Accountancy Profession

Generally Accepted Accounting Principles

The presence of reliable accounting information is the core of why economies flourish across the globe. From small
business to multi-national companies and even the government, accounting information is pivotal on how economic
decisions are made.

The need to develop a standard is of paramount importance as companies prepare a single set of general-purpose
financial statements. Gearing in mind that users have both coinciding and conflicting different information needs.
Users expect these statements to present fair, transparent and complete financial operations.

The accounting profession has attempted to develop a set of standards that are generally accepted and universally
practiced. This common set of standards and procedures is called generally accepted accounting principles (GAAP). It
represents the rules, procedures, practice and standards followed in the preparation and presentation of financial
statement.

The term “generally accepted” means either that an authoritative accounting rule-making body has established a
principle of reporting in a given area or that over time a given practice has been accepted as appropriate because of
its universal application. Although principles and practices continue to provoke both debate and criticism, most
members of the financial community recognize them as the standards that over time have proven to be most useful.
Thus, GAAP has substantial authoritative support.

International Scene

The standard-setting structure: The diagram below illustrates the structure within which standards are set by the
International Accounting Standards Board (IASB).

• The Monitoring Board is a group of capital market authorities and provides formal link between the Trustees
and public authorities in order to enhance the public accountability of the IFRS Foundation.
• The International Financial Reporting Standards (IFRS) Foundation is a not-for-profit international
organization responsible for developing a single set of high-quality, global accounting standards, known as
IFRS Standards. IFRS Standards are set by the IFRS Foundation’s standard-setting body, the IASB.
- The Trustees of the IFRS Foundation are responsible for the governance and oversight of the IASB, including
the due process for the development of the accounting standards.
• The International Accounting Standards Board (IASB) is the independent standard-setting body of IFRS
Foundation responsible for the development and publication of IFRS and for approving Interpretations of
IFRS as developed by the IFRS Interpretations Committee. It replaces the International Accounting Standards
Committee (IASC).
• The IFRS Interpretations Committee is the interpretative body of the International Accounting Standards
Board, which reviews implementation issues.
 • The IFRS Advisory Council provides advice and counsel to the Trustees and the Board, whilst the Board also
consults extensively with a range of other standing advisory bodies and consultative groups.
• The Accounting Standards Advisory Forum (ASAF) provides an advisory forum in which members can
constructively contribute towards the achievement of the IASB’s goal of developing globally accepted high-
quality accounting standards.
• The Working Groups are a number of other formal advisory bodies like Capital Markets Advisory Committee
and Emerging Economies Group to mention a few that provide input on IASB’s work and resources to
consult.

The IFRS, with the acceptance of these organizations, is a global phenomenon in order to achieve greater
transparency and a higher degree of comparability in financial reporting.

Philippine Scene

The development of generally accepted accounting principles is formalized through the Financial Reporting
Standards Council (FRSC) which replaces Accounting Standards Council(ASC).

Adoption of International Financial Reporting Standards

• In July 2005, the Philippines adopted the Philippine Financial Reporting Standards which are fully converged
with the International Financial Reporting Standards.

Philippine Regulatory Commission (PRC) performs two important functions:

• conducts and administers licensure examinations to aspiring professionals, and

• regulates and supervises the practice of the professions exercised in partnership with the forty-three (43)
Professional Regulatory Boards (PRBs) in the fields of health, business, education, social sciences,
engineering and technology.
- The Board of Accountancy (BOA) is a leg of PRC that regulates the accountancy profession in the Philippines.

Financial Reporting Standards Council (FRSC)

• The FRSC was established by the Professional Regulatory Commission (PRC) to assist the Board of Accountancy
(BOA) in carrying out its power and function to promulgate accounting standards in the Philippines. The FRSC’s main
function is to establish generally accepted accounting principles in the Philippines.

• The FRSC monitors the technical activities of the IASB and invites comments on exposure drafts of proposed IFRSs
as these are issued by the IASB. When finalized, these are adopted as Philippine Financial Reporting Standards
(PFRSs). The FRSC similarly monitors issuances of the International Financial Reporting Interpretations Committee
(IFRIC) of the IASB, which it adopts as Philippine Interpretations–IFRIC. PFRSs and Philippine Interpretations–IFRIC
approved for adoption are submitted to the BOA and PRC for approval.
• The FRSC formed the Philippine Interpretations Committee (PIC) in August 2006 to assist the FRSC in establishing
and improving financial reporting standards in the Philippines. The role of the PIC is principally to issue
implementation guidance on PFRSs. The PIC members are appointed by the FRSC and include accountants in public
practice, the academe and regulatory bodies and users of financial statements.

Members of FRSC Composed of fifteen (15) members with a chairman and fourteen (14) representatives from:

BOA, SEC, BSP, COA, BIR 5 (1 each)

Financial Executives Institute of the Phil. (FINEX) 1

PICPA: Public Practice, Commerce and Industry, Academe/Education, Government 8 (2 each)

Total 14

Philippine Interpretations Committee (PIC)

• Assists FRSC in establishing and improving financial reporting standards in the Philippines. The role is principally to
issue implementation guidance on PFRSs.

Philippine Institute of Certified Public Accountants (PICPA)

• The PICPA is the only accredited national professional organization of CPAs in the Philippines. Its primary functions
established for the benefit and welfare of the CPAs, the advancement of their profession, and the attainment of
other professional ends.

Practice of Accountancy Profession

At present, Republic Act No. 9298 also known as “Philippine Accountancy Act of 2004” is the law regulating the
practice of accountancy in the Philippines.

In order to qualify to practice the accountancy profession, a person must first finish a degree in Bachelor of Science
in Accountancy and pass the government examination given by the Board of Accountancy (BOA).

This computer-based examination is offered twice a year, one in May and another in October, in authorized testing
centers around the country.

Limitation and Accreditation to practice public Accountancy

The Securities and Exchange Commission shall not register any corporation organized for the practice of public
accountancy. As such, there will only be single practitioners and partnership that will be registered in the Philippines.

A certificate of accreditation shall be issued and required to CPAs in the practice of public accountancy. It is only
upon complying with the rules and regulations set by BOA and approved by PRC that such registrant has acquired a
minimum of three years of meaningful experience in any of the areas of public practice including taxation.

The accreditation issued shall be valid for three years and renewable every three years upon payment of required
fee and compliance with the required continuing professional development (CPD).

Continuing Professional Development (CPD)

CPD refers to the inculcation and acquisition of advanced knowledge, skill, proficiency, and ethical and moral values
after the initial registration of the CPA for assimilation into professional practice and lifelong learning.

Republic Act. No. 10912 is the law mandating and strengthening the continuing professional development program
for all regulated professionals, including the accountancy profession. CPD raises and enhances the technical skill and
competence of the CPAs.

CPD credit units and Exemption from CPD

The CPD credit units refer to the CPD credit hours required for the renewal of CPA licenses and the accreditation of a
CPA to practice the accountancy profession every three years. Under the BOA Resolution, all CPA regardless of area
or sector of practice shall be required to comply with the 120 CPD credit units in a compliance period of three years.
Excess credit units earned shall not be carried over to the next three-year period, except credit units earned for
masteral and doctoral degrees. A CPA shall be permanently exempted from CPD requirements upon reaching the age
of 65 years for the renewal of CPA license. However, not for accreditation to practice the accountancy profession.

CPAs generally practice their profession in three main areas, namely:

1. Public Accounting or Public Accountancy

The field is composed of individual practitioners, small accounting firms and large multinational organizations that
render independent and expert financial services to the public.

