CONCEPTUAL FRAMEWORK & ACCOUNTING STANDARDS

CHAPTER 1 - The Accountancy Profession

Definition of Accounting
Accounting Standards Council:
Accounting is a service activity. The accounting function is to provide quantitative information,
primarily financial in nature, about economic entities that is intended to be useful in making
economic decisions.
Committee on Accounting Terminology of the American Institutes of Certified Public
Accountants: Accounting is the art of recording, classifying and summarizing in a significant
manner and in terms of money, transactions and events which are in part at least of a
financial character and interpreting the results thereof.
American Accounting Association in its Statement of Basic Accounting Theory:
Accounting is the process of identifying, measuring and communicating economic information
to permit informed judgment and decision by users of the information.
Important Points:
One–accounting is about quantitative information
Two -the information is likely to be financial in nature
Three-the information should be useful in decision making
The definition that has stood the test of time is the definition given by the American
Accounting Association.
This definition states that the very purpose of accounting is to provide
quantitative information to be useful in making an economic decision.
The definition also states that accounting has a number of components, namely:
Identifying as the analytical component.
Measuring as the technical component
Communicating as the formal component.

IDENTIFYING
This accounting process is the recognition or non-recognition of business activities as
“accountable” events. Not all business activities are accountable.
For example, the hiring of employees, the death of the entity president and the entering into a
contract are all business activities but such events are not accountable because they cannot
be quantified or expressed in terms of a unit of measure.
An event is accountable or quantifiable when it has an effect on assets, liabilities
and equity.
In other words, the subject matter of accounting is economic activity or the measurement of
economic resources and economic obligations.
Only economic activities are emphasized and recognized in accounting.
Sociological and psychological matters are beyond the province of accounting.

External and Internal Transactions

Economic activities of an entity are referred to as transactions which may be classified
as external and internal.

External transactions or exchange transactions are those economic events involving one
entity and another entity.

Examples of external transactions are:

1. Purchase of goods from a supplier
2. Borrowing money from a bank
3. Sales of goods to a customer
4. Payment of salaries to employees
5. Payment of taxes to the government

Internal transactions are economic events involving the entity only.

Internal transactions are the economic activities that take place entirely within the
entity. No other parties are involved.
Production and casualty loss are examples of internal transactions.
Production is the process by which resources are transformed into products.
Casualty is any sudden and unanticipated loss from fire, flood, earthquake and other
event ordinarily termed as an act of GOD.

MEASURING
This accounting process is the assigning of peso amounts to the accountable economic
transactions and events.
If accounting information is to be useful, it must be expressed in terms of a common financial
denominator.
Financial statements without monetary amounts would be largely unintelligible or
incomprehensible.
The Philippine peso is the unit of measuring accountable economic transactions.The
measurement bases are historical cost and current value.
Historical cost is the original acquisition cost and the most common measure of
financial transactions.
Current value includes fair value, value in use, fulfillment value and current cost.
COMMUNICATING
Communicating is the process of preparing and distributing accounting reports to
potential users of accounting information.
Identifying and measuring are pointless if the information contained in the accounting records
cannot be communicated in some form to potential users.
Actually, the communicating process is the reason why accounting has been called the
“universal language of business”.
Implicit in the communication process are the recording, classifying and summarizing
aspects of accounting.
Recording or journalizing is the process of systematically maintaining a record of all
economic business transactions after they have been identified and measured.
Classifying is the sorting or grouping of similar and interrelated economic transactions
into their respective classes. It is accomplished by posting to the ledger.
The ledger is a group of accounts which are systematically categorized into asset accounts,
liability accounts, equity accounts, revenue accounts and expense accounts.
Summarizing is the preparation of financial statements which include the statement of
financial position, income statement, statement of comprehensive income, statement of
changes in equity and statement of cash flows.

Overall Objective of Accounting

The overall objective of accounting is to provide quantitative financial information about
a business that is useful to statement users particularly owners and creditors in making
economic decisions.
Accounting is an information system that measures business activities, processes information
into financial reports and communicates the reports to decision makers.
An accountant’s primary task is to supply financial information so that the statement users
could make informed judgment and better decisions.
Financial reports tell us how well an entity is performing in terms of profit and loss and where
it stands in financial terms.

