CP 4 : Elements of Financial Statements

Question 1

Definition 1

Economic resources
- rights which have the potential to produce economic benefits.

Assets
- present economic resources controlled by an entity as a result of past events

Answer 1

Economic resources
- rights which have the potential to produce economic benefits.

Assets
- present economic resources controlled by an entity as a result of past events

Question 2

Definition 2

Claims against an entity comprise:

• Liabilities, which are present obligations to transfer economic resources as a result of past events.
• Equity is the residual interest in the assets in an entity after deducting all its liabilities.

Answer 2

Claims against an entity comprise:

• Liabilities, which are present obligations to transfer economic resources as a result of past events.
• Equity is the residual interest in the assets in an entity after deducting all its liabilities.

Question 3

Definition 3

Changes in economic resources and claims comprise:

• Income and expenses
• Other changes:

Answer 3

Changes in economic resources and claims comprise:

• Income and expenses
• Other changes:

Question 4

Definition 3

Income is increases in assets, or decreases in liabilities, that result in increases in equity, other than those relating to contributions from holders of equity claims.

Expenses are decreases in assets, or increases in liabilities, that result in decreases in equity, other than those relating to distributions to holders of equity claims.

Answer 4

Income is increases in assets, or decreases in liabilities, that result in increases in equity, other than those relating to contributions from holders of equity claims.

Expenses are decreases in assets, or increases in liabilities, that result in decreases in equity, other than those relating to distributions to holders of equity claims.

Question 5

Definition 3

Other changes are:

• exchanges of assets or liabilities that do not result in increases or decreases in equity; and
• contributions from and distributions to holders of equity claims.

Answer 5

Other changes are:

• exchanges of assets or liabilities that do not result in increases or decreases in equity; and
• contributions from and distributions to holders of equity claims.

Question 6

Matters concerning both assets and liabilities

The Framework discusses three concepts which will apply both to assets and liabilities and are relevant for accounting purposes.

These are:

• unit of account
• executory contracts
• the substance of arrangements.

Answer 6

The Framework discusses three concepts which will apply both to assets and liabilities and are relevant for accounting purposes.

These are:

• unit of account
• executory contracts
• the substance of arrangements.

Question 7

Unit of account 1

Definition :

The unit of account is the right or the group of rights, the obligation or the group of obligations, or the group of rights and obligations, to which recognition criteria and measurement concepts are applied.

Answer 7

The unit of account is the right or the group of rights, the obligation or the group of obligations, or the group of rights and obligations, to which recognition criteria and measurement concepts are applied.

Question 8

Unit of account 2

A unit of account is selected for an asset or liability when considering how recognition criteria and measurement concepts will apply to that asset or liability and to the related income and expenses.

In some circumstances, it may be appropriate to select one unit of account for recognition and a different unit of account for measurement. For example, contracts may sometimes be recognised individually but measured as part of a portfolio of contracts. For presentation and disclosure, assets, liabilities, income and expenses may need to be aggregated or separated into components.

Answer 8

A unit of account is selected for an asset or liability when considering how recognition criteria and measurement concepts will apply to that asset or liability and to the related income and expenses.

In some circumstances, it may be appropriate to select one unit of account for recognition and a different unit of account for measurement. For example, contracts may sometimes be recognised individually but measured as part of a portfolio of contracts. For presentation and disclosure, assets, liabilities, income and expenses may need to be aggregated or separated into components.

Question 9

Unit of account 3

If an entity transfers part of an asset or part of a liability, the unit of account may change at that time, so that the transferred component and the retained component become separate units of account.

Answer 9

If an entity transfers part of an asset or part of a liability, the unit of account may change at that time, so that the transferred component and the retained component become separate units of account.

Question 10

Unit of account 4a

A unit of account is selected to provide useful information, which implies that:

a) the information provided about the asset or liability and about any related income and expenses must be relevant. Treating a group of rights and obligations as a single unit of account may provide more relevant information than treating each right or obligation as a separate unit of account if, for example, those rights and obligations:

• cannot be or are unlikely to be the subject of separate transactions;
• cannot or are unlikely to expire in different patterns;
• have similar economic characteristics and risks and hence are likely to have similar implications for the prospects for future net cash inflows to the entity or net cash outflows from the entity; or
• are used together in the business activities conducted by an entity to produce cash flows and are measured by reference to estimates of their interdependent future cash flows.

Answer 10

A unit of account is selected to provide useful information, which implies that:

a) the information provided about the asset or liability and about any related income and expenses must be relevant. Treating a group of rights and obligations as a single unit of account may provide more relevant information than treating each right or obligation as a separate unit of account if, for example, those rights and obligations:

• cannot be or are unlikely to be the subject of separate transactions;
• cannot or are unlikely to expire in different patterns;
• have similar economic characteristics and risks and hence are likely to have similar implications for the prospects for future net cash inflows to the entity or net cash outflows from the entity; or
• are used together in the business activities conducted by an entity to produce cash flows and are measured by reference to estimates of their interdependent future cash flows.

Question 11

Unit of account 4b

b) the information provided about the asset or liability and about any related income and expenses must faithfully represent the substance of the transaction or other event from which they have arisen. Therefore, it may be necessary to treat rights or obligations arising from different sources as a single unit of account, or to separate the rights or obligations arising from a single source.

Equally, to provide a faithful representation of unrelated rights and obligations, it may be necessary to recognise and measure them separately.

Answer 11

b) the information provided about the asset or liability and about any related income and expenses must faithfully represent the substance of the transaction or other event from which they have arisen. Therefore, it may be necessary to treat rights or obligations arising from different sources as a single unit of account, or to separate the rights or obligations arising from a single source.

