Revision of Conceptual Framework of Accounting: Impact on Financial Reporting

This report analyzes the changes made by IASB in the conceptual framework of accounting, including the impact on financial reporting parameters, improvements made in the CF, and the need for stewardship in financial reporting.

Advanced Financial Accounting
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Introduction
The revision of the Conceptual Framework (CF) has been undertaken by IASB for
improving the quality of financial information disclosed by the business entities. The revision
aims to address the gaps or potential issues existing in conceptual framework of accounting to
assist the preparers of financial statements in a better way. This report has analyzed and examine
the different changes that have been implemented by the IASB in the conceptual framework.
This includes a detail discussion about the objective of the CF and the significant changes
introduced in measurement basis and definition of elements of financial statements. Also, it
discusses about the need for assessing the stewardship of information for achieving the objective
of financial reporting. Lastly, it examines the arguments for determining the need for revision of
the CF for developing a better basis for setting of accounting standards.
1. Explanation of the Objectives and Purpose of the Conceptual Framework of Accounting
The conceptual framework has been developed by the IASB for underlying the
development and presentation of financial statements. It provides a guiding framework for
developing the accounting principles and methods required for reporting the financial transaction
at the time of preparing the financial reports. Its purpose is stated as follows:
 To aid the IASB in developing the financial reporting standards that can be applied
internationally
 Aids IASB in promoting harmonization of accounting regulations and standards in
relation to the presentation of financial statements. This is required for developing a
uniform set of accounting rules and reducing the variability present in relation to
accounting treatment of financial items
 To aid the national and international accounting bodies in development of the accounting
standards
 To provide support and guidance to the developers of financial statements in application
of IFRS (A Review of the Conceptual Framework for Financial Reporting, 2014)
 To provide guidance to the auditors in developing an opinion on the materiality and
integrity of the financial statements and examining the extent of their compliance with
IFRS
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 To provide understandable information to the financial statements users so that it can be
easily interpreted by them
 To provide an insight about the approach and formulation of IFRS for giving assistance
to those who are interested in working with IASB (Sutton Cordery and Zijl, 2015)
The objective of the CF can be stated as follows:
 To provide useful and relevant financial information to the users about a reporting entity
 To disclose the financial information that is capable to aid the users such as investors,
lenders and creditors in making decisions regarding providing resources to an entity
 The financial information disclosed should be related to the resources possessed by an
entity, claims that are present against it and the effectiveness of the management of an
entity and its governing bodies in carrying out their responsibilities using an entity
resources (IASB's Conceptual Framework for Financial Reporting, 2018)
2: Impact of the revision of the conceptual framework on the various parameters of the
financial reporting
 The revision of conceptual framework has been performed to made specific changes in
criteria provided in measurement, presentation and disclosure, definition of elements of
the financial statements and important of stewardship and prudence in the financial
reporting. In this section there will specific discussion on why IASB has opted to change
the conceptual framework in relation to the following parameters:
 Measurement, presentation and disclosure: There have been significant changes made in
the measurement concepts as defined in the conceptual framework. There has been
addition to the measurement concepts in relation to the factors that has to be considered
when there is need to select the measurement basis. Presentation and disclosure is one of
major parameter that defines the quality of financial reporting as it allows the users of the
financial report to read and understand the financial data in easy manner and make
comparison. There have been significant changes in presentation and disclosure chapter
of conceptual framework as this chapter has been amended to add how to classify the
income and expenses in other comprehensive income statement. It has been noted that
previous CF does not provides enough or very little information on the elements of the
financial statements are being measurement to present them in the financial statements.
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The amended measurement chapter aims to provide the factors that need to consider
when there is need to select the most appropriate measurement basis to calculate the
value of elements presented in the financial statements. With the help of such information
it is easy for the accounts maker to decide this measurement basis will help to calculate
value of financial items that depicts the clear and fair image of financial statements. All
measurement bases have been updated to make them clearer than before and easy to
apply. The presentation and disclosure chapter has been newly added and there is still
discussion going on to make it as per the requirement defined in objectives of conceptual
framework. This chapter has been added because there is no guidance given in previous
CF on how to present the financial information. This chapter helps with information on
how to present and disclose the financial information in financial statements and notes to
accounts in relation profit and loss and other comprehensive income statement. This
brings in uniformity in reporting of financial items in profit and loss account (IASB's
Conceptual Framework for Financial Reporting, 2018).
