Week 01 - 02 - Module 02 - Financial Reporting Standards

FINANCIAL ACCOUNTING & REPORTING 1
1
Financial Reporting Standards Council and Conceptual Framework for the
Preparation and Presentation of Financial statements
Module 002 Financial Reporting Standards

Council and Conceptual Framework for the
Preparation and Presentation of Financial
statements
The FRSC is the successor of the Accounting Standards Council (ASC). The
ASC was created in November 1981 by the Philippine Institute of Certified
Public Accountants (PICPA) to establish generally accepted accounting
principles in the Philippines. The document that underpins the IASB’s
philosophy of financial reporting is the Framework for the Preparation and
Presentation of Financial Statements. The elements of financial statements
are Asset, Liability, Equity, Income, and Expense.Net income is the amount an
entity can distribute to its owners and be as well-off at the end of the year as
at the beginning. Capital maintenance concepts consist of financial capital
maintenance and physical capital maintenance.
At the end of this module, you will be able to:

1. Understand the details of the Financial Reporting Standards Council
2. Explain the Conceptual Framework for the Preparation and Presentation
of Financial Statements
3. Identify the elements of financial statements
4. Understand the concepts of capital and capital maintenance
The common application of the lessons that are under this module consists of
being able to distinguish the elements in the financial statements and
understand the rationale behind their classification.
Financial Reporting Standards Council (Creation, objectives, and functions;

Membership/composition; Standard setting process)
CREATION
The FRSC is the successor of the Accounting Standards Council (ASC). The ASC was
created in November 1981 by the Philippine Institute of Certified Public Accountants
(PICPA) to establish generally accepted accounting principles in the Philippines.
OBJECTIVES AND FUNCTIONS

The objectives of the council in harmonizing the PAS with the IAS were as follows:
• To develop, in the public interest, a single set of high-quality, understandable, and
enforceable accounting standards that require high-quality, transparent, and
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comparable information in financial statements and other financial reporting to help

participants in the various capital markets and other users of the information to
make economic decisions,
• To promote the usage and rigorous application of those standards, and
• To work the convergence of PAS with IFRS, issued by the IASB and its predecessor,
the IASC.
The FRSC was established by the Professional Regulatory Commission under the
Implementing Rules and Regulations of the Philippine Accountancy of Act of 2004:
• To establish generally accepted accounting principles in the Philippines. (main

function)
• To assist the Board of Accountancy (BOA) in carrying out its power and function to
promulgate accounting standards in the Philippines.
• To carry on the decision made by the ASC to converge Philippine accounting
standards with international accounting standards issued by the IASB.
• Has full discretion in developing and pursuing the technical agenda for setting
accounting standards in the Philippines. Financial support is received principally
from the PICPA Foundation.
• Monitors the technical activities of the IASB and invites comments on exposure
drafts of proposed IFRSs as these are issued by the IASB. When finalized, these are
adopted as PFRSs.
• Monitors issuances of the IFRIC of the IASB, which it adopts as Philippine
Interpretations–IFRIC. PFRSs and Philippine Interpretations–IFRIC approved for
adoption are submitted to the BOA and PRC for approval.
The approved statements of the FRSC are known as PAS and PFRS.
MEMBERSHIP
The FRSC consists of 15 members with a Chairman who had been or is presently a senior
accounting practitioner and 14 representatives from the BOA, Securities and Exchange
Commission (SEC), Bangko Sentral ng Pilipinas (BSP), Financial Executives Institute of the
Philippines, Commission on Audit and PICPA.
The Chairman and members of the FRSC shall have a term of 3 years renewable for another
term. Any member of the ASC shall not be disqualified from being appointed to the FRSC.
Philippine Interpretations Committee– formed by the FRSC in August 2006 to assist the
FRSC in establishing and improving financial reporting standards in the Philippines.
The PIC members are appointed by the FRSC and include accountants in public practice,
the academe and regulatory bodies, and users of financial statements. The PIC replaced the
Interpretations Committee created by the ASC in 2000.
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The main objectives of the PIC

• Principally, to issue implementation guidance on PAS, PFRS, and related Interpretations
(collectively referred to as PFRS) adopted by the FRSC from accounting
pronouncements issued by the IASB.
• To comment on exposure drafts of proposed PFRS and other documents that may be
issued for comment by the FRSC.
• To comment on exposure drafts of proposed accounting standards or proposed
regulations with accounting relevance that may be issued by government agencies, such
as the SEC, BSP, and Insurance Commission.
The PIC shall consist of 15 representatives, and each member shall serve for a three-year
term and may be re-appointed. The re-appointment of a member shall likewise be
endorsed by PIC members and approved by the FRSC.
STANDARD-SETTING PROCESS
PFRSs are developed through a due process that involves members of PICPA, financial
executives, regulatory authorities, members of the academe, and other interested individuals
and organizations.
Due process for projects, normally but not necessarily, involves the following steps:
• Consideration of pronouncement of IASB,
• Formation of a task force, when deemed necessary, to give advice to the FRSC,
• Issuing for comment an exposure draft approved by a majority of the FRSC members, the
comment period will be at least 60 days unless a shorter period (not less than 30 days) is
considered appropriate by the FRSC,
• Consideration of all comments received within the comment period and, when
appropriate, preparing a comment letter to the IASB,
• Approval is a standard or an interpretation by a majority of the FRSC members.
The IASB, history, current structure, processes, and globalization of capital

