership or sole proprietorship
2. Parent corporation alone
3. Parent and its subsidiaries as single reporting entity
4. Two or more entities without parent and subsidiary relationship as a single reporting entity
5. A reportable business segment of an entity

Reporting Period – period when financial statements are prepared for general- purpose financial reporting; maybe on an interim basis
(less than one year) but FS must be prepared on an annual basis.

Information provided by FS prepared for a specified period:

1. Assets, Liabilities and Equity at the end of the reporting period
2. Income and Expenses during the period
3. Comparative Information for at least one preceding reporting period
4. Events after the Reporting Period

Accounting Assumptions – also known as accounting postulates; basic notions or fundamental premises on which accounting process
is based. These include:
1. Going Concern – only assumption mentioned in the 2018 Framework; also known as continuity assumption; this means that in
the absence of evidence to the contrary, the accounting entity is viewed as continuing in operation indefinitely; foundation of
cost principle.
2. Accounting Entity – also known as separate entity or economic entity; this states that entity is separate from the owners,
managers, and employees who constitute the entity.
3. Time Period – also known as periodicity principle or accounting period; this requires that the indefinite life of an entity is
subdivided into accounting periods which are usually of equal length for purpose of preparing financial statements.
a. Calendar year- twelve- month period that ends on December 31

Series of 2021 • 3
 The 2018 Conceptual Framework FAR2

b.Natural business year- also known as fiscal year; twelve- month period that ends on any month when the business is
at lowest or experiencing slack season
4. Monetary Unit – is defined by these two aspects:
a. Quantifiability - this states that elements of financial statements should be stated in terms of a uniform unit of measure.
b. Stability of Peso – this means that purchasing power of the peso is stable or constant and that its instability is
insignificant and therefore may be ignored; an amplification of the going concern assumption

CHAPTER 4 – ELEMENTS OF FINANCIAL STATEMENTS

Elements of Financial Statements – refer to quantitative information reported in the statement of financial position and income statement

Item Discussed in Chapter 1 Element Connections

Economic Resource Asset
Elements directly related to
Liability
Claim measurement of financial position
Equity
Changes in Economic Resources and Income Elements directly related to
Claims Reflecting Financial Performance Expense measurement of financial performance

Asset- a present economic resource controlled by the entity as a result of past events.
Economic Resource- a right that has the potential to produce economic benefits.

Essential Characteristics of Asset:

1. Present Economic Resource (Right- capacity to impose an act to other party)
2. Potential to produce economic benefits
3. Control- present ability to direct the use of economic resource and obtain the economic benefits that may flow from it.

Forms of Rights
1. Rights that correspond to an obligation of another party (example: right to receive cash, goods or services)
2. Rights that do not correspond to an obligation of another party (example: rights over physical objects and rights to use
intellectual property)
3. Rights established by contract or legislation (example: owning a financial instrument or a patent)

Principles Related to Potential to Produce Economic Benefits:

- It does not have to be certain. For as long as there is a chance (even if it is very slim) for it to happen, then, potential exists.
- The economic resource is the present right that contains the potential, not the future economic benefits.

Principles Related to Control:

- Control identifies up to what extent an entity should recognize an asset.
- If an entity has control over an economic resource, no other party controls that resource as well as the benefits that may flow
from it.
- An entity has control of an economic resource if it has either of the following:
o Right to deploy that resource in its activities
o Right to allow another party to use it
- An indicator that an entity controls an economic resource is that the entity is exposed to significant variations in the amount of
economic benefits to be produced.

Liability- present obligation of the entity to transfer an economic resource as a result of past events

Essential Characteristics of Liability:

1. Entity has an obligation
2. Obligation is to transfer an economic resource
3. Obligation is a present obligation that exists as a result of past events

Obligation- a duty or responsibility that an entity has no practical ability to avoid.

Nature of Obligation:
- It is always owed to another party
- An obligation to transfer of one entity has always a counterpart of a right to receive of another entity.
- An entity has no practical ability to avoid an obligation if any means doing so would have economic consequences significantly
more adverse than the transfer itself or it could only be avoided by liquidating the entity.

Principles Related to Transfer of an Economic Resource:

- It does not have to be certain. For as long as there is a chance (even if it is very slim) for it to happen, this aspect is achieved.
- For as long as it is not yet settled, transferred or replaced, the obligation to transfer economic resource still exists.

