Big Picture in Focus: ULOb.

Explain the importance of the

Conceptual Framework in financial reporting.

Metalanguage
In this section, the most essential terms relevant to the study of financial accounting
and to demonstrate ULOb will be operationally defined to establish a common frame of
reference as to how the texts work in your chosen field or career. You will encounter these
terms as we go through the study of financial accounting. Please refer to these definitions in
case you will encounter difficulty in the understanding accounting concepts.
 Conceptual Framework. This is a summary of the terms and concepts that underlie the
preparation and presentation of financial statements for external users.

Essential Knowledge
To perform the aforesaid big picture (unit learning outcomes) for the first 3 weeks of
the course, you need to fully understand the following essential knowledge lay down in the
succeeding pages. Please note that you are not limited to exclusively refer to these
resources. Thus, you are expected to utilize other books, research articles and other
resources that are available in the university’s library e.g. ebrary, search.proquest.com etc.,
and even online tutorial websites.

1. Conceptual Framework

The conceptual framework for financial reporting is a summary of the terms and concepts
that underlie the preparation and presentation of financial statements for external users. The
Conceptual framework is an attempt to provide an overall theoretical foundation for
accounting.

The conceptual framework is intended to guide standard setters, preparers and users of
financial information in the preparation and presentation of the statements. It is the
underlying theory for the development of accounting standards and revision of previously
issued accounting standards.

Purposes of conceptual framework

 To assist the FRSC in developing accounting standards that will represent the
Philippines GAAP
 To assist preparers of financial statements in applying accounting standards and in
dealing with issues not yet covered by GAAP
 To assist the FRSC in review and adoption of IFRS
 To assist auditors in forming an opinion as to whether financial statements conform
with Philippine GAAP
  To assist users of financial statements in interpreting the information contained in
the financial statements.
 To provide information to those interested in the work of the FRSC in the
formulation of PFRS

Authoritative status of Conceptual framework

In the absence of a standard or an interpretation that specifically applies to a transaction,

management shall consider the applicability of Conceptual framework in developing and
applying an accounting policy that results in information that is relevant and reliable.

In case where there is conflict between any specific PFRS and Conceptual framework, the
requirements of the PFRS shall prevail over the conceptual framework.

Users of Financial information

1. PRIMARY USERS
The parties to whom general purpose financial reports are primarily directed that
include the existing and potential investors, lenders and other creditors.

 INVESTORS – need information to help them determine whether they should buy,
hold, or sell.
 SHAREHOLDERS – need information to assess the ability of the entity to pay
dividends.
 LENDERS and CREDITORS – need information to determine whether their loan,
interest thereon and other amounts owing to them will be paid when due.

2. OTHER USERS
These are users of financial information other than the existing and potential investors,
lenders and other creditors which include the employees, customers, government and
their agencies, and the public.

 EMPLOYEE – needs information about the stability and profitability of the entity to
assess the ability of the entity to provide remuneration, retirement benefits and
employment opportunities.
 CUSTOMERS - need information about the continuance of an entity especially
when they have a long term involvement with or are dependent on the entity.
 GOVERNMENT AND THEIR AGENCIES – need information to regulate the
activities of the entity, determine taxation policies and as a basis for national
income and similar statistics.
 PUBLIC – providing information about the trend and the range of its activities.

Scope of conceptual framework

a. Objective of financial reporting

 b. Qualitative characteristics of useful financial information
c. Definition, recognition and measurement of the elements from which financial
statements are constructed.
d. Concepts of capital and capital maintenance

2. Financial Reporting

Financial reporting is the provision of financial information about an entity to external

users that is useful to them in making economic decisions and for assessing the
effectiveness of the entity’s management.

The primary way of providing financial information to external users is through the
annual financial statements. However, financial reporting encompasses not only financial
statements but also other means of communicating information that relates directly or
indirectly to the financial accounting process such as financial highlights, summary of
important financial figures, analysis of financial statements and significant ratios.

Objective of financial reporting

The overall objective of financial reporting is to provide financial information about the
reporting entity that is useful to existing and potential investors, lenders and other creditors in
making decisions about providing resources to the entity. The objective of financial reporting
is the “why”, purpose of goal of accounting.

Specific objective of financial reporting

 To provide information useful in making decisions about providing resources to the

entity.
 To provide information useful in a assessing the cash flow prospects of the entity.
 To provide information about entity resources, claims and changes in resources and
claims.

Usefulness of financial performance

Information about financial performance helps users to understand the return that the
entity has produces on the economic resources. It provides an indication of how well
management has discharged its responsibilities to make efficient and effective use of the
entity’s economic resources.

Accrual accounting

Accrual accounting depicts the effects of transactions and other events and
circumstances on an entity’s economic resources and claims in the periods in which those
effects occur even if the resulting cash receipts and payments occur in a different period.

Under accrual basis, the effects of transactions and other events are recognized when
they occur and not when cash is received or paid. Accrual accounting means that income is
recognized when earned regardless of when received and expense is recognized when
incurred regardless of when paid.

Limitations of financial reporting

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

3. Underlying Assumptions

ACCOUNTING ASSUMPTIONS are the basic notions or fundamental premises on which the
accounting process is based. These are also known as POSTULATES.

The conceptual framework for financial reporting only mentions one assumption, GOING
CONCERN. However, implicit in accounting are the basic assumptions of accounting entity,
time period and monetary unit.