- Public accountants usually offer three kinds of services, namely auditing, taxation and management advisory
services.

- As such, large multinational accounting firms have separate division on for each of these services.

- Auditing is a primary service. It is the examination of financial statements by the independent certified public
accountant to express an opinion as to the fairness with which the financial statements are prepared. Further, it is
the attest function of independent CPAs. Primary users (creditors and investors) place considerable reliance on
audited FS on making economic decisions and Other users like Bureau of Internal Revenue (BIR) requires audited FS
in the filing of the annual income tax return.

- Taxation service includes the preparation of annual income tax returns and the determination of tax consequences
of certain proposed business endeavors. CPAs frequently represents the client in tax investigations. Such service
requires thorough familiarity with the tax laws and regulations and updated with changes in taxation law and court
cases concerned with interpreting taxation law.

- Management Advisory Services have become increasingly important in recent years. Such service has no precise
coverage but is used generally to refer to services to clients on matters of accounting, finance, business policies,
organization procedures, product costs, distribution and many other phases of business conduct and operations.

2. Private Accounting
- CPAs who are employed on business entities in various capacity as accounting staff, chief accountant, internal
auditor and controller (highest accounting officer). The primary objective of a private accountant is to assist
management in planning and controlling the entity’s operation like maintaining the records, producing the financial
reports, preparing budgets and controlling and allocation resources of the entity. It also has the responsibility of
determining various taxes the entity is obliged to pay.

- Encompasses the process of analyzing, classifying, summarizing and communicating all transactions involving the
receipt and disposition of government funds and property and interpreting the results thereof. Its focus is the
custody and administration of public funds. CPAs are employed in many branches of the government, more
particularly Bureau of Internal Revenue (BIR), Commission on Audit(COA), Department of Budget and
Management(DBM), Securities and Exchange Commission(SEC) and Bangko Sentral ng Pilipinas(BSP).
The diagram below are the Council for Accreditation and Quality Control of Practicing CPA’s:
• Securities and Exchange Commission (SEC) – Accredits practitioners who audit publicly listed companies,
companies with at least Php50 million worth of assets and companies with secondary licenses.
• Bangko Sentral ng Pilipinas (BSP) – Accredits practitioners who audit banks and other financial institutions
• Insurance Commission (IC) – Accredits practitioners who audit insurance companies
• Board of Accountancy (BOA) – accredits CPAs in public practice with basic requirements.

1. The standard-setting body in the international scene at the present time. (IASB)
2. The law regulating the practice of accountancy in the Philippines. (RA 9298)
3. The body authorized by law to promulgate rules and regulations affecting the practice of the accountancy
profession in the Philippines. (BOA)
4. The Securities and Exchange Commission can register any corporation organized for the practice of public
accounting. False
5. Accountants employed in entities in various capacity as accounting staff, chief accountant or controller.
(Private accounting)
6. The FRSC is created by PRC upon recommendation of BOA to assist BOA in carrying out its powers and
functions under RA No.9298. True? Typo on PFRC instead of PRC
7. The chairman and members of FRSC are appointed by PRC upon recommendation of BOA and shall have a
term of three years renewable for another term.
8. The Continuing Professional Development is required for both renewal of CPA license and accreditation to
practice the accountancy profession. True
9. Accredits practitioners who audit publicly listed companies, companies with at least Php50 million worth of
assets and companies with secondary licenses. (SEC)
10. Assists FRSC in establishing and improving financial reporting standards in the Philippines. The role is
principally to issue implementation guidance on PFRSs. (PIC)
Conceptual Framework

• Users – it refers to primary users and other users. Primary users refer to existing and potential investors,
lenders and other creditors while other users refer to employees, customers, governments and their
agencies, and the public.
• Financial position - information about the entity’s economic resources(assets) and the claims (liabilities and
equity) against the reporting entity at a particular moment in time.
• Liquidity - is the availability of cash in the near future to cover currently maturing obligations.
• Solvency - is availability of cash over long term to meet financial commitments when they fall due.
• Financial Performance - comprises revenue, expenses and net income or loss for a period of time.
• Qualitative characteristics - are the qualities or attributes that make financial accounting useful to the users.
• Fundamental qualitative characteristics - relate to the content or substance of financial information. It has
two characteristics namely, relevance and faithful representation.
• Relevance - is the capacity of the information to influence a decision.
• Materiality – is also known as the doctrine of convenience.
• Faithful representation – the financial reports represent economic phenomena or transaction in words and
number.
• Completeness - requires that relevant information should be presented in a way that facilitates
understanding and avoids erroneous implication. It is the result of principle of adequate disclosure.
• Standard of adequate disclosure – all significant and relevant information leading to the preparation of
financial statements shall be clearly reported.
• Neutrality – the information is free from bias.
• Free from error – means that there are no errors or omissions in the description of the phenomenon, and
the process used to produce the reported information has been selected and applied with no errors in the
process.
• Enhancing Qualitative Characteristics – relate to the to the presentation or form of the financial information.
• Verifiability- means that different knowledgeable and independent observers could reach consensus,
although not necessarily complete agreement, that a particular depiction is a faithful representation.
• Comparability – means the ability to bring together the points of likeness and differences.
• Consistency – refers to the use of the same methods for the same items, either from period to period within
a reporting entity or in a single period across entities.
• Understandability – requires that financial information must be comprehensible or intelligible if it is to be
most useful.
• Timeliness – means that financial information must be available or communicated early enough when a
decision is to be made.
• Elements of financial statements – refer to the quantitative information reported in the balance sheet and
income statement(IS).
• Probable means that the chance if the future economic benefit arising is more likely rather than less likely.
• Asset - is recognized in the balance sheet when it is probable that the future economic benefits will flow to
the entity and the asset has a cost or value that can be measured reliably.
• Liability - is recognized in the balance sheet when it is probable that an outflow of resources embodying
economic benefits will result from the settlement of a present obligation and the amount at which the
settlement will take place can be measured reliably.
• Equity - is the residual interest in the assets of the entity after deducting all its liabilities.
• Income - is recognized in the income statement when an increase in future economic benefits related to an
increase in an asset or a decrease of a liability has arisen that can be measured reliably.
• Expenses - are recognized in the income statement when a decrease in future economic benefits related to a
decrease in an asset or an increase of a liability has arisen that can be measured reliably.
• Losses - represent other items that meet the definition of expenses and may, or may not, arise in the course
of the ordinary activities of the entity.
• Recognition - is a term which means the reporting of an asset, liability, income or expense on the face of the
financial statements of an entity.
 • Revenue - arises in the course of ordinary regular activities like sales, fees, interest, dividends, royalties and
rent.
• Gains - arises other than the course of ordinary regular activities like gains include gain from disposal of
noncurrent assets and unrealized gain on trading securities to mention a few.
• Measurement – is the process of determining the monetary amounts at which the elements of the financial
statements are to be recognized and carried in the statement of financial position and income statement.
• Historical cost – is 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.
• Current cost – is the amount of cash or cash equivalent that would have to be paid if the same of equivalent
asset was acquired currently.
• Realizable value – is the amount of cash or cash equivalent that could currently be obtained by selling the
asset in an orderly disposal.
• Present value – is the discounted value of the future net cash inflows that the asset is expected to generate
in the normal course of business.
• Accounting assumptions – are the basic notion or fundamental premises on which the accounting process is
based. It is also known as postulates.
• Going Concern or continuity assumption – 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, ad employees who constitute the
entity.
• Time period – requires that the indefinite life of an entity is subdivided into accounting periods which are
usually of equal length for the purpose of preparing financial reports on financial position, performance and
cash flows of an entity.
• Monetary unit – assumes that transactions and events are measured in terms of monetary unit which are
both stable and dependable.