Equally, to provide a faithful representation of unrelated rights and obligations, it may be necessary to recognise and measure them separately.

Question 12

Unit of account 5

Just as cost constrains other financial reporting decisions, it also constrains the selection of a unit of account.

Hence, in selecting a unit of account, it is important to consider whether the benefits of the information provided to users of financial statements by selecting that unit of account are likely to justify the costs of providing and using that information.

In general, the costs associated with recognising and measuring assets, liabilities, income and expenses increase as the size of the unit of account decreases.

Hence, in general, rights or obligations arising from the same source are separated only if the resulting information is more useful and the benefits outweigh the costs.

Answer 12

Just as cost constrains other financial reporting decisions, it also constrains the selection of a unit of account.

Hence, in selecting a unit of account, it is important to consider whether the benefits of the information provided to users of financial statements by selecting that unit of account are likely to justify the costs of providing and using that information.

In general, the costs associated with recognising and measuring assets, liabilities, income and expenses increase as the size of the unit of account decreases.

Hence, in general, rights or obligations arising from the same source are separated only if the resulting information is more useful and the benefits outweigh the costs.

Question 13

Unit of account 6

Possible units of account include:

• an individual right or individual obligation;
• all rights, all obligations, or all rights and all obligations, arising from a single source, for example, a contract;
• a subgroup of those rights or obligations, or both, for example, a subgroup of rights over an item of property, plant and equipment for which the useful life and pattern of consumption differ from those of the other rights over that item;
• a group of rights or obligations, or both, arising from a portfolio of similar items;

• a group of rights or obligations, or both, arising from a portfolio of dissimilar items (for example, a portfolio of assets and liabilities to be disposed of in a single
transaction); and

• a risk exposure within a portfolio of items; if a portfolio of items is subject to a common risk, some aspects of the accounting for that portfolio could focus on the
aggregate exposure to that risk within the portfolio.

Answer 13

Possible units of account include:

• an individual right or individual obligation;
• all rights, all obligations, or all rights and all obligations, arising from a single source, for example, a contract;
• a subgroup of those rights or obligations, or both, for example, a subgroup of rights over an item of property, plant and equipment for which the useful life and pattern of consumption differ from those of the other rights over that item;
• a group of rights or obligations, or both, arising from a portfolio of similar items;

• a group of rights or obligations, or both, arising from a portfolio of dissimilar items (for example, a portfolio of assets and liabilities to be disposed of in a single
transaction); and

• a risk exposure within a portfolio of items; if a portfolio of items is subject to a common risk, some aspects of the accounting for that portfolio could focus on the
aggregate exposure to that risk within the portfolio.

Question 14

Executory contracts 1

An executory contract is a contract, or a portion of a contract, that is equally unperformed.

That is, either: neither party has fulfilled any of its obligations, or both parties have partially fulfilled their obligations to an equal extent.

Answer 14

An executory contract is a contract, or a portion of a contract, that is equally unperformed.

That is, either: neither party has fulfilled any of its obligations, or both parties have partially fulfilled their obligations to an equal extent.

Question 15

Executory contracts 2

An executory contract establishes a combined right and obligation to exchange economic resources.

The right and obligation are interdependent and cannot be separated. Hence, the combined right and obligation constitute a single asset or liability. The entity has an asset if the terms of the exchange are currently favourable; it has a liability if the terms of the exchange are currently unfavourable. Whether such an asset or liability is included in the financial statements depends on both the recognition criteria and the measurement basis (see 9 below) selected for the asset or liability, including, if applicable, any test for whether the contract is onerous.

Answer 15

An executory contract establishes a combined right and obligation to exchange economic resources.

The right and obligation are interdependent and cannot be separated. Hence, the combined right and obligation constitute a single asset or liability. The entity has an asset if the terms of the exchange are currently favourable; it has a liability if the terms of the exchange are currently unfavourable. Whether such an asset or liability is included in the financial statements depends on both the recognition criteria and the measurement basis (see 9 below) selected for the asset or liability, including, if applicable, any test for whether the contract is onerous.

Question 16

Executory contracts 3

To the extent that either party fulfils its obligations under the contract, the contract is no longer executory.

If the reporting entity performs first under the contract, that performance is the event that changes the reporting entity’s right and obligation to exchange economic resources into a right to receive an economic resource. That right is an asset. If the other party performs first, that performance is the event that changes the reporting entity’s right and obligation to exchange economic resources into an obligation to transfer an economic resource. That obligation is a liability.

Answer 16

To the extent that either party fulfils its obligations under the contract, the contract is no longer executory.

If the reporting entity performs first under the contract, that performance is the event that changes the reporting entity’s right and obligation to exchange economic resources into a right to receive an economic resource. That right is an asset. If the other party performs first, that performance is the event that changes the reporting entity’s right and obligation to exchange economic resources into an obligation to transfer an economic resource. That obligation is a liability.

Question 17

Substance of contractual rights and contractual obligations 1

The terms of a contract create rights and obligations for an entity that is a party to that contract.

To represent those rights and obligations faithfully, financial statements report their substance. In some cases, the substance of the rights and obligations is clear from the legal form of the contract. In other cases, the terms of the contract or a group or series of contracts require analysis to identify the substance of the rights and obligations.

Answer 17

The terms of a contract create rights and obligations for an entity that is a party to that contract.

To represent those rights and obligations faithfully, financial statements report their substance. In some cases, the substance of the rights and obligations is clear from the legal form of the contract. In other cases, the terms of the contract or a group or series of contracts require analysis to identify the substance of the rights and obligations.

Question 18

Substance of contractual rights and contractual obligations 2

All terms in a contract, whether explicit or implicit, are considered unless they have no
substance.