THE ACCOUNTANCY PROFESSION

At present Republic Act No. 9298 is the law regulating the practice of accountancy in
the Philippines.
This law is known as the Philippine Accountancy Act of 2004.
Accountancy has developed as a profession attaining a status equivalent to that of law and
medicine.
In the Philippines, in order to qualify to practice the accountancy profession, a person must
finish a degree in Bachelor of Science in Accountancy and pass a very difficult
government examination given by the Board of Accountancy.
The Board of Accountancy is the body authorized by law to promulgate rules and
regulations affecting the practice of the accountancy profession in the Philippines.
The Board of Accountancy is responsible for preparing and grading the Philippine CPA
examination.
This computer-based examination is offered twice a year, one in May and another in
October, in authorized testing centers around the country.

Limitation of the Practice of Public accountancy

Single practitioners and partnerships for the practice of public accountancy shall be
registered certified public accountant in the Philippines
A certificate of accreditation shall be issued to certified public accountants in public practice
only upon showing in accordance with rules and regulations promulgated by the
Board of Accountancy and approved by the Professional Regulation Commission that
such registrant has acquired a minimum of three years of meaningful experience in
any of the areas of public practice including taxation.
The Securities and Exchange Commission shall not register any corporation organized for
the practice of public accountancy.

Accreditation to Practice Public Accountancy

Certified public accountants, firms and partnerships of certified public accountants,
including partners and staff members thereof, are required to register with the Board
of Accountancy and Professional Regulation Commission for the practice of public
accountancy.
The Professional Regulation Commission upon favorable recommendation of the Board
of Accountancy shall issue the Certificate of Registration to practice public accountancy
which shall be valid for three years and renewable every three years upon payment of
required fees.
Certified Public Accountants generally practice their profession in three main areas,
namely:
a. Public accounting
b. Private accounting
c. Government accounting

PUBLIC ACCOUNTING
The field of public accounting or public accountancy is composed of individual
practitioners, small accounting firms and large multinational organizations that
render independent and expert financial services to the public.
Public accountants usually offer three kinds of services, namely auditing, taxation and
management advisory services.
As a matter of fact, large multinational accounting firms have separate division for each
of these services.

AUDITING
Auditing has traditionally been the primary service offered by most public
accounting practitioners.
Auditing or external auditing is the examination of financial statements by an
independent certified public accountant for the purpose of expressing an opinion as to the
fairness with which the financial statements are prepared.
Actually, external auditing is the attest function of independent CPAs.
The Bureau of Internal Revenue requires audited financial statements to
accompany the filing of annual income tax returns.
Banks and other lending institutions frequently require an audit by an
independent CPA before granting a loan to the borrower.
Creditors and prospective investors place considerable reliance on audited
financial statements on making economic decisions.

TAXATION
Taxation service includes the preparation of annual income tax returns and
determination of tax consequences of certain proposed business endeavors.
The CPA does not infrequently represent the client in tax investigations.
To offer this service effectively and efficiently, the public accountant must be
thoroughly familiar with the tax laws and regulations and updated with changes in taxation
law and regulations and updated with changes in taxation law and court cases concerned
with interpreting taxation law.

MANAGEMENT ADVISORY SERVICES

Management advisory services have become increasingly important in recent years
although audit and tax services are undoubtedly the mainstay of public accountants.
The term management advisory services has no precise coverage but is used
generally to refer to services to clients on the following matters:
1. Advice on installation of computer system
2. Quality control
3. Installation and modification of accounting system
 4. Budgeting
5. Forward planning and forecasting

PRIVATE ACCOUNTING
Many Certified Public Accountants are employed in business entities in various
capacities as accounting staff, chief accountant, internal auditor and controller.
The highest accounting officer in an entity is known as the controller.
The major objective of the private accountant is to assist management in planning and
controlling the entity’s operations.
Private accounting includes maintaining the records, producing the financial reports,
preparing the budgets and controlling and allocating the resources of the entity.

GOVERNMENT ACCOUNTING
Government accounting encompasses the process of analyzing, classifying,
summarizing and communicating all transactions involving the receipt and
disposition of government funds and property and interpreting the results thereof.
The focus of government accounting is the custody and administration of public funds.
Many Certified Public Accountants are employed in many branches of the
government, mare particularly:
1. Bureau of Internal Revenue
2. Commission on Audit
3. Department of Budget and Management
4. Securities and Exchange Commission
5. Bangko Sentral ng Pilipinas

CONTINUING PROFESSION DEVELOPMENT (CPD)

Republic Act No. 10912 is the law mandating and strengthening the continuing
professional development program for all regulated professions, including the
accountancy profession.
All certified public accountants shall abide by the requirements, rules and
regulations on continuing professional development to be promulgated by the Board of
Accountancy, subject to the approval of the Professional Regulation Commission.
Continuing professional development is the acquisition of advanced knowledge, skill and
proficiency.
Continuing professional development raises and enhances the technical skill and
competence of the Certified Public Accountant.