Essential Knowledge

Financial statement users face challenging questions on how to recognize and measure financial items. To address
these concerns, financial accounting and reporting relies on conceptual framework. To be useful, rule-making should
build on and relate to an established body of concept. A strong and reliably developed framework ensures a
coherent set of standards over time and solve more quickly, new and emerging practical problems.

Now, everyone agrees that accounting needs a framework and in this context, a conceptual framework that will help
guide in the development of standards.

As a reminder, the Conceptual Framework is not a standard, and none of the concepts override the concepts or
requirements in any standard. The purpose of the Conceptual Framework is to assist the Board in developing
standards, to help preparers develop consistent accounting policies where there is no applicable standard in place
and to assist all parties to understand and interpret the standards.

On March 29,2018, IASB issued a revised conceptual framework for financial reporting. It comprised of three levels
to which the first level is the objective of financial reporting, the second level is the qualitative characteristics of
accounting information and elements of financial statements while the third level is the recognition, measurement
and disclosure concept.

The first level is the purpose of financial reporting and the second level are both the qualitative characteristics which
makes the financial statements useful and the elements of financial statements (Assets, Liabilities, Equity, Income
and Expenses). Further, the third level is used in establishing and applying accounting standards and the specific
concepts to implement the objective. These concepts include assumptions, principles, and a cost constraint that
describe the present reporting environment.

Purpose of Conceptual Framework

1. To assist the FRSC in developing accounting standards.

 2. To assist preparers of financial statement in applying accounting standards and in dealing with issues not yet
covered by GAAP.
3. To assist the FRSC in the review and adoption of IFRS.
4. To assist in the users of financial statements in interpreting the information contained I 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.

The objective of financial statements is the foundation of the conceptual framework. Other aspects of the
framework flow logically from the objective. Those aspects of the framework help to ensure that financial reporting
achieves its objective.

Objective of Financial Reporting

The objective of financial reporting forms the foundation of the Conceptual Framework. The objective is the “why”,
purpose or goal of accounting.

The objective of general-purpose financial reporting is to provide financial information about the reporting entity
that is useful to present and potential equity investors, lenders and other creditors in making decisions about
providing resources to the entity.

Users of Financial Information

The users of financial information may be classified into two, namely:

a. Primary users –Existing and potential investors-are concerned with risk inherent in and return
provided by their investors. Investors need information to help them determine whether they
should buy, hold or sell. Shareholders are interested to assess the ability of the entity to pay
dividends. While existing and potential lenders and other creditors are interest to determine
whether loans, interest thereon and other amounts owing to them will be paid when due.
b. Other users –Employees are interested about the stability and profitability of the entity which
enables them to assess the ability of the entity to provide remuneration, retirement benefits and
employment opportunities. Customers have interest about the continuance of an entity especially
when they have long-term involvement with or are dependent on the entity. Government and their
agencies are interested in the allocation of resources and thereafter the activities of the entity.
These agencies require information to regulate the activities of the entity, determine taxation
 policies and as a basis for national income and similar statistics. Public are interest on information
about the trend and the range of its activities.

Specific objectives of financial reporting

The overall objective of financial reporting is to provide information that is useful for decision making. Specifically,
the Conceptual Framework states the following objectives of financial reporting:

a. To provide information useful in making decisions about providing resources to the entity.
b. To provide information useful in assessing the cash flow prospects of the entity.
c. To provide information about entity resources, claims and changes in resources and claims.

Economic decisions is like the decisions made by investors on whether to buy, hold or sell. Further, lender and other
creditors needs information on whether to provide or settle loans and other forms of credit.

Assessing cash flow prospects for the investors depend on the returns that they expect from the investment , for
example, dividends. Similarly, for the creditors on the principal and interest payments or other returns that they
expect. Consequently, financial reporting should provide information that is useful in assessing the amount, timing
and uncertainty of prospects for future net cash inflows to the entity.

Economic resources and claims

General purpose financial reports provide information about the financial position of a reporting entity.

This position can help users identify the entity’s financial strength and weakness. Further, it will help users to assess
the entity’s liquidity, solvency and the need for additional financing.

Information about priorities and payment requirements of existing claims can help users to predict how future cash
flows will be distributed among those with a claim against the reporting entity.

Changes in economic resources and claims

Financial reports also provide information about the effects of transaction and other events that change the
economic resources and claims. This change result from financial performance and from other events or transactions
such as issuing debt or equity instruments.

Performance is the level of income earned by the entity through the efficient and effective use of its resources. It is
also known as results of operations and is portrayed in the income statement and statement of comprehensive
income.

Information about past financial performance is helpful in predicting the future returns on the entity’s economic
decisions. Information during a period is useful in assessing the entity’s ability to generate future cash inflows from
operations.

Limitations of Financial Reporting

a. General purpose financial reports do not and cannot provide all of the information that existing and
potential investors, lenders and other creditors need.
b. General purpose financial reports are not designed to show the value of an entity but the reports
provide information to help the primary users estimate the value of the entity.
c. General purpose financial reports are intended to provide common information to users and cannot
accommodate every request for information.
d. To a large extent, general purpose financial reports are based on estimate and judgment rather than
exact depiction.

Qualitative Characteristics

The second level provides conceptual building blocks that explain the qualitative characteristics of accounting
information and define the elements of financial statements. That is, the second level forms a bridge between the
why of accounting (the objective) and the how of accounting (recognition, measurement, and financial statement
presentation).

For an information to be useful, it needs to have certain qualitative characteristics. Presented in the illustration
below, qualitative characteristics are either fundamental or enhancing, depending on how they affect the decision-
usefulness of information.

Fundamental Qualitative Characteristics

There are two fundamental characteristics that should always be achieve each time one prepares the financial
statement, namely: relevance and faithful representation. Both are necessary for the information to be useful.
Neither a faithful representation of an irrelevant phenomenon nor an unfaithful representation of a relevant
phenomenon helps users make good decisions.

Relevance: Predictive Value and Confirmatory Value

Relevance is one of the two fundamental qualities that make accounting information useful for decision-making. At
the end of the day, the financial statement should be relevant. If it is not relevant, then no one will use them. It
should be able to forecast what can potentially happen in the future, it should have predictive value. It should be
able to confirm what has happened in the past, it should have confirmatory value. The moment the financial
statement has these values, it can actually be used by someone so they are relevant. We forecast mainly on, Is the
information that the company is producing capable of making a difference in the decision making. Without that
information given, would the investor or a creditor have change their mind before using the information or after
using the information would change their mind, the information contributed to the decision process. Therefore, they
are relevant.

Materiality is a company-specific aspect of relevance. Information is material if omitting it or misstating it would

influence decisions that users make on the basis of the reported financial information. An individual company
determines whether information is material because both the nature and/or magnitude of the item(s) to which the
information relates must be considered in the context of an individual company’s financial report.

For example, What will happen to San Miguel Corporation or to a Sari-Sari Store when these companies suffered a
net loss of P10,000. Imagine the impact of this loss to these companies. It will be nothing to a conglomerate
company but it would be a disaster to a small business or shall I say a “Sira-Sira Store”.

