Chapter 1

An Overview of the
Australian External
Reporting Environment

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–1
 Objectives

Understand the extent of regulation to which

Australian external financial reporting is subject
Be able to explain the general functions of the
Australian Securities and Investments
Commission, the Australian Accounting Standards
Board, the Australian Accounting Research
Foundation and the Australian Stock Exchange

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–2
 Objectives (Cont.)

Understand the role of the Accounting Standard and

the process through which it is developed
Be able to define the five elements of accounting and
be aware of the respective recognition principles

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–3
 Objectives (Cont.)

Be able to explain the objectives and potential

shortcomings of the Australian Conceptual
Framework Project
Understand the role of the International Accounting
Standards Committee and be aware of the
program, currently in place within Australia, to
harmonise Australian Accounting Standards with
International Accounting Standards

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–4
 Users of General-purpose
Financial Reports

Users may be defined to include:

present and potential investors
employees
lenders
suppliers and other trade creditors
customers
government and their agencies
the public

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–5
 Sources of External Reporting
Regulations

The Australian Securities and Investments

Commission
The Australian Accounting Standards Board
The Australian Accounting Research Foundation
The Australian Stock Exchange

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–6
 The Australian Securities and
Investments Commission (ASIC)

Formerly the Australian Securities Commission

(ASC)
Name changed in July 1998
The ASC was established in 1989 to replace the
National Companies and Securities Commission
(NCSC)

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–7
 The ASIC (Cont.)

Responsible for administering corporation legislation

(e.g. The Corporations Law)
Reports to the Commonwealth parliament and
Attorney-General

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–8
 The Corporations Law

Outlines the responsibilities of company directors in

relation to:
the nature of their conduct
financial statement preparation, lodgment and distribution
Requires preparation of true and fair accounts

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–9
 True and Fair Accounts

No definition of ‘true and fair’ provided in The

Corporations Law
Accounts should include all information of a
‘material’ nature

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–10
 Disclosure Requirements of The
Corporations Law

Until 1997 contained within Schedule 5

Schedule 5 now replaced by AASB 1034
Required to prepare a Directors’ Declaration and
Directors’ Report

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–11
 Directors’ Declaration

Directors required to:

state whether, in their opinion, the accounts are true and
fair
give details of any significant after balance date events
state whether or not, in their opinion, there were any
grounds to believe that the company will be unable to
pay its debts as and when they fall due

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–12
 Directors’ Report

Provides information concerning:

names of directors
principal activities of the company
significant changes in the state of affairs of the company
likely future developments

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–13
 The Australian Accounting
Standards Board (AASB)

Began operations in 1991

Supersedes the Accounting Standards Review Board
(ASRB)
10 members plus 2 observers

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–14
 The AASB (Cont.)

Functions include:
develop a conceptual framework
review proposed Accounting Standards
sponsor or undertake the development of possible
accounting standards
engage in public consultation
make such changes to proposed Accounting Standards as
is necessary

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–15
 The AASB (Cont.)

Once an AASB-developed standard becomes an

Applicable Accounting Standard, directors are
required to ensure that a company’s financial
statements comply with the standard
Small proprietary companies are generally exempted
from this requirement
At present there are 37 AASB standards

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–16
 The Australian Accounting
Research Foundation (AARF)

Jointly funded by the ICAA and the ASCPA

Members of these bodies are required to follow
AARF releases

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–17
 The AARF (Cont.)

Comprises the following boards:

Foundation Board of Management
Auditing Standards Board
Urgent Issues Group
Public Sector Accounting Standards Board
Legislation Review Board

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–18
 The Australian Stock
Exchange (ASX)

Main Board Rules applied to nationally listed

securities
Failure to comply may lead to removal from the
Board
Rules help ensure that information is disseminated in
an efficient and timely manner

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–19
 Proposals to Reform the
Regulation of Financial Reporting

Corporate Law Economic Reform Program (CLERP)

has proposed numerous changes to the standard
setting process
proposal includes disbanding AARF

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–20
 CLERP Conceptual
Framework

Developed jointly by AASB and AARF

Defines the nature, subject, purpose and broad
content of general-purpose financial reporting
Comprises Statements of Accounting Concepts
(SACs)
4 SACs have been produced to date

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–21
 CLERP Conceptual
Framework (Cont.)