Implicit terms could include, for example, obligations imposed by statute, such as statutory warranty obligations imposed on entities that enter into contracts to sell goods to customers.

Answer 18

All terms in a contract, whether explicit or implicit, are considered unless they have no
substance.

Implicit terms could include, for example, obligations imposed by statute, such as statutory warranty obligations imposed on entities that enter into contracts to sell goods to customers.

Question 19

Substance of contractual rights and contractual obligations 3

Terms that have no substance are disregarded.

A term has no substance if it has no discernible effect on the economics of the contract. Terms that have no substance could include, for example:

• terms that bind neither party; or
• rights, including options, that the holder will not have the practical ability to exercise in any circumstances.

Answer 19

Terms that have no substance are disregarded.

A term has no substance if it has no discernible effect on the economics of the contract. Terms that have no substance could include, for example:

• terms that bind neither party; or
• rights, including options, that the holder will not have the practical ability to exercise in any circumstances.

Question 20

Substance of contractual rights and contractual obligations 4

A group or series of contracts may achieve or be designed to achieve an overall
commercial effect.

To report the substance of such contracts, it may be necessary to treat rights and obligations arising from that group or series of contracts as a single unit of account. For example, if the rights or obligations in one contract merely nullify all the rights or obligations in another contract entered into at the same time with the same counterparty, the combined effect is that the two contracts create no rights or obligations. Conversely, if a single contract creates two or more sets of rights or obligations that could have been created through two or more separate contracts, an entity may need to account for each set as if it arose from separate contracts in order to represent faithfully the rights and obligations .

Answer 20

A group or series of contracts may achieve or be designed to achieve an overall
commercial effect.

To report the substance of such contracts, it may be necessary to treat rights and obligations arising from that group or series of contracts as a single unit of account. For example, if the rights or obligations in one contract merely nullify all the rights or obligations in another contract entered into at the same time with the same counterparty, the combined effect is that the two contracts create no rights or obligations. Conversely, if a single contract creates two or more sets of rights or obligations that could have been created through two or more separate contracts, an entity may need to account
for each set as if it arose from separate contracts in order to represent faithfully the rights and obligations

Question 21

Definition of assets

Definition of an asset is an economic resource subject to three criteria:

• it is a right of the entity;
• it has the potential to produce economic benefits; and
• it is controlled by the entity

Answer 21

Definition of an asset is an economic resource subject to three criteria:

• it is a right of the entity;
• it has the potential to produce economic benefits; and
• it is controlled by the entity

Question 22

Definition of assets - Rights 1

It is observed that rights that have the potential to produce economic benefits take many forms, including:

• rights that correspond to an obligation of another party (see 7.3.2 below), for
example, rights to:

• receive cash;
• receive goods or services;
• exchange economic resources with another party on favourable terms. Such rights include, for example, a forward contract to buy an economic resource on terms that are currently favourable or an option to buy an economic resource; and
• benefit from an obligation of another party to transfer an economic resource if a specified uncertain future event occurs;

• rights that do not correspond to an obligation of another party, for example, rights:

• over physical objects, such as property, plant and equipment or inventories. Examples of such rights are a right to use a physical object or a right to benefit
  from the residual value of a leased object; and
• to use intellectual property.

Answer 22

It is observed that rights that have the potential to produce economic benefits take many forms, including:

• rights that correspond to an obligation of another party (see 7.3.2 below), for
example, rights to:

• receive cash;
• receive goods or services;
• exchange economic resources with another party on favourable terms. Such rights include, for example, a forward contract to buy an economic resource on terms that are currently favourable or an option to buy an economic resource; and
• benefit from an obligation of another party to transfer an economic resource if a specified uncertain future event occurs;

• rights that do not correspond to an obligation of another party, for example, rights:

• over physical objects, such as property, plant and equipment or inventories. Examples of such rights are a right to use a physical object or a right to benefit
  from the residual value of a leased object; and
• to use intellectual property.

Question 23

Definition of assets - Rights 2

Many rights are established by contract, legislation or similar means.

For example, an entity might obtain rights from owning or leasing a physical object, from owning a debt instrument or an equity instrument, or from owning a registered patent. However, an
entity might also obtain rights in other ways, for example:

• by acquiring or creating know-how that is not in the public domain; or

• through an obligation of another party that arises because that other party has no practical ability to act in a manner inconsistent with its customary practices,
published policies or specific statements

Answer 23

Many rights are established by contract, legislation or similar means.

For example, an entity might obtain rights from owning or leasing a physical object, from owning a debt instrument or an equity instrument, or from owning a registered patent. However, an
entity might also obtain rights in other ways, for example:

• by acquiring or creating know-how that is not in the public domain; or

• through an obligation of another party that arises because that other party has no practical ability to act in a manner inconsistent with its customary practices,
published policies or specific statements

Question 24

Definition of assets - Rights 3

Some goods or services, for example, employee services, are received and immediately consumed. An entity’s right to obtain the economic benefits produced by such goods or services exists momentarily until the entity consumes the goods or services.

Answer 24

Some goods or services, for example, employee services, are received and immediately consumed. An entity’s right to obtain the economic benefits produced by such goods or services exists momentarily until the entity consumes the goods or services.

Question 25

Definition of assets - Rights 4

Not all of an entity’s rights are assets of that entity; to be assets the rights must also satisfy the other two criteria noted above (the potential to produce economic benefits, and, control,).

For example, rights available to all parties without significant cost – for instance, rights of access to public goods, such as public rights of way over land, or know-how that is in the public domain – are typically not assets for the entities that hold them.

Answer 25

Not all of an entity’s rights are assets of that entity; to be assets the rights must also satisfy the other two criteria noted above (the potential to produce economic benefits, and, control,).