Materiality is a practical rule in which strict compliance to GAAP is not required when the items are not significant
enough to affect the evaluation, decision, and fairness of the financial information. The relevance of information is
affected by its nature or materiality. In other words, materiality is the subquality or the threshold connected closely
to relevance. As such, Information is immaterial, and therefore irrelevant, if it would have no impact on a decision-
maker. In short, it must a difference or a need not report it.

Faithful Representation

Faithful Representation is the second fundamental characteristic that makes the information useful to the users. To
be useful, it has to faithfully represent the phenomena what it purport to represent. As such, information provided
should match what has happened or occurred.
For example, if the representation expense portrayed only P120,000 when it should have been P195,000 then it fails
to faithfully present the correct expenses. On one hand, a company may hide the said expense and record it as part
of miscellaneous expense when it is material enough to be recognize as a representation expense just to avoid the
heat from BIR.

To have faithful representation, it should have the quality of completeness, neutrality and free from error.
Completeness necessitates that all necessary/relevant information should be provided in order to be useful to the
user. An omission of which can cause a misleading or false information therefore detrimental to the users as they
make decisions. For example, an ongoing litigation as of the year-end but before the FS issuance, the company is
required to pay a massive amount as a result of a defective product. Another example is the disclosure of cash
component, one would understand whether the company is simply keeping more cash on hand rather than in bank
or it could be in money market instrument. Thus, to be complete the financial statement should go hand and in hand
with notes to financial statement since the purpose of the notes is to provide the necessary information required by
the PFRS.

Neutrality portrays that the information provided will not favor one party over the other. For instance, it should not
favor the company over the creditor. Like a deliberate increase of assets or income and decrease of liability or
expenses to portray a liquid, stable and even profitable borrower in order to sway the lender to grant the loan. On
one hand, it must not also forcefully decrease income and increase expenses to be conservative as this is also a
mistake. To be neutral, it should embrace the principle of fairness.

Faithful representation does not mean that information is perfectly accurate in all respect. How can it be? When the
preparers use estimate of various type to measure the elements. However, Free from error would portray that
information is describe clearly and accurately as being an estimate, the nature and limitations of the estimating
process are explained, and no errors have been made in selecting and applying an appropriate process for
developing the estimate. For example, the determination of depreciation expense that requires the useful life and
salvage value estimation by using the management’s best judgement.

Applying the fundamental qualitative characteristics

To be useful, an information must be both relevant and faithfully represented. Preparers cannot choose one over the
other, it has to be both. The most efficient and effective process in applying the fundamental characteristics are as
follows:

(1) Identify an economic phenomenon that is potentially useful to the users.

(2) Identify the type of information about that phenomenon that would be most relevant if it is available and
can be faithfully represented.
(3) Determine whether that information is available and can be faithfully represented.

Enhancing Qualitative Characteristics

Enhancing qualitative characteristics are complementary to fundamental qualitative characteristics. These

characteristics will help the users determine which is more useful from less useful information. It is just like any
complete meal, the need to have some desserts. For health buff, one would go for fruits but for the sake of
remembering these characteristics we may call it VCUT (known junk food) to finish the meal. Verifiability,
Comparability, Understandability and Timeliness the four enhancing characteristics that will help determine which of
two ways should be used to depict a phenomenon if both are considered equally relevant and faithfully represented.

Verifiability implies consensus. It occurs when two independent measurers, using same methods, obtain similar
results. Even if the information is relevant and faithfully represented if it is not verifiable by the users as to its
veracity then it is useless. Verifiability occurs in these two situations.

1. Two independent auditors conduct physical count on the inventory of Nike and arrives at the same physical
quantity (Direct verification).

2. Two independent auditors compute the inventory value using the FIFO inventory valuation. Verification can occur
by checking the quantity and cost (input value) and recalculating the ending inventory (output) using the same
method. (Indirect verification)
Comparability

Unlike other characteristics comparability does not relate to a single item but it relates to two or more to compare. It
identifies the real similarities and differences within an entity (horizontal comparability or intracomparability)
between and across companies (dimensional comparability or intercomparability). Even if the information is relevant
and faithfully represented but if it cannot be used to compare one from the other by the users then it is useless.

For simplicity’s sake, comparing two persons using the same glutathione and be able to determine who is whiter
among the two, considering how it was used and how these two protected themselves from the sun. Or like
comparing which among the company is more profitable when both are using similar principles/methods. Implicit
with comparability is the principle of consistency. Consistency is there when the company applies the same
accounting treatment to similar event, from period to period. It is just like determining the efficacy of a dandruff
shampoo if it is used consistently, like every day. Then one could conclude if the shampoo is effective or not. It is the
same for a company of using similar method like FIFO for inventories or straight-line method for depreciation for one
year, in the next year, in the succeeding year and so on.

Comparability is the goal and consistency help achieve that goal. However, it must be noted that it is inappropriate
to remain the same when there are there are better and acceptable alternative exist. There should be full disclosure
of the change and its effect thereof.

Understandability

For information to be useful, there should be a link(understanding) between the users and their decisions. One could
not just discard a phenomenon simply because it is complex and it cannot be reduced to simple terms. It is expected
that users have a reasonable knowledge of business and economic activities and who review and analyze the
information diligently.

For instance, Aboitiz Group of Companies release an interim report that shows a significant decline. Though the
information is both relevant and faithfully represented, two users may have different actions. One could have
understood the impact and decided to sell while other one simply hold his share and was surprised later on when
the company declared smaller dividends and a decline in share price. Hence, even if the information is relevant and
faithfully represented but if not understood by the users then it is useless.

Timeliness

Timeliness is having information available before it losses its capacity to influence decision. Basically, the older the
information the less useful. Though there are some information that may prove to be timely even after the reporting
period as this will help users identify and assess trends.

Let’s take for example, the manager needs to decide whether to hire additional staff with the increasing demand.
Unfortunately, the financial statement was not ready and the manager hired additional staff anyway. When the FS
was presented, the demand was just superficial and the company cannot afford to sustain the additional cost.
Hence, the user made a mistake in its decision because the FS came too late when it should have been available in
time to make an informed decision.

Applying the enhancing qualitative characteristics

Enhancing qualitative characteristics must be considered up to the hilt. However, even if the FS has all the enhancing
characteristics it does not make the useful if it is not relevant and faithfully represented. Applying enhancing
characteristics do not follow a prescribed process. For example, minimizing comparability by adopting a new
standard may be valuable to improve relevance and faithful representation in the longer term. On one hand,
providing the necessary disclosure to partially compensate noncomparability.

Elements of Financial Statements

Financial statements portray the financial effects of transactions and other events by grouping them into broad
classes according to their economic characteristics. These broad classes are termed the elements of financial
statements. The elements in determining the financial position in the balance sheet are assets, liabilities and equity
while the elements in determining the performance in the income statement are income and expenses.
Recognition of elements

There are four main recognition principles used as basis in the preparation and presentation of financial statements,
as follows:

1. Asset recognition principle

2. Liability recognition principle
3. Income recognition principle
4. Expense recognition principle

Asset recognition principle

Asset is recognized in the balance sheet when it is probable that the future economic benefits will flow to the entity
and the asset has a cost or value that can be measured reliably. The future economic benefit is the potential to
contribute cash and cash equivalents whether directly or indirectly to the entity. For instance, classroom used in the
conduct of school operation is an asset to the institution since the student will pay in a form of tuition fees which will
increase company’s cash flows.

