CHAPTER 7
CONCEPTUAL FRAMEWORK: Presentation and disclosure Concepts of capital
TECHNICAL KNOWLEDGE
● To know the guideline in the
presentation of disclosure of
financial information.
● To understand presentation and
disclosure in effective
communication tool.
● To define the two concepts of
capital.
● To determine net income under the
finance capital and physical capital
concept.
PRESENTATION AND DISCLOSURE
● The presentation and disclosure can be
an effective communication tool about
the information in financial statements,
● A reporting entity communicates
information about its assets, liabilities,
equity, income and expenses by
presenting and disclosing information in
the financial statements.
● Effective communication of information
in financial statements makes the
information more relevant and
contributes to a faithful representation
of an entity's assets liabilities, income
and expenses
● Effective communication of information
in financial statements also enhances
the understandability and comparability
of information in the financial
statements.
●
● Effective communication in financial
statements is supported by not
duplicating information in different
parts of the financial statements.
● Duplication is usually unnecessary and
can make financial statements less
understandable.
CLASSIFICATION
● Classification is the sorting of assets,
liabilities, equity, income and expenses
on the basis of shared or similar
characteristics.
● Classifying dissimilar assets, liabilities,
equity, income and expenses can
obscure relevant information, reduce
understandability and comparability and
may not provide a faithful
representation of financial information.
● For example, it could be appropriate to
classify an asset or a liability into current
and noncurrent.
● It may be necessary to classify
components of equity separately if such
components are subject to legal,
regulatory and other requirements.
● Thus, ordinary share capital, preference
share capital, share premium and
retained earnings should be disclosed
separately.
 CLASSIFICATION OF INCOME AND
EXPENSES
● Income and expenses are classified as
components of profit loss and
components of other comprehensive
income.
● The Revised Conceptual Framework has
introduced the term statement of
financial performance to refer to the
statement of profit or loss together with
the statement presenting other
comprehensive income.
● The statement of profit or loss is the
primary source of information about an
entity's financial performance for the
reporting period.
● All income and expenses should be
appropriately classified and included in
the statement of profit or loss.
● However, there are certain items of
income and expenses that are presented
outside of profit or loss but included in
other comprehensive income.
● The components of other
comprehensive income are
subsequently recycled or reclassified to
profit or loss or retained earnings.
AGGREGATION
● Aggregation is the adding together of
assets, liabilities, equity, income and
expenses that have similar or shared
characteristics and are included in the
same classification.
● Aggregation makes information more
useful by summarizing a large volume of
detail. However, aggregation may
conceal some of the detail.
● Hence, a balance should be made so
that relevant information is not
obscured either by a large amount of
insignificant detail or by excessive
aggregation.
● Typically, the statement of financial
position and the statement of financial
performance provide summarized or
condensed information.
● More detailed information is provided in
the notes to financial statements.
CAPITAL MAINTENANCE
● The financial performance of an entity is
determined using two approaches,
namely transaction approach and capital
maintenance approach.
● The transaction approach is the
traditional preparation of an income
statement.
● The capital maintenance approach
means that net income occurs only after
the capital used from the beginning of
the period is maintained.
● In other words, net income is the
amount an entity can distribute to its
owners and be as "well-off" at the end
of the year as at the beginning.
● The distinction between return of
capital and return on capital is
important to the understanding of net
income.
● Shareholders invest in entity to earn a
return on capital or an amount in excess
of their original investment.
● Return of capital is an erosion of the
capital invested in the entity.
● The Conceptual Framework considered
two concepts of capital maintenance or
well-offness, namely financial capital
and physical capital.
FINANCIAL CAPITAL
● Under a financial capital concept, such
as invested money or invested
purchasing power, capital is synonymous
with net assets or equity of the entity.
● Financial capital is the 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.
● Financial capital is the traditional
concept based on historical cost and
adopted by most entities.
NET INCOME UNDER FINANCIAL
CAPITAL
● Under the financial capital concept, net
income occurs when the nominal
amount of the net assets at the end of
the year 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."
ILLUSTRATION
● The following assets, liabilities and other
financial data pertain to the current
year:
(ILLUSTRATION ON THE BOOK PG. 140)
● Note that the amount of net assets is
"the excess of total assets over the total
liabilities".
● This is the reason this approach is also
known as the net assets approach.
PHYSICAL CAPITAL
● Physical capital is the quantitative
measure of the physical productive
capacity to produce goods and
services.
● The physical productive capacity may
be based on, for example, units of
output per day or physical capacity of
productive assets to produce goods
and services.
● This concept requires that productive
assets be measured at current cost,
rather than historical cost.
● Productive assets include inventories
and property, plant and equipment.
● The current costs for these productive
assets must be maintained in order
that physical capital is also maintained.
● Accordingly, physical capital is equal to
the net assets of the entity expressed
in terms of current cost.
● The physical concept of capital should
be adopted if the main concern of
users is the operating capability of the
entity, meaning, the resource or fund
 needed to achieve that operating
capability or capacity.

● Under this concept, net income occurs

"when the physical productive capital
of the entity at the end of the year
exceeds the physical productive capital
at the beginning of the period, also
after excluding distributions to and
contributions from owners during the
period."