ACC3011

Contemporary Issues
in Financial Accounting
Seminar 1
The conceptual framework &
financial regulatory framework
Learning Objectives

Upon completing this topic you should be able to:

1. Understanding the role and importance of the conceptual framework
2. Explain and define an accounting standard.
3. Evaluate the distinction between rules-based and principles-based
standards.
4. Apply the theories and concept of regulation to the production of accounting
information.
5. Be familiar with the Code of Ethics

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General Purpose Financial Reporting
• The objective of general purpose financial reporting, according to the IASB
Conceptual Framework 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”

• “Information is the oil that lubricates markets”

• Without accurate and useful information, the market cannot function

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The Role of a Conceptual Framework

A conceptual framework is a group of ideas or principles used to

plan or decide something.
• It is a normative theory.

• It prescribes the basic principles that are to be followed in

preparing financial statements.

• It is a coherent system of concepts, which are guidelines to the

accounting standards used for financial reporting.

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Conceptual Framework Theory

• The IASB describes the Conceptual Framework as a practical tool

that assists:
a) the Board to develop IFRS Standards based on consistent concepts

b) preparers to develop consistent accounting policies when no IFRS

Standard applies or allows a choice of accounting policy

c) others to understand and interpret the Standards.

https://www.acra.gov.sg/docs/default-source/default-document-library/accountancy/accounting-
standards/pronouncements/sfrs-1-part-
1/sfrs(i)_conceptual_framework_(2024).pdf?sfvrsn=b87c748f_2
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Structure of the Conceptual Framework

• The Conceptual Framework can be seen as providing answers to

questions such as:
• What is the purpose of financial statements?
• Who are they prepared for?
• What are the assumptions to be made when preparing financial statements?
• What type of information should be included?
• What are the elements that make up financial statements?
• When should the elements of financial statements be included?

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Qualitative Characteristics
• The Conceptual Framework identifies the properties (known as
qualitative characteristics) that financial information must have to be
included in the financial reports.

• There is a hierarchy of qualitative characteristics:

• Fundamental:
• Relevance and faithful representation.

• Enhancing:
• Not essential but improve usefulness.
• Timeliness, Verifiability, Comparability and Understandability

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Prudence in the Framework
• It may seem self‐evident that judgement requires caution.

• Need to consider the history and meaning of prudence in accounting.

• The IASB’s 1989 Framework included a requirement to exercise prudence:

• such that assets or income are not overstated
• and liabilities or expenses are not understated.

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Prudence in the Framework
• The IASB distinguishes between two types of prudence:

• Cautious prudence: being equally cautious when making judgements about

any items, ‘without needing to be more cautious in judgements relating to
gains and assets than those relating to losses and liabilities’.

• Asymmetric prudence: being more cautious about certain items than others:
losses are recognized at an earlier stage than gains (i.e., conservatism).

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Benefits of the Framework
• It is claimed that various benefits may arise from a conceptual
framework in accounting.

• These can be arranged into three categories:

• technical
• political
• professional.

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Benefits of the Framework
• Technical benefits:
• Improve the practice of accounting and to provide a basis for answers to
specific accounting questions and problems.
• It is stated that the Conceptual Framework does this in two ways:
• By providing a basis and guidance for those who set the specific accounting rules.
• By helping individuals involved in preparing or auditing or using financial statements.

• Political benefits:
• Prevent political interference in setting accounting standards.
• Accounting information has significant real-world affects.

• Professional benefits:
• Protect the professional status of accounting and accountants.

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Criticisms of the Framework
• It is ambiguous:
• the principles are too vague
• too much room for alternative interpretations.

• It is descriptive not prescriptive:

• the Conceptual Framework simply describes current accounting
practice
• should be prescriptive (normative) and try to improve practice.

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Applying the Framework

• Any requirements in accounting standards override prescriptions in

any conceptual framework.

• Important for accountants to understand and be able to apply the

concepts included in any framework.

• The Conceptual Framework is required when:

• there is no specific accounting standard that applies to a particular transaction
or event (e.g., bitcoins)
• a particular accounting standard allows a choice of accounting policy.

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Applying the Framework
• Inconsistencies between requirements in accounting standards, the
Conceptual Framework and the ‘real’ world:
• When there are inconsistencies between the conceptual
framework and accounting standards, the requirements in the
accounting standards prevail

• Reasons:
• delays in revision
• standards issued prior to changes made to the conceptual
framework
• political process of setting accounting rules
• the need to balance potential benefits and costs
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Framework versus Standards
• The Conceptual Framework is designed to provide guidance and apply to
a wide range of decisions.