Cost principle in inherent in asset recognition. Cost of the asset in a cash transaction, is equivalent to cash payment.
In a noncash or an exchange transaction, cost is equal to fair value of the asset given or received whichever is clearly
evident. If there is none, the cost is equal to the carrying amount of the asset given. These cost may be the same all
throughout, may be changed by depreciation, amortization or write-off, or maybe shifted to other categories like
raw materials to finished goods.

Liability recognition principle

liability is recognized in the balance sheet when it is probable that an outflow of resources embodying economic
benefits will result from the settlement of a present obligation and the amount at which the settlement will take
place can be measured reliably. It is important that that the company recognizes its present obligation which maybe
legal or constructive obligation.

Legal would mean as a consequence of a binding contract or statutory requirement like a company will recognize
accounts payable when the goods is purchased on account or income tax payable when the company owed the
government whenever output tax is higher than input tax.

On one hand, constructive would mean a company will recognize its obligation when the company known for
advocating social responsibility and unfortunately pollutes the river nearby as a result of its operation. Hence, even
without the sanction from the government the company takes upon itself to take care of the environment.

The following example are the ways to settle the liability:

1. Payment of cash
2. Transfer of noncash assets
3. Provision of services
4. Cancellation of the liability for another liability
5. Transfer of liability into equity.

Income recognition principle

Income encompasses revenue and gains. Basic Income recognition means income shall be recognized when earned.

Income is recognized when it is probable that an increase in future economic benefits related to an increase in an
asset or a decrease in a liability has arisen and that increase in economic benefits can be measured reliably. It means
that recognition of income occurs simultaneously with the recognition of increases in assets or decreases in liabilities
(for example, the net increase in assets arising on a sale of goods or services or the decrease in liabilities arising from
the waiver of a debt payable).

The italic requirement above is present at the point of sale which is usually the point of delivery. It is at this point
where there is a transfer of risk and rewards from the seller to the buyer.
Exceptions at the point of sale:

1. Installment method – revenue is recognized at the point of collection; (collections x gross profit rate =
revenue)
2. Cost recovery method or sunk cost method – similar to installment method however all collections are first
applied to cost of merchandise.
3. Percentage of completion method – Contract revenue and contract expense are both recognized based on
the stage of completion of the construction contract.
4. Production method – revenue is recognized at the point of production which is applicable to agricultural,
forest and mineral products.

Other income recognition:

1. Interest revenue – shall be recognized on a time proportion basis that takes into account effective yield on
the asset.
2. Royalties – shall be recognized on an accrual basis in accordance with the substance if the relevant
agreement.
3. Dividends – shall be recognized when the shareholder’s right to receive payment is established (date of
declaration)
4. Installation fees – shall be recognized over the period of installation based on the stage of completion.
5. Subscription revenue – shall be recognized on a straight-line basis over the subscription period.
6. Admission fees – shall be recognized when the event takes place.
7. Tuition fees – shall be recognized over the period in which the tuition is provided.

Expense recognition principle

Basic expense recognition principle means that expenses are recognized when incurred.

Expenses are recognized when it is probable that a decrease in future economic benefits related to decrease in an
asset or an increase in liability has occurred and that the decrease in economic benefits can be measured reliably.

This concept is the application of the matching principle. Further, matching principle has three types, namely:

1. Cause and effect association

2. Systematic and rational allocation
3. Immediate recognition

Cause and effect association

This is the strict matching of cost with revenue concept. There is direct or clear association of the expense
with specific revenue. Wherein, inventory is recognized as asset when it is still unsold, once it is sold, there is
simultaneous recognition of expense (Cost of Sales) and revenue (Sales). Other examples are doubtful accounts,
warranty expense and sales commissions.

Systematic and rational allocation

These costs are expense by simply allocating over the periods benefited. Unlike cause-and-effect association,
there is no direct association of expense and revenue for systematic and rational allocation. As such, the assumption
is that benefits are expected to arise several accounting periods which is why expenses are recognized on the basis
of systematic and allocation procedures. The following examples are: depreciation for property, plant and
equipment; amortization of intangibles and allocation of prepaid rent, insurance and other prepayments.

Immediate recognition

These costs are expense outright because of uncertain future economic benefits or difficulty of associating
costs with future revenue. The expense is recognized immediately because there is no future economic benefit and
the cost incurred does not qualify or ceases to qualify for recognition as an asset. The following example are officer’s
salaries and most administrative expenses, advertising and most selling expenses. Many losses are immediately
recognized because they are not directly related to revenue like loss on lawsuit; on inventory writedown; on sale of
building, investment...; and even casualty loss.

Measurement of elements

There are four measurement bases or financial attributes, namely:

1. Historical cost
2. Current cost
3. Realizable value
4. Present value

For instance, let us likened this to the cellphone that you are holding right now. Assuming you have Iphone 7 128gb,
when you both this in 2016 it cost you P43,990 and that is precisely the historical cost. It is also known as past
purchase exchange price and it is the measurement basis most commonly adopted.

Assuming further that, you do not have enough money to pay your tuition this time (2020) and you need to pay as
well your land lady. As a result, you decided to sell your phone but you can only sell it for P9,900 and that my friend
is the Realizable value. This is also known as current sale exchange price.

On one hand, let’s say it is still 2020 and want to buy a brand new iphone 7 128gb at Power Mac Center which is
being sold and bought for P19,000. The said amount is called Current cost. This is also known as current purchase
exchange price.

To add, what if you can only use this for only four years? Considering how you normally use the phone (wear and
tear plus a few drops here and there) and magically, you were able compute that the value you’ve actually used/max
out on that phone is only P13,000 and not P19,000. That P13,000 is actually the present value of the phone. This is
also known as future exchange price.

Underlying Assumptions

The Conceptual Framework for Financial Reporting is based on the assumption that the business is a going concern
and will continue in operation for the foreseeable future. Hence, it is assumed that the entity has every intention of
making good in their business operations and prosper.

Let’s take for example from a sari-sari store to mini-grocery to a convenience store and even a super market. Why
not? Dream big as they say. No one in their right mind would think of investing (money, time and effort) and thinking
of closing it down in a week’s time.

Since the business is viewed to operate indefinitely, it is the very foundation of cost principle. Hence, assets are
measured at cost and market value are ignored. Once, the business suffers so much losses and it decided to stop in
its operation then the going concern postulate is abandoned and that means changing the cost principle to realizable
value or could be market value.

Though, framework only mentioned going concern assumption there are basic assumptions implicit in the
accounting. The following are: Accounting entity, time period and monetary unit.

Accounting entity

Transactions of the entity is separate and distinct from its owners. It means Davao Light payment for the owner’s
home paid by the business is not the expense of the business operations but could be viewed as a drawing of the
owners. Similarly, if the owner operates two businesses like Sari-Sari store and Water refilling station, salary paid
“tindera” is an expense of the Sari-Sari store and not of the other. “Ija-Ija Ahu-Ahu” as what Boholano would say, it
squarely applies to this concept. Each business is an independent accounting entity. The purpose is to have fair
presentation of financial statements.

Time Period

Understanding what happened to the business whether it be a complete success or a failure is captured when the
business stops to operate and is liquidated. However, users of financial information cannot wait that long and needs
timely information (periodic reports) for making economic decision.

Periodic reports entails one year whether it be calendar year or a natural business year which is referred as an
accounting period. A calendar year is a twelve-month period that ends on December 31. While, a natural business
year is a twelve-month period that ends on any month besides December typically, lowest month or experiencing
lean/slack season like resorts.

