MODULE 2:

CONCEPTUAL
FRAMEWORK
Prepared by:
Cristopherson Perez, CPA
 PURPOSE & STATUS
 The main purpose of the Conceptual Framework is to guide
the International Accounting Standards Board (IASB) when
it develops International Financial Reporting Standards.
 It sets out the concepts that underlie the preparation and
presentation of financial statements for external users.
PURPOSE & STATUS
IFRS VS. CONCEPTUAL FRAMEWORK
 While the Conceptual Framework is the foundation of IFRS Standards, it
is important to remember that it is not an IFRS Standard. Therefore, it
does not have the same authority as an IFRS Standard and does not
override any Standard.
 In those cases, where there is a conflict, the requirements of the specific
IFRS always prevail over the Conceptual Framework. The conceptual
framework will be revised from time to time on the basis of the Board’s
experience of working with it.
 SCOPE OF CONCEPTUAL
FRAMEWORK
1. The objective of general purpose financial reporting;
2. The qualitative characteristics of useful financial information;
3. The definition, recognition and measurement of the elements
from which financial statements are constructed; and
4. Concepts of capital and capital maintenance.
OBJECTIVE
OF GENERAL
PURPOSE
FINANCIAL
REPORTING
 CONCEPTUAL FRAMEWORK: OBJECTIVE OF
GENERAL PURPOSE FINANCIAL REPORTING

The objective of general purpose 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.
 OBJECTIVE OF GENERAL PURPOSE FINANCIAL
REPORTING: PRIMARY VS SECONDARY USERS

 Primary users: These group of users are the primary users

relies on general purpose financial reports for much of the
financial information they need. Consequently, they are the
primary users to whom general purpose financial reports are
directed.
 Secondary/Other Users: Users which are not primary users
PRIMARY USERS OF GENERAL PURPOSE
FINANCIAL REPORTS
SECONDARY USERS OF GENERAL PURPOSE
FINANCIAL REPORTS
 INFORMATION FROM GENERAL PURPOSE
FINANCIAL REPORTS: FINANCIAL POSITION

 This refers to information about the entity’s economic resources and the
claims against the reporting entity. It is useful in identifying the
reporting entity’s financial strengths and weaknesses which can help
users to assess the entity’s liquidity, solvency and its financing needs.
 Information about priorities and payment requirements of existing
claims helps users to predict how future cash flows will be distributed
among those with a claim against the reporting entity.
 INFORMATION FROM GENERAL PURPOSE
FINANCIAL REPORTS: FINANCIAL PERFORMANCE

Information about the performance of a reporting

entity helps users to understand the return that the
entity has produced from its economic resources which
is an indication of how well management has
discharged its stewardship responsibilities.
 INFORMATION FROM GENERAL PURPOSE
FINANCIAL REPORTS: FINANCIAL PERFORMANCE
 Financial Performance Reflected by Accrual Accounting: Accrual accounting
focuses on the effects of events and transactions when they occur and not necessarily
when cash is received or paid. Financial performance reflected by accrual accounting
is considered to provide a better basis for assessing the entity’s past and future
performance than information solely about cash receipt and payments.
 Financial performance Reflected by Past Cash Flows: Information about entity’s
cash flows during a period is also considered to be useful in the assessment of the
entity’s ability to generate future net cash inflows; it helps users to understand an
entity’s operations, evaluate its financing and investing activities, assess its liquidity
or solvency, and interpret other information about financial performance.
 INFORMATION FROM GENERAL PURPOSE
FINANCIAL REPORTS: CHANGES IN ECONOMIC
RESOURCES & CLAIMS
 A reporting entity’s economic resources and claims may also change
for reasons other than financial performance, such as issuing
additional ownership shares.
 Information about this type of change is necessary to give users a
complete understanding of why the reporting entity’s economic
resources and claims changed and the implications of those changes
for its future financial performance.
 Limitation of General Purpose Financial
Reports
 General purpose financial reports do not and cannot provide
all of the information that existing and potential investors,
lenders and other creditors need.
 Those users need to consider pertinent information from
other sources, for example, general economic conditions
and expectations, political events and political climate, and
industry and company outlooks.
QUALITATIVE
CHARACTERI
STICS OF
USEFUL
FINANCIAL
INFORMATIO
N
Diagram of Qualitative Characteristics
Relevance Materiality
Qualitative Characteristics