 Definitions of assets and liabilities and their recognition criteria: The definition of asset
has been amended by the IASB to give effect to the actual essence of assets. Assets are
now defined as economic resource that entity controlled because of past event. It clarifies
that there is no need of inflow of economic benefits to recognize the assets. The change
of definition of assets helps to classify the financial items as an asset in easy manner as
compared to previous definition that requires each asset to be verified for flow of
economic benefits before recognizing them as an asset. There is no certainty that
economic benefits will flow to the organization in every case. Definition of asset has also
altered to give effect to problem faced in previous definition. In previous definition there
is requirement to check outflow of economic benefits before recognition any item as
liability and there is no obligation on companies to treat the required financial item as
liability. So, to make correction the new definition has been provided that clearly states
that obligation of company with practical ability to avoid it and to provide that liability is
a transfer of economic resources not the outflow of economic benefits. Recognition of
assets and liabilities has been provided in previous CF but it is not according to new
definition of an asset and liability. So, to consider new definition of assets and liabilities
there is need to change the phenomenon of recognition of assets and liabilities in the
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financial statements. In previous CF there is no provision related to when to derecognize
the assets and liabilities once they are recognized. So to make provision regarding how to
derecognize the assets and liabilities it is very important to provide complete information
in new CF (Lennard, 2007).
 The role of stewardship and prudence in reporting requirement: There are many
misconceptions going on why stewardship in financial information is needed to achieve
the objectives of reporting requirement. In order to provide clear clarification regarding
why information is used to test for stewardship to achieve the objective of CF, there is
need to redefine the role of stewardship in financial reporting. The role prudence is also
been redefined in new conceptual framework to provide the proper clarification regarding
its role in decision usefulness while making the judgments regarding elements of
financial statements (A Review of the Conceptual Framework for Financial Reporting, 2014).
3. Improvements made in the CF in relation to the following:
a. Factors taken in Consideration in Selection of a Measurement Basis
 Relevance and Faithful Presentation: The developers of financial statement must keep in
mind that the selected measurement basis should able to disclose fair and realistic view of
the financial performance of an entity to the users. In this context, it is important for
determining the contribution of an asset or liability to the future cash flows. The level of
uncertainty present in a measurement basis should also be considered for providing
relevant financial information. Also, the assets and liabilities related with each other
should be measured using the same type of measurement basis for overcoming the
inconsistency in the financial reporting (Orrell, 2015).
 Enhancing Qualitative Characteristics: The measurement basis selected should be able to
disclose comparable, verifiable and understandable financial information. This requires
that business entities need to adopt the use of same type of measurement method across
entities for ensuring it to be comparable. Verifiable means the measurement basis
selected should result in deriving the financial outcomes that can be verified either
through direct observation or by indirect methods. Also, the measurement basis selected
should be easy to understand and interpret by the users in accordance with the
understandability principle.
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 Initial Recognition: The developers should also consider the exchanging items of similar
value, transactions with holders of equity claims, exchanging items of different value and
internal construction of an asset during initial recognition of an asset and liability
(Brouwer, Hoogendoorn and Naarding, 2015).
b. classification of income and expenses in other comprehensive income
IASB has also proposed changes in relation to classifying of certain income and expenses
that should be reported outside the statement of profit and loss and included in comprehensive
income. The income or expenses should be reported in comprehensive income that relates to the
assets or liabilities measured at current values. The income or expense should only be excluded
form the statement of profit and loss if it results in improving its relevance (Gaffikin, 2003). It
has also been provided by the revised framework of financial reporting that such income or
expenses that are reported in the comprehensive income in a reporting period are liable to be
transferred into the profit and loss statement in a future period (Craig, Smieliauskas and Armenic,
2017).
c. Guidance on removing the assets and liabilities from the financial statements
The conceptual framework revised has also provided the necessary guidelines to be
followed for derecognition of an asset or liability from the financial statements. An asset is
derecognized from the financial statement only it losses control on it and liability is derecognized
when it does not have any obligation for it completely or on part of its previously recognized.
The removal of an asset or a liability from the financial statement should be followed by faithful
presentation of the event that is responsible for its derecognition and the significant changes that
have been occurred in them as result of such an event. This should be achieved by recognition of
any income or expense that have been derived during derecognition of any asset or liability that
have been transferred (Camfferman and Zeff, 2015).
4. How revised conceptual framework updated provisions regarding the assets and
liabilities
Assets and liabilities are the most important elements of the financial statements and
IASB has decided to change the definition of assets and liabilities in revised CF. There was also
change in recognition criteria of assets and liabilities to provide maintain the similarity with the
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definition. Revised CF contains information on when and how to derecognize the assets and
liabilities which have not even discussed in previous CF. Previously the definition of an asset
provides an expected flow of economic benefits but it is not always possible that economic
benefits will flow to the entity. So to come over this issue it has been decided to remove the word
expected flow from the definition. Now assets is redefined as economic resource instead of
simple resource and separate definition of economic resource is included to provide clarity that
economic resource has capability to provide economic benefits to the entity. As per new
definition low probability of economic benefits can impact the decision of company to recognize
and measure them which is very important from the viewpoint of financial position of the
company (IASB's Conceptual Framework for Financial Reporting, 2018).