markets call for the harmonization of accounting standards, formation, and
achievements of the IASC.
As business practices were later developed based on the influences of the economic and
political environment in a particular area, accounting and reporting practices also
developed. There were countries where business enterprises conducted transactions
following the dictates of the government. As such, accounting practices and financial
reporting were limited to those which were based on rules and regulations. There were
countries where business enterprises conducted transactions based on the free enterprise
system, where there was minimum government intervention.
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Accounting practices in these countries were developed because of the need to protect the
interest of public investors. It was in the second group of countries where sound
accounting theories flourished. With their economic ascendancy and commercial
leadership, the United States of America and the United Kingdom became the pioneers in
the development of accounting theories, which are still prevalent in business practice
today.
Around the world, differing national traditions, legal systems, capital markets, and business
practices led to the development of different financial reporting practices. Each country
communicates financial reports based on the accounting principles in the particular
country. However, the evolution of multinational companies led to the conduct of
international business operations across national borders. Business transactions became
complicated, and goods, services, and capital investments were transferred worldwide.
Thus, there was a need to bring into common basis the system of measurement and
communication of economic activities. This need was recognized and acted upon by the
accounting profession through the creation of the International Accounting Standards
Committee (IASC) in 1973.
From the date of its organization up to 2001, the IASC developed a set of uniform global
accounting standards, called IAS, and promoted the use and application of these standards.
The IASC was reconstituted in 2001 as the IASB. Immediately after its reconstitution, the
IASB took the initiative to undertake improvement projects in the light of queries and
criticisms raised in relation to the IAS by securities regulators, professional accountants,
and other interested parties.
The International Accounting Standards Board, or IASB, is an organization that has been in
operation for over 30 years. Its mission and the resulting style and content of its standards
have changed substantially over the past 30 years. Today, its mission is to develop a single
set of high-quality, understandable, and enforceable standards that require high-quality,
transparent, and comparable information in financial statements and other financial
reporting. These standards, developed by the IASB, have been or will be in the near future
adopted by many companies. And these standards allow for a more global marketplace
because companies will use similar accounting standards? We could view ourselves as
participants in the world's capital markets. The IASB intends to help us make sound
economic decisions without the need for restatement of financial statements or
reconciliations between different GAAPs.
The IASB has been in operation for over 30 years. It publishes its standards in a series of
pronouncements called “International Financial Reporting Standards” or IFRS.
In 2002, the IASB and the FASB of the United States of America entered into a
memorandum of understanding called the "Norwalk Agreement ."The agreement includes a
move to eliminate some differences between the US Standards and the IFRS.
Its mission, and the style and content of its standards, have changed substantially over that
period. In its early years, it sought to build a broad consensus on some of the less
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significant issues in financial reporting. Today, in the public interest, its objectives are more
ambitious. Those are to:
➢ Develop, in the public interest, a single set of high-quality, understandable, and
enforceable global accounting standards that require high-quality, transparent, and
comparable information in financial statements and other financial reporting. The
intent is to help participants in the world’s capital markets and other users make
sound economic decisions;
➢ Promote the use and rigorous application of those standards; and
➢ Work actively with national standard-setters to bring about a convergence of
national accounting standards and IFRSs to high-quality solutions.
Structure of the IASB

The diagram below illustrates the current structure within which standards are set by the
IASB. The various elements of the structure are also explained below. Unless indicated
otherwise, references to IFRS include the following:
• IFRS– standards developed by the IASB

• IAS – standards developed by the IASC, the predecessor to the IASB
• Interpretations developed by the IFRS Interpretations Committee or its predecessor,
the Standing Interpretations Committee (SIC)
• International Financial Reporting Standards for Small and Medium-sized Entities (IFRS
for SMEs) – a standalone standard for general purpose financial statements of small and
medium-sized entities (as defined)
Assisting the IASB is the IFRS Interpretations Committee (the committee). This is a
committee that was established by the IASC Foundation Trustees in March 2002, replacing
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the previous interpretations committee, the Standing Interpretations Committee (SIC). The
committee assists the IASB by providing timely guidance on newly identified financial
reporting issues not specifically addressed in the IFRS or issues where unsatisfactory or
conflicting interpretations have developed.
The IFRS is comprised of the International Financial Reporting Standards, the International
Accounting Standards, and the interpretations originated by the committee or the former
SIC.
Substantial progress has been made in developing a single set of accounting standards for
capital markets worldwide. The IASB initially focused on the adoption of International
Financial Reporting Standards (IFRS) by the 27 countries of the European Union.
Taken in its entirety, the current IFRS provides a workable platform for advancing financial
reporting standards.
Conceptual Framework for the Preparation and Presentation of Financial