• Accounting standards:
• specific requirements for a particular area
• may go beyond the framework
• are mandatory
• sometimes conflict with the framework.

Accounting standards regulate the way in which:

• financial transactions are accounted for and how
• transactions are aggregated and financial information is presented/disclosed
(financial reporting).

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An illustration

SFRS(I) 1-16
SFRS(I) 1-2

SFRS(I) 1-36 SFRS(I) 1-38

SFRS(I) 1-17 (which is

superseded by SFRS (I) 16)

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Rules-based vs Principles-based standards
• Rules-based standards:
• sets of detailed rules
• must be followed when preparing financial statements.

• Principles-based standards:
• based on a conceptual framework
• provides a broad basis for accountants to follow
• focus on:
• economic substance of a transaction
• engaging professional judgement and expertise.

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Rules-based vs Principles-based standards
• Rules-based standards are sets of detailed rules that must be followed when
preparing financial statements.

• Principles-based standards are based on a conceptual framework that provides a

broad basis for accountants to follow
o The focus is on the economic substance of a transaction, engaging the
professional judgement and expertise of those preparing financial
statements.

Rules-Based Principles- Based

Plant & equipment purchased – Plant and equipment – look at the pattern of
have to use 10% depreciation use and/or its contribution to revenue and the
straight line determine how to depreciate it
Provide rules to be followed Required professional judgement

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Advantages of rules-based standards
• Advantages:
• Improved guidance:
• when there is a lack of a clear and appropriate principle
• where standards are inconsistent with the conceptual frameworks.
• Increased uniformity (comparability?) between financial statements.
• Increased:
• verifiability for auditors and regulators.
• Improved accuracy with communication of:
• intentions
• requirements.
• Reduced:
• imprecision (affecting reporting)
• opportunities for earnings management through judgements
• exposure to litigation.
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Disadvantages of rules-based standards
• Disadvantages:
• Rules-based standards can be very complex.

• Organisations can structure transactions to circumvent unfavourable

reporting.

• Standards are likely to be incomplete or even obsolete by the time

they are issued.

• Manipulated compliance with rules makes auditing more difficult.

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(Dis)Advantages of Principles-based standards
• Advantages:
• Principles‐based standards should be simpler.
• Broad guidelines:
• applicable to many situations
• improve the representational faithfulness of financial statements.
• Allows use of professional judgement in assessing the substance of a
transaction.
• Disadvantages:
• Managers may select treatments that do not reflect the underlying economic
substance.
• The judgement and choice involved in many of the decisions mean that
comparability among financial statements may be reduced.

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Accounting Standards – Impacts on FS
The implications of the rule based – concept of consolidation
under US GAAP
• Enron was putting liabilities in subsidiaries that were too small
to be required to be consolidated into their financial
statements – Enron created hundreds of them.

Under principle-based IFRS – not allowed to have these

accounting practices. The revised IFRS 10 refined the concept of
‘control’ to focus on substance over form

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Accounting Harmonisation
Benefits:
• International comparability
• Reduced cost of capital
• Reduced conflicting reporting requirements

Problems:
• Various methods of implementation leads to inconsistencies
• Listed entities underestimated the complexities, effects and cost
of IFRSs
• Compromise leads to diversity

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Seminar Questions

Seminar 1
Rankin et al. Chapter 3

• Contemporary issue 3.1

Potential adoption of IFRSs in the United States

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Defining Regulation
• Regulation is a rule or order, as for conduct, prescribed by authority.

“Regulation is the policing, according to a rule, of a subject’s choice of

activity, by an entity not directly party to or involved in the activity.”

• Elements of regulation
o Intention to intervene
o Restriction on choice to achieve certain goals
o Exercise of control by a party independent of those directly
involved in the activity.

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Advantages of regulation
• Advantages:
• Increased efficiency in allocating capital.
• Cheaper production.
• Check on perquisites.
• Public confidence.
• Standardisation:
• comparability
• understandability.
• Public good.

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Disadvantages of regulation
• Disadvantages:
• Difficult to achieve efficiency and equity.
• Determining the optimal quantity of information is
problematic.
• Regulation is difficult to reverse.
• Communication is restricted.
• Reporting entities are different.
• There is lobbying.
• Monopolisation of accounting standards.

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Theories of Regulation

• Accounting information is a ‘public good’

• Therefore some argue it is likely to be under-produced

without regulation

• Others suggest supply would exist without regulation

• There are competing theories regarding the need for and

intention of regulation

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Signalling Theory
• Suggests reporting entities can increase their value through financial
reporting.

• Companies face a competitive capital market populated by

sophisticated investors.

• Above-average entities motivated to show that they are better than

non-reporting entities.

