CONCEPTUAL FRAMEWORK

PURPOSE OF CONCEPTUAL FRAMEWORK

a. Assist IASB in developing standards in consistent concepts.

b. Assist preparers when there is no standard applicable to a certain transaction.
c. Assist all parties in understanding the standard.

Conceptual framework provides foundation for development:

a. Enhancing transparency by means of comparability and quality of financial statements.

b. Promote accountability that bridge gap between capital providers and management.
c. Strengthen efficiency by providing crucial financial information without cost constraint.

STATUS OF CONCEPTUAL FRAMEWORK

Conceptual framework is not a standard. If there is a conflict between CF and STANDARD,

standard will prevail.

HIERARCHY OF REPORTING STANDARDS

1. PFRS’s
2. Judgment
Management shall consider the following:
 PFRS dealing with similar transactions
 Conceptual Framework

Management may consider the following:

 Pronouncement issued by standard setting bodies

 Other accounting literature and practices

SCOPE OF CONCEPTUAL FRAMEWORK:

Primarily concerned with general financial reporting with objective of preparing general purpose
financial statements.

1. The objective of financial reporting

2. Qualitative characteristics
3. Financial statements and the reporting entity
4. The elements of financial statement
5. Recognition and derecognition
6. Measurement
7. Presentation and disclosure
8. Concepts of capital and capital maintenance
I. THE OBJECTIVE OF FINANCIAL REPORTING
The objective of financial reporting is to provide financial information about the
reporting entity that is useful for primary users in making decisions about providing
resources to the entity.

Primary Users:

1. Existing and potential investors; and

2. Lenders (loans; such as banks) and other creditors (other form of credit)

These users cannot demand specific financial statements and must rely only on
general purpose financial statements. Accordingly, they are the first address of gpfs.

Financial reporting only provide common needs and does not provide all the
information. It does not show the value of the reporting entity but helps the user to estimate
its value.

Secondary Users:

1. Regulators
2. Entity’s management
3. The public

Decisions about providing economic resource to the entity

 Buying, holding, or selling investments;

 Providing loans or other forms of credit
 Exercising voting rights that could influence actions

These decisions are influenced by the expectations of investors and creditors by means of
return of investment and repayment with interest. Assessment of these expectations are:

1. Prospects for generation of future cash inflows – the claims on resources (SFP)
2. Management stewardship – how efficient and effective does the management utilize its
economic resources (SCI).

Economic Resources and Claims

Information about the nature and amount of the entity’s economic resources and claims allows
the user to determine its strength and weaknesses. It assess:

a. Liquidity and solvency

Liquidity – ability of the entity to pay short-term obligations

Solvency – ability to meet long-term obligations

b. Needs for additional financing

c. Management’s stewardship
 Change in economic resources and claims

Changes in economic resources and claims results from

a. Financial performance (income and expenses) – helps users to assess the ability
to produce return of investment. Return is an indication of how well the
management utilize its resources.
b. Other events and transactions

Information based on accrual accounting provides better basis in assessing financial

performance of a reporting entity. All the changes in resources, claims, and capital of
the entity are significant information in better assessment of the standing and
performance of the reporting entity.

Information about the use of economic resources

Management Stewardship is one of the objectives of the financial reporting whereas it

represents the responsibilities of the reporting entity towards its resource providers to ensure
and safeguard the resources. Information such as statement of cash flow allows the user to
estimate the efficiency and effectivity of the entity in utilizing the resources which can also
indicate the future period movements.

II. QUALITATIVE CHARACTERISTICS

Qualitative characteristic of information does not only apply to financial statements but
through other forms of information as well. It helps define information that are most useful to
users.
1. Fundamental Qualitative Characteristics – make the information useful to users.
 Relevance – can influence or can make a change in decision making.
 Predictive Value – amounts prediction of future outcomes
 Confirmatory Value – feedback values, confirms prediction of past
outcomes.
These values are interrelated. Current outcomes can be used to predict
future outcomes, vice versa. Hence, a predictive value also has
confirmatory value.
 Materiality – if omitting or misstating the amount would influence the
decision making. However, it is undoubtedly that it is ‘entity-specific’
depending upon how the entity such amount. It is a matter of judgment
that undergoes a guide process as follows:
THE MATERIALITY PROCESS
i. Identify information that has the potential to be material
ii. Assess whether information in step 1 is in fact, material
 Could influence decision making based on fstatements
as a whole
 The item’s size and nature
  Quantitative Factor – the size of the impact. The impact
is compared as a percentage to other amount (total
assets) or threshold amount (capitalization).
 Qualitative Factor – If the item is not quantitative in
nature, it must be assessed qualitatively. Accordingly,
an item may not be material on its own but is material
in conjunction with others.
iii. Organize info concisely
iv. Review the draft financial statements. A step back procedure to
accurately determine if items are properly classified as material.
 Faithful Representation – information must be true, correct, and complete.
Substance over form.
 Completeness – all information NECESSARY for the statement to be
understandable is provided.
 Description of nature of the item
 Numerical depiction
 Description of numerical depiction
 Explanation of significant facts surrounding the item
 Neutrality – free from bias. Information is not manipulated; supported
by prudence which prohibit understating liabilities or expenses and
overstating assets.
 Free from MATERIAL error – does not mean PERFECTLY accurate. It
means there are no errors from the whole process selected and applied.
If estimates are used, the facts must be described clearly including
explanations used in estimation.

