 CONCEPTUAL FRAMEWOK AND PAS 1

Conceptual Framework is a summary of the terms and concepts that underlie the preparation and presentation of
financial statements for external users. It is concerned with general purpose financial statements, including
consolidated financial statements. Special purpose financial reports are outside the scope of the Conceptual
Framework.

Purposes:

1. To assist the FRSC in developing accounting standards that will represent Philippine GAAP.
2. To assist preparers of financial statements in applying accounting standards and in dealing with issues not yet
covered by GAAP.
3. To assist the FRSC in its review and adoption of IFRS.
4. To assist users of financial statements in interpreting the information contained in the financial statements.
5. To assist auditors in forming an opinion as to whether financial statements conform with Philippine GAAP.
6. To provide information to those interested in the work of the FRSC in the formulation of PFRS.

Authoritative Status: The Conceptual Framework is only a guide. Specific provisions of PAS or PFRS override the
Framework. In the absence of a standard or an interpretation thereof, management may consider the applicability of
the Conceptual Framework in developing and applying an accounting policy that result in information that is relevant
and reliable.

Underlying Assumptions - the basic notions of fundamental premises on which the accounting process is base; also
known as postulates. The only one assumption in the new Conceptual Framework is the Going Concern assumption.
Implicit are the basic assumptions of Accounting Entity, Time Period and Monetary Unit. (G-MAT)

Going Concern - in the absence of evidence to the contrary, the accounting entity is viewed as continuing in operation
indefinitely.

Accounting Entity - the entity is separate from the owners, managers and employees who constitute the entity.

Time Period - the indefinite life of an entity should be subdivided into time periods or accounting periods which are
usually of equal length for the purpose of preparing financial reports on financial position, performance and cash flows.
Also known as periodicity.

Monetary Unit - assumes the quantifiability and the stability of the peso as a reporting currency.

Scope:
1. Objective of Financial Reporting
2. Qualitative Characteristics of useful financial information
3. Definition, recognition and measurement of the elements from which financial statements are constructed
4. Concepts of capital and capital maintenance

 Objective of Financial Reporting

Overall: 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.

Specific:
1. To provide information useful in making decisions about providing resources to the entity.
2. To provide information useful in assessing the prospects of future net cash flows to the entity.
3. To provide information about entity resources, claims and changes in resources and claims.
 Qualitative Characteristics

Fundamental:
1. Relevance - the capacity of the information to influence a decision.
Ingredients: (P-C)
a) Predictive Value - financial information can be used as an input to processes employed by users to predict
future outcome.
b) Confirmatory Value - financial information can provide feedback about previous evaluations.

2. Faithful Representation- financial reports represent economic phenomena or transactions in words and
numbers.
Ingredients: (C-N-F)
a) Completeness - requires that relevant information should be presented in a way that facilitates understanding
and avoids erroneous implication. Adequate/full disclosures.
b) Neutrality - without bias in the preparation and presentation of financial information.
c) Free from error- no errors or omissions in the description of the phenomenon or transaction and the process
used to produce the reported information has been selected and applied with no errors in the process.

Enhancing: (V-CUT)
1. Comparability - the ability to bring together for the purpose of noting points of likeness and difference.
Implicit in comparability is consistency, which requires that the accounting methods and practices should be
applied on a uniform basis from period to period.
2. Understandability - requires that financial information must be comprehensible or intelligible if it is to be
most useful.
3. Verifiability - means that different knowledgeable and independent observers could reach consensus,
although not necessarily complete agreement, that a particular depiction is a faithful representation.
4. Timeliness - means that financial information must be available or communicated early enough when a
decision is to be made.

Implicit:
1. Materiality - a quantity threshold linked very closely to the qualitative characteristic of relevance. It 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. Also known as the Doctrine of Convenience.
2. Substance over form - transactions should be accounted for in accordance with their substance and reality
and not merely their legal form.
3. Conservatism/Prudence - when alternatives exist, the alternative which has the least effect on equity should
be chosen.
4. Cost Constraint - the benefit derived from the information should exceed the cost incurred in obtaining the
information.

 Financial Statements
FS - are the means by which the information accumulated and processed in financial accounting is periodically
communicated to the users. Its objective is to provide information about the financial position, financial performance
and cash flows of an entity that is useful to a wide range of users in making economic decisions. It should be presented
at least annually.

 Components of FS:
1. Statement of financial position or Balance Sheet - a formal statement showing the three elements comprising
financial position - assets, liabilities and equity.
 Can be used to evaluate liquidity, solvency and the need for additional financing.
 Can be presented in either the Report form or Account form.
2. Statement of Financial Performance or Income statement - a formal statement showing the financial performance of
an entity for a given period of time. Presents the profit or loss for the year.
  Can be presented in either the Functional Presentation or Natural Presentation.
3. Statement of comprehensive income - shows the profit or loss and the other comprehensive income for the year.
 Can be presented in two statements or in a single statement of comprehensive income.
 Comprehensive income is the change in equity during a period resulting from the transactions and other
events, other than changes resulting from transactions with owners in their capacity as owners
(Capital Infusion or Diffusion).
 It includes profit or loss and other comprehensive income.
4. Statement of changes in equity - a basic statement that shows the movements in the elements or components of
shareholder’s equity.
5. Statement of cash flows - a statement that summarizes the operating, investing and financing activities of the entity.
6. Notes to Financial Statements, comprising a summary of significant accounting policies and other explanatory notes.