Statements
There are many similarities between IFRS and US GAAP. Both frameworks are based on
concepts such as relevance, reliability, comparability, materiality, and neutrality. The basic
reporting elements are also very similar, such as assets, liabilities, equity, income, and
expenses.
Although they are similar, there are some basic differences between the two. US GAAP is
more rules-based, whereas IFRS is more principles-based. As a result, within the same
framework, the two Boards have made different choices on a number of accounting issues.
The document that underpins the IASB’s philosophy of financial reporting is the
Framework for the Preparation and Presentation of Financial Statements.
This is not an accounting standard but rather a document that explains the conceptual
approach that lies behind all the standards that have been produced since the Framework
was issued.
The Conceptual Framework 2010 includes the first two chapters the Board published as a
result of its first phase of the conceptual framework joint project: Chapter 1, The objective
of general purpose financial reporting, and Chapter 3, Qualitative characteristics of useful
financial information. Chapter 2 will deal with the reporting entity concept. The Board
published an exposure draft on this topic in March 2010 with a comment period that ended
on 16 July, 2010. Chapter 4 contains the remaining text of the 1989 Framework.
The Framework does not override any specific accounting standard or interpretation, and it
has a formal place within the IFRS hierarchy to which reference should be made when
selecting accounting policies in the absence of a specific standard or interpretation.
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Background
The IASB is currently in the process of updating its conceptual framework. This conceptual
framework project is conducted in phases. The IASB and FASB have an ongoing joint
project to develop a single conceptual framework, the first phase of which was completed
in September 2010. The current conceptual framework, Conceptual Framework for
Financial Reporting 2010 ("the Conceptual Framework 2010"), comprises two sections
finalized in the first phase of the joint project with the FASB, together with other material
carried forward from the conceptual framework issued by the former IASC in 1989 ("the
1989 Framework").
As a chapter is finalized, the relevant paragraphs in the 1989 Framework will be replaced.
When the conceptual framework project is completed, the Board will have a complete,
comprehensive, and single document called the Conceptual Framework for Financial
Reporting.
USERS AND THEIR INFORMATION NEEDS
The users of accounting information may be classified in two ways. They may be classified
as either internal or external users and as either direct users or indirect users.
Internal Users – those who have ready access to accounting information for their decision-
making needs. They include the active owners and the management.
External Users - do not have ready access to accounting information and rely heavily on
the prepared financial statements of the enterprise for their decision-making needs. They
include inactive owners, creditors, taxing authorities, suppliers, customers, employees and
employee unions, regulatory agencies, financial analysts and financial advisers, and the
public.
Users with Direct Interest – use financial information as a tool to protect their own
interest in the enterprise. They include the owners, managers, creditors, suppliers,
customers, employees, and taxing authorities.
Users with Indirect Interest – obtain and use accounting information to provide advice to
or protect the interest of a direct user. The user of this type includes regulatory agencies,
which protect the interest of the investors and the public, labor unions, which protect the
interest of the employees, and financial and legal consultants who provide advice to their
clients, who may be customers, lenders or suppliers of the firm.
OBJECTIVE OF FINANCIAL STATEMENTS

Objective
The Conceptual Framework defines the objective as being “to provide financial information
about the reporting entity that is useful to existing and potential investors, lenders and
other creditors in making decisions about providing resources to the entity. Those
decisions involve buying, selling or holding equity and debt instruments, and providing or
settling loans and other forms of credit.”
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Usefulness
Existing and potential investors, lenders, and other creditors (collectively known as
"providers of capital") cannot generally require reporting entities to provide information
directly to them and must rely on general purpose financial reports for much of the
financial information they need. Consequently, they are the primary users to whom
general-purpose financial reports are directed.
The IASB sees the main need of such providers of capital as being information to enable
them to assess:
• The prospects for future net cash inflows to an entity. This is because all decisions
made by such providers of capital depend on their assessment of the amount,
timing, and uncertainty of (i.e., the prospects for) the entity's future net cash inflows
• The resources of, and claims against, the entity (discussed in more detail later)
• How efficiently and effectively the entity's management and governing board have
discharged their responsibilities to use the entity's resources. Examples of such
responsibilities include protecting the entity's resources from unfavorable effects of
economic factors such as price and technological changes and ensuring that the
entity complies with applicable laws, regulations, and contractual provisions.
Information about management's discharge of its responsibilities is also useful for
decisions by existing providers of capital who have the right to vote on or otherwise
influence management's actions.
Economic resources and claims
Information about the nature and amounts of a reporting entity's economic resources and
claims can help users to:
➢ Identify the entity's financial strengths and weaknesses
➢ Assess the entity's liquidity and solvency, its needs for additional financing, and how
successful it is likely to be in obtaining that financing
Information about the priorities and payment requirements of existing claims helps users
to predict how future cash flows will be distributed among lenders and creditors.
Changes in economic resources and claims
Changes in a reporting entity's economic resources and claims result from that entity's
financial performance and from other events or transactions such as issuing debt or equity
instruments. In order to properly assess the entity's prospects for future cash flows, users
need to know the extent to which the reporting entity has increased its available economic
resources and, thus, its capacity for generating net cash inflows through its operations
rather than by obtaining additional resources directly from providers of capital.
Information about a reporting entity's financial performance helps users to understand the
return that the entity has produced on its economic resources. Information about the
return provides an indication of how well management has discharged its responsibilities
to make efficient and effective use of the reporting entity's resources. Information about
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the variability and components of that return is also important, especially in assessing the
uncertainty of future cash flows. Information about a reporting entity's past financial
performance and how its management discharged its responsibilities is usually helpful in
predicting the entity's future returns on its economic resources.
Financial performance is reflected by changes in the entity's economic resources and
claims other than by obtaining additional resources directly from providers of capital. This
is sometimes described as a “balance sheet approach” to recording financial performance,
whereby financial performance for a period is essentially derived as part of the overall
movement in the entity's financial position during that period. This is discussed more
explicitly in the section about the Conceptual Framework dealing with the elements of
financial statements.
Consistent with this “balance sheet approach,” financial performance is based on accrual
accounting, which depicts the effects of transactions and other events and circumstances
on a reporting entity's economic resources and claims in the periods in which those effects
occur, even if the resulting cash receipts and payments occur in a different period. This
provides a better basis for assessing the entity's past and future performance than
information based solely on cash flows.
Information about an entity's financial performance may also indicate the extent to which
events such as changes in market prices or interest rates have changed the entity's
economic resources and claims, thereby affecting the entity's ability to generate net cash
inflows. Nevertheless, information about an entity's cash flows during a period also helps
users to assess the entity's ability to generate future net cash inflows, understand the
entity's operations, evaluate its financing and investing activities, assess its liquidity or
solvency, and interpret other information about financial performance.
UNDERLYING ASSUMPTIONS IN THE PREPARATION OF FINANCIAL STATEMENTS