CPD Credit Units

The CPD credit units refer to the CPD credit hours required for the renewal of CPA license
and accreditation of a CPA to practice the accountancy profession every three years.
Under the new BOA Resolution, all Certified Public Accountants regardless of area or sector
of practice shall be required to comply with 120 CPD credit units.
The Continuing Professional Development is required for the renewal of CPA license
and accreditation of CPA to practice the accountancy profession.
As recently promulgated, only 15 CPD credit units are required for the renewal of CPA
license.
However, 120 CPD credit units are required for accreditation of a CPA to practice the
accountancy profession.
Excess credit units earned shall not be carried over to the next three-year period, except
credit units earned for masteral and doctoral degrees.

Exemptions from CPD

A CPA shall be permanently exempted from CPD requirements upon reaching the age of 65
years.
However, this exemption applied only to the renewal of CPA license and not for the
purpose of accreditation to practice the accountancy profession.

Accounting VS Auditing
In a broad sense, accounting embraces auditing.
Auditing is one of the areas of accounting specialization.
In a limited sense, accounting is essentially constructive in nature. Accounting ceases
when financial statements are already prepared.
On the other hand, auditing is analytical. The work of an auditor begins when the work of the
accountant ends.
After the financial statements are prepared, the auditor will begin to perform the task of
auditing.
The auditor examines the financial statements to ascertain whether they are in
conformity with the generally accepted accounting principles.

Accounting VS Bookkeeping
Bookkeeping is procedural and largely concerned with development and
maintenance of accounting records.
Bookkeeping is the “how” of accounting.
Accounting is conceptual and is concerned with the why, reason or justification for any
action adopted.
Bookkeeping is a procedural element of accounting as arithmetic is a procedural
element of mathematics.

Accounting VS Accountancy
Broadly speaking, the two terms are synonymous because they both refer to the entire field
of accounting theory and practice.
Technically speaking, however, accountancy refers to the profession of
accounting practice.
Accounting is used in reference only to a particular field of accountancy such as
public accounting, private accounting and government accounting.

Financial Accounting VS Managerial Accounting

Financial accounting is primarily concerned with the recording of business
transactions and the eventual preparation of financial statements.
 Financial accounting focuses on general purpose reports known as financial
statements intended for internal and external users.
Financial accounting is the area of accounting that emphasizes reporting to creditors and
investors.
 Managerial accounting is the accumulation and preparation of financial reports for
internal users only.
In other words, managerial accounting is the area of accounting that emphasizes developing
accounting information for use within an entity.

GENERALLY ACCEPTED ACCOUNTING PRINCIPLES

Accounting has evolved through time changing with the needs of society. As new
types of transactions occur in trade and commerce, accountants develop rules and
procedures for recording them.
These accounting rules, procedures and practices came to be known as generally accepted
accounting principles or simply GAAP.
The principles have developed on the basis of experience, reason, custom, usage and
practical necessity.
Generally accepted accounting principles represent the rules, procedures, practice
and standards followed in the preparation and presentation of financial statements.
Generally accepted accounting principles are like laws that must be followed in
financial reporting.
The process of establishing GAAP is a political process which incorporates political actions
of various interested user groups as well as professional judgment, logic and research.

Purpose of Accounting Standards

The overall purpose of accounting standards is to identify proper accounting practices
for the preparation and presentation of financial statements.
Accounting standards create a common understanding between preparers and users
of financial statements particularly the measurement of assets and liabilities.
A set of high-quality accounting standards is a necessity to ensure comparability and
uniformity in financial statements based on the same financial information.

FINANCIAL REPORTING STANDARDS COUNCIL

In the Philippines, the development of generally accepted accounting principles is formalized
initially through the creation of the Accounting Standards Council or ASC.
The Financial Reporting Standards Council or FRSC now replaces the Accounting
Standards Council.
The FRSC is the accounting standard setting body created by the Professional
Regulation Commission upon recommendation of the Board of Accountancy to assist
the Board of Accountancy in carrying out its powers and functions provided under R.A. NO.
9298.
The main function is to establish and improve accounting standards that will be
generally accepted in the Philippines.
The accounting standards promulgated by the Financial Reporting Standards Council
constitute the highest hierarchy of generally accepted accounting principles in the
Philippines.
The approved statements of the FRSC are known as Philippine Accounting
Standards or PAS and Philippine Financial Reporting Standards of PFRS.

