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IFRS Conceptual Framework: Key Terms (Vocabulary Flashcards)

STATUS AND PURPOSE OF CONCEPTUAL FRAMEWORK

  • Purpose of the Conceptual Framework:

    • assist the International Accounting Standards Board (the Board) to develop IFRS Standards that are based on consistent concepts

    • assist preparers to develop consistent accounting policies when no Standard applies to a transaction or event, or when a Standard allows a policy choice

    • assist all parties to understand and interpret the Standards

  • The Conceptual Framework is not a Standard

  • Nothing in the Conceptual Framework overrides any Standard or any requirement in a Standard

HIERARCHY OF GUIDANCE AND JUDGEMENT

  • Hierarchy of guidance to be followed by preparers of the financial statements:
    1) PFRS or PAS
    2) Judgement

  • When making judgement, Management shall consider:

    • A. Requirements in other PFRS dealing with similar transactions

    • B. Conceptual Framework

  • Management may consider:

    • A. Pronouncements issued by other standard‑setting bodies

    • B. Other accounting literature and industry practice

  • To meet the objective of general purpose financial reporting, the Board may sometimes specify requirements that depart from aspects of the Conceptual Framework. If the Board does so, it will explain the departure in the Basis for Conclusions on that Standard.

REVISION AND BASICS OF THE FRAMEWORK

  • The Conceptual Framework may be revised from time to time on the basis of the Board’s experience of working with it. Revisions will not automatically lead to changes to the Standards.

  • The 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 the information gap between providers of capital and the people to whom they have entrusted their money

    • (c) contribute to economic efficiency by helping investors identify opportunities and risks worldwide, thus improving capital allocation

OBJECTIVE OF GENERAL PURPOSE FINANCIAL REPORTING

  • The objective forms the foundation of the Conceptual Framework.

  • Other aspects flow logically from the objective: qualitative characteristics, cost constraint, a reporting entity concept, elements of financial statements, recognition and derecognition, measurement, presentation and disclosure.

  • Objective of general purpose financial reporting:

    • provide financial information about the reporting entity that is useful to existing and potential investors, lenders and other creditors in making decisions relating to providing resources to the entity.

INFORMATION PRIMARY USERS MAY GET FROM FINANCIAL REPORTING

  • The information includes:

    • (a) the economic resources of the entity, claims against the entity and changes in those resources and claims

    • (b) how efficiently and effectively the entity’s management and governing board have discharged their responsibilities to use the entity’s economic resources

  • General purpose financial reports are not designed to show the value of a reporting entity; they provide information to help users estimate the value of the reporting entity.

THE CONCEPTUAL FRAMEWORK AS A GOAL FOR FINANCIAL REPORTING

  • The Framework establishes the concepts that underlie estimates, judgments and models.

  • The concepts are the goal towards which the Board and preparers strive.

  • While the ideal is unlikely to be achieved in the short term, establishing a goal is essential for evolving financial reporting and improving usefulness.

QUALITATIVE CHARACTERISTICS OF USEFUL INFORMATION

  • Fundamental qualitative characteristics:

    • Faithful Representation

    • Relevance

  • Enhancing qualitative characteristics (VCUT):

    • Verifiability

    • Comparability

    • Understandability

    • Timeliness

RELEVANCE

  • Relevant financial information is capable of making a difference in users’ decisions.

  • It has predictive value, confirmatory value, or both.

  • Predictive value: used as input to processes to predict future outcomes; users make their own predictions.

  • Predictive value and confirmatory value are interrelated (information with predictive value often also has confirmatory value).

  • Example: current year revenue can be used to predict future revenues and can be compared with prior-year revenue predictions to improve forecasting processes.

MATERIALITY AND RELEVANCE

  • Information is material if omitting, misstating or obscuring it could reasonably be expected to influence decisions of primary users.

  • Materiality is entity-specific and depends on the nature or magnitude, or both, of the items in the context of the entity’s financial report.

FAITHFUL REPRESENTATION

  • Financial reports aim to represent economic phenomena in words and numbers.

  • To be useful, information must faithfully represent the substance of the economic phenomena it purports to represent.

  • In many cases, substance and legal form align; when they do not, reporting the legal form alone may fail to faithfully represent the economic phenomenon (substance over form).

CHARACTERISTICS OF FAITHFUL REPRESENTATION

  • Completeness: depiction includes all information necessary to understand the phenomenon, including descriptions and explanations.

  • Neutrality: free from bias in selection or presentation of information.

  • Free from error: no errors or omissions in the description or process; even estimates can be faithful if described clearly and limitations are explained and the estimation process is appropriate.

PRUDENCE

  • Prudence is the exercise of caution when making judgments under uncertainty.