Fundamental Complete

Faithful
Neutral
Representation

Comparability Free From Error

Verifiability
Enhancing
Timeliness

Understandability
Fundamental Qualitative Characteristics
 If financial information is to be useful, it must be
both relevant and faithfully represent what it purports
to represent.
 The fundamental qualitative characteristics are
relevance and faithful representation
 Relevance
 Relevant financial information is capable of making a difference in the
decisions made by users.
 Financial information is capable of making a difference in decisions if it has
predictive value, confirmatory value or both.
 Financial information has predictive value if it can be used as an input to
processes employed by users to predict future outcomes.
 Financial information has confirmatory value if it provides feedback about
previous evaluations. The predictive value and confirmatory value of financial
information are interrelated.
Relevance: Concept of Materiality
 Information is material if omitting it or misstating it could
influence decisions that users make on the basis of
financial information about a specific reporting entity.
 Materiality is an entity‑specific aspect of relevance based
on the nature or magnitude, or both, of the items to which
the information relates in the context of an individual
entity’s financial report.
 Faithful Representation
 To be useful, financial information must not only
represent relevant phenomena, but it must also faithfully
represent the phenomena that it purports to represent.
 To be a perfectly faithful representation, a depiction
would have three characteristics. It would be complete,
neutral and free from error.
Faithful Representation
 Enhancing Qualitative Characteristics
 Comparability, verifiability, timeliness and understandability
are qualitative characteristics that enhance the usefulness of
information that is relevant and faithfully represented.
 They should be maximized to the extent possible. However,
the enhancing qualitative characteristics, either individually
or as a group, cannot make information useful if that
information is irrelevant or not faithfully represented.
 Comparability
 Information about a reporting entity is more useful if it can be compared
with similar information about other entities and with similar information
about the same entity for another period or another date.
 Comparability is the qualitative characteristic that enables users to
identify and understand similarities in, and differences among, items.
 Consistency, although related to comparability, is not the same.
Consistency refers to the use of the same methods for the same items,
either from period to period within a reporting entity or in a single period
across entities.
 Verifiability
 Verifiability means that different knowledgeable and independent
observers could reach consensus, although not necessarily
complete agreement, that a particular depiction is a faithful
representation.
 Verification can be direct or indirect.
 Direct verification means verifying an amount or other
representation through direct observation. Indirect verification
means checking the inputs to a model, formula or other technique
and recalculating the outputs using the same methodology.
 Timeliness
Timeliness means having information available to
decision‑makers in time to be capable of influencing
their decisions. Generally, the older the information is
the less useful it is.
 Understandability
 Classifying, characterizing and presenting information clearly and
concisely makes it understandable.
 Financial reports are prepared for users who have a reasonable
knowledge of business and economic activities and who review and
analyze the information diligently. They may, at times, seek the aid
of an adviser.
 Excluding information that is inherently complex and cannot be easy
to understand from financial reports might make the information in
those financial reports easier to understand. However, those reports
would be incomplete and therefore potentially misleading.
Cost Constraint on Useful Financial
Reporting
 Cost is a pervasive constraint on the information
that can be provided by financial reporting.
 Reporting financial information imposes costs,
and it is important that those costs are justified
by the benefits of reporting that information.
There are several types of costs and benefits to
consider.
 Users of financial information also incur costs
of analyzing and interpreting the information
provided. If needed information is not provided,
users incur additional costs to obtain that
information elsewhere or to estimate it.
ELEMENTS
OF
FINANCIAL
STATEMENT
S
 Underlying Assumption of the Conceptual
Framework: Going Concern
 The financial statements are normally prepared on the assumption that
an entity is a going concern and will continue in operation for the
foreseeable future.
 Hence, it is assumed that the entity has neither the intention nor the
need to liquidate or curtail materially the scale of its operations; if
such an intention or need exists, the financial statements may have to
be prepared on a different basis and, if so, the basis used is disclosed.
 Diagram of Elements of Financial
Statements
Asset