Going Concern

Going concern or continuity assumption means that in the absence of evidence in the
contrary, the accounting entity is viewed as continuing in operation indefinitely. The going
concern postulate is the very foundation of cost principle. Thus, assets are normally record at
cost. As a rule, market values are ignored.

If there is evidence that the entity would experience large and persistent losses or that the
entity’s operation is to be terminated, the going concern assumption is abandoned.

Accounting entity

The entity is separate from the owners, managers and employees who constitute the entity.
Accordingly, the transaction of the entity shall not be merged with the personal transactions
of the owners. The reason for the entity assumption is to have a fair presentation of financial
statement. The personal transactions shall not be allowed to distort the financial statements
of the entity. Each business has an independent accounting entity.

Time period

Time period requires that the indefinite life of an entity is subdivided into time periods or
accounting periods which are usually of equal length for the purpose of preparing financial
reports on financial position, performance and cash flows.
By convention, the accounting period or fiscal period is one year or a period of twelve
months. The accounting period may be a calendar year or natural business year.
 Calendar year - 12 month period that ends on December 31
 Natural business year – 12 month period that ends on any month when the
business is at the lowest or experiencing slack season.

Monetary unit

The monetary unit has 2 aspects – quantifiability and stability of peso.

QUANTIFIABILITY ASPECT – The assets, liabilities, equity, income, and expenses

should be stated in terms of a unit of measure which is the PESO IN THE PHILIPPINES.

STABILITY OF THE PESO ASSUMPTION – the purchasing power of the pesos

stable or constant and that its instability is insignificant and therefore may be ignored.

Stable peso postulate is an amplification of the going concern assumption so much

so that adjustments are unnecessary to reflect any changes in purchasing power. The
accounting function is to account for nominal pesos only and no for constant peso or
changes in purchasing power.

Self Help: You can also refer to the sources below to help you
further understand the lesson.

Valix, C., Peralta, J. F., & Valix, C. A. M. (2020). Intermediate Accounting. (2019 ed., Vol. 1).
Manila, Philippines: GIC enterprises & Co., Inc.
Valix, C., Peralta, J. F., & Valix, C. A. M. (2017). Financial accounting- first part. (2017 ed.,
Vol. 1). Manila, Philippines: GIC enterprises & Co., Inc.
Edmonds, T., Edmonds, C. McNair, F. & Olds, P. (2016). Fundamental financial accounting
concepts. (9th ed.). New York, NY: McGraw-Hill Education.

Let’s Check
Activity 1. Now that you have understood matters regarding the accounting assumptions, let
us try to check your understanding. Determine each question’s correct answer among the
given choices.
1. These are the basic notions or fundamental premises on which the accounting process is
based.
(a) accounting assumptions (c) generally accepted accounting principles
(b) accounting standards (d) accounting concepts
2. The effects of transactions and other events are recognized when they occur and not as
cash or its equivalent is received or paid, and they are recorded and reported in the
financial statements of the period to which they relate.
(a) accrual (c) time period
(b) going concern (d) monetary unit
3. If a business is not being sold or closed, the amounts reported in the accounts for assets
used in the business operations are based on the cost of the assets. This practice is
justified by:
(a) accrual (c) continuity assumption
(b) time period (d) accounting entity
4. John is the sole owner and manager of Ace Services. John purchased a car for personal
use. He uses a van in the business. Which of the following is violated if John recorded the
cost of the car as an asset of the business?
(a) conservatism (c) full disclosure
(b) going concern assumption (d) separate entity assumption
5. What is the traditional accounting period?
(a) three months (c) two years
(b) six months (d) twelve months
6. Which underlying concept serves as the basis for preparing financial statements at
regular intervals?
(a) accounting entity (c) accounting period
(b) going concern (d) stable monetary unit
7. Continuation of an accounting entity in the absence of evidence to the contrary is an
example of the basic concept of:
(a) accounting entity (c) going concern
(b) time period (d) accrual
8. During the lifetime of an entity, accountants produce financial statements at arbitrary
points in time in accordance with which basic accounting concepts?
(a) accrual (c) unit of measure
(b) periodicity (d) continuity
9. Revenue is expressed as the number of pesos received or the peso equivalent of the
commodities of services received. Cost is expressed as the number of pesos paid out of
the peso equivalent of the items given up. Fluctuations in value of the peso are ignored.
The above describes what accounting assumption?
(a) going concern (c) historical cost
(b) unit of measure (d) realization
10. The financial statements should be stated in terms of a common financial denominator.
(a) accrual (c) time period
(b) going concern (d) monetary unit

Let’s Analyze
Activity 1. Getting acquainted with the essential terms in the accounting assumptions is not
enough, what also matters is you should also be able to explain its concepts.
1. Explain briefly the Conceptual framework and its relevance to the related parties.
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2. Explain each of the underlying accounting assumptions.
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3. Describe the different users of financial information and its interests.
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4. Expound the overall objective of financial reporting.
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In a Nutshell
Activity 1. Indeed, the conceptual framework is the foundation of all the works of the
accountants. It has served as a guidance of the preparers of the financial statements as well
as the standard-setting bodies.

Based on the discussion of the conceptual framework and the learning exercises that you
have done, please feel free to write your arguments or lessons learned below. I have
indicated my arguments or lessons learned.
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4. ____________________________________________________________________
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Q&A List
Do you have any question for clarification? Write them here.

Questions/Issues Answers

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Keywords

Conceptual Framework
Accounting Assumptions
Going Concern
Entity Concept
Time Period
Monetary Unit Assumption