2. Enhancing Qualitative Characteristics – enhance the usefulness of information.

 Verifiability – if another independent user conforms with what is provided in
the financial statements. Different users could reach general agreement.
 Direct verification – by actual observation. Count of cash or inventory.
 Indirect verification – Recalculating the methods and formula used.
 Comparability – the users can clearly identify similarities and differences
between different sets of information provided by:
 Intra-comparability – single entity but in different periods
 Inter-comparability – different entities but in single period.

Comparability requires comparison of two items. In such way, the

goal is to compare, and consistency is the means of achieving that
goal.

 Understandability – information is presented in clear and concise manner. Does

not omit complex information but is presented in clear and understandable
format. Intended for:
 Reasonable knowledge in business activities
 Individuals who are willing to analyze diligently
  Timeliness – when an information is readily available in time it is needed to
influence a decision.

APPLYING QUALITATIVE CHARACTERISTICS

Information must be both relevant and faithfully represented as no information is useful

if it is relevant that is erroneous nor a complete information that is irrelevant. Enhancing
qualitative only enhance the information but is ought to be maximized. And yet so, sometimes
in order to reach the extent, a sacrifice of another characteristic is made.

THE COST CONSTRAINT

Cost is the expense of providing information to users. Cost-benefit principle entails that
cost shall never exceed benefits.

III. FINANCIAL STATEMENTS AND THE REPORTING ENTITY

In meeting the objective of GP-FS, which is to provide information in assessing (i) prospects
of future cash flows; and (ii) management stewardship of economic resources. These
information are provided in:

1. Statement of Financial Position (asset, liab, equity)

2. Statement of financial performance in comprehensive income (income and expenses)
3. Statement of changes in equity (SHE)
4. Statement of cash flows (cash receipts and disbursements)
5. Notes to financial statements

REPORTING PERIOD

Financial statements are prepared at specified periods which provide information about
existed ALE at the end of reporting period.

Comparative Information – must have at least one preceding financial statement to

compare with. Helps evaluate changes and trends in financial statements.

Forward looking information – financial statements are designed to reflect past events.
Future transactions are provided ONLY IF it is related to past events that is deemed useful to
users.

Perspective of the Financial Statement – in perspective of the reporting entity, not the
accountant nor anyone.

GOING CONCERN

Financial statements are prepared on underlying assumption of operating indefinitely. If

this is not the case, then the measurement in financial statement must be in accordance of
liquidating entity which is realizable value.

THE REPORTING ENTITY

 A reporting entity does not have to be a legal entity. Reporting entities are mostly the
parent of subsidiaries or other groups; can be a single, combined, or group of entities.

Consolidated Financial Statements – a financial statement that is lumped with the

parent and subsidiary. A product of investment in associates, normally a controlling influence.
Consolidated financial statements view the parent and subsidiary as a single entity. It does not
present information about the subsidiary as it is presented at subsidiary’s own financial
statements. A parent may prepare unconsolidated financial statements only as an addition to
consolidated financial statements. If it is required, unconsolidated fs cannot be substituted to
consolidated whereas consolidated fs provides better assessment of future cash prospects.

Unconsolidated Financial Statements – financial statements of the parent alone.

Individual Financial Statements – financial statement of subsidiary alone.

Combined Financial Statements – combined financial statements of subsidiaries.

IV. ELEMENTS OF FINANCIAL STATEMENTS

1. Asset
2. Liabilities SFP COMPONENTS
3. Equity
4. Income
5. Expenses SCI COMPONENTS

ASSET

A present economic resource controlled by the entity as a result of past events. An

economic resource that has the potential to produce economic benefits.

Criteria In Asset Recognition:

a. Right – A right that has the potential to produce economic benefits.