Benefits of conceptual framework:

accounting standards more consistent
increased international comparability
the Boards should be more accountable for their decisions
enhanced process of communication between the Boards
and constituents
more economical Accounting Standard development

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–22
 CLERP Conceptual
Framework (Cont.)

SACs deemed to represent best practice

SACs should be followed by accountants in the
preparation and presentation of financial
statements
Non-mandatory
Useful to standard setters

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–23
 SAC1—Definition of the
Reporting Entity

Defines general-purpose financial reports (GPFRs)

reports intended to meet the information needs common
to users who are unable to command the preparation of
reports tailored to their specific needs
GPFRs to be produced by entities who have users who
cannot command the preparation of specific
information

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–24
 SAC2—Objective of GPFRs

Objective of GPFRs is to provide relevant and

reliable information to assist users to make and
evaluate decisions about the allocation of scarce
resources and to allow management and governing
bodies to discharge their accountability
Defines users of GPFRs

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–25
 SAC3—Qualitative
Characteristics of Financial
Information
Identifies the characteristics of financial information
necessary to allow users to make and evaluate
decisions about the allocation of scarce resources
Primary qualitative characteristics:
relevance
reliability

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–26
 SAC3—Qualitative
Characteristics of Financial
Information (Cont.)
Relevance
if information influences decisions about the allocation of
scarce resources
Reliability
faithfully represents the entity’s transactions and events
free from bias
free from undue error

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–27
 SAC3—Qualitative
Characteristics of Financial
Information (Cont.)
Relevant and reliable information is also subject to
the test of materiality
omission, mis-statement or non-disclosure can affect
decision-making
Information should also be:
comparable
understandable
timely

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–28
 SAC4—Definition and
Recognition of the Elements

Defines:
assets
liabilities
equity
expenses
revenues

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–29
 Definition and Recognition
of Assets

An asset is defined as:

future economic benefits controlled by the entity as a
result of past transactions or other past events
Three key characteristics of definition:
there must be future economic benefit
the reporting entity must control the future economic
benefits
the transaction or other event giving rise to the control
must have occurred

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–30
 Definition and Recognition
of Assets (Cont.)

An asset shall be recognised in the financial

statements when:
it is probable that the future economic benefits in the
asset will eventuate; and
it possesses a cost or other value that can be measured
reliably
‘probable’ is defined as ‘more likely rather than less likely’

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–31
 Definition and Recognition
of Liabilities
Liabilities are defined as:
future sacrifices of economic benefits that the entity is
presently obliged to make to other entities as a result of
past transactions or other past events
There are three main characteristics:
there must be a future disposition or sacrifice of
economic benefits to other entities
it must be a present obligation
a past transaction or other event must have created the
obligation

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–32
 Definition and Recognition
of Liabilities (Cont.)

Recognition in financial statements again requires

two tests to be met:
it is probable that settlement of the liability will be
required; and
the amount of the liability can be measured reliably
If a liability cannot be measured reliably but is
potentially material it should be disclosed within
the notes to the accounts

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–33
 Definition and Recognition
of Expenses

The definition is dependent upon the definition of

assets and liabilities
Expense is defined as:
consumptions or losses of future economic benefits in the
form of reductions in assets or increases in liabilities of
the entity, other than those relating to distributions to
the owners, that result in a decrease in equity during
the reporting period

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–34
 Definition and Recognition
of Expenses (Cont.)