The underlying assumption - Financial statements are normally prepared on the
assumption that the reporting entity is a going concern and will continue in operation for
the foreseeable future. Hence, it is assumed that the entity has neither the intention nor the
need to liquidate or curtail the scale of its operations materially.
If such an intention or need exists, the financial statements may have to be prepared on a
different basis, and, if so, the basis used is disclosed.
Accrual basis
An entity shall prepare its financial statements (except for cash flow information) using the
accrual basis of accounting.
Accrual accounting depicts the effects of transactions, and other events and circumstances,
on a reporting entity's economic resources and claims in the periods in which those effects
occur, even if the resulting cash receipts and payments occur in a different period. This is
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important because information about a reporting entity's economic resources, claims, and
changes in its economic resources and claims during a period provides a better basis for
assessing the entity's past and future performance than information solely about cash
receipts and payments during that period.
Going concerned
Financial statements are prepared on a going concern basis unless management intends to
liquidate the entity or cease trading or has no realistic alternative but to do so. Any
material uncertainties about the entity's ability to continue as a going concern shall be
disclosed.
When the going concern basis is not used, disclose:
• The fact that the going concern basis was not used
• The alternative basis that has been used instead
• Why the entity is not regarded as a going concern
When the going concern basis is used, but material uncertainties remain, management shall
disclose those uncertainties.
Is the going concern assumption appropriate?
In assessing whether the going concern assumption is appropriate, management takes into
account all available information about the future, which is at least but is not limited to 12
months from the financial statement date. The degree of consideration depends on the facts
in each case.
When an entity has a history of profitable operations and ready access to financial
resources, management may conclude that the going concern basis of accounting is
appropriate without detailed analysis.
In other cases, in particular, during an economic downturn, management may need to
consider a wide range of factors relating to current and expected profitability, debt
repayment schedules, and potential sources of replacement financing before it can satisfy
itself that the going concern basis is appropriate. Such factors may include, for example, the
risk of a breach of covenants.
QUALITATIVE CHARACTERISTICS OF FINANCIAL STATEMENTS

