Characteristics of Financial Information - Chapter Summary

Characteristics of Financial Information

• Importance of understanding financial information for decision-making and reporting.
• Focus on key characteristics covered in Chapter 3.

Objective of General Purpose Financial Reporting

• Accrual Accounting:
  • Transactions recorded in the period they relate to, not necessarily when cash is exchanged.
  • Example: Including electricity costs in financial statements for the year even if the bill arrives late.
• Going Concern:
  • Assumes the business will continue operating for the foreseeable future.
  • If not, assets and liabilities should be valued at breakup value (what they would sell for if the company was dismantled).

Qualitative Characteristics of Financial Information

• Fundamental Characteristics:

  • Relevance:
  • Information must aid decision-making for users.
  • Example of materiality: Missing a small amount (e.g., £5) is less relevant compared to significant amounts (e.g., £5,000,000).
  • Faithful Representation:
  • Accounts must accurately depict the business at a specific time, showcasing the true financial situation.

• Enhancing Characteristics:

  • Comparability:
  • Ensure financial information can be compared across years and companies.
  • Verifiability:
  • Numbers must be able to be substantiated; audits ensure this.
  • Timeliness:
  • Information should be available at the right time for users.
  • Understandability:
  • Information should be comprehensible to users with basic financial knowledge.

• Cost Constraint:

  • Benefits of financial reporting must justify the costs involved in its preparation.
  • Example: Not worth spending excessive time/funds to trace insignificant discrepancies in financial records.

Elements of Financial Statements

• Definitions to Remember for Exam:
  • Asset:
  • Present economic resource controlled by the entity due to past events.
  • Liability:
  • Present obligation to transfer economic resources due to past events.
  • Equity:
  • Residual interest in assets after deducting liabilities (Equity = Net Assets).
  • Income:
  • Increases in assets or decreases in liabilities resulting in higher equity.
  • Expenses:
  • Decreases in assets or increases in liabilities leading to lower equity.

Measurement Bases in Financial Reporting

• Historic Cost:
  • Most commonly used; based on original invoice price.
  • Example: Reliable and easy to audit due to concrete evidence.
• Current Value:
  • More relevant but less reliable than historic cost; includes:
  • Fair Value: Price in an actual market transaction.
  • Value in Use: Present value of future cash flows from an asset or liability.
  • Current Cost: Cost to acquire the asset at today’s market prices.

Note: Ensure to familiarize with definitions and examples for all key concepts mentioned above to excel in the exam.