Monetary Unit

The monetary unit assumption has two aspects namely, quantifiability and stability of peso. Quantifiability implies
that elements are measured in one common unit of measure, for this country the Philippine peso. It is very awkward
for the user to see in the report, the following items: cash & cash equivalents ( ) ; inventory ( ) and Property, Plant
and Equipment( ). On the other hand, Stability of peso pertains to purchasing power that is constant and any
difference are considered to be insignificant therefore ignored. The accounting function is nominal only and does not
consider the purchasing power. But when the amount is found to be unbelievable e.g. a 100 square meter both in
1940 at P20,000 and remain unchanged in the 2020 financial report, then it is not faithfully represented. The entity
may use the revaluation model policy since stability of peso over time is not necessarily valid.

Cost constraint on useful information

In providing useful information, companies must consider an overriding factor that limits (constraint) the reporting
and this is referred as cost constraint. Benefit should exceed the cost in obtaining information. The difficulty in cost-
benefit analysis is that cost and more so with benefit are not always evident or measurable. Unfortunately, there is
no hard and fast rule in determining benefits as the evaluation of cost constraint is substantially based on
professional judgement.

1. As regards the Framework, which of the following statements is true?

I. The Framework is a reporting standard

II. In cases of conflict, the requirements of the Framework prevail over those of the relevant IFRS

d. Neither I nor II

2. Which is purpose of the Conceptual Framework?

d. All of these can be considered a purpose of Conceptual Framework.

3. Which of the following is not a purpose of the conceptual framework of accounting?

a. To provide specific guidelines for resolving situations not covered by existing accounting standards.

4. In the Conceptual Framework for financial Reporting, what provides “the why” (i.e., the purpose) of accounting?

b. Objective of financial reporting

5. Financial accounting is the area of accounting that emphasizes reporting to

d. Creditors and investors

6. These are the attributes that make the information provided in financial statements useful to users.

a. Qualitative characteristics
7. Information has the quality of relevance when

I. It influences the economic decisions of users by helping them evaluate past, present or future events
or confirming or correcting their past evaluations.
II. It is free bias and error and can be depended upon by users to represent faithfully that which it
either purports to represent or could reasonably be expected to represent.

a. I only

8. If there is undue delay in the reporting of information, it may lose its

a. Relevance

9. The quality of information that means the numbers and descriptions match what really existed or happened is
_________________

d. Faithful representation

10. Proponents of historical cost ordinarily maintain that in comparison with all other valuation alternatives for
general purpose financial reporting, statements prepared using historical costs are more _____________

b. Verifiable

11. According to the IASB conceptual framework, both timeliness and understandability are

a. Enhancing qualitative characteristics of useful financial information

12. Which of the following is true regarding the cost-benefit constraint?

a. Benefits are more difficult to quantify than costs

b. The IASB seeks input on costs and benefits as part of due process
c. Benefits to preparers may include access to capital at a lower cost
d. All of the choices are correct

13. Users are assumed to have a reasonable knowledge of business and economic activities and accounting and a
willingness to study the information with reasonable diligence.

c. Understandability

14. Financial statements portray the financial effects of transactions and other events by grouping them into broad
classes according to their economic characteristics. These broad classes are termed as the

a. Elements of financial statements

15. Which statement is correct concerning he elements of the financial statements?

I. The elements directly related to the measurement of financial position are assets, liabilities and
equity.
II. The elements directly related to the measurement of financial performance are income and
expenses.
a. I only

16. A liability is recognized in the statement of financial position when

I. It is probable that an outflow of resources embodying economic benefits will result from settlement
of present obligation.
II. The amount at which the settlement will take place can be measured reliably.

c. Both I and II

17. Which statement is correct concerning recognition of income and expense?

 I. Income is recognized when an increase in future economic benefit related to an increase in an asset
or decrease in liability has arisen that can be measured reliably.
II. Expense is recognized when a decrease in future economic benefit related to a decrease in an asset
or an increase in liability has arisen that can be measured reliably.

c.Both I and II

18. This process involves the simultaneous or combined recognition of revenue and expenses that result directly and
jointly from the same transactions or other events on the basis of direct association between the costs incurred and
the earning of specific items of income.

b. Matching of costs with revenue

19. BOYHUGOT Company suffered a P500,000 loss from a recent volcanic eruption occurred in the middle of
December and charged the whole amount to profit or loss statement for the year ended December 31, 2015. What
expense recognition principle did the company exemplify from the above transaction?

c.Immediate recognition

20. Current cost is the

a. Amount of cash or cash equivalent paid or the fair value of the consideration given at the time of acquisition.
Statement of Financial Position

Financial statements are a structured representation of the financial position and financial performance of an entity.

Liquidity – the ability of the company to transfer assets into cash to pay short-term obligations and operating needs.

Solvency – ability to meet long-term financial obligations.

Operating Cycle - is the time between the acquisition for asset for processing and the eventual realization to cash or
cash equivalents.

Current assets - are cash and other assets a company expects to convert into cash, sell, or consume either in one
year or in the operating cycle, whichever is longer.

Noncurrent assets – an entity shall classify all other assets not classified as current as noncurrent.

Current liabilities - are the obligations that a company reasonably expects to settle either through the use of current
assets or the creation of other current liabilities.

Noncurrent liabilities are obligations that a company does not reasonably expect to settle within the normal
operating cycle.

Shareholder’s Equity is the residual interest of owners in the net assets of an entity which is determined to be the
excess of assets over liabilities.

Notes to financial statements – provide narrative description or disaggregation of items presented in the financial
statements and information about items that do not qualify for recognition.

Essential Knowledge

Essential knowledge is a detailed discussion of the topic or concept.

General purpose financial statements (referred to as ‘financial statements’) are those intended to meet the needs of
users who are not in a position to require an entity to prepare reports tailored to their particular information needs.

A complete set of financial statements comprises:

1. a statement of financial position as at the end of the period;

2. a statement of profit or loss and other comprehensive income for the period;
3. a statement of changes in equity for the period;
4. a statement of cash flows for the period;
5. notes, comprising significant accounting policies and other explanatory information;

Uses of financial position

The objective of financial statements 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 also shows the
outcome of the management’s stewardship of the resources entrusted to them. To meet these objectives, the
financial statement provides the following information:

1. assets;
2. liabilities;
3. equity;
4. income and expenses, including gains and losses;
5. contributions by and distributions to owners in their capacity as owners; and
6. cash flows.

The listed information above, along with other information in the notes, assists users of financial statements in
predicting the entity’s future cash flows and, in particular, their timing and certainty.

By now you must know that Total Assets = Total Liabilities + Shareholder’s Equity. That is, the assets equal liabilities
and equity as such it should balance. The Statement of financial position, sometimes referred as balance sheet,
reports the assets, liabilities and shareholder’s equity of an entity at a certain point in time. By reporting these, it
provides a basis for computing rates of return and evaluating the capital structure of the company. The statement
also provides information that is useful to assess a company’s risk and future cash flows in the form of company’s
liquidity, solvency, and the need for additional financing.

Limitations of financial position

Most assets and liabilities are recognized at historical cost. As a result, it does not provide a more relevant fair value
like the case of land used in operation. Secondly, estimates were used in many of the items presented in the
statement. For instance, estimated life of the building and collectivity of accounts receivable to mention a few.
Lastly, the company omits the recognition of many items that are of financial value but notoriously hard to measure
objectively like the brilliant minds of the teachers it cannot be reliably measure the value of employees and other
intangible assets (e.g. reputation and customer loyalty).