Ways to Transfer an Economic Resource:

1. Pay cash
2. Deliver goods or non-cash resoruces
3. Provide services
4. Exchange economic resources with another party on unfavorable terms
5. Transfer an economic resource if a specified uncertain future event occurs.

Series of 2021 • 4
 The 2018 Conceptual Framework FAR2

Requisites for a present obligation to exist as result of past events:

1. Entity has already obtained economic benefits or taken an action
2. Entity will have to transfer economic resource that it would not otherwise have had to transfer

Equity- residual interest in the assets of the entity after deducting all its liabilities

Income- increases in assets or decreases in liabilities that result in increases in equity, other than contributions from holders of equity
claims
a. Revenue – arises in the course of ordinary regular activities (sales, fees, interest, dividends, royalties, rent)
b. Gain- does not arise in the course of the ordinary regular activities
Expense- decreases in assets or increases in liabilities that result in decreases in equity, other than distribution to holders of equity claims.
a. Expenses – arises in the course of ordinary regular activities
b. Loss – does not arise in the course of the ordinary regular activities

CHAPTER 5 – RECOGNITION AND DERECOGNITION

Recognition- This is the process of capturing for inclusion in the financial statements an item that meets the definition of any element
of financial statements.
- This also includes depicting the item in words and by a monetary amount.
- Recognition links the elements to the statement of financial position and statement of financial performance.
Carrying Amount- amount at which real accounts are recognized in statement of financial position

Linkage of Financial Statements:

B/S, Beg I/S B/S, End
+ + Contributions from and Distributions to Owners =
A–L=C I-E A–L=C

Income Recognition Principle – income shall be recognized when earned which is generally at point of sale. Though, at times, income
shall be recognized at point of production, during production and at point of collection, as the case may be.
Expense Recognition Principle – expenses shall be recognized when incurred which observes the matching principle.
Matching Principle – requires that those costs and expenses incurred in earning a revenue shall be reported in the same period.

Application of Matching Principle

1. Cause and Effect Association – expense is recognized when revenue is already recognized; also called as matching of cost with
revenue
2. Systematic and Rational Allocation – costs are expensed by simply allocating them over the periods benefited
3. Immediate Recognition – cost incurred is expensed outright because of uncertainty of future economic benefits or difficulty of
reliably associating certain costs with future revenue.

Derecognition- the removal of all or part of a recognized asset or liability from an entity’s statement of financial position.

Derecognition normally occurs

1. For an asset- when the entity loses control of all or part of the recognized asset.
2. For a liability- when the entity no longer has a present obligation for all or part of the recognized liability.

CHAPTER 6 – MEASUREMENT

Measurement- process of quantifying the elements recognized in financial statements in monetary terms.

Categories of Measurement Bases:

1. Historical Cost – commonly adopted in preparing financial statements
2. Current Value

Historical Cost Measures- entry price or entry value; provide monetary information about elements of financial statements using
information derived from the price of the transaction or other event that gave rise to them. It also observes amortized cost of financial
instruments.
Historical cost is equal to:
Asset Liability
Acquisition Cost or Cost of Creating the asset Consideration received or assumed
+ -
Transaction Costs Transaction Costs

Historical cost is updated because of:

Asset Liability
- Consumption of all or part of the asset - Fulfillment/ Payment of all or part of the
- Depreciation and amortization liability
- Collections - Increase of Liability Balance due to being
- Impairment more onerous
- Accrual of Interest Income - Accrual of Interest Expense
- Amortized cost measurement of financial - Amortized cost measurement of financial
asset liability

Series of 2021 • 5
 The 2018 Conceptual Framework FAR2

Current Value Measures- exit price or exit value; provide monetary information about elements of financial statements using information
updated to reflect conditions at measurement date.

Types of Current Value Measures:

1. Fair Value
2. Value in Use (for asset)/ Fulfillment Value (for liability)
3. Current Cost

Fair Value of an Asset- price that would be received to sell an asset in an orderly transaction between market participants at the
measurement date. Such amount is not adjusted for transaction cost.
Fair Value of a Liability- price that would be paid to transfer a liability in an orderly transaction between market participants at the
measurement date. Such amount is not adjusted for transaction cost.