Liabilities are previously defined as outflow of economic benefits and it has obligation on
entity but there is no proper consideration given to the obligation criteria and economic benefits.
Previously obligation on entity has no practical impact on them which has been now rectified by
adding the words “no practical ability to avoid”. Also, to give concern to definition of an asset,
economic benefits has been rectified with economic resources.
Recognition criteria is based on two most concepts that are relevance and faithful
representation. Previously a recognition criterion is based on definition of elements which is not
fulfilling the objectives of financial reporting. So IASB has updated the recognition criteria
through making it based on qualitative characteristics of financial information. It means if
information is relevant and provides faithful representation than it can be presented in financial
statement otherwise not. In previous CF there is no information regarding on how to derecognize
the elements which is very important according to qualitative characteristics. Now it has been
updated in new CF so to provide guidance on how to derecognize the assets and liabilities ( A
Review of the Conceptual Framework for Financial Reporting, 2014).
5. Explanation of need for the Information Used in Assessing Stewardship to Achieve the
Objective of Financial Reporting
IASB have recognized the importance of incorporating stewardship into the objective of
financial reporting besides only relying on the decision-usefulness as it main objective. The
information required for examining the stewardship of an entity should be encompassed into the
objective of financial reporting. This is because both the objectives are required for ensuring that
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the financial information disclosed is relevant for the end-users to take the accurate decisions
(Barker, 2015). Stewardship contributes an important dimension in the financial reporting and
therefore it sis necessary for the o be acknowledged in the objectives of financial reporting. The
accounting bodies such as IASB and FASB have recognized the importance of stewardship
based on agency theory. The theory has determined the relation between an agent and principal
in the accounting context. It has been stated by the theory that business managers act as an agent
on the behalf of the owners that are its shareholders. As such, the major aim of the agent should
be to act in the welfare of its owners, that is, the shareholders to generate maximum value for
them. It can be said based on agency theory that information required for examining the integrity
and competency of business managers s required to ensure that they take right decision for
promoting the welfare of the owners. As such, it is required that the information disclosed by the
business managers must be complete and error-free so that it maximize the rerun for shareholders
by achieving trust in the eyes of stakeholders (Kolitz, 2016).
It has been sated by the IASB that their does not exist a conflict between the decision-
usefulness and stewardship objectives as the information that is required to be met the objective
of stewardship is also necessary for ensuring its decision-usefulness. However, it should be kept
in the mind by the business managers that stewardship should not be excluded from the financial
information as it poses a major risk before the entities for not disclosing true and integrated
financial information. The revised conceptual framework has identified major role of
stewardship rathe than only providing it a supporting role. The information provided by an entity
through development of financial reports must be able to develop a constructive dialogue
between the management and shareholders (Lennard, 2007).
6: Identification and explanation for the arguments on the requirement to revise the
conceptual framework
There are many arguments that previous CF does not cover the important aspects that can
fulfill the criterion of decision usefulness. For example, measurement chapter does not provide
enough information on how measurement basis can be applied for each item of financial
statement. There was no separate information on disclosure and presentation of financial
elements which is very important to be provided in conceptual framework. After adding the
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separate chapter on disclosure and presentation of financial elements it is now clearer on how to
present the financial elements in the financial statements.
Definition of assets and liabilities is not clear and there is much scope improvement in
various areas. For example, the condition of expected flow of economic benefits does not fulfill
the criteria to treat any item as an asset as it is not always possible that assets give generates flow
of cash. Liabilities provide obligation but obligation is not clearly defined which has now be
defined as binding impact on entity which has no practical ability with management to be
avoided. Thus, it can be said that definition of assets and liabilities has now greater meaning as
before (IASB's Conceptual Framework for Financial Reporting, 2018).
Conclusion
Thus, it can be stated from the overall discussion held in the report that the revisions
introduced in the conceptual framework of accounting are intended to improve the quality of
financial reporting. This is done for protecting the interests of the stakeholders for ensuring that
they are provided with maximum returns. The revisions introduced in the context of defining the
objective and nature of financial reporting, definition of assets and liabilities, measurement basis
selection, recognition and derecognition of financial statements and role of stewardship and
prudence in financial reporting has improved its significance in determining the nature of
reporting process used by business entities to disclose their financial results.
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