Classification of Assets

Statement of financial position accounts are classified. The three general classes are assets, liabilities and equity and
these are further divided to further subclassifications. Assets are classified into two, namely current assets and
noncurrent assets. This classification is an important information between assets that are continuously circulating as
working capital from assets used in long-term operations.

Figure below shows the typical operating cycle but when the operating cycle is not clearly identifiable like having
several cycles within one year then the duration is assumed to be one year. But if the operating cycle is longer than
one year then the entity must use the longer period.

Current assets

PAS 1, paragraph 66, an entity shall classify an asset as current when:

1. the entity expects to realize the asset, or intends to sell or consume it, in its normal operating cycle;
2. the entity holds the asset primarily for the purpose of trading;
3. the entity expects to realize the asset within twelve months after the reporting period; or
4. The asset is cash or a cash equivalent unless the asset is restricted from being exchanged or used to settle a
liability for at least twelve months after the reporting period.

Current asset are listed in the order of liquidity. PAS 1, paragraph 54, provides a minimum line items under current
assets are:

1. Cash and cash equivalents

2. (Short-term investments) Financial assets at fair value such as trading securities and other investments in
quoted equity instruments
3. Trade and other receivables
4. Inventories
5. Prepaid expenses
Cash and cash equivalents is the first line item presented in the current asset section. These items must be available
for payment of current obligations and not subject to any restrictions, contractual or otherwise.

All securities whether it be debt or equity measured at fair value and the changes thereto is reflected in the profit or
loss statements comprises short-term investments.

Trade receivable include accounts receivable and note receivable (collectible from customers) whereas other
receivable (collectible from noncustomer) comprised of nontrade receivables that are currently collectible. These are
presented in the statement of financial position as one line item called Trade and other receivable.

The inventories is another line item wherein the details shall be disclosed in the notes of financial statement. The
notes shall include the composition of the inventories for instance, manufacturing concern as finished goods, goods
in process, raw materials and manufacturing supplies.

An entity shall include as Prepaid expenses in the current assets provided that they will received benefits within one
year or operating cycle, whichever is longer. The amount to be included is the unexpired or unconsumed cost.

An entity does not report these five items as current assets if it cannot be realized in one year or in the operating
cycle, whichever is longer. An entity shall classify all other assets as noncurrent.

Noncurrent assets

All other assets that does not meet the definition of current assets are classified as noncurrent assets. The following
are:

1. Property, plant and equipment

2. Long-term investments
3. Intangible assets
4. Deferred tax assets Other noncurrent assets

The first line item under noncurrent asset is Property, plant & equipment which pertains to tangible assets used in
the regular operations of the business for more than one year. With the exception of land, the entity either
depreciates or depletes these assets. Since all are measured at cost less accumulated depreciation/accumulated
depletion except land.

Long-term investments are not directly identified with the operating activities of the entity unlike trading securities
which are classified under current assets. The revenue coming from these investments occupy an additional
relationship to the main revenue producing activities of the entity.

Intangible assets lack physical substance and are not financial instruments. Companies amortize the intangible
assets with definite life over its useful life while periodically assess intangibles with indefinite life for impairment.

PAS 12, paragraph 15, provides that Deferred tax assets shall be recognized for all deductible temporary differences.
Regardless of the reversal in terms of period this account is always presented as noncurrent assets.

Current Liabilities

An entity shall classify a liability as current when:

1. it expects to settle the liability in its normal operating cycle;

2. it holds the liability primarily for the purpose of trading;
3. the liability is due to be settled within twelve months after the reporting period; or
4. it does not have an unconditional right to defer settlement of the liability for at least twelve months after
the reporting period (see paragraph 73). Terms of a liability that could, at the option of the counterparty,
result in its settlement by the issue of equity instruments do not affect its classification.

An entity shall classify all other liabilities as non-current.

PAS 1, paragraph 54, provides a minimum line items under current liabilities are:

1. Trade and other payables

 2. Current provision
3. Short-term borrowing
4. Current portion of long-term debt
5. Current tax liability

Trade payables include accounts payable and note payable (payable to suppliers) whereas other payables (payable
to non-suppliers) comprised of nontrade payables that are current obligations. These are presented in the statement
of financial position as one line item called Trade and other payables.

The entity recognizes the amount of expense with a probable liability now even though there is no exact information
provided it is measured reliably. Such liability is typically recognized as current liability and should be regularly
reviewed if it needs adjustments. This line item is called current provision.

Short-term borrowings is the amount of loan payable to the lender/financial institution like banks and third-party
capital provider. This debt is interest bearing and to be paid within 12 months.

An entity can also borrow long-term period like 3yrs, 5yrs or even longer are paid not one time but on a staggered
basis. This is sometimes called serial/series/installment payment wherein a five-year debt is paid five installments.
Wherein a portion of the liability is settled within 12 months after the reporting period is classified as current. This
line item is identified as current portion of long-term debt.

Current tax liability is the amount of tax to be paid or payable for a year as determined by applying the provision of
the enacted tax law. For instance, Income tax payable and withholding tax payable.

The same normal operating cycle applies to the classification of an entity’s assets and liabilities. When the entity’s
normal operating cycle is not clearly identifiable, it is assumed to be twelve months.

Noncurrent liability

All other liabilities that does not meet the definition of current liabilities are classified as noncurrent liabilities. The
following are:

1. Noncurrent portion of long-term debt

2. Finance lease liability
3. Deferred tax liability
4. Long-term obligation to company officers
5. Long-term deferred revenue

The entity expects to settle the other part of the obligation more than one year after the reporting period. In other
words, this noncurrent portion of long-term debt is the remaining unpaid balance of the current liability’s line item
called current portion of long-term debt.

A lessee is required to recognize a right-of-use asset representing its right to use the underlying leased asset and a
lease liability representing its obligation to make lease payments.

PAS 12, paragraph 15, provides that Deferred tax liability shall be recognized for all taxable temporary differences.
Regardless of the reversal in terms of period this account is always presented as noncurrent liability.

Generally, long-term obligation to officers is substantial in amount and settled beyond one year after the reporting
period.

Long-term Deferred revenue is realizable in more than one year. Typical example are unearned revenue from long-
term contracts and long-term leasehold advances.

Shareholder’s Equity

The equity of an entity depends on the form of business organization. These are,

Proprietorship - Owners equity

Partnership - Partner’s equity

Corporation - Stockholder’s equity or shareholder’s equity

The holder of this equity instruments are known as owners and the term equity may be used for all business
companies.

The elements comprising the shareholder’s equity with equivalent IAS term are:

IAS Term Philippine Term

Share Capital Capital stock
Subscribe Capital Subscribe capital stock
Preference Capital Preferred stock
Ordinary Share Capital Common stock
Share Premium Additional paid capital
Accumulate profit/losses Retained earnings (deficit)
Appropriation reserve Retained earnings appropriated
Revaluation reserve Revaluation surplus
Treasury reserve Treasury Stock
Notes to financial statements

On top of what is recognized on the face of the financial statements, note contains additional necessary information
in order to enhance understandability required by Philippine Financial Reporting Standards.

Forms of statement of financial position

There are two customary forms in presenting the statement of financial position, namely:

1. 1.Report form – the three major sections of assets, liabilities and equity are presented in sequence
downward.
2. 2.Account form – the three major sections are presented in sequence sideways.