For example, rights available to all parties without significant cost – for instance, rights of access to public
goods, such as public rights of way over land, or know-how that is in the public domain – are typically not assets for the entities that hold them.

Question 26

Definition of assets - Rights 5

An entity cannot have a right to obtain economic benefits from itself.

Accordingly:
• debt instruments or equity instruments issued by the entity and repurchased and held by it (for example, treasury shares) are not economic resources of that entity; and

• if a reporting entity comprises more than one legal entity, debt instruments or equity instruments issued by one of those legal entities and held by another of those legal entities are not economic resources of the reporting entity.

Answer 26

An entity cannot have a right to obtain economic benefits from itself.

Accordingly:
• debt instruments or equity instruments issued by the entity and repurchased and held by it (for example, treasury shares) are not economic resources of that entity; and

• if a reporting entity comprises more than one legal entity, debt instruments or equity instruments issued by one of those legal entities and held by another of those legal entities are not economic resources of the reporting entity.

Question 27

Definition of assets - Rights 6

In principle, each of an entity’s rights is a separate asset. However, for accounting purposes, related rights are often treated as a single unit of account that is a single asset (unit of account).

For example, legal ownership of a physical object may give rise to several rights, including:
• the right to use the object;
• the right to sell rights over the object;
• the right to pledge rights over the object; and
• other rights.

Answer 27

In principle, each of an entity’s rights is a separate asset. However, for accounting purposes, related rights are often treated as a single unit of account that is a single asset (unit of account).

For example, legal ownership of a physical object may give rise to several rights, including:
• the right to use the object;
• the right to sell rights over the object;
• the right to pledge rights over the object; and
• other rights.

Question 28

Definition of assets - Rights 7

In some cases, it is uncertain whether a right exists.

For example, an entity and another party might dispute whether the entity has a right to receive an economic resource from that other party. Until that existence uncertainty is resolved, for example, by a court
ruling, it is uncertain whether the entity has a right and, consequently, whether an asset exists

Answer 28

In some cases, it is uncertain whether a right exists.

For example, an entity and another party might dispute whether the entity has a right to receive an economic resource from that other party. Until that existence uncertainty is resolved, for example, by a court
ruling, it is uncertain whether the entity has a right and, consequently, whether an asset exists

Question 29

Definition of assets - Potential to produce economic benefits 1

An economic resource is a right that has the potential to produce economic benefits.

For that potential to exist, it does not need to be certain, or even likely, that the right will produce economic benefits. It is only necessary that the right already exists and that, in at least one circumstance, it would produce for the entity economic benefits beyond those available to all other parties.

Answer 29

An economic resource is a right that has the potential to produce economic benefits.

For that potential to exist, it does not need to be certain, or even likely, that the right will produce economic benefits. It is only necessary that the right already exists and that, in at least one circumstance, it would produce for the entity economic benefits beyond those available to all other parties.

Question 30

Definition of assets - Potential to produce economic benefits 2

A right can meet the definition of an economic resource, and hence can be an asset, even if the probability that it will produce economic benefits is low.

Nevertheless, that low probability might affect decisions about what information to provide about the asset and how to provide that information, including decisions about whether the asset is recognised and how it is measured

Answer 30

A right can meet the definition of an economic resource, and hence can be an asset, even if the probability that it will produce economic benefits is low.

Nevertheless, that low probability might affect decisions about what information to provide about the asset and how to provide that information, including decisions about whether the asset is recognised and how it is measured

Question 31

Definition of assets - Potential to produce economic benefits 3

An economic resource could produce economic benefits for an entity by entitling or enabling it to do, for example, one or more of the following:

• receive contractual cash flows or another economic resource;
• exchange economic resources with another party on favourable terms;
• produce cash inflows or avoid cash outflows by, for example:
  • using the economic resource either individually or in combination with other economic resources to produce goods or provide services;
  • using the economic resource to enhance the value of other economic resources; or
  • leasing the economic resource to another party;
• receive cash or other economic resources by selling the economic resource; or
• extinguish liabilities by transferring the economic resource.

Answer 31

An economic resource could produce economic benefits for an entity by entitling or enabling it to do, for example, one or more of the following:

• receive contractual cash flows or another economic resource;
• exchange economic resources with another party on favourable terms;
• produce cash inflows or avoid cash outflows by, for example:
  • using the economic resource either individually or in combination with other economic resources to produce goods or provide services;
  • using the economic resource to enhance the value of other economic resources; or
  • leasing the economic resource to another party;
• receive cash or other economic resources by selling the economic resource; or
• extinguish liabilities by transferring the economic resource.

Question 32

Definition of assets - Potential to produce economic benefits 4

Although an economic resource derives its value from its present potential to produce future economic benefits, the economic resource is the present right that contains that potential, not the future economic benefits that the right may produce.

For example, a purchased option derives its value from its potential to produce economic benefits through exercise of the option at a future date. However, the economic resource is the present right, that is the right to exercise the option at a future date. The economic resource is not the future economic benefits that the holder will receive if the option is exercised.

Answer 32

Although an economic resource derives its value from its present potential to produce future economic benefits, the economic resource is the present right that contains that potential, not the future economic benefits that the right may produce.

For example, a purchased option derives its value from its potential to produce economic benefits through exercise of the option at a future date. However, the economic resource is the present right, that is the right to exercise the option at a future date. The economic resource is not the future economic benefits that the holder will receive if the option is exercised.

Question 33

Definition of assets - Potential to produce economic benefits 5

There is a close association between incurring expenditure and acquiring assets, but the two do not necessarily coincide.