The Conceptual Framework states that the types of information likely to be most useful to
providers of capital are identified by various qualitative characteristics comprising two
“fundamental qualitative characteristics”: relevance and faithful representation.
These are supplemented by four "enhancing characteristics": comparability, verifiability,
timeliness, and understandability. The relationship between the objective, fundamental
characteristics, enhancing characteristics, and the pervasive cost constraint can be
represented diagrammatically as follows:
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Relevance
Relevant financial information is that which is capable of making a difference to the
decisions made by users, irrespective of whether some users choose not to take advantage
of it or are already aware of it from other sources. Financial information is capable of
making a difference in decisions if it has predictive value, confirmatory value, or both.
Financial information has predictive value if it can be used as an input to processes
employed by users to predict future outcomes. Financial information with predictive value
need not itself be a prediction or forecast but is employed by users in making their own
predictions. Financial information has confirmatory value if it confirms or changes
previous evaluations.
The predictive value and confirmatory value of financial information are interrelated. For
example, information on revenue for the current year can be used both as the basis for
predicting revenues in future years and as a point of comparison with predictions made in
prior years of revenue for the current year. The results of those comparisons can help a
user to correct and improve the processes that were used to make those previous
predictions.
The Conceptual Framework refers to materiality as “an entity-specific aspect of relevance
based on the nature or magnitude, or both, of the items to which the information relates in
the context of an individual entity's financial report.” In other words, information is
material (and therefore relevant) if omitting or misstating it could influence the decisions
of users of financial information about a specific reporting entity. Because of the specificity
of materiality to a particular reporting entity, the IASB cannot specify a uniform
quantitative threshold for materiality or predetermine what could be material in a
particular situation.
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Faithful representation
The Conceptual Framework observes that financial reports represent economic phenomena
in words and numbers. To be useful, financial information must not only represent
relevant phenomena, but it must also faithfully represent the phenomena that it purports
to represent.
A perfectly faithful representation would be all of the following:
• Complete
• Neutral
• Free from error
The IASB's objective is to maximize those qualities to the extent possible while
acknowledging that perfection is seldom, if ever, achievable.
A complete depiction includes all information, including all necessary descriptions and
explanations necessary for a user to understand the phenomenon being depicted. For
example, a complete depiction of a group of assets would include, at a minimum:
• A description of the nature of the assets
• A numerical depiction of the assets
• A description of what the numerical depiction represents (for example, original cost,
adjusted cost, or fair value).
For some items, a complete depiction may also entail explanations of significant facts about
the quality and nature of those items, factors, and circumstances that might affect their
quality and nature, and the process used to determine the numerical depiction.
ENHANCING CHARACTERISTICS
Comparability
The IASB notes that decisions made by users of financial information involve choices
between alternatives, such as selling or holding an investment or investing in one entity or
another. Consequently, information about a reporting entity is more useful if it can be
compared with similar information about other entities or about the same entity for
another period or at another date.
Comparability is the qualitative characteristic that enables users to identify and
understand similarities and differences among items. Unlike the other qualitative
characteristics, comparability does not relate to a single item since – by definition – a
comparison requires at least two items. The IASB clarifies that for information to be
comparable, like things must look alike and different things must look different, adding –
should there be any doubt – that "comparability of financial information is not enhanced by
making unlike things look alike any more than it is enhanced by making like things look
different." Although a single economic phenomenon can be faithfully represented in more
than one way, permitting alternative accounting methods for the same economic
phenomenon diminishes comparability.
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Verifiability
Verifiability helps assure users that information faithfully represents the economic
phenomena that it purports to depict. Verifiability means that different knowledgeable and
independent observers could reach a consensus, although not necessarily complete
agreement, that a particular depiction is a faithful representation. Quantified information
need not be a single-point estimate to be verifiable. A range of possible amounts and their
related probabilities can also be verified.
The IASB notes that verification can be direct or indirect. Direct verification means
verifying an amount or other representation through direct observation. Indirect
verification means checking the inputs to a model, formula, or other technique and
recalculating the outputs using the same methodology. Some explanations and forward-
looking financial information may not be verifiable until a future period, if at all. To help
users decide whether to use such information, it would normally be necessary to disclose
the assumptions, other factors, and circumstances underlying the information, together
with the methods of compiling the information.
Timeliness
Timeliness means that information is available to decision-makers in time to be capable of
influencing their decisions. Generally, the older the information is, the less useful it is.
However, some information may continue to be timely long after the end of a reporting
period, for example, because some users may need to identify and assess trends.
Understandability
Information is made understandable by classifying, characterizing, and presenting it clearly
and concisely. The IASB concedes that some phenomena are so inherently complex and
difficult to understand that financial reports might be easier to understand if information
about those phenomena were excluded. However, reports prepared without that
information would be incomplete and, therefore, potentially misleading. Moreover,
financial reports are prepared for sophisticated and knowledgeable users who can review
and analyze the information diligently. Even they, however, may need to seek specialist
advice in order to understand information about complex economic phenomena.
Cost constraint
The IASB acknowledges that cost is a pervasive constraint on the information provided by
financial reporting and that the cost of producing information must be justified by the
benefits that it provides. Interestingly, the IASB argues that, while there is clearly an
explicit cost to the preparers of financial information, the cost is ultimately borne by users
since any cost incurred by the reporting entity reduces the returns earned by users. In
addition, users incur costs not only in analyzing and interpreting any information that is
provided but also in obtaining or estimating any information that is not provided.
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Relevant and faithfully representative financial information helps users to make decisions
with more confidence, resulting in a more efficient functioning of capital markets and a
lower cost of capital for the economy as a whole. An individual provider of capital also
receives benefits by making more informed decisions. However, it is not possible for
general-purpose financial reports to provide all information relevant to every user.
PRINCIPLES OF RECOGNITION AND MEASUREMENT

Recognition is a term that means the reporting of an asset, liability, income, or expense on
the face of the financial statements of an entity.
There are four main recognition principles to be followed in the preparation and
presentation of financial statements, as explicitly enumerated in the Conceptual
Framework, namely:
a) Asset recognition principle
b) Liability recognition principle
c) Income recognition principle
d) Expense recognition principle
Measurement is the third stage of the IASB's process of inclusion of an item into the
financial statements. First, there is the definition (e.g., of an asset); if an item meets the
relevant definition, then comes recognition; if an item can be recognized (i.e., it is probable
that economic benefits will come to the enterprise and that cost or value can be measured
reliably), the final stage is measurement.
However, despite the importance of measurement to any conceptual framework, the