• Non-reporting entities are perceived as of even poorer quality than

before.

• Creates a virtuous cycle where regulation is not necessary.

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Public Interest Theory
• Argues signalling theory relies on the function of a perfect, free-market
economy.

• Public interest theory assumes:

• economic markets are generally not perfect
• regulation is virtually costless.

• Concludes that regulation:

• is supplied in response to the demands of the public
• for the correction of these inefficient or inequitable market practices.

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Capture Theory
• Capture theory:
• regulation is supplied in response to the demands of self-interested groups
• who are trying to maximise their incomes or interests.

• People are rational utility maximisers.

• The coercive power of government can be used to give valuable benefits

to particular groups.

• Regulation can be viewed as a product that is governed by the laws of

supply and demand.

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Bushfire Theory
• Bushfire theory:
• The political and public nature of regulatory influences.
• Takes into account:
• the reactions of users
• society in general
• ‘failures’ of regulatory processes.
• Regulations tend to arise from crises.
• Resulting rules gain media exposure so that politicians are more likely to
gain re-election.
• Dodd-Frank Wall Street Reform Act
• https://www.thebalance.com/dodd-frank-wall-street-reform-act-3305688

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Ideology theory of regulation
• Ideology theory of regulation:
• relies on market failure
• introduces the role of lobbying in influencing the actions of regulators.

• Lobbying is a mechanism through which regulators are informed about

policy issues.

• Predicts that the effectiveness of regulation will depend on:

• the political ideologies of the regulators
• the impact of special interest lobby groups.

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The political nature of setting accounting standards

• There is a mix of private and public participation in the standard

setting process.

• Parties that have an interest in accounting standards often have

conflicting interests.

• For example:
• internal stakeholders may like flexibility
• external stakeholders may like comparability
• auditors like objective (auditable) reporting.

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Lobbying
• Those affected by accounting standards have an incentive to lobby
standard setters to achieve a favourable outcome.

• Those affected must decide:

o Whether they should lobby.
o Which method of lobbying they should use.
o When they should lobby.
o What arguments they should use to support their position.

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Lobby Groups
• Industry and management:
• Highly motivated and resourced.
• Casual non-professional users:
• Disparate interests and few resources.
• Full-time professional users:
• Secretive and non-responsive.
• Auditors:
• Accused of self-interest.
• Academics:
• Lack of comment on exposure drafts.

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Seminar Questions
Seminar 1
Rankin et al. Chapter 3
• Contemporary issue 3.2
Lobbying: standards not achieving the right solution

• Application question 3.23

Coca-Cola Amatil’s lobbying efforts

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Discussion: Application question 3.23

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Discussion: Application question 3.23
Coca-Cola Amatil conducted a campaign against Australia’s adoption of
IFRSs in 2004. The company lobbied against requirements that meant
Coca-Cola Amatil’s balance sheet values would have to be written
down by as much as $1.9 billion.

(a) What is meant by the term ‘lobbying’?

(b) Who would be likely targets of Coca-Cola Amatil’s lobbying
activities?
(c) Why would adoption of international standards so heavily affect
Coca-Cola Amatil?
(d) Did harmonisation affect Coca-Cola Amatil’s balance sheet?

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Code of Ethics for Professional Accountants
Code divided in three parts:
• Part 1 applies to all professional accountants
• Part 2 applies to professional accountants in business
• Part 3 applies to professional accountants in public
practice

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IESBA Code (2021 edition)

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Code of Ethics for Professional Accountants
Part 1 - All Professional Accountants

• Fundamental Principles:

o Integrity

o Objectivity

o Professional competence and due care

o Confidentiality

o Professional behaviour
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Code of Ethics for Professional Accountants

Part 1 - All Professional Accountants

• Threats:
o Self-interest
o Self-review
o Advocacy
o Familiarity
o Intimidation
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Code of Ethics for Professional Accountants
Part 2 - Professional Accountants in Business (PAIB)

• Key issues:

o Conflicts of interests

o Preparation and reporting of information

o Acting with sufficient expertise

o Financial interests

o Inducements
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Code of Ethics for Professional Accountants
Part 3 - Professional Accountants in Public Practice (PAPP)
• Key issues:
o Professional appointment
o Conflicts of interests
o Second opinions
o Fees and other types of remuneration
o Marketing professional services
o Gifts and hospitality
o Objectivity
o Independence
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Seminar Questions

Seminar 1
Rankin et al. Chapter 2
• Case study 2.1

CODE OF ETHICS
— INTERNATIONAL FEDERATION OF ACCOUNTANTS (IFAC) ISSUES
REVISED CODE FOR PROFESSIONAL ACCOUNTANTS

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