Hence, when an entity incurs expenditure, this may
provide evidence that the entity has sought future economic benefits, but does not provide conclusive proof that the entity has obtained an asset. Similarly, the absence of related expenditure does not preclude an item from meeting the definition of an asset. Assets can include, for example, rights that a government has granted to the entity free of charge or that another party has donated to the entity.

Answer 33

There is a close association between incurring expenditure and acquiring assets, but the two do not necessarily coincide.

Hence, when an entity incurs expenditure, this may
provide evidence that the entity has sought future economic benefits, but does not provide conclusive proof that the entity has obtained an asset. Similarly, the absence of related expenditure does not preclude an item from meeting the definition of an asset. Assets can include, for example, rights that a government has granted to the entity free of charge or that another party has donated to the entity.

Question 34

Definition of assets - Control 1

Control links an economic resource to an entity. Assessing whether control exists helps to identify the economic resource for which the entity accounts.

For example, an entity may control a proportionate share in a property without controlling the rights arising from ownership of the entire property. In such cases, the entity’s asset is the share in the property, which it controls, not the rights arising from ownership of the entire property, which it does not control.

Answer 34

Control links an economic resource to an entity. Assessing whether control exists helps to identify the economic resource for which the entity accounts.

For example, an entity may control a proportionate share in a property without controlling the rights arising from ownership of the entire property. In such cases, the entity’s asset is the share in the property, which it controls, not the rights arising from ownership of the entire property, which it does not control.

Question 35

Definition of assets - Control 2

An entity controls an economic resource if it has the present ability to direct the use of the economic resource and obtain the economic benefits that may flow from it.

Control includes the present ability to prevent other parties from directing the use of the economic resource and from obtaining the economic benefits that may flow from it. It follows that, if one party controls an economic resource, no other party controls that resource.

Answer 35

An entity controls an economic resource if it has the present ability to direct the use of the economic resource and obtain the economic benefits that may flow from it.

Control includes the present ability to prevent other parties from directing the use of the economic resource and from obtaining the economic benefits that may flow from it. It follows that, if one party controls an economic resource, no other party controls that resource.

Question 36

Definition of assets - Control 4

Control of an economic resource usually arises from an ability to enforce legal rights. However, control can also arise if an entity has other means of ensuring that it, and no other party, has the present ability to direct the use of the economic resource and obtain
the benefits that may flow from it.

For example, an entity could control a right to use
know-how that is not in the public domain if the entity has access to the know-how and the present ability to keep the know-how secret, even if that know-how is not protected by a registered patent.

Answer 36

Control of an economic resource usually arises from an ability to enforce legal rights. However, control can also arise if an entity has other means of ensuring that it, and no other party, has the present ability to direct the use of the economic resource and obtain
the benefits that may flow from it.

For example, an entity could control a right to use
know-how that is not in the public domain if the entity has access to the know-how and the present ability to keep the know-how secret, even if that know-how is not protected by a registered patent.

Question 37

Definition of assets - Control 5

For an entity to control an economic resource, the future economic benefits from that resource must flow to the entity either directly or indirectly rather than to another party.

This aspect of control does not imply that the entity can ensure that the resource will produce economic benefits in all circumstances. Instead, it means that if the resource produces economic benefits, the entity is the party that will obtain them either directly or indirectly.

Answer 37

For an entity to control an economic resource, the future economic benefits from that resource must flow to the entity either directly or indirectly rather than to another party.

This aspect of control does not imply that the entity can ensure that the resource will produce economic benefits in all circumstances. Instead, it means that if the resource produces economic benefits, the entity is the party that will obtain them either directly or indirectly.

Question 38

Definition of assets - Control 6

Having exposure to significant variations in the amount of the economic benefits produced by an economic resource may indicate that the entity controls the resource.

However, it is only one factor to consider in the overall assessment of whether control exists.

Answer 38

Having exposure to significant variations in the amount of the economic benefits produced by an economic resource may indicate that the entity controls the resource.

However, it is only one factor to consider in the overall assessment of whether control exists.

Question 39

Definition of assets - Control 7

Sometimes one party (a principal) engages another party (an agent) to act on behalf of, and for the benefit of, the principal.

For example, a principal may engage an agent to
arrange sales of goods controlled by the principal. If an agent has custody of an economic resource controlled by the principal, that economic resource is not an asset of the agent.

Furthermore, if the agent has an obligation to transfer to a third party an economic resource controlled by the principal, that obligation is not a liability of the
agent, because the economic resource that would be transferred is the principal’s economic resource, not the agent’s.

Answer 39

Sometimes one party (a principal) engages another party (an agent) to act on behalf of, and for the benefit of, the principal.

For example, a principal may engage an agent to
arrange sales of goods controlled by the principal. If an agent has custody of an economic resource controlled by the principal, that economic resource is not an asset
of the agent.

Furthermore, if the agent has an obligation to transfer to a third party an economic resource controlled by the principal, that obligation is not a liability of the
agent, because the economic resource that would be transferred is the principal’s economic resource, not the agent’s.

Question 40

Definition of liabilities

Liability as a present obligation of the entity to transfer an economic resource as a result of past events.

For a liability to exist, three criteria must all be satisfied:

• the entity has an obligation;
• the obligation is to transfer an economic resource; and
• the obligation is a present obligation that exists as a result of past events.

Answer 40

Liability as a present obligation of the entity to transfer an economic resource as a result of past events.

For a liability to exist, three criteria must all be satisfied:

• the entity has an obligation;
• the obligation is to transfer an economic resource; and
• the obligation is a present obligation that exists as a result of past events.

Question 41

Definition of liabilities - Obligation 1

An obligation is a duty or responsibility that an entity has no practical ability to avoid.