Composition of FRSC
The FRSC is composed of 16 members with a Chairman who had been or is
presently a senior accounting practitioner and 15 representatives from the following:
Board of Accountancy 1
Securities and Exchange Commission 1
Bangko Sentral ng Pilipinas 1
Bureau of Internal Revenue 1
Commission on Audit 1
Insurance Commission 1
Major Organization of preparers and users of
financial statements-Financial Executives Institute
of the Philippines or FINEX 1
Accredited national professional organizations of CPAs:
- for public practice 2
- commerce and industry
- academe or education 2
- government 2
Total 15

The chairman and members of the FRSC shall have a term of 3 years renewable
for another term.

Philippine Interpretations Committee

The Philippine Interpretations Committee or PIC was formed by the FRSC in August
of 2006 and replaced the Interpretations Committee or IC formed by the Accounting
Standards Council in May 2000.
The role of the PIC is to prepare interpretations of PFRS for approval by the FRSC and to
provide timely guidance on financial reporting issues not specifically addressed in
current PFRS.
In other words, interpretations are intended to give authoritative guidance on issues that
are likely to receive divergent or unacceptable treatment because the standards do not
provide specific and clear cut rules and guidelines.
The counterpart of the PIC in the International Accounting Standards Board is the
International Financial Reporting Interpretations Committee or IFRIC.

INTERNATIONAL ACCOUNTING STANDARDS COMMITTEE

The International Accounting Standards Committee or IASC is an independent private
sector body, with the objective of achieving uniformity in the accounting principles
which are used by business and other organizations for financial reporting around the
world.
It was formed in June 1973 through an agreement made by professional
accountancy bodies from Australia, Canada, France, Germany, Japan, Mexico, the
Netherlands, the United Kingdom and Ireland. And the United States of America. The IASC is
headquartered in London, United Kingdom.

Objectives of IASC
To formulate and publish in the public interest accounting standards to be observed
in the presentation of financial statements and to promote their worldwide acceptance
and observance.
To work generally for the improvement and harmonization of regulations,
accounting standards and procedures relating to the presentation of financial
statements.

INTERNATIONAL ACCOUNTING STANDARDS BOARD

The International Accounting Standards Board or IASB now replaces the
International Accounting Standards Committee or IASC.
The IASC publishes standards in a series of pronouncements called the
International Financial Reporting Standards or IFRS.
However, the IASB has adopted the body of standards issued by the IASC.
The pronouncements of the IASC continue to be designated as “International
Accounting Standards” or IAS.
The IASB standard-setting process includes in the correct order research,
discussion paper, exposure draft and accounting standard.

The Standard Setting Process (Due Process)

PFRSs are developed through a due process that involves accountants and various
interested parties and individuals.

Move towards IFRS

In developing accounting standards that will be generally accepted in the
Philippines, standards issued by other standard setting bodies such as the USA
Financial Accounting Standards Board (FASB) and the IASB are considered.
In the past years, most of the Philippine standards issued are based on American accounting
Standards.
At present, the FRSC has adopted in its entirety all International Accounting Standards
and International Financial Reporting Standards.
The move toward IFRS is essential to achieve the goal of one uniform and globally accepted
financial reporting standards.

Philippine Financial Reporting Standards

The Financial Reporting Standards Council issues standards in a series of
pronouncements called “Philippine Financial Reporting Standards” or PFRS.
The Philippine Financial Reporting Standards collectively include all of the
following:
a) Philippine Financial Reporting Standards which correspond to International
Financial Reporting Standards.
- The Philippine Financial Reporting Standards are numbered the same as their
counterpart in International Financial Reporting Standards.
b) Philippine Accounting Standards which correspond to International Accounting
Standards. The Philippine Accounting Standards are numbered the same as their
counterpart in International Financial Reporting Standards.
c) Philippine Interpretations which correspond to Interpretations of the IFRIC and the
Standing Interpretations Committee and Interpretations developed by the
Philippine Interpretations Committee.