Ways to Determine Fair Value:

1. Direct observation
2. Application of Measurement Techniques (Application of Present Value)

Value in Use- present value of cash flows that an entity expects to derive from use of an asset and from its ultimate disposal. Transaction
cost included refers to transaction cost on disposal of asset.
Fulfillment Value- present value of cash that an entity expects to be obliged to transfer as it fulfills a liability. Transaction cost included
refers to transaction cost on fulfillment of a liability.

Comparison between Fair Value and Value in Use Comparison between Fair Value and Fulfillment Value
Fair Value says: ‘If I’ll ask
Value in Use says: “If I’ll Fulfillment Value says: ‘If I’ll
Fair Value says: another entity to settle the
continue using the asset, how be the one to settle this
‘If I’ll sell this asset, how liability for me, how much
much economic benefits will I liability, how much will I
much will I be able to sell it?’ will I pay that entity to be able
derive from using it?’ incur from settling it?’
to transfer this liability?’

Current Cost is:

Asset Liability
cost of an equivalent asset at the measurement date, Is the consideration that would be received for an
comprising the consideration that would be paid at the equivalent liability at the measurement date minus
measurement date plus the transaction costs that would transaction costs that would be incurred at that date.
be incurred at that date.
This reflects the conditions at the measurement date, not when the asset is acquired or liability is assumed.

Factors to be considered in selecting a measurement basis:

1. Relevance
2. Faithful Representation
Note: IASB did not mandate a single measurement basis because different measurement bases could produce useful information under
different circumstances.

CHAPTER 7 – PRESENTATION AND DISCLOSURE

Presentation- is the process of including in the face of the set of financial statements (except in Notes) an item that meets the definition
of any element of financial statements and is deemed useful.
Disclosure- refers to the process of providing explanatory information related to the items presented in the set of financial statements,
except in Notes where the explanatory information is found.

Concepts about Presentation and Disclosure:

- Presentation and disclosure can be an effective communication tool about the information in financial statements.
- Effective communication of information in financial statements makes the information more relevant and contributes to a
faithful representation of an entity’s assets liabilities, income and expenses.
- Effective communication of information in financial statements also enhances understandability and comparability of
information in financial statements.
- Duplication is usually unnecessary and can make financial statements less understandable.
- Presentation and disclosure objectives can be achieved in various ways, thus, entities can present and disclose in a manner they
prefer to, provided, they meet the objectives and the financial statements they prepared are still intercomparable and
intracomparable.

Classification- sorting of elements of financial statements on the basis of shared characteristics for presentation and disclosure purposes.
Offsetting- preparing asset and liability at net amounts. This is generally inappropriate but there are exceptions.
Note: Equity claims that differ from others should be segregated.

Income and expenses are classified and included either:

- In the statement of profit or loss (primary source of entity’s financial performance), or
- In other comprehensive income (OCI)
In principle, income and expenses included in OCI in one period are recycled to the statement of profit or loss in a future period when
doing so results in the statement of profit or loss providing more relevant information or a more faithful representation.

Series of 2021 • 6
 The 2018 Conceptual Framework FAR2

Aggregation- adding together of elements of financial statements that have shared characteristics and are included in the same
classification.

CHAPTER 8 – CONCEPTS OF CAPITAL AND CAPITAL MAINTENANCE

Two Approaches of Determining Financial Performance:

1. Transaction Approach- traditional preparation of income statement
2. Capital Maintenance Approach- means that net income occurs only after capital used from the beginning of the period is maintained.
This is how an entity defines the capital that it seeks to maintain.
2.1. Financial Capital (a.k.a. Net assets approach)
2.2. Physical Capital

Financial Capital Physical Capital

- This refers to monetary amount of the net assets
contributed by shareholders and the amount of the
increase in net assets resulting from earnings retained by
the entity.
- capital is synonymous to net assets or equity of entity
- requires historical cost as measurement basis
- Effect of change in price of asset and liability of entity
is treated as part of income.
- This refers to quantitative measure of the physical
productive capacity to produce goods and services
- this pertains to physical productive capacity of entity
- requires current cost as measurement basis
- Effect of change in price of asset and liability of entity
is not treated as part of income.

Financial Concept Physical Concept

Net Assets, End XX Physical Productive Capacity, End XX
Net Assets, Beginning (XX) Physical Productive Capacity, Beginning (XX)
Excess XX Excess XX
Distribution to owners XX Distribution to owners XX
Contribution from owners (XX) Contribution from owners (XX)
Profit XX Profit XX

-END OF COURSE FILE-

Series of 2021 • 7