An obligation is always owed to another party (or parties). The other party (or parties) could be a person
or another entity, a group of people or other entities, or society at large. It is not necessary to know the identity of the party (or parties) to whom the obligation is owed.

Answer 41

An obligation is a duty or responsibility that an entity has no practical ability to avoid.

An obligation is always owed to another party (or parties). The other party (or parties) could be a person
or another entity, a group of people or other entities, or society at large. It is not necessary to know the identity of the party (or parties) to whom the obligation is owed.

Question 42

Definition of liabilities - Obligation 3

Many obligations are established by contract, legislation or similar means and are legally enforceable by the party (or parties) to whom they are owed.

Obligations can also arise, however, from an entity’s customary practices, published policies or specific statements if the entity has no practical ability to act in a manner inconsistent with those practices, policies or statements. The obligation that arises in such situations is sometimes referred to as a ‘constructive obligation’.

Answer 42

Many obligations are established by contract, legislation or similar means and are legally enforceable by the party (or parties) to whom they are owed.

Obligations can also arise, however, from an entity’s customary practices, published policies or specific statements if the entity has no practical ability to act in a manner inconsistent with those practices, policies or statements. The obligation that arises in such situations is sometimes referred to as a ‘constructive obligation’.

Question 43

Definition of liabilities - Obligation 4

In some situations, an entity’s duty or responsibility to transfer an economic resource is conditional on a particular future action that the entity itself may take.

Such actions could include operating a particular business or operating in a particular market on a
specified future date, or exercising particular options within a contract. In such situations, the entity has an obligation if it has no practical ability to avoid taking that action.

A conclusion that it is appropriate to prepare an entity’s financial statements on a going concern basis also implies a conclusion that the entity has no practical ability to avoid a transfer that could be avoided only by liquidating the entity or by ceasing to trade.

Answer 43

In some situations, an entity’s duty or responsibility to transfer an economic resource is conditional on a particular future action that the entity itself may take.

Such actions could include operating a particular business or operating in a particular market on a
specified future date, or exercising particular options within a contract. In such situations, the entity has an obligation if it has no practical ability to avoid taking that action.

A conclusion that it is appropriate to prepare an entity’s financial statements on a going concern basis also implies a conclusion that the entity has no practical ability to avoid a transfer that could be avoided only by liquidating the entity or by ceasing to trade.

Question 44

Definition of liabilities - Obligation 6

The factors used to assess whether an entity has the practical ability to avoid transferring an economic resource may depend on the nature of the entity’s duty or responsibility.

For example, in some cases, an entity may have no practical ability to avoid a transfer if any action that it could take to avoid the transfer would have economic consequences significantly more adverse than the transfer itself. However, neither an intention to make a transfer, nor a high likelihood of a transfer, is sufficient
reason for concluding that the entity has no practical ability to avoid a transfer.

Answer 44

The factors used to assess whether an entity has the practical ability to avoid transferring an economic resource may depend on the nature of the entity’s duty or responsibility.

For example, in some cases, an entity may have no practical ability to avoid a transfer if any action that it could take to avoid the transfer would have economic consequences significantly more adverse than the transfer itself. However, neither an intention to make a transfer, nor a high likelihood of a transfer, is sufficient
reason for concluding that the entity has no practical ability to avoid a transfer.

Question 45

Definition of liabilities - Obligation 7

In some cases, it is uncertain whether an obligation exists.

For example, if another party is seeking compensation for an entity’s alleged act of wrongdoing, it might be uncertain whether the act occurred, whether the entity committed it or how the law applies. Until that existence uncertainty is resolved, for example, by a court ruling, it is uncertain whether the entity has an obligation to the party seeking compensation and, consequently, whether a liability exists .

Answer 45

In some cases, it is uncertain whether an obligation exists.

For example, if another party is seeking compensation for an entity’s alleged act of wrongdoing, it might be uncertain whether the act occurred, whether the entity committed it or how the law applies. Until that existence uncertainty is resolved, for example, by a court ruling, it is uncertain whether the entity has an obligation to the party seeking compensation and, consequently, whether a liability exists .

Question 46

Definition of liabilities - Transfer an economic resource 1

The second criterion for a liability is that the obligation is to transfer an economic resource. To satisfy this criterion, the obligation must have the potential to require the entity to transfer an economic resource to another party (or parties).

For that potential to exist, it does not need to be certain, or even likely, that the entity will be required to
transfer an economic resource; the transfer may, for example, be required only if a specified uncertain future event occurs. It is only necessary that the obligation already exists and that, in at least one circumstance, it would require the entity to transfer an
economic resource.

Answer 46

The second criterion for a liability is that the obligation is to transfer an economic resource. To satisfy this criterion, the obligation must have the potential to require the entity to transfer an economic resource to another party (or parties).

For that potential to exist, it does not need to be certain, or even likely, that the entity will be required to
transfer an economic resource; the transfer may, for example, be required only if a specified uncertain future event occurs. It is only necessary that the obligation already exists and that, in at least one circumstance, it would require the entity to transfer an
economic resource.

Question 47

Definition of liabilities - Transfer an economic resource 2

An obligation can meet the definition of a liability even if the probability of a transfer of an economic resource is low.

Nevertheless, that low probability might affect decisions about what information to provide about the liability and how to provide that
information, including decisions about whether the liability is recognised and how it is measured.

Answer 47

An obligation can meet the definition of a liability even if the probability of a transfer of an economic resource is low.

Nevertheless, that low probability might affect decisions about what information to provide about the liability and how to provide that
information, including decisions about whether the liability is recognised and how it is measured.

