Chapter 2 - Conceptual Framework For Financial Reporting Flashcards
A Conceptual Framework
- helps to decide how to develop new standards
- helps ensure more useful and consistent pronouncements over time
- used to solve new problems
Levels of the Conceptual Framework
1st Level: Objective of Financial Accounting (the why we do what we do)
2nd Level: Qualitative Characteristics and Elements (the what we do)
3rd Level: Recognition, Measurement, and Disclosure concepts (the how we do)
1st Level of Conceptual Framework
- the objective, the why we do
- to provide financial information about reporting entity that is useful to present and potential external users in making decisions about providing resources to the entity
A Qualitative Characteristic
- Help distinguish useful information from less useful information
- Superior information from inferior information
Fundamental Qualities
Relevance
- predictive value
- confirmatory value
- materiality
Faithful Representation
- completeness
- neutrality
- free from error
Enhancing Qualities
- Comparability
- Verifiability
- Timeliness
- Understandability
Relevance
- Fundamental Quality
- accounting information that is capable of making a difference in a decision
Predictive Value
- Ingredient of fundamental quality (relevance)
- financial information has this if it has value to investors for making their own expectations about the future
- able to make predictions about an entity with the information
Confirmatory Value
- ingredient of fundamental quality (relevance)
- information helps users confirm their prior expectations or correct them
Materiality
- ingredient of fundamental quality (relevance)
- if that piece of information is left out or not stated correctly, may make a difference in someone’s decision
- subjective
Faithful Representation
Fundamental Quality
- numbers and descriptions match what actually happened/existed
Completeness
- ingredient of fundamental quality (faithful representation)
- we’ve included everything that needs to be included
- all information the users need, is present
Neutrality
- ingredient of fundamental quality (faithful representation)
- neutral
- financial information does not favor one set of interested parties over another
- mo bias when creating the information
Free from Error
- ingredient of fundamental quality (faithful representation)
- make sure basic financial statements are free from error
Enhancing Qualities
- bridge between both fundamental qualities
- distinguishes more-useful information from less-useful
Comparability
- enhancing quality
- information measured and reported in a similar manner
- to be able to compare financial information, needs to be similar in how it was measured & reported
Verifiability
- enhancing quality
- independent measurers, using same methods, obtain similar results
Timeliness
- enhancing quality
- having information available before it loses its capacity to influence decisions
Understandability
- enhancing quality
- information provided is understood by the users
Basic Elements
Assets
- what we own
Liabilities
- what we owe
Equity
- what we’re worth
Investments by Owners
- money or property that owners put into a business
Distributions to Owners
- funds owners take from business as it grows
Comprehensive Income
- change in equity
- look at from non-owner sources
Revenues
- what we’re in business to do
Expenses
- what we incur in our business to carry it on
Gains & Losses
- from things we’re not in the normal business to do
2nd Level of Conceptual Framework
- the what we do
- Qualitative Characteristics
- Basic Elements of Financial Statements
3rd Level of Conceptual Framework
- the how we do
Recognition
- Assumptions
Measurement
- Principles
Disclosure Concepts
- Constraint
Economic Entity
Assumption
- the business is separate from anything else
Going Concern
Assumption
- the company is going to last a long period of time
Monetary Unit
Assumption
- money is the common denominator
- we use dollar in the U.S.
- international gets tricky
Periodicity
Assumption
- can take financial information and break it up into different time frames
Measurement Principle
Historical Cost
- what we paid for when we acquired it
Fair Value
- it’s value today
Matching Principle
Revenue Recognition & Expense Recognition
- expenses are recorded in the same time period they helped generate revenues
Revenue Recognition Principle
Cash-basis
- revenue recognized when you get cash in hand
Accrual-basis
- step 1: identify contract w/ customer
- step 2: identify separate performance obligations in contact
- step 3: determine transaction price
- step 4: allocate transaction price to separate performance obligations
- step 5: recognize revenue when each performance obligations satisfied
Expense Recognition Principle
- matching expenses to revenues they help generate
- product costs
- period costs
Full Disclosure Principle
- providing extra information
- stuff with sufficient importance to influence the judgement and decisions of a user
Cost Constraint
- cost of providing information must be weighed against benefits derived from using it
- can only do so much before it’s starts costing too much