1. Rights that correspond to an obligation of another party.
i. Right to receive cash, goods or services
ii. Right to exchange economic resources with another party in
favorable terms
iii. Right to benefit from an obligating party to transfer
economic resource if uncertain conditions occurred
2. Rights that do not correspond to an obligating party
i. Rights on physical objects (ppe, inventory)
ii. Right to use intellectual property

Rights normally arise from legal obligations such as contracts. However,

rights may arise in contractual obligations by another party. Not all
rights are assets. In order to be classified as assets, rights must have the
potential to produce economic benefits that is beyond the benefits of
other parties and is controlled by the entity. An entity cannot have the
right to obtain economic benefits from itself. Such that treasury shares
 are not assets, as well as the debt and equity instruments held by
subsidiaries from the parent.

Theoretically, rights are accounted for separately, but are often treated
as single asset. The asset is a set of rights, not the object. An example of
which is the lessee can recognize right of use of asset on its leased asset
but cannot recognize the property as an asset.

b. Potential to produce economic benefits – In order for an asset to exist, the right
that has the potential to produce economic benefits does not have to be
certain. Even if the probability of producing economic benefits from a right is
low, it is still recognized as an asset per decision. Here are the ways for a right to
produce economic benefits:
1. Sold, leased, or exchange of assets
2. Used in or in combination for operations/productions
3. Used to enhance the value of another asset
4. Used to promote efficiency and cost savings
5. Used to settle a liability
c. Control – exclusive rights over the benefit of the asset where no other parties
can benefit the same as the entity. Ensuring that the economic benefits flow will
be obtained only by the entity. Recognizing an asset is limited to the extent of
the portion of economic resource. Control may arise from other rights and
therefore ownership is not always necessary. Physical possession is not also
always necessary.

LIABILITIES

Liability is a present obligation of transferring economic resources resulted from past

events.

Criteria In Recognizing a Liability

a. Present Obligation – is a responsibility that has no practical ability to avoid.

 Legal Obligation – Legally enforceable, arising from contracts,
legislation, or other operation of law.
 Constructive Obligation – arising from normal business practice such as
customs. A result of past transaction that creates a valid expectation to
discharge a responsibility.
An obligation is always owed to another party. Theoretically, a right
corresponds with an obligation. Nonetheless, it is not maintained as
standards require measurements of certain events (warranty).
d. Transfer of Economic Resources
Obligations required are results of past event and not an anticipation of
having obligation for future events. Even if the probability of requiring a
settlement of obligation is low, responsibility is recognized. Examples of
obligations:
1. Pay cash, deliver goods or render services
 2. Exchange assets on unfavorable terms.
3. Transfer of assets if specific future uncertain events occur
4. Issue a financial instrument that obliges the entity to transfer an
economic resource
e. Past events
Present obligations are recognized as a result of past events. A present
obligation exists when:
1. The entity has already obtained the economic benefits
2. And as a consequence, the entity will have to transfer economic
resource

EQUITY

Residual interest in entity’s assets after deducting liabilities. Proprietary Theory (A-L=E).

INCOME AND EXPENSES RELATING TO EQUITY

RECOGNITION AND DERECOGNITION

RECOGNITION PROCESS – a process of including in sfperformance and sfposition an item that

meets the criteria of financial statement elements. It includes recording its monetary among and in
words.

The amount at which an asset is presented at SF Position is at carrying value. The recognition of
one element results in recognition or derecognition of another.

RECOGNITION CRITERIA (both must be met)

a. Meets the criteria or requirement of any of the financial elements

b. Recognizing it is useful in decision making; it is relevant and faithfully
represented.
 Even if assets or liabilities does not meet the criteria for recognition, they are disclosed
in notes to financial statements referred as unrecognized asset and unrecognized
liability.

EXISTENCE UNCERTAINTY AND LOW PROBABILITY

This may result but does not automatically lead to non-recognition. If one or both is subject to
non-recognition, the information about the unrecognized asset or liability may still be presented in
notes. Nonetheless, despite the foregoing factors, it may still be recognized if it provides relevant
information.

DERECOGNITION

Opposite of recognition where previously recognized asset or liability is removed from SFP. It
occurs when the item no longer meets the criteria of an asset or liability or even when the entity loses
control of all or part of the asset as well as losing obligation to a related party.

a. upon the derecognition, the portion derecognized has been consumed, expired,
fulfilled, collected or transferred.
b. Whereas the remaining portion of remained asset or liability continues to be a
unit of account.

Unit of Account – may be account titles. It is selected on how an item will be recognized and
measured.

Transfers – derecognition is not appropriate if the entity retains substantial control of

transferred asset.