  • Prudence implies assets and income are not overstated and liabilities and expenses are not understated.

COMPARABILITY

  • Comparability enables users to identify and understand similarities and differences among items.

  • Requires at least two items to compare.

  • Information about a reporting entity is more useful if it can be compared with similar information about other entities or the same entity over time.

  • Consistency vs. Comparability:

    • Consistency refers to using the same methods for similar items across periods or entities.

    • Comparability is the goal; consistency helps achieve that goal.

VERIFIABILITY

  • Verifiability means that independent observers could reach a consensus that a depiction is a faithful representation.

  • Verification can be direct (e.g., counting cash) or indirect (checking inputs to a model and re‑computing outputs).

TIMELINESS

  • Timeliness means information is available to decision-makers in time to influence their decisions.

  • Generally, older information is less useful.

  • Some information may remain timely long after period-end to help identify trends.

UNDERSTANDABILITY

  • Clarity in classification, characterization and presentation enhances understandability.

  • Some phenomena are inherently complex; omitting them could mislead if it creates an incomplete picture.

  • Financial reports are prepared for users with reasonable knowledge of business/economics, who review the information diligently; some cases may require professional advice for complex phenomena.

THE COST CONSTRAINT ON USEFUL FINANCIAL REPORTING

  • Cost is a pervasive constraint on what information can be provided.

  • Reporting costs must be justified by the benefits to users.

FINANCIAL STATEMENTS AND THE REPORTING ENTITY

  • Objective and scope:

    • provide financial information about the reporting entity’s assets, liabilities, equity, income and expenses that is useful to users in assessing prospects for future net cash inflows and management’s stewardship of resources.

  • Information is provided in:

    • (a) statement of financial position (balance sheet): assets, liabilities, and equity

    • (b) statement(s) of financial performance (income statement): income and expenses

    • (c) other statements and notes: presentation and disclosure

PERSPECTIVE ADOPTED IN FINANCIAL STATEMENTS

  • Financial statements present information from the perspective of the reporting entity as a whole, not from the perspective of any particular group of investors, lenders or creditors.

GOING CONCERN ASSUMPTION

  • Financial statements are normally prepared on the going concern basis and assume the entity will continue in operation for the foreseeable future.

  • It is assumed there is no intention or need to liquidate or cease trading.

THE REPORTING ENTITY

  • A reporting entity is an entity that is required, or chooses, to prepare financial statements.

  • It can be a single entity or a portion of an entity or more than one entity.

  • It is not necessarily a legal entity.

  • If a reporting entity comprises parent and subsidiaries, the statements are consolidated.

  • If the reporting entity is the parent alone, the statements are unconsolidated.

  • If the reporting entity comprises two or more entities not linked by a parent-subsidiary relationship, the statements are combined.

ELEMENTS OF FINANCIAL STATEMENTS

  • Elements: Asset, Liability, Equity, Income, Expenses

  • Definitions/descriptions:

    • Asset: A present economic resource controlled by the entity as a result of past events.

    • Liability: A present obligation to transfer an economic resource as a result of past events.

    • Equity: The residual interest in the assets after deducting liabilities.

    • Income: Increases in assets or decreases in liabilities resulting in increases in equity, other than contributions from holders of equity claims.

    • Expenses: Decreases in assets or increases in liabilities resulting in decreases in equity, other than distributions to holders of equity claims.

  • Named statements:

    • Asset and Liability relate to the Statement of Financial Position (Balance Sheet).

    • Income and Expenses relate to the Statement of Financial Performance (Income Statement).

ASSETS

  • An asset is a present economic resource controlled by the entity as a result of past events; an economic resource is a right that can produce economic benefits.

  • Three aspects to discuss: (a) right, (b) potential to produce economic benefits, (c) control

  • Rights include:

    • Rights that correspond to an obligation of another party:

    • (i) rights to receive cash

    • (ii) rights to receive goods or services

    • (iii) rights to exchange resources on favourable terms (e.g., forward contracts, options)

    • (iv) rights to benefit from an obligation of another party to transfer if a future event occurs

    • Rights that do not correspond to an obligation (i.e., non‑obligatory rights):

    • (i) rights over physical objects (property, plant, equipment, inventories) – e.g., use of a physical object, residual value of a leased object

    • (ii) rights to use intellectual property

  • How rights are obtained: many rights are established by contract, legislation or similar means (e.g., owning or leasing a physical object, owning a debt or equity instrument, owning a registered patent)

  • Economic benefits: potential to produce one or more of the following:

    • (a) receive contractual cash flows or other economic resources

    • (b) exchange resources on favourable terms

    • (c) produce cash inflows or avoid cash outflows by using the resource to produce goods/services, enhance other resources, or via leasing

    • (d) receive cash or other resources by selling the resource

    • (e) extinguish liabilities by transferring the resource

  • Control: entity controls an economic resource if it has the present ability to direct use and obtain benefits; control includes the ability to prevent others from directing use or obtaining benefits

  • Examples of assets: Cash and cash equivalents, Accounts receivable, Inventory, Investments, PPE, Vehicles, Furniture, Patents (intangible asset)

LIABILITIES

  • A liability is a present obligation to transfer an economic resource as a result of past events.