Conceptual Framework provides no conceptual guidance in this area. Measurement is
defined as: “the process of determining the monetary amounts at which the elements of the
financial statements are to be recognized and carried in the balance sheet and income
statement. This involves the selection of the particular basis of measurement.”
The Conceptual Framework lists four possible bases of measurement: historical cost,
current cost, realizable (settlement) value, and present value.
ELEMENTS OF FINANCIAL STATEMENTS AND THEIR DEFINITION (ASSETS,

LIABILITIES, EQUITY, INCOME, EXPENSES)
Assets - An asset is a resource controlled by the entity as a result of past events and from
which future economic benefits are expected to flow to the entity.
The future economic benefit embodied in an asset is the potential to contribute, directly or
indirectly, to the flow of cash and cash equivalents to the entity. The potential may be a
productive one that is part of the operating activities of the entity. It may also take the form
of convertibility into cash or cash equivalents or a capability to reduce cash outflows, such
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as when an alternative manufacturing process lowers the costs of production. Assets may
be financial or non-financial, and the latter may also be tangible or intangible.
The assets of an entity result from past transactions or other past events. Entities normally
obtain assets by purchasing or producing them, but other transactions or events may
generate assets; examples include property received by an entity from the government as
part of a program to encourage economic growth in an area and the discovery of mineral
deposits. Transactions or events expected to occur in the future do not in themselves give
rise to assets; hence, for example, an intention to purchase inventory does not, in itself,
meet the definition of an asset.
Liabilities - A liability is a present obligation of the entity arising from past events, the
settlement of which is expected to result in an outflow from the entity of resources
embodying economic benefits.
An essential characteristic of a liability is that the entity has a present obligation. An

obligation is a duty or responsibility to act or perform in a certain way. Obligations may be
legally enforceable as a consequence of a binding contract or statutory requirement. This is
normally the case, for example, with amounts payable for goods and services received.
Obligations also arise, however, from normal business practice, custom, and a desire to
maintain good business relations or act in an equitable manner. If, for example, an entity
decides as a matter of policy to rectify faults in its products even when these become
apparent after the warranty period has expired, the amounts that are expected to be
expended in respect of goods already sold are liabilities.
A distinction needs to be drawn between a present obligation and a future commitment. A

decision by the management of an entity to acquire assets in the future does not, in itself,
give rise to a present obligation. An obligation normally arises only when the asset is
delivered, or the entity enters into an irrevocable agreement to acquire the asset. In the
latter case, the irrevocable nature of the agreement means that the economic consequences
of failing to honor the obligation—for example, because of the existence of a substantial
penalty—leave the entity with little, if any, discretion to avoid the outflow of resources to
another party.
Equity - Equity is the residual interest in the assets of the entity after deducting all its
liabilities. Although it is conceptually a residual amount, it is generally subdivided into its
components for presentation purposes; for example:
• Paid-in capital
• Retained earnings
• Other reserves
Equity may be sub-classified in the balance sheet. For example, in a corporate entity, funds
contributed by shareholders, retained earnings, reserves representing appropriations of
retained earnings, and reserves representing capital maintenance adjustments may be
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shown separately. Such classifications can be relevant to the decision-making needs of the
users of financial statements when they indicate legal or other restrictions on the ability of
the entity to distribute or otherwise apply its equity. They may also reflect the fact that
parties with ownership interests in an entity have different rights in relation to the receipt
of dividends or the repayment of capital.
The creation of reserves is sometimes required by statute or other law in order to give the
entity and its creditors an added measure of protection from the effects of losses. Other
reserves may be established if national tax law grants exemptions from, or reductions in,
taxation liabilities when transfers to such reserves are made. The existence and size of
these legal, statutory, and tax reserves is information that can be relevant to the decision-
making needs of users. Transfers to such reserves are appropriations of retained earnings
rather than expenses.
Income increases in economic benefits during the accounting period in the form of inflows
or enhancements of assets or decreases of liabilities that result in increases in equity, other
than those relating to contributions from equity participants.
The definition of income encompasses both revenue and gains. Revenue arises in the
course of the ordinary activities of an entity and is referred to by a variety of different
names, including sales, fees, interest, dividends, royalties, and rent. Gains represent other
items that meet the definition of income (such as gains on the disposal of a fixed asset) and
might or might not arise in the course of the ordinary activities of an entity. Gains represent
increases in economic benefits and, as such, are no different in nature from revenue. Hence,
they are not regarded as constituting a separate element in the Conceptual Framework,
although they may require separate disclosure.
Expenses are decreases in economic benefits during the accounting period in the form of
outflows or depletions of assets or the incurring of liabilities that result in decreases in
equity, other than those relating to distributions to equity participants.
The definition of expenses encompasses losses as well as those expenses that arise in the
course of the ordinary activities of the entity. Expenses that arise in the course of the
ordinary activities of the entity include, for example, the cost of sales, wages, and
depreciation. They usually take the form of an outflow or depletion of assets such as cash
and cash equivalents, inventory, property, plant, and equipment. Losses represent other
items that meet the definition of expenses (such as those arising as a result of a natural
disaster) and might or might not arise in the course of the ordinary activities of the entity.
Losses represent decreases in economic benefits, and as such, they are no different in
nature from other expenses. Hence, they are not regarded as a separate element in the
Conceptual Framework, although, again, they may require separate disclosure.
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RECOGNITION AND MEASUREMENT OF THE ELEMENTS OF FINANCIAL STATEMENTS