Question 48

Definition of liabilities - Transfer an economic resource 3

Obligations to transfer an economic resource include, for example, obligations to:

• pay cash;
• deliver goods or provide services;
• exchange economic resources with another party on unfavourable terms. Such obligations include, for example, a forward contract to sell an economic resource on terms that are currently unfavourable or an option that entitles another party to buy an economic resource from the entity;
• transfer an economic resource if a specified uncertain future event occurs; and
• issue a financial instrument if that financial instrument will oblige the entity to transfer an economic resource.

Answer 48

Obligations to transfer an economic resource include, for example, obligations to:

• pay cash;
• deliver goods or provide services;
• exchange economic resources with another party on unfavourable terms. Such obligations include, for example, a forward contract to sell an economic resource on terms that are currently unfavourable or an option that entitles another party to buy an economic resource from the entity;
• transfer an economic resource if a specified uncertain future event occurs; and
• issue a financial instrument if that financial instrument will oblige the entity to transfer an economic resource.

Question 49

Definition of liabilities - Transfer an economic resource 3

Obligations to transfer an economic resource include, for example, obligations to:

• pay cash;
• deliver goods or provide services;

• exchange economic resources with another party on unfavourable terms.
Such obligations include, for example, a forward contract to sell an economic resource on terms that are currently unfavourable or an option that entitles another party to buy an economic resource from the entity;

• transfer an economic resource if a specified uncertain future event occurs;
• issue a financial instrument if that financial instrument will oblige the entity to transfer an economic resource.

Answer 49

Obligations to transfer an economic resource include, for example, obligations to:

• pay cash;
• deliver goods or provide services;

• exchange economic resources with another party on unfavourable terms.
Such obligations include, for example, a forward contract to sell an economic resource on terms that are currently unfavourable or an option that entitles another party to buy an economic resource from the entity;

• transfer an economic resource if a specified uncertain future event occurs; and
• issue a financial instrument if that financial instrument will oblige the entity to transfer an economic resource.

Question 50

Definition of liabilities - Transfer an economic resource 4

Instead of fulfilling an obligation to transfer an economic resource to the party that has a right to receive that resource, entities sometimes decide to, for example:

• settle the obligation by negotiating a release from the obligation;
• transfer the obligation to a third party; or

• replace that obligation to transfer an economic resource with another obligation by entering into a new transaction.
In these situations, an entity has the obligation to transfer an economic resource until it has settled, transferred or replaced that obligation.

Answer 50

Instead of fulfilling an obligation to transfer an economic resource to the party that has a right to receive that resource, entities sometimes decide to, for example:

• settle the obligation by negotiating a release from the obligation;
• transfer the obligation to a third party; or

• replace that obligation to transfer an economic resource with another obligation by entering into a new transaction.
In these situations, an entity has the obligation to transfer an economic resource until it has settled, transferred or replaced that obligation.

Question 51

Definition of liabilities - Present obligation existing as a result of past events 1

The third criterion for a liability is that the obligation is a present obligation that exists as a result of past events.

That is:
• the entity has already obtained economic benefits or taken an action; and

• as a consequence, the entity will or may have to transfer an economic resource that it would not otherwise have had to transfer.

Answer 51

The third criterion for a liability is that the obligation is a present obligation that exists as a result of past events.

That is:
• the entity has already obtained economic benefits or taken an action; and

• as a consequence, the entity will or may have to transfer an economic resource that it would not otherwise have had to transfer.

Question 52

Definition of liabilities - Present obligation existing as a result of past events 2

The economic benefits obtained could include, for example, goods or services. The action taken could include, for example, operating a particular business or operating in a particular market. If economic benefits are obtained, or an action is taken, over time, the resulting present obligation may accumulate over that time.

Answer 52

The economic benefits obtained could include, for example, goods or services. The action taken could include, for example, operating a particular business or operating in a particular market. If economic benefits are obtained, or an action is taken, over time, the resulting present obligation may accumulate over that time.

Question 53

Definition of liabilities - Present obligation existing as a result of past events 3

If new legislation is enacted, a present obligation arises only when, as a consequence of obtaining economic benefits or taking an action to which that legislation applies, an entity will or may have to transfer an economic resource that it would not otherwise have had to transfer.

The enactment of legislation is not in itself sufficient to give an entity a present obligation. Similarly, an entity’s customary practice, published policy or specific statement of the type mentioned at 7.3.1 above (obligation) gives rise to a present obligation only when, as a consequence of obtaining economic benefits, or taking an action, to which that practice, policy or statement applies, the entity will or may have
to transfer an economic resource that it would not otherwise have had to transfer.

Answer 53

If new legislation is enacted, a present obligation arises only when, as a consequence of obtaining economic benefits or taking an action to which that legislation applies, an entity will or may have to transfer an economic resource that it would not otherwise have had to transfer.

The enactment of legislation is not in itself sufficient to give an entity a present obligation. Similarly, an entity’s customary practice, published policy or specific statement of the type mentioned at 7.3.1 above (obligation) gives rise to a present obligation only when, as a consequence of obtaining economic benefits, or taking an action, to which that practice, policy or statement applies, the entity will or may have
to transfer an economic resource that it would not otherwise have had to transfer.

Question 54

Definition of liabilities - Present obligation existing as a result of past events 4

A present obligation can exist even if a transfer of economic resources cannot be enforced until some point in the future.

For example, a contractual liability to pay cash may exist now even if the contract does not require a payment until a future date.

Similarly, a contractual obligation for an entity to perform work at a future date may exist now even if the counter-party cannot require the entity to perform the work until that future date.

Answer 54

A present obligation can exist even if a transfer of economic resources cannot be enforced until some point in the future.

For example, a contractual liability to pay cash may exist now even if the contract does not require a payment until a future date.

