Chapter 5: Conceptual Framework for Accounting and Reporting, and Accounting Standards

“Qualitative Characteristics of Accounting Information” Third level Addresses the question: What makes accounting information useful? Develops a Hierarchy of Accounting Qualities

“Qualitative Characteristics of Accounting Information Sets recognition criteria and guidance on what information should be incorporated into financial statements and when this information should be reported

Decision makers A Hierarchy of Accounting Qualities Users of Accounting Information Constraint User-specific qualities Primary Decision-specific qualities Ingredients of primary qualities The beginning for recognition UnderstandabilityDecision Usefulness Feedback value Benefits > Costs RelevanceReliability Representational Faithfulness VerifiabilityTimelinessNeutrality Comparability and ConsistencyMateriality Predictive value Secondary Decision-specific qualities

Qualitative Characteristics of Accounting Information Cost-Benefit :the cost of providing the information must be weighed against the benefits that can be derived from using it. The benefit to be gained from providing additional accounting information should be grater than the costs of providing it.

Qualitative Characteristics of Accounting Information Secondary and interactive qualities Understandability: means that quality of financial information which exists when users of that information are able to comprehend its meaning.

Qualitative Characteristics of Accounting Information Primary characteristics Reliability is defined as: ‘that quality of financial information which exists when the information can be depended upon to represent faithfully, and without bias or undue error.

Qualitative Characteristics of Accounting Information Primary characteristics Relevance is mean that quality of financial information which exists when information influences the decisions of users about the allocation of scarce resources (capital Allocation) Because efficient resource allocation is the ideal, the primary objective of Financial reports is to provide relevant information to various external users so that they can make and evaluate decisions about the allocation of scarce resources

Qualitative characteristics of financial information Constraints on relevance Timeliness: information will lose its relevance if there is a delay in the reporting of that information Costs versus benefits: Financial information will be demanded if the benefit to be derived from the information exceeds its cost

Qualitative characteristics of financial information Materiality is defined as: Information is material if its inclusion or omission would influence or change the judgment of a reasonable person. consideration must be given to whether or not the information is likely to have a significant, or material, impact on decisions

Qualitative Characteristics of Accounting Information Secondary and interactive qualities Comparability is defined as: ‘that quality of financial information which exists when users of that information are able to evaluate similarities in and differences between economic entities, at one time and over time.

Qualitative Characteristics of Accounting Information Secondary and interactive qualities Consistency is defined as: ‘that quality of financial information which exists when users of that information are able to evaluate similarities in and differences in the same economic entity at one time and over time. * Conformity from period to period with unchanging policies and procedures.

Qualitative Characteristics of Accounting Information Predictive Value: ‘Ingredients of primary qualities (Relevance) The quality of information that helps users to increase the likelihood of correctly forecasting the outcome of past or present events. Feedback Value: ‘Ingredients of primary qualities (Relevance) The quality of information that enables users to confirm or correct prior expectations.

Qualitative Characteristics of Accounting Information Verifiability: ‘Ingredients of primary qualities (Reliability) The ability through consensus among measures to ensure that information represent without error or bias or that the chosen methods of measurement has been used without error or bias. Neutral: ‘Ingredients of primary qualities (Reliability) It is absence in reported information of bias intended to attain a predetermined result or to include a particular mode of behavior. The information should not favor one set of interests over others.

Qualitative Characteristics of Accounting Information Representational Faithfulness: ‘Ingredients of primary qualities (Reliability) Correspondence or Agreement between the accounting figures and description and the resources or events that these figures and descriptions represent.