The following is an illustration of the two forms of statement of financial position.

The common practice in the Philippine setting is to present current assets before noncurrent assets, current
liabilities before noncurrent liabilities and equity after liabilities. Though, it must be noted that PAS 1, paragraph 57
does not prescribe the order or format in which items are to be presented in the statement of financial position.

1. Which of the following statements best describes the term “liability”?

d. A present obligation of the entity arising from past events

2. Financial statements must be prepared at least

d. annually

3. Which of the following statements is true?

c. Provisions should be recognized in the statement of financial position

4. Which of the following statements best describes the term “financial position”?

d. The assets, liabilities and equity of an entity.

5. In which section of the statement of financial position should cash that is restricted for the settlement of a
liability due 18 months after the reporting period be presented?

d. Noncurrent assets
 6. An entity shall classify a liability as current when (choose the incorrect one)

d. The asset is cash or cash equivalent restricted to settle a liability for more than twelve months after the
reporting period.

7. When the entity’s normal operating cycle is not clearly identifiable, its duration is assumed to be

a. Twelve months

8. The operating cycle of an entity

- Is the time between the acquisition of assets for processing and their realization in cash or cash
equivalents.

9. These provide narrative description or disaggregation of items disclosed in the financial statements and
information about items that do not qualify for recognition.

a. Notes

10. The statement of financial position is useful for analyzing all of the following, except

b. Profitability
Statement of Comprehensive Income

Income statement – is a formal statement showing the financial performance of an entity for a given period of
time.

Comprehensive income – is the change in equity during a period resulting from transactions and other events,
other than changes resulting from transactions with owners in their capacity as owners.

Essential Knowledge

Essential knowledge is a detailed discussion of the topic or concept.

The income statement measures the success of the entity’s operation for a given period of time. This statement
provides the users information needed to determine profitability, investment value and the borrowing power of
the entity.

Uses of income statement

The income statement helps predict future cash flows. The primary users use the information to:

1. Assess prior performance

2. Provides a basis in predicting future performance
3. Assess the risk of achieving future cash flows

Information from income statement - income, expenses, gains and losses helps the user evaluate whether the
company’s performance is better than before. It could also help determine important trends, that if continued,
provide information future performance. Further, it could also help determine the uncertainty of not achieving
future targets.

Limitations of income statements

Users need to be aware that income statement incorporate estimates amounts and consider a number of
assumptions that limits the information provided. These are:
1. Only items that can be measured reliably are recognized
2. Income provided is affected by different methods used
3. Income measurement involves judgement

When companies have improved and better product quality and customer service, these are ignored since it is
notoriously hard to measure. To add, similar companies in the same industry might be using different
depreciation method like accelerated method one company while other may be using straight line. On one hand,
there might be companies that are optimistic in evaluating useful life of its property and equipment than the
others. Thus, these circumstances and difference may reduce the usefulness of its information in making
economic decisions.

Comprehensive income includes components of profit or loss and components of other comprehensive income.
Profit or loss is the traditional income statement where in the bottom figure is either net income or net loss.
Other comprehensive income (OCI) represents income and expenses not recognized in the profit or loss. The
following are:

1. Unrealized gains or losses on equity and debt investments (Financial assets are fair value through OCI)
2. Gains and losses from translation of financial statements of a foreign operation
3. Revaluation surplus
4. Unrealized gain or losses from derivative contracts designated as cash flow hedge
5. “Remeasurements” of defined benefit plan, including actuarial gain or loss
6. Change in fair value attributable to credit risk (financial liability designated at fair value through profit or
loss)
PAS 1, paragraph 82A, statement of comprehensive income shall present line item classified by nature. As
follows:
1. OCI that will be reclassified subsequent to P/L
- Unrealized gains or losses on debt investments (Financial assets are fair value through OCI)
- Gains and losses from translation of financial statements of a foreign operation
- Unrealized gain or losses from derivative contracts designated as cash flow hedge
2. OCIT that will not be reclassified subsequent to P/L
- Unrealized gains or losses on equity investments (Financial assets are fair value through OCI), it will be
reclassified to retained earnings upon disposal
- Revaluation surplus reclassified to retained earnings
- “Remeasurements” of defined benefit plan, including actuarial gain or loss may be transferred within equity or
retained earnings
- Change in fair value attributable to credit risk (financial liability designated at fair value through profit or loss)
may be transferred within equity or retained earnings

Sources of income
1. Sales of merchandise to customers -Gross sales minus sales returns, discounts and allowances equals net sales
2. Rendering of services - These includes professional fees, commissions, admission fees and tuition fees
3. Use of entity resources – These includes interest, rent, royalty and dividend income
4. Disposal of resources other than products – gain on sale of investments; property, plant and equipment and
intangible assets.

Component of expenses
1. Cost of goods sold or cost of sales
2. Distribution costs or selling expenses
- Salesmen’s salaries
- Salesmen’s commission
- Travelling and marketing expense
- Advertising and publicity
- Freight out
- Depreciation of delivery equipment and store equipment
3. Administrative expenses
- Doubtful accounts
- Office salaries
- Expenses of general executives
- Expenses of general accounting and credit department
- Offices supplies used
- Certain taxes
- Contribution
- Professional fees
- Depreciation of office building and office equipment
- Amortization of intangible assets
4. Other expense
- Loss on sale of trading securities
- Loss on sale of property, plant and equipment
- Loss on sale of noncurrent investment
- Casualty loss – flood, earthquake,fire
5. Income tax expense PAS 1, paragraph 82, the profit or loss section or the statement of profit or loss shall
include line items that present the following amounts for the period:
1. Revenue;
2. Gains and losses arising from the derecognition of financial assets measured at amortized cost;
3. Finance costs;
4. Share of the profit or loss of associates and joint ventures accounted for using the equity method;
5. Income tax expense;
6. A single amount comprising discontinued operations;
7. Profit or loss for the period;
8. Total other comprehensive income
9. Comprehensive income for the period, total of Profit or loss for the period and other comprehensive income

Forms of income statement

PAS 1, paragraph 99, the entity may present the analysis of expenses in the income statement, as follows:
1. Functional presentation – expenses are classified according to function like cost of sales, distribution cost,
administrative cost and other expenses.
2. Natural presentation - expenses of the same nature are group and presented as one item.
1. Which of the following is included in comprehensive income?

b. Revaluation surplus

2. Which of the following is FALSE about the preparation of statement of comprehensive income?

c. Income tax related to discontinued operation shall be disclosed on the face of income

3. Which of the following statements best describes the term “financial performance”? a. The income, expenses and
profit or loss of an entity

4. Which of the following statements is true?

I. An entity presenting a single statement of comprehensive income should present a statement of changes in
equity
II. An entity presenting a separate income statement and a statement of comprehensive income should
present a statement of changes in equity
b. Both I and II

5. Comprehensive income includes

I. Profit or loss
II. Other comprehensive income
c. Both I and II

6. Other comprehensive income includes all of the following, except

d. Dividend paid to shareholders

7. Information about financial performance of an entity is primarily provided in the

b. Income statement

8. This term comprises items of income and expenses including reclassification adjustments that are not recognized
in profit or loss as required or permitted by PFRS

d.Other comprehensive income

9. Separate line items in analysis of expenses by function include

d.Cost of goods sold, administrative and distribution costs

10. Which of the following is not an acceptable option of reporting other comprehensive income ?

a.in the notes