Expenses are recognised when:

it is probable that the consumption or loss of economic
benefits resulting in a reduction in assets and/or
increase in liabilities has occurred; and
the consumption or loss of economic benefits can be
measured reliably

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–35
 Definition and Recognition
of Revenues

Again the definition is dependent on asset and

liability definitions
A revenue is defined as:
inflows or other enhancements or savings in outflows of
future economic benefits in the form of increases in
assets or reductions in liabilities, other than those
relating to contributions by owners, that result in an
increase in equity during the reporting period

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–36
 Definition and Recognition
of Revenues (Cont.)

Revenues can be recognised in the financial

statements when:
it is probable that the inflow or other enhancement or
saving in outflows has occurred; and
the inflow or other enhancement or saving in outflows of
economic benefits can be measured reliably

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–37
 Definition of Equity

Equity is defined as:

the residual interest in the assets of the entity after
deduction of its liabilities
Directly a function of the definition given to assets
and liabilities

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–38
 Critical Review of the Conceptual
Framework

Objective of GPFRs in SAC2 implies that reports

should be primarily economic in focus
should social issues be ignored in the annual report?
An individual's view of business responsibilities
directly impacts on the perceptions of
accountability

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–39
 Critical Review of the Conceptual
Framework (Cont.)

In determining whether an entity is a reporting entity

is the need for information to enable informed
‘resource allocation decisions’ the only or
dominant thing to consider?

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–40
 Critical Review of the Conceptual
Framework (Cont.)

The economic focus of GPFRs ignore transactions or

events not resulting from market transactions or an
exchange of property rights
Ignores environmental externalities caused by
business
Financial statements included within reports only
reflect financial performance and do not provide a
means of assessing social performance

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–41
 Critical Review of the Conceptual
Framework (Cont.)

Financial press also generally use financial indicators

as a guide to a firm’s success
The Conceptual Framework simply codifies existing
practice
Conceptual frameworks have been used as devices to
legitimise the existence of the accounting
profession

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–42
 Harmonisation of Australian and
International Accounting
Standards
Since 1995 Australian Accounting Standard setters
have been actively pursuing harmonisation of
Australian Accounting Standards with
International Accounting Standards
Harmonisation = compatibility but with some
variations

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–43
 The International Accounting
Standards Committee (IASC)

Established in 1973
Aims to bring together parties from throughout the
world to develop Accounting Standards that apply
internationally
Representatives from 80 countries
IASC standards useful when no domestic counterpart

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–44
 Harmonisation with
IASC Standards

Should normally be considered to represent the

minimum requirements for an Australian
Accounting Standard
Where an Australian Standard is inconsistent with
IASC Standard, this fact should be explicitly
indicated

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–45
 Australian Representation
on the IASC

Strong representation on the IASC

1998 chairperson—Michael Sharpe is Australian
2 other Australian representatives

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–46
 Rationale for Harmonisation

If Australia retains unique Accounting Standards

inflow of foreign investment will be restricted
Need for common accounting language to facilitate
investor evaluation of domestic and foreign
corporations
Avoids costly accounting conversions by foreign
listed companies

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–47
 Implications of Harmonisation

Numerous changes to Australian Accounting

Standards throughout 1998 and 1999
Revision of over 20 Accounting Standards expected
Numerous new Standards to cover issues not
previously addressed by Australian Standards
Australian harmonisation program will impact on
IASC standards

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–48
 Barriers to Harmonisation

Perceived barriers to harmonisation:

different business environments;
different legal systems;
different cultures; and
different political environments across countries
Culture is an expression of norms, values and
customs which reflect typical behavioural
characteristics

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–49
 Culture and Harmonisation

Values inherent in accounting sub-culture influenced

by society-wide values
Accounting systems cannot be considered to be
‘culture free’
Should different countries with varying cultural
values adopt internationally uniform accounting
practices?

PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–50
 Audit Reports

Provides an independent opinion of the financial

information regarding:
true and fair view
compliance with The Corporations Law
compliance with Accounting Standards
Helps establish credibility of the financial
information
Auditor not responsible for preparation of financial
information
PPS t/a Australian Financial Accounting, 2E, by Deegan © McGraw-Hill Book Co. Aust. Pty Ltd 1999 1–51