Fundamentals of Accounting I

The context and purpose of financial reporting

January 17, 2023

• The context and purpose of financial reporting
• The qualitative characteristics of financial information
• Use of double entry and accounting systems
• Record transactions and events
• Prepare a trial balance
• Prepare basic financial statements
• Prepare simple consolidated financial statements
• Interpretation of financial statements
The Revised Conceptual Framework for Financial
Reporting (2018).

• The Conceptual Framework sets out the fundamental

concepts for financial reporting that guide the Board in
developing IFRS Standards.
• It helps to ensure that the Standards are conceptually
consistent and that similar transactions are treated the same
way, so as to provide useful information for investors, lenders
and other creditors.
• The Conceptual Framework also assists companies in
developing accounting policies when no IFRS Standard applies
to a particular transaction, and more broadly, helps
stakeholders to understand and interpret the Standards.
The 2018 revised Conceptual Framework sets out:
• the objective of general purpose financial reporting;
• the qualitative characteristics of useful financial information;
• a description of the reporting entity and its boundary;
definitions of an asset, a liability, equity, income and expenses
and guidance supporting these definitions;
• criteria for including assets and liabilities in financial
statements (recognition) and guidance on when to remove
them (derecognition);
• measurement bases and guidance on when to use them;
• concepts and guidance on presentation and disclosure; and
• concepts relating to capital and capital maintenance.
 The Objective of Financial Reporting

• To provide financial information that is useful to users in

• making decisions relating to providing resources to the entity
• Users’ decisions involve decisions
• about buying, selling or holding equity or debt instruments
providing or settling loans and other forms of credit voting,
• or otherwise influencing management’s actions
 The Objective of Financial Reporting

• To make these decisions,

• users assess prospects for future net cash inflows to the entity
• management’s stewardship of the entity’s economic resources.
• To make both these assessments, users need information
about both
• the entity’s economic resources, claims against the entity and
changes in those resources and claims
• how efficiently and effectively management has discharged its
responsibilities to use the entity’s economic resources
 Users of Financial Statements

• Investors – current investors and potential investors

• Customers
• Suppliers
• Competitors
• Lenders
• Government and regulators
• Employees and management
• The public, including special interest groups such as
environmentalists etc
Qualitative characteristics of useful financial information

The Framework identifies two fundamental qualitative

characteristics of useful financial information:
• Relevance
• Faithful representation

Relevance
• information is relevant if it is capable of making a difference
to the decisions made by users
• financial information is capable of making a difference in
decisions if it has predictive value or confirmatory value.
Qualitative characteristics of useful financial information

Faithful Representation
information must faithfully represent the substance of what it
purports to represent.
• a faithful representation is, to the maximum extent possible,
complete, neutral and free from error
• a faithful representation is affected by level of measurement
uncertainty
Qualitative characteristics of useful financial information

The Framework also identifies four enhancing qualitative

characteristics to support the two fundamental characteristics:
• comparability
• verifiability
• timeliness
• understandability

these four qualitative characteristics enhance the usefulness of

information but they cannot make non-useful information useful.
Other important accounting concepts
• Materiality
• Substance over form
• Going concern
• Business entity concept
• Accruals
• Fair presentation
• Consistency
 Elements of Financial Statements

Assets

• A present economic resource controlled by the entity as a

result of past events
• An economic resource is a right that has the potential to
produce economic benefits
 Elements of Financial Statements (cont.)

Liabilities

• A present obligation of the entity to transfer an economic

resource as a result of past events
• An obligation is a duty or responsibility that the entity has no
practical ability to avoid
 Elements of Financial Statements (cont.)

Income

• income consists of both revenue and gains

• revenue arises from a business’s ordinary activities such as the
sale of goods or provision of services
• gains represent increases in economic benefits such as a gain
on disposal of non-current assets
• revenue and gains are taken to the statement of profit or loss
and other comprehensive income
 Elements of Financial Statements (cont.)

Expenses

• expenses are losses such as a those arising on disposal of a

non-current asset as well as expenses that arise in the normal
course of business such as cost of sales, wages and
depreciation
• expenses and losses are taken to the statement of profit or
loss and other comprehensive income
 Elements of Financial Statements (cont.)

