Chapter 2: The Conceptual Framework Intermediate Accounting, 11th Edition Kieso, Weygandt, and Warfield Chapter 2: The Conceptual Framework 2

Chapter 2: The Conceptual Framework After studying this chapter, you should be able to: Describe the usefulness of a conceptual framework. Describe the FASB's efforts to construct a conceptual framework. Understand the objectives of financial reporting. Identify the qualitative characteristics of accounting information.

Chapter 2: The Conceptual Framework Define the basic elements of financial statements. Describe the basic assumptions of accounting. Explain the application of the basic principles of accounting. Describe the impact that constraints have on reporting accounting information.

Objectives of the Conceptual Framework The Framework was to be the foundation for building a set of coherent accounting standards and rules. The Framework is to be a reference of basic accounting theory for solving emerging practical problems of reporting.

Statements of Financial Accounting Concepts The FASB has issued seven Statements of Financial Accounting Concepts (SFACs) to date (Statements 1 through 7.) These statements set forth major recognition and reporting issues. Statement 4 pertains to reporting by non-business entities. The other six statements pertain to reporting by business enterprises.

Statements of Financial Accounting Concepts Brief Title Statement 1 Statement 2 Statement 6 Statement 4 Statement 5 Statement 7 Objectives of Financial Reporting (Business) Qualitative Characteristics Elements of Financial Statements (replaces 3) Objectives of Financial Reporting (Non-business) Recognition and Measurement Criteria Using Cash Flows

Overview of the Conceptual Framework The Framework has three different levels,comprised of: The first level consists of objectives. The second level explains financial elements and characteristics of information. The third level incorporates recognition and measurement criteria.

Conceptual Framework for Financial Reporting

Basic Objectives of Financial Reporting To provide information: about economic resources, the claims on those resources and changes in them. that is useful to those making investment and credit decisions. that is useful to present and future investors, creditors in assessing future cash flows. to individuals who reasonably understand business and economic activities.

Hierarchy of Accounting Qualities

Qualitative Characteristics of Accounting Information Primary qualities of accounting information are relevance and reliability. Secondary qualities are comparability and consistency of reported information.

Primary Characteristic of Accounting Information: Relevance “Relevance of information means information capable of making a difference in a decision context.” Ingredients of relevant information are: Timeliness Predictive value Feedback value

Primary Characteristic of Accounting Information: Relevance Information is reliable when it can be relied on to represent the true, underlying situation. The ingredients of reliable information are: verifiability representational faithfulness neutrality (unbiased)

Secondary Characteristics of Accounting Information Comparability: the similar measurement and reporting for different enterprises. Consistency: application of the same accounting treatment to similar events by an enterprise period to period.

Basic Elements of Financial Statements Assets Liabilities Equity Investment by Owners Distributions to Owners Comprehensive Income Revenues Expenses Gains Losses

Recognition and Measurement Criteria Basic Assumptions Principles Constraints 1. Economic entity 2. Going concern 3. Monetary unit 4. Periodicity 1. Historical cost 2. Revenue recognition 3. Matching 4. Full disclosure 1. Cost benefit 2. Materiality 3. Industry practices 4. Conservatism

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