Recognition
Asset
An asset is recognized in the balance sheet (statement of financial position) when it is
probable that future economic benefits will flow to the entity, and the asset has a cost or
value that can be measured reliably. An asset is not recognized in the balance sheet when
the expenditure has been incurred for which it is considered improbable that economic
benefits will flow to the entity beyond the current accounting period. Instead, such a
transaction results in recognition of an expense in the income statement. This treatment
does not imply either that the intention of management in incurring expenditure was other
than to generate future economic benefits for the entity or that management was
misguided. The only implication is that the degree of certainty that economic benefits will
flow to the entity beyond the current accounting period is insufficient to warrant the
recognition of an asset.
Liability
A liability is recognized in the balance sheet (statement of financial position) when it is
probable that an outflow of resources embodying economic benefits will result from the
settlement of a present obligation, and the amount at which the settlement will take place
can be measured reliably.
In practice, obligations under contracts that are equally proportionately unperformed (for
example, liabilities for inventory ordered but not yet received) are generally not recognized
as liabilities in the financial statements. However, such obligations may meet the definition
of liabilities and, provided the recognition criteria are met in the particular circumstances,
may qualify for recognition.
Equity
The amount at which equity is shown in the balance sheet (statement of financial position)
is dependent on the measurement of assets and liabilities. Normally, the aggregate amount
of equity corresponds only by coincidence with the aggregate market value of the shares of
the entity or the sum that could be raised by disposing of either the net assets on a
piecemeal basis or the entity as a whole on a going concern basis.
Income and Expense
Income is recognized when an increase in future economic benefit related to an increase in
an asset or a decrease of a liability has arisen that can be measured reliably. Expenses are
recognized in the income statement when a decrease in future economic benefits related to
a decrease in an asset or an increase of a liability has arisen that can be measured reliably.
All the definitions rely on the definitions of assets and liabilities, which means that the
conceptual foundation of financial statements under IFRS is the balance sheet (statement of
financial position). The income statement (statement of comprehensive income) is left to
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explain and analyze the difference between the opening and closing balance sheet because
the key requirement is an accurate statement of assets and liabilities. This has had a
profound effect on the approach taken in several important accounting standards, such as
those on provisions, employee benefits, deferred tax, and so on.
Measurement
Measurement is the process of determining the monetary amounts at which the elements
of the financial statements are to be recognized and carried in the statement of financial
position and income statement.
The four measurement bases or financial attributes are:
• Historical cost
• Current cost
• Realizable value
• Present value
Historical cost – is the amount of cash or cash equivalent paid of the fair value of the
consideration given to acquire an asset at the time of acquisition. This is also known as
past purchase exchange price.
It is the most commonly used base in preparing financial statements.
Current cost – is the amount of cash or cash equivalent that would have to be paid if the
same or equivalent asset was acquired currently. This is also known as the current
purchase exchange price.
Realizable value – is the amount of cash or cash equivalent that could currently be
obtained by selling the asset in an orderly disposal. This is also known as the current sales
exchange price.
Present value – is the discounted value of the future net cash inflows that the item is
expected to generate in the normal course of business. This is also known as future
exchange price.
CONCEPTS OF CAPITAL AND CAPITAL MAINTENANCE (FINANCIAL CONCEPT,

PHYSICAL CONCEPT)
The financial performance of an entity is determined using two approaches, namely
capital maintenance and transaction approach.
• The transaction approach is the traditional preparation of an income
statement.
• The capital maintenance approach means that the net income occurs only
after the capital used from the beginning of the period is maintained.
In other words, net income is the amount an entity can distribute to its owners and
be as well-off at the end of the year as at the beginning.
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Capital maintenance concepts consist of financial capital maintenance and physical