Equity

• ‘the residual interest in the assets of the entity after deducting

all its liabilities’
• this is the amount due to the owners or the proprietor of a
business after liabilities have been paid
• it is included in the statement of financial position
 The components of a set of financial statements.

The main purpose of financial statements is to provide information

to a wide range of users.
• The statement of financial position provides information on
the assets and liabilities of a business.
• The statement of profit or loss and other comprehensive
income provides information on the performance of a business.
The components of a set of financial statements (cont).

The notes to the financial statements comprise the accounting

policies disclosures and any other disclosures required to enable the
shareholders and other users to make informed judgements and
decisions about the business.
 Recognition

• The process of capturing for inclusion in the statement of

financial position or the statement(s) of financial performance
an item that meets the definition of an asset, a liability,
equity, income or expenses.
• Recognition is appropriate if it results in both relevant
information about assets, liabilities, equity, income and
expenses and a faithful representation of those items, because
the aim is to provide information that is useful to investors,
lenders and other creditors.
 Measurement Bases

Historical cost measurement bases

• historical cost provides information derived, at least in part,

from the price of the transaction or other event that gave rise
to the item being measured
• historical cost of assets is reduced if they become impaired and
historical cost of liabilities is increased if they become onerous
• one way to apply a historical cost measurement basis to
financial assets and financial liabilities is to measure them at
amortised cost
 Current value measurement bases

Current value provides information updated to reflect conditions at

the measurement date. Current value measurement bases include:

Fair Value
• the price that would be received to sell an asset, or paid to
transfer a liability, in an orderly transaction between market
participants at the measurement date.
• reflects market participants’ current expectations about the
amount, timing and uncertainty of future cash flows.
 Current value measurement bases (cont.)

Value in use (for assets) fulfilment value (for liabilities)

• reflects entity-specific current expectations about the amount,
timing and uncertainty of future cash flows.

Current cost
• reflects the current amount that would be: paid to acquire an
equivalent asset
• received to take on an equivalent liability
 Regulatory frameworks

A national regulatory framework meets the specific business,

legal and commercial requirements of an individual country.

It may include:
• legal requirements
• financial reporting requirements
• established business practices
 Financial Reporting Standards

• Financial reporting standards provide guidance on how to

account for specific transactions and events within financial
statements
• Historically, many countries developed their own national
financial reporting standards
• e.g. the UK produced Financial Reporting Standards (FRSs)
to apply when preparing company accounts in the UK.
International Financial Reporting Standards (IFRS).

• International financial reporting standards (IFRSs) were

developed for application by multi-national businesses and by
businesses within countries that did not have their own
national accounting standards.
• As the scale and complexity of businesses has expanded, more
countries have adopted the use of IFRS, either in full, or via a
harmonisation process with national standards to some degree:
e.g. all stock exchange listed entities in the EU must now
prepare their annual financial statements in accordance with
IFRS
 Structure of the IFRS Regulatory System

• The IFRS Foundation is an independent not-for-profit

foundation.
• The Trustees of the Foundation appoint the members of the
various subsidiary bodies.
• They are also responsible for setting and approving the
budgets of the various bodies, determining strategic direction
and promoting IFRS.
• Its key objectives are to develop a set of high quality,
understandable, enforceable and accepted reporting standards
and to promote their use and application.
The International Accounting Standards Board (IASB)

• The IASB is an independent body that has sole responsibility

for the development and publication of IFRS, together with
approving any interpretations from the Interpretations
Committee

• Upon its formation, the IASB also adopted International

Accounting Standards (IASs) then in issue. If any IAS is
replaced, it will be superseded by an IFRS
 International Financial Reporting Interpretations
Committee (‘IFRS IC’)

The aim of the IFRS IC is to assist the IASB in establishing and

improving standards of financial accounting and reporting

• It provides timely and authoritative guidance on: newly

identified financial reporting issues not specifically covered by
a financial reporting standard
• unsatisfactory interpretations that have developed or may
develop
 IFRS Advisory Council (‘the Council’)

The Council provides a forum for organisations and individuals to

input into the standard setting process.

Its overall objectives are to:

• give advice to the IASB on agenda decisions and priorities
• inform the IASB of the views of organisations and individuals,
and give other advice to the IASB or the Trustees