 Elements of Financial Statements (A-L-P-I-E)

 Assets - the resources controlled by the entity as a result of past transactions or events and from which future
economic benefits are expected to flow to the entity.

Essential Characteristics:
1. The asset is controlled by the entity.
2. The asset is the result of a past transaction or event.
3. The asset provides future economic benefits.
4. The cost of the asset can be measured reliably.

Recognition Principle: An asset is recognized when it is probable that future economic benefits will flow to the entity
and the asset can be measured reliably.
Classification:
1. Current when:
a) The asset is a cash or cash equivalent unless the asset is restricted from being exchanged or used to settle a
liability for at least 12 months after the reporting period.
b) The entity holds the asset primarily for the purpose of trading.
c) The entity expects to realize the asset within 12 months after the reporting period.
d) The entity expects to realize the asset or intends to sell or consume it within the entity’s normal operating
cycle (the time between the acquisition of assets for processing and their realization in cash or cash
equivalents).

2. Non-current if it does not satisfy the above criteria.

 Liabilities - present obligations of the entity arising from past transactions or events, the settlement of which is
expected to result in an outflow from the entity of resources embodying economic benefits.

Essential Characteristics:
1. The liability is the present obligation of a particular entity.
2. The liability arises from past transaction or event.
3. The settlement of the liability requires an outflow of resources embodying economic benefits.

Recognition Principle: A liability is recognized when it is probable that an outflow of resources embodying economic
benefits will be required for the settlement of a present obligation and the amount of the obligation can be measured
reliably.

Classification:
1. Current when:
a) The entity expects to settle the liability within the entity’s normal operating cycle.
b) The entity holds the liability primarily for the purpose of trading.
 c) The liability is due to be settled within 12 months after the reporting period.
d) The entity does not have an unconditional right to defer settlement of the liability for at least 12 months
after the reporting period.

2. Non-current if it does not satisfy the above criteria.

 Equity - the residual interest in the assets of the entity after deducting all of its liabilities. Also known as Net Assets
or Capital.

 Income - increase in economic benefits during the accounting period in the form of inflow or increase in asset or
decrease in liability that results in increase in equity, other than contribution from equity participants (additional
capital or capital infusion).

Recognition Principle: Income is recognized when it is probable that an increase in future economic benefit related to an
increase in an asset or decrease in a liability has arisen and that increase in economic benefits can be measured reliably.

Income encompasses both revenue and gain. Revenues arise in the course of the ordinary regular activities.
Gains represent other items that meet the definition of income and do not arise in the course of the ordinary
regular activities.

General Rule: Income is recognized at the point of sale.

 Expense - decrease in economic benefits during the accounting period in the form of outflow or decrease in asset
or increase in liability that results in decrease in equity, other than contribution from equity participants (drawings
or capital diffusion).
Recognition Principle: Expense is recognized when it is probable that a decrease in future economic benefit related to a
decrease in an asset or increase in a liability has arisen and that decrease in economic benefits can be measured
reliably.

Expense includes losses as well expenses arising from the course of ordinary regular activities. Losses represent
other items that meet the definition of expenses and do not arise in the course of the ordinary regular activities.

 Matching Principle
It means that costs and expenses incurred in earning revenue shall be reported in the same period.

Three applications of the principle:

1. Cause and effect association - expense is recognized when the revenue is already recognized. Examples: cost
of sales, doubtful accounts, warranty expense and sales commission
2. Systematic and rational allocation - some costs are expensed by simply allocating them over the period
benefited. Examples: depreciation of PPE, amortization of intangibles
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. Examples: salaries, advertising and
selling expenses

Measurement of Elements:
1. Historical cost - the amount of cash or cash equivalent paid or the fair value of the consideration given to
acquire an asset at the time of acquisition. Also known as past purchase exchange price.
2. Current cost - the amount of cash or cash equivalent that would have to be paid if the same or equivalent
asset was acquired currently. Also known as current purchase exchange price.
3. Realizable value - the amount of cash or cash equivalent that could currently be obtained by selling the asset
in an orderly disposal. Also known as current sale exchange price.
 4. Present value - the discounted value of the future net cash inflows that the item is expected to generate in
the normal course of business. Also known as future exchange price.

 Concepts of Capital and Capital Maintenance

Financial Capital – is the absolute 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 based on historical cost. Net income
occurs when the nominal amount of the net assets at the end of the period exceeds the nominal amount of the net
assets at the beginning of the period, after excluding distributions to and contributions by owners during the
period.

Physical Capital - is the quantitative measure of the physical productive capacity to produce goods and services
based on current cost. Net income occurs when the physical productive capital at the end of the period exceeds the
physical productive capital at the beginning of the period, after excluding distributions to and contributions by
owners during the period.