CHAPTER 2

Conceptual Framework
Objective for Financial Reporting
The Conceptual Framework for Financial Reporting is a complete, comprehensive and
single document promulgated by the International Accounting Standards Board.
The Conceptual Framework is a summary of the terms and concepts that underlie the
preparation and presentation of financial statements for external users.
In other words, 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 statements.
It is the underlying theory for the development of accounting standards and revision of
previously issued accounting standards.
The Conceptual Framework will be used in future standard setting decision but no changes
will be made to the current IFRS.
The Conceptual Framework provides the foundation for Standards that:
a. Contribute to transparency by enhancing international comparability and quality of
financial information
b. Strengthen accountability by reducing information gap between the providers of
capital and the people to whom they have entrusted their money
c. Contribute to economic efficiency by helping investors to identify opportunities
and risks across the world.

Purposes of Revised Conceptual Framework

a. To assist the International Accounting Standards Board to develop IFRS Standards
based on consistent concepts.
b. To assist preparers of financial statements to develop consistent accounting
policy when no Standard applies to particular transaction or other event or where an
issue is not yet addressed by an IFRS
c. To assist preparers of financial statements to develop accounting policy when a
Standard allows a choice of an accounting policy
d. To assist all parties to understand and interpret the IFRS Standards.

Authoritative Status of a Conceptual Framework

If there is a standard or an interpretation that specifically applies to a transaction, the
standard or interpretation overrides the Conceptual Framework.
In the absence of a standard or an interpretation that specifically applies to a transaction,
management shall consider the applicability of the Conceptual Framework in developing
and applying an accounting policy that result in information that is relevant and reliable.
However, it is to be stated that the Conceptual Framework is NOT an International Financial
Reporting Standard.
Nothing in the Conceptual Framework overrides any specific International Financial Reporting
Standard.
In case where there is a conflict, the requirements of the International Financial Reporting
Standards shall prevail over the Conceptual Framework.

Users of Financial Information

Under the Conceptual Framework for Financial reporting the users of financial
information may be classified into two, namely:
a. Primary users
b. Other users
The primary users include the existing and potential investors, lenders and other creditors.
The other users include the employees, customers, governments and their
agencies and the public.

Primary Users
The primary users of financial information are the parties to whom general purpose
financial reports are primarily directed.
Such primary users cannot require reporting entities to provide information directly to
them and therefore must rely on general purpose financial reports for how much of the
financial information is needed.

Existing and Potential Investors

Existing and potential investors are concerned with the risk inherent in and return provided by
their investments.
The investors need information to help them determine whether they should buy, hold or sell.
Shareholders are also interested in information which enables them to assess the ability of
the entity to pay dividends.

Lenders and Other Creditors

Existing and potential lenders and other creditors are interested in information which enables
them to determine whether their loans, interest thereon and other amounts owing to them will
be paid when due.

Other Users
By residual definition, “other users” are users of financial information other than the existing
and potential investors, lenders and other creditors.
Other users are so called because they are parties that may find the general purpose
financial reports useful but the reports are not directed to them primarily.

Employees
Employees are interested in information about the stability and profitability of the entity.
The employees are interested in information which enables them to assess the ability
of the entity to provide remuneration, retirement benefits and employment
opportunities.

Customers
Customers have an interest in 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

Government and their agencies are interested in the allocation of resources and
therefore the activities of the entity.
These users require information to regulate the activities of the entity, determine taxation
policies and as a basis for national income and similar statistics.

Public
Entities affect members of the public in a variety of ways.
For example, entities make substantial contributions to the local economy in many ways
including the number of people they employ and their patronage of local suppliers.
Financial statements may assist the public by providing information about the trend and
the range of its activities.

Scope of Revised Conceptual Framework

1. Objective of Financial Reporting
2. Qualitative Characteristics of Useful Financial Information
3. Financial Statements and Reporting entity
4. Elements of Financial Statements
5. Recognition and Derecognition
6. Measurement
7. Presentation and Disclosure
8. Concepts of Capital and Capital Maintenance
OBJECTIVES OF FINANCIAL REPORTING
The objective of financial reporting forms the foundation of the Conceptual Framework.
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 or goal of accounting.
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 principal 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
information such as financial highlights, summary of important financial figures, analysis
of financial statements and significant rations.
Financial reports also include non-financial information such as description of major
products and a listing of corporate officers and directors.

Target Users
Financial reporting is directed primarily to the existing and potential investors, lenders
and other creditors which compose the primary user group.
The reason is that existing and potential investors, lenders and other creditors have
the most critical and immediate need for information in financial reports.
As a matter of fact, the primary users of financial information are the parties that provide
resources to the entity.
Moreover, information that meets the needs of the specified primary users is likely to
meet the needs of the users such as employees, customers, governments and their
agencies.
The management of a reporting entity is also interested in financial information about
the entity.
However, management need not rely on general purpose financial reports
because it is able to obtain access to additional financial information internally.