Similarly, a contractual obligation for an entity to perform work at a future date may exist now even if the counter-party cannot require the entity to perform the work until that future date.

Question 55

Definition of liabilities - Present obligation existing as a result of past events 5

An entity does not yet have a present obligation to transfer an economic resource if it has not yet obtained economic benefits, or taken an action, that would or could require the entity to transfer an economic resource that it would not otherwise have had to transfer.

For example, if an entity has entered into a contract to pay an employee a salary in exchange for receiving the employee’s services, the entity does not have a present obligation to pay the salary until it has received the employee’s services. Before then the
contract is executory; the entity has a combined right and obligation to exchange future salary for future employee services (executory contracts are discussed above).

Answer 55

An entity does not yet have a present obligation to transfer an economic resource if it has not yet obtained economic benefits, or taken an action, that would or could require the entity to transfer an economic resource that it would not otherwise have had to transfer.

For example, if an entity has entered into a contract to pay an employee a salary in exchange for receiving the employee’s services, the entity does not have a present obligation to pay the salary until it has received the employee’s services. Before then the
contract is executory; the entity has a combined right and obligation to exchange future salary for future employee services (executory contracts are discussed above).

Question 56

Definition of equity 1

Equity is the residual interest in the assets of the entity after deducting all its liabilities; accordingly, equity claims are claims on this residual interest.

Put another way, equity claims are claims against the entity that do not meet the definition of a liability. Such claims may be established by contract, legislation or similar means, and include, to the extent that they do not meet the definition of a liability:

• shares of various types, issued by the entity; and
• some obligations of the entity to issue another equity claim.

Answer 56

Equity is the residual interest in the assets of the entity after deducting all its liabilities; accordingly, equity claims are claims on this residual interest.

Put another way, equity claims are claims against the entity that do not meet the definition of a liability. Such claims may be established by contract, legislation or similar means, and include, to the extent that they do not meet the definition of a liability:

• shares of various types, issued by the entity; and
• some obligations of the entity to issue another equity claim.

Question 57

Definition of equity 2

Different classes of equity claims, such as ordinary shares and preference shares, may confer on their holders different rights, for example, rights to receive some or all of the following from the entity:

• dividends, if the entity decides to pay dividends to eligible holders;
• the proceeds from satisfying the equity claims, either in full on liquidation, or in part at other times; or
• other equity claims.

Answer 57

Different classes of equity claims, such as ordinary shares and preference shares, may confer on their holders different rights, for example, rights to receive some or all of the following from the entity:

• dividends, if the entity decides to pay dividends to eligible holders;
• the proceeds from satisfying the equity claims, either in full on liquidation, or in part at other times; or
• other equity claims.

Question 58

Definition of equity 3

Sometimes, legal, regulatory or other requirements affect particular components of equity, such as share capital or retained earnings.

For example, some such requirements permit an entity to make distributions to holders of equity claims only if the entity has sufficient reserves that those requirements specify as being distributable.

Answer 58

Sometimes, legal, regulatory or other requirements affect particular components of equity, such as share capital or retained earnings.

For example, some such requirements permit an entity to make distributions to holders of equity claims only if the entity has sufficient reserves that those requirements specify as being distributable.

Question 59

Definition of equity 4

Business activities are often undertaken by entities such as sole proprietorships, partnerships, trusts or various types of government business undertakings. The legal and regulatory frameworks for such entities are often different from frameworks that apply to corporate entities.

For example, there may be few, if any, restrictions on the distribution to holders of equity claims against such entities. Nevertheless, the Framework makes clear that the definition of equity applies to all reporting entities.

Answer 59

Business activities are often undertaken by entities such as sole proprietorships, partnerships, trusts or various types of government business undertakings. The legal and regulatory frameworks for such entities are often different from frameworks that apply to corporate entities.

For example, there may be few, if any, restrictions on the distribution to holders of equity claims against such entities. Nevertheless, the Framework makes clear that the definition of equity applies to all reporting entities.

Question 60

Definition of income and expenses 1

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

Users of financial statements need information about both an entity’s financial position and its financial performance.

Hence, although income and expenses are defined in terms of changes in assets and liabilities, information about income and expenses is just as important as information about assets and liabilities.

Answer 60

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

Users of financial statements need information about both an entity’s financial position and its financial performance.

Hence, although income and expenses are defined in terms of changes in assets and liabilities, information about income and expenses is just as important as information about assets and liabilities.

Question 61

Definition of income and expenses 2

• Income is increases in assets, or decreases in liabilities, that result in increases in equity, other than those relating to contributions from holders of equity claims;
• Expenses are decreases in assets, or increases in liabilities, that result in decreases in equity, other than those relating to distributions to holders of equity claims; each excluding those relating to contributions from holders of equity claims; accordingly:
• Contributions from holders of equity claims are not income; and
• Distributions to holders of equity claims are not expenses.

Answer 61

• Income is increases in assets, or decreases in liabilities, that result in increases in equity, other than those relating to contributions from holders of equity claims;
• Expenses are decreases in assets, or increases in liabilities, that result in decreases in equity, other than those relating to distributions to holders of equity claims; each excluding those relating to contributions from holders of equity claims; accordingly:
• Contributions from holders of equity claims are not income; and
• Distributions to holders of equity claims are not

Question 62

Definition of income and expenses 3

Different transactions and other events generate income and expenses with different characteristics.

Providing information separately about income and expenses with different characteristics can help users of financial statements to understand the entity’s
financial performance

Answer 62

Different transactions and other events generate income and expenses with different characteristics.

Providing information separately about income and expenses with different characteristics can help users of financial statements to understand the entity’s
financial performance