  • Three criteria for a liability:

    • (a) the entity has an obligation

    • (b) the obligation is to transfer an economic resource

    • (c) the obligation is a present obligation that exists as a result of past events

  • What is an obligation?

    • A duty the entity cannot avoid; always owed to another party; identity of the party need not be known

    • Types:

    • Legal Obligation – arises from contract, legislation or similar means and is legally enforceable

    • Constructive Obligation – arise from customary practices, published policies or statements if the entity has no practical ability to act contrary to those practices/policies/statements (e.g., a long-standing return policy)

  • Transfer of an economic resource: the obligation must have the potential to require transfer; need not be certain that transfer will occur (example: product warranty)

  • An obligation can meet the definition of a liability even if the probability of transfer is low; low probability may affect presentation/measurement decisions

  • Present obligation as a result of past events: entity has obtained economic benefits or taken an action; as a result, will or may have to transfer an economic resource; can accumulate over time

  • Effect of new legislation on present obligations:

    • A present obligation arises only if, because of obtaining economic benefits or taking an action to which the legislation applies, the entity will or may have to transfer an economic resource it would not otherwise have to transfer

    • Enactment alone is not sufficient to create an obligation

    • Example: new law penalizing improper disposal of toxic waste; obligation arises only if violation led to penalty

  • Examples of Liabilities: Accounts payable; Principal and interest on loans due; Salaries and wages payable; Notes payable; Income taxes payable; Mortgages payable; Bonds payable

EQUITY

  • Equity is the residual interest in the assets after deducting all liabilities; claims against the entity that do not meet the definition of a liability

  • Equity claims may be established by contract, legislation or similar means and include:

    • (a) shares of various types issued by the entity

    • (b) some obligations of the entity to issue another equity claim

INCOME AND EXPENSES

  • Income: increases in assets or decreases in liabilities that result in increases in equity, other than contributions from holders of equity claims

  • Expenses: decreases in assets or increases in liabilities that result in decreases in equity, other than distributions to holders of equity claims

  • Income and expenses are the elements of financial statements that relate to an entity’s financial performance

  • Users need information about both financial position and financial performance

RECOGNITION AND DERECOGNITION

  • Recognition process: capturing for inclusion in the Statement of Financial Position or the Statement(s) of Financial Performance an item that meets the definition of an element (asset, liability, equity, income or expenses)

  • Carrying amount: the amount at which an asset, liability or equity is recognized in the Statement of Financial Position

MATCHING PRINCIPLE

  • The simultaneous recognition of income and related expenses is often referred to as the matching of costs with income

RECOGNITION CRITERIA

  • Only items that meet the definition of an asset, a liability or equity are recognised in the Statement of Financial Position

  • An asset or liability is recognised only if recognition provides information that is useful (relevant and faithfully represented)

  • The cost can be measured reliably

EXISTENCE AND MEASUREMENT UNCERTAINTY

  • Existence uncertainty: assets or liabilities with questionable ownership (e.g., patents in dispute)

  • Measurement uncertainty: uncertainty in determining the amount at which an item is recognised or disclosed

DERECOGNITION

  • Derecognition is the removal of all or part of a recognised asset or liability from the Statement of Financial Position

  • Derecognition typically occurs when the item no longer meets the definition of an asset or a liability

  • For an asset: derecognition occurs when the entity loses control of all or part of the asset

  • For a liability: derecognition occurs when the entity no longer has a present obligation for all or part of the liability

MEASUREMENT

  • Elements recognized in financial statements are quantified in monetary terms; requires selection of a measurement basis

  • A measurement basis is an identified feature (e.g., historical cost, fair value, fulfilment value) that defines the measure for an item

  • Applying a measurement basis to an asset or liability creates a measure for that asset or liability and for related income and expenses

  • Two broad types of measurement basis:

    • Historical Cost

    • Current Value

HISTORICAL COST

  • Historical cost measures provide monetary information about assets, liabilities and related income and expenses using information derived from the price of the transaction or event that gave rise to them

  • Unlike current value, historical cost does not reflect changes in values, except to the extent of impairment or onerousness

  • Historical cost of an asset at acquisition: the cost paid to acquire or create the asset plus transaction costs

  • Historical cost of a liability at incurrence: value of consideration received to incur the liability minus transaction costs