Specific Objectives of Financial Reporting

The overall objective of financial reporting is to provide information that is useful for decision
making.
The Conceptual Framework places more emphasis on the importance of providing
information needed to assess the management stewardship of the entity’s economic
resources.
Accordingly, the specific objectives of financial reporting are:
a. To provide information useful in making decisions about providing resources to
the entity
b. To provide information useful in assessing the cash flow prospects of the entity
c. To provide information about entity resources, claims and changes in resources and
claims.
Economic Decisions
Existing and potential investors need general purpose financial reports in order to enable
them in making decisions whether to buy, sell or hold equity investments.
Existing and potential lenders and other creditors need general purpose financial reports in
order to enable them in making decisions whether to provide or settle loans and other forms
of credit.

Assessing Cash Flow Prospects

Decisions by existing and potential investors about buying, selling or holding equity
instruments depend on the returns that they expect from an investment, for example,
dividends.
Similarly, decisions by existing and potential lenders and other creditors about
providing or settling loans and other forms of credit depend on the principal and interest
payments or other returns that they expect.
Consequently, financial reporting should provide information useful in assessing the
amount, timing and uncertainty of prospects for future net cash inflows to the entity.

Economic Resources and Claims

General purpose financial reports provide information about the financial position of a
reporting entity.
Financial position is information about the entity’s economic resources and the claims against
the reporting entity.
The economic resources are the assets and the claims are the liabilities and equity of the
entity.
In other words, the financial position comprises the assets, liabilities and equity of an entity at
a particular moment in time.
Information about the nature and amounts of an entity’s economic resources and claims can
help users identify the entity’s financial strengths and weaknesses.
Otherwise stated, the information about financial position can help users to assess the
entity’s liquidity, solvency and the need for additional financing.
Liquidity is the availability of cash in the near future to cover currently maturing
obligations.
Solvency is the availability of cash over a long term to meet financial
commitments when they fall due.
Information about priorities and payment requirements of existing claims can help users
to predict how future cash flows will be distributed among those with a claim against the
reporting entity.
Changes in Economic Resources and Claims
General purpose financial reports also provide information about the effects of
transactions and other events that change the economic resources and claims.
Changes in economic resources and claims result from financial performance and from other
events or transactions, such as issuing debt or equity instruments.
The financial performance of an entity comprises revenue, expenses and net income or
loss for a period of time.
In other words, financial performance is the level of income earned by the entity through the
efficient and effective use of its resources.
The financial performance of an entity is also known as results of operations and is portrayed
in the income statement and statement of comprehensive income.
Usefulness of Financial Performance
Information about financial performance helps users to understand the return that the
entity has produced on the economic resources.
Information about the return the entity has produced provides an indication of how
well management has discharged its responsibilities to make efficient and effective use
of the entity’s economic resources.
Information about past financial performance is usually helpful in predicting the future
returns on the entity’s economic resources.
Information about financial performance during a period is useful in assessing the entity’s
ability to generate future cash inflows from operations.

Accrual Accounting
The financial performance of the entity must be measured using the accrual basis of
accounting.
Accrual accounting depicts the effect 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.
In other words, under the accrual basis, the effects of transaction and other events
are recognized when they occur and not as cash is received or paid.
Simply stated, accrual accounting means that income is recognized when earned
regardless of when received and expense is recognized when incurred regardless of when
paid.
Information about financial performance measures in accordance with accrual
accounting provides a better basis for assessing past and future performance than
information solely about cash receipts and payments during a period.
Limitations of Financial Reporting
a. General purpose financial reports do not and cannot provide all of the
information that existing and potential investors, lenders and other creditors
need.
- Primary users need to consider pertinent information from other sources, for
example, general economic conditions, political events and industry outlook.
b. General purpose financial reports are not designed to show the value of an entity but
the report provides information to help the primary users estimate the value of the
entity.
c. General purpose financial reports are intended to provide common information
to users and cannot accommodate every request for information.
d. To a large extent, general purpose financial reports are based on estimate
and judgment rather than exact depiction.

Management Stewardship
Information about how efficiently and effectively management has discharged its
responsibilities to use the entity’s economic resources helps users to assess management
stewardship of those resources.
Such information is also useful for predicting how management will use the entity’s
economic resources in future periods.
Hence, the information can be useful for assessing the entity’s prospects for future net cash
flows.
For example, management can decide not to dispose or sell investments when prices
are declining in order to avoid realized losses.