capital maintenance.
The Conceptual Framework states the following on financial capital maintenance:
“Under a financial concept of capital, such as invested money or invested purchasing
power, capital is synonymous with the net assets or equity of the enterprise. Under
a physical concept of capital, such as operating capability, capital is regarded as the
productive capacity of the enterprise based on, for example, units of output per
day.”
Financial capital – is the absolute monetary amount of the net assets contributed
by shareholders and the amount of the increase in net assets resulting from the
earnings retained by the entity. It is based on historical cost, and it is the concept
adopted by most entities.
Physical capital – is the quantitative measure of the physical productive capacity
to produce goods and services. It may be based on unit per output per day or the
physical capacity of productive assets. This concept requires that productive assets
shall be measured at current cost rather than historical cost.
There is no discussion of the adequacy of each concept or of how or when its use
might contribute to improving financial reporting. It is simply noted that the
"selection of the appropriate concept of capital by an enterprise should be based on
the needs of the users of its financial statements."
Glossary
Assets: is a resource controlled by the entity as a result of past events and from which
future economic benefits are expected to flow to the entity.
Current cost is the amount of cash or cash equivalent that would have to be paid if the
same or equivalent asset was acquired currently.
Equity is the residual interest in the assets of the entity after deducting all its liabilities.
Expenses: are decreases in economic benefits during the accounting period in the form of
outflows or depletions of assets or the incurring of liabilities that result in decreases in
equity, other than those relating to distributions to equity participants.
External Users: do not have ready access to accounting information and rely heavily on
the prepared financial statements of the enterprise for their decision-making needs.
The Financial Reporting Standards Council: is the successor of the Accounting
Standards Council and was created to establish generally accepted accounting principles in
the Philippines.
Going Concerned: is the assumption that a business will continue to operate in the
foreseeable future.
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Historical cost is the amount of cash or cash equivalent paid of the fair value of the
consideration given to acquire an asset at the time of acquisition.
Income: are increases in economic benefits during the accounting period in the form of
inflows or enhancements of assets or decreases of liabilities that result in increases in
equity, other than those relating to contributions from equity participants.
Internal Users: those who have ready access to accounting information for their decision-
making needs.
International Accounting Standards Board: developed a set of uniform global
accounting standards and promoted the use and application of these standards.
International Financial Reporting Standards: a series of pronouncements that serves as
standards in the accounting profession and is accepted globally.
Liabilities: is a present obligation of the entity arising from past events, the settlement of
which is expected to result in an outflow from the entity of resources embodying economic
benefits.
Present value: is the discounted value of the future net cash inflows that the item is
expected to generate in the normal course of business.
Realizable value: is the amount of cash or cash equivalent that could currently be
obtained by selling the asset in an orderly disposal.
References and Supplementary Materials

Books and Journals
1. Robles, N. S., & Empleo, P. M. (2014). Intermediate Accounting (2014 ed., Vol. 1).
Manila, Philippines.
2. Valix, C. T., Peralta, J. F., & Valix, C. M. (2017). Financial Accounting (2017 ed., Vol.
1).Manila, Philippines.
3. Valix, C. T., Peralta, J. F., & Valix, C. M. (2017). Financial Accounting (2017 ed., Vol.
2).Manila, Philippines.
4. Exposure Draft ED/2015/3: Conceptual Framework for Financial Reporting
5. Discussion Paper – A Review of the Conceptual Framework for Financial

Reporting, IASB, July 2013, ('DP'), para. 1.5.
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Online Supplementary Reading Materials
1. 2.3 The Need for Generally Accepted Accounting Principles;

http://open.lib.umn.edu/financialaccounting/chapter/2-3-the-need-for-generally-
accepted-accounting-principles/;19 October 2017
2. International Accounting Standards Board;

http://www.ifrs.org/groups/international-accounting-standards-board/;19 October
2017
Online Instructional Videos

1. International Accounting Standards Board;
https://www.youtube.com/watch?v=Z2u5JbzOFbY; 18 October 2017
2. Introduction to IASB Conceptual Framework;

https://www.youtube.com/watch?v=CGCMUUuQ1kk; 18 October 2017
3. IASB Conceptual Framework – Objective of Financial Reporting;

https://www.youtube.com/watch?v=MMq7a5m2WDo; 18 October 2017
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FINANCIAL ACCOUNTING & REPORTING 1

Module 002 Financial Reporting Standards

At the end of this module, you will be able to:

Financial Reporting Standards Council (Creation, objectives, and functions;

OBJECTIVES AND FUNCTIONS

comparable information in financial statements and other financial reporting to help

• To establish generally accepted accounting principles in the Philippines. (main

The main objectives of the PIC

The IASB, history, current structure, processes, and globalization of capital

Structure of the IASB

• IFRS– standards developed by the IASB

Conceptual Framework for the Preparation and Presentation of Financial

OBJECTIVE OF FINANCIAL STATEMENTS

UNDERLYING ASSUMPTIONS IN THE PREPARATION OF FINANCIAL STATEMENTS

QUALITATIVE CHARACTERISTICS OF FINANCIAL STATEMENTS

PRINCIPLES OF RECOGNITION AND MEASUREMENT

However, despite the importance of measurement to any conceptual framework, the

ELEMENTS OF FINANCIAL STATEMENTS AND THEIR DEFINITION (ASSETS,

An essential characteristic of a liability is that the entity has a present obligation. An

A distinction needs to be drawn between a present obligation and a future commitment. A

RECOGNITION AND MEASUREMENT OF THE ELEMENTS OF FINANCIAL STATEMENTS

CONCEPTS OF CAPITAL AND CAPITAL MAINTENANCE (FINANCIAL CONCEPT,

Capital maintenance concepts consist of financial capital maintenance and physical

References and Supplementary Materials

4. Exposure Draft ED/2015/3: Conceptual Framework for Financial Reporting

5. Discussion Paper – A Review of the Conceptual Framework for Financial

Online Supplementary Reading Materials

1. 2.3 The Need for Generally Accepted Accounting Principles;

2. International Accounting Standards Board;

Online Instructional Videos

2. Introduction to IASB Conceptual Framework;

3. IASB Conceptual Framework – Objective of Financial Reporting;

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