The Conceptual Framework sets out the concepts that underlie the preparation and presentation of

financial statements for external users.

Authoritative Status and Applicability

The Conceptual Framework is not a PFRS. When there is a conflict between the Conceptual Framework
and a PFRS, the PFRS will prevail.

In the absence of a standard, management shall consider the Conceptual Framework in making its
judgment in developing and applying an accounting policy that results in information that is relevant and
reliable.

The Conceptual Framework is concerned with general-purpose financial statements of general purpose
financial reporting

The objective of general purpose financial reporting is 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. A secondary objective of financial statements is to
show the results of the stewardship of management.

The objective of general purpose financial reporting forms the foundation of the Conceptual Framework.
Other aspects of the Conceptual Framework flow logically from the objective.

Users and their Needs

Primary users – those to whom general purpose financial reports are directed:

(a) Existing and potential investors

(b) Lenders and other creditors.

Only the common needs of primary users are met by the financial statements.

Qualitative Characteristics- are the qualities or attributes that make

financial accounting information useful to the users.

I. Fundamental qualitative characteristics

(1) Relevance

(a) Predictive value

(b) Feedback value

Materiality – entity-specific aspect of relevance

(2) Faithful representation

(a) Completeness

(b) Neutrality
(c) Free from error

II. Enhancing qualitative characteristics

(3) Comparability

(4) Verifiability

(5) Timeliness

(6) Understandability

RELEVANCE

Is the capacity of the information to influence a decision

Predictive Value and Confirmatory Value

Predictive value-information has predictive value when it can help users increase the likelihood of
correctly predicting or forecasting outcome of events.

Confirmatory value-information has feedback value when it enables users confirm or correct earlier
expectations.

Materiality- is a practical rule in accounting which dictates that strict adherence to GAAP is not required
when the items are not enough to affect the evaluation, decision and fairness of the financial
statements.

Materiality is also known as the doctrine of convenience.

Materiality is really a “quantitative threshold” linked very closely to the qualitative characteristic of
relevance. The relevance of information is affected by its nature and materiality

Faithful Representation- quality of information that assures users that the information is free from bias
and error, and faithfully represents what it purports to represent.

Completeness- requires that relevant information should be presented in a way that facilitates
understanding and avoids erroneous implication.

Neutrality- means that the financial statements should not be prepared so as to favor one party to the
detriment of another party.

Free from error- Means there are no errors or omissions from the description of the phenomenon or
transaction.

Understandability- requires that financial information must be comprehensible or intelligible if it is to be

useful

Comparability- means the ability to bring together for the purