A framework approach
What’s an accounting framework?
- An accounting conceptual framework is a theory that explains the reasoning which underlies the preparation of financial statements.
- A framework sets out generally accepted accounting principles, which form the basis of financial accounting and reporting standards.
Objective of financial statements
What is the objective of financial statements?
- The objective of financial statements is to provide financial information about the reporting entity that is useful to existing and potential investors, lenders and other creditors in making decisions.
Characteristics of useful financial information
What are the useful financial information characterised by?
- Useful information is characterised by qualities that may be characterised as:
- Fundamental (i.e. essential)
- Enhancing (i.e. a further improvement)
What are the fundamental qualitative characteristics?
- Relevance ; information is relevant when it influences the decisions that users take on the basis of that information. Relevant info helps users to assess past, present or future events (predictive value) and helps users to confirm past assessments (confirmatory value).Information needs to be material to be relevant to any users.
- Faithful representation ; *This means that information is generally complete, neutral and free from error. Implying that the financial information provided should reflect the economoic substance of transactions, even where this is different from their legal form.
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What are enhancing qualitative characteristics?
- Comparability : users should be able to compare items within the financial statements from period to period and should be able to compare the financial statements of different entities.
- Verifiability : Different knowledgedable and independent observers should be able to reach a consesus (not necessarily complete agreement) that particular information is faithfully represented.
Some figures in a set financial statments can be directly verified e.g. by counting cash. - Timeliness - to be useful, information must be provided to users within a reasonable time.
- Understandability - Information should be presented in such a way that it is understandable by users with reasonable business knowledge.
Accounting Concepts
Going concern - the underlying assumption
- Financial statements are normally prepared on the assumption that the company is a going concern meaning it will continue in the foreseeable future.
- If the company is not a going concern this fact must be disclosed within the financial statements provided.
Other concepts
What are the other concepts?
- Materiality : information is material if omitting it or misstating it could influence the decisions that users might make based on a set of financial statements.
- Substance over form : Faithful representation implies that financial info should reflect the economic substance of an entity’s transactions.
- Business entity / seperate entity concept : The business is a seperate entity from its owner. Double entry bookkeeping is based around this concept.
- Accruals : Accruals concept states that income and expenses should be recognised in the period in which they have been earned or incurred, rather than when cash is received or paid.
- Consistency : A business should use the same accounting treatment for similar events and transactions over a period of time. This leads to comparability.
- **Prudence **: This concept involves the exercise of caution when making judgements under conditions of uncertainty. The exercise of prudence means that assets and income are not overstated and liabilities and expenses are not understated.
Historic Cost Concept
Tell me about historic costs concepts
- Transactions are recorded at their historic cost, in other words, the amount paid or invoiced.
- Historic cost enhaches verifiability and understandability of financial statements.
- Historic cost may not help with relevance or comparability.
IN PERIODS OF RISING PRICES HISTORIC COST ACCOUNTING MAY OVERSTATE PROFIT AND UNDERSTATE ASSET VALUES.
Historic Cost Concept
Alternative value methods
- Fair value : the amount received or paid to sell an asset or transfer a liability in arm’s length transaction
-** Value in use** - the present value of the future cash flows associated with an asset or liability.
- **Net realisable value **- the net amount of cash that is expected to be received/ paid upon selling/settling that item.
- Current cost - the amount of cash that would be paid today to acquire an equivalent asset. This method is used in times of high inflation.
Accounting policies
Tell me about accounting policies
- Accounting policies are the specific principles, conventions, rules, and practices applied by an entity in order to reflect the effects of transactions in the financial statements.
- The same accounting policies shiuld be adopted from year to year (consistency)
- Changes should be rare and only made if required: 1) By a change in accounting standards or 2) if the change will result in a more appropriate presentation of information
- A change in accounting policy should be applied retrospectively, i.e. as though the new policy had always applied.
- A change in an accounting estimate is an adjustment to the estimation technique that helps to calculate the carrying amount of an asset or liability.
What is the statement of profit or loss
Key terms to remember when it comes to Statement or profit or loss (SPL)
- Revenue aka (sales)
-** Revenue expenditure** : expenses incurred in everyday trading
- Cost of sales : Direct costs incurred in selling goods or services adjusted for movements in inventory
- Gross profit : The excess of revenue over cost of sales
- Other expenses : All other costs incurred by the business
- Net profit : The excess of revenue over total expenses
What’s the statment of financial position?
- SFP ; the statement of financial position is sometimes called (Balance sheet) is a snapshot of the businesses assets and liabilities at a particular date.
Assets = liabilities + equity
Statement of financial position
What are assets?
Assets - are a present economic resource which is controlled by a business, e.g. something that the business owns or uses.
- An economic resource is a right that has the potential to produce economic benefits.
Assets : items you “own”
Statement of financial position
List the different types of assets
- Non current assets : assets used over a period of more than one year
- Intangible asset : Has no physical existence but still has an ongoing value to the business. Example is license or patent, goodwill
- Tangible asset : A physical object that can be seen/touched. Examples : land & buildings, computers, furniture, motor vehicles
- Current assets : Assets that continually flow through the business and are generally used within one year. Example: inventory (the value of goods not sold yet), Receivables (amounts owed by customers), Cash at bank
Statement of financial position
What is capital?
Capital is the owners stake in the business / what the business owes the owner (in companies this is known as “share capital”.
Capital is also known as equity.
- Equity = the residual interest in the assets of an entity after deducting all it’s liabilities.
EQUITY (capital) = assets - liabilities
Statement of financial position
What are liabilities and the types of liabilities?
- Liability : A present obligation to transfer an economic resource e.g. something owing to someone else.
-* 2 types of liabilities*
- Non-current liabilities : Amounts repayable after more than one year e.g. Bank loan
- Current liabilities : Amounts repayable within one year. E.g. Bank overdraft, trade payables
what are integrated reports?
- **Integrated reports **: report to stakeholders on the strategy, performance and activities of an organisation to create and sustain value over the short, medium, and long term.
What is a stakeholder?
A stakeholder is any person or organisation with an interest in the activities of a business entity. This can include, employees, customers, suppliers, business partners, local communities, legislators, regulators, and policy makers, as well as investors and lenders.
Principles and elements of an integrated report
The International <IR> Framework</IR>
This explains the principles and concepts which should be followed in preparing an integrated report and sets out the elements that should be included.
Principles and elements of an integrated report : Guiding principl
Strategic focus and future orientation
The report should provide insight into the entity’s strategy, and how this relates to its ability to create value.
Principles and elements of an integrated report : Guiding principl
Connectivity of information
The report should show a complete picture of the factors (and their interrelationships) that affect the entity’s ability to create value over time.
Principles and elements of an integrated report : Guiding principl
Stakeholder relationships
The report should provide insight into the nature and quality of the entity’s relationships with its key stakeholders.
Principles and elements of an integrated report : Guiding principl
Materiality
The report should disclose information about matters that substantively affect the entity’s ability to create value.