  • Historical cost of an asset is updated over time to reflect: (a) consumption (depreciation or amortisation), (b) payments received that extinguish part or all of the asset, (c) impairment, (d) accrual of interest for financing component

  • Historical cost of a liability is updated over time to reflect: (a) fulfilment of part or all of the liability (payments, delivery of goods), (b) events increasing the obligation’s value such that it becomes onerous, (c) accrual of interest for financing component

CURRENT VALUES

  • Current value measures provide monetary information using information updated to reflect conditions at the measurement date

  • Current value is not derived from the price of the transaction that gave rise to the asset or liability

  • Current value bases include:

    • (a) fair value

    • (b) value in use for assets and fulfilment value for liabilities

    • (c) current cost

FAIR VALUE

  • Definition: the price that would be received to sell an asset, or paid to transfer a liability, in an orderly transaction between market participants at the measurement date

  • Reflects market participants’ perspective; uses market data where available

  • Can be observed directly via active markets or inferred indirectly using measurement techniques (e.g., cash-flow-based methods)

VALUE IN USE AND FULFILMENT VALUE

  • Value in use (asset): present value of the cash flows or other economic benefits that an entity expects to derive from the use of an asset and its ultimate disposal

  • Fulfilment value (liability): present value of the cash or other economic resources the entity expects to be obliged to transfer as it fulfils the liability

  • Both reflect entity-specific assumptions; sometimes differ little from market participant assumptions

CURRENT COST

  • Current cost of an asset: cost of an equivalent asset at the measurement date plus transaction costs to acquire it at that date

  • Current cost of a liability: consideration that would be received for an equivalent liability at the measurement date minus transaction costs

  • Current cost is an entry value (not an exit value) and reflects conditions at the measurement date; different from exit values like fair value, value in use, or fulfilment value

PRESENTATION AND DISCLOSURES

  • A reporting entity communicates information about its assets, liabilities, equity, income and expenses by presenting and disclosing information in its financial statements

  • Effective communication supports relevance and faithful representation; enhances understandability and comparability

  • Presentation and disclosure are also subject to the cost constraint

CLASSIFICATION

  • Classification is sorting items based on shared characteristics for presentation and disclosure

  • Characteristics include nature, function, and measurement

  • Grouping dissimilar items can obscure information and reduce understandability and comparability; may not provide a faithful representation

OFFSETTING OF ACCOUNTS

  • Offsetting occurs when an asset and a liability are recognized as separate units but presented net in the statement of financial position

  • Offsetting can mislead by grouping dissimilar items; generally not appropriate

CLASSIFICATION OF EQUITY

  • Some equity claims may need to be classified separately if they have different characteristics

  • Some components of equity may need separate classification if subject to particular legal, regulatory, or other requirements

AGGREGATION

  • Aggregation means adding together items with shared characteristics within the same classification

  • Different levels of aggregation may be used in different parts of the financial statements (e.g., summarized in the SFP/SPF; detailed information in notes)

CONCEPTS OF CAPITAL

  • Financial concept of capital: capital is synonymous with net assets or equity

  • Physical concept of capital: capital is the productive capacity, such as units of output per day

  • The chosen concept indicates the goal for determining profit; there may be measurement difficulties in applying the concept operationally

CAPITAL MAINTENANCE

  • (a) Financial capital maintenance:

    • Profit is earned only if the financial amount of net assets at the end of the period exceeds the financial amount at the beginning, after excluding distributions and contributions during the period

    • Can be measured in nominal monetary units or in units of constant purchasing power

  • (b) Physical capital maintenance:

    • Profit is earned only if the physical productive capacity at the end of the period exceeds the beginning, after excluding distributions and contributions during the period

ADDITIONAL TOPICS AND EXAMPLES COVERED IN THE TRANSCRIPT

  • OBJECTIVE and scope of the financial statements emphasize stewardship and prospect assessment for future cash inflows

  • The perspective in financial statements is entity-focused, not investor-specific

  • Going concern assumes ongoing operation; liquidation or cessation is not planned

  • The reporting entity may present consolidated, unconsolidated, or combined statements depending on parent-subsidiary relationships

  • Examples of assets and liabilities illustrate definitions and recognition boundaries

  • The framework allows for measurement choices and explains when to apply each basis (historical cost vs current value, etc.)

  • The framework discusses the conceptual underpinnings for recognizing revenue and expenses in relation to assets and liabilities, and how the matching concept interacts with recognition criteria

  • The Foundation for qualitative characteristics supports consistent and faithful financial reporting across jurisdictions

QED: These notes provide a comprehensive, structured, and interconnected overview of the IFRS Conceptual Framework as presented in the transcript, with emphasis on definitions, relationships, and practical implications for measurement, presentation, and disclosure.