Financial
Elements of Financial

Liability
Position
Statements

Equity

Income
Financial
Performance
Expense
 Financial Position: Asset
An asset is defined as a present economic resource
controlled by the entity as a result of past events and
from which future economic benefits are expected to
flow to the entity.
Financial Position: Asset
 Financial Position: Liability
A liability is defined as a present obligation of the
entity to transfer an economic resource as a result of
past events.
Financial Position: Liability
 Financial Position: Equity
Equity is the residual interest in the assets of the entity
after deducting all its liabilities. In other words, they
are claims against the entity that do not meet the
definition of liability.
 Financial Performance: Income
 Income is increases in economic benefits during the accounting period in
the form of inflows or enhancements of assets or decreases of liabilities
that result in increases in equity, other than those relating to contributions
from equity participants. It encompasses both revenue and gains.
 Revenue arises in the course of the ordinary activities of an entity. Gains
represent increases in economic benefits and as such are no different in
nature from revenue.
 Financial Performance: Expense
 Expenses are decreases in economic benefits during the accounting period in
the form of outflows or depletions of assets or incurrences of liabilities that
result in decreases in equity, other than those relating to distributions to equity
participants. It encompasses losses as well as those expenses that arise in the
course of the ordinary activities of the entity.
 Expenses arise in the course of the ordinary activities of the entity. Losses
represent other items that meet the definition of expenses and may, or may not,
arise in the course of the ordinary activities of the entity. Losses include, for
example, those resulting from disasters such as fire and flood, as well as those
arising on the disposal of non‑current assets.
 General Recognition Criteria (For
Elements)
 Recognition is the process of incorporating in the statement of financial
position or statement of financial performance an item that meets the
definition of an asset, a liability, equity, income or expenses.
 An item that meets the definition of an element should be recognized if:
a) it is probable that any future economic benefit associated with the
item will flow to or from the entity; and
b) the item has a cost or value that can be measured with reliability
General Recognition Criteria (For
Elements)
Different Recognition Bases of Expenses
 Measurement of the Elements of Financial
Statements
 Measurement is the process of determining the monetary
amounts at which the elements of the financial statements
are to be recognized and carried in the statement of
financial position or statement of financial performance.
 This involves the selection of the particular basis of
measurement.
Different Measurement Bases of Assets and Liabilities
 Derecognition of Elements
 Derocognition occurs when the item no longer meets the
definition of an asset or liability.
 An asset is derecognized when the entity loses control of all
or part of the recognized asset. A liability is derecognized
when the entity no longer has a present obligation for all or
part of the recognized liability.
 Presentation & Disclosure
 Information about assets, liabilities, equity, income and expenses is
communicated through presentation and disclosures in financial statements.
 Effective communication of financial statements makes that information
more relevant and contributes to a faithful representation of an entity’s
assets, liabilities, equity, income and expenses.
 It also enhances the understandability and comparability of information in
financial statements.
CONCEPTS OF
CAPITAL &
CAPITAL
MAINTENANCE
 Concepts of Capital
Financial Concept Physical Concept
 Under a financial concept, capital is  Under a physical concept, capital is
synonymous with the net assets or regarded as the productive capacity of
equity of the entity. the entity based on, for example, units
 Financial concept of capital should of output per day.
be adopted if the users of financial  Physical concept of capital should be
statements are primarily concerned adopted if the users of financial
with the maintenance of nominal statements are primarily concerned
with the operating capability of the
invested capital or the purchasing
entity.
power of invested capital.
 Concepts of Capital Maintenance &
Determination of Profit
Financial Concept Maintenance
Physical Concept Maintenance
 Profit is earned only if the financial amount of  Profit is earned only if the physical
the net assets at the end of the period exceeds
productive capacity (or operating capability)
the financial amount of net assets at the
of the entity (or the resources or funds
beginning of the period, after excluding any
needed to achieve that capacity) at the end of
distributions to, and contributions from,
the period exceeds the physical productive
owners during the period.
capacity at the beginning of the period, after
 Financial capital maintenance can be excluding any distributions to, and
measured in either nominal monetary units or contributions from, owners during the period.
units of constant purchasing power.  It requires the adoption of the current cost
 The financial capital maintenance concept, basis of measurement.
however, does not require the use of a
particular basis of measurement.
 REFERENCE:
 Valix, C., et. al. (2020). Conceptual Framework and
Accounting Standards. Manila: GIC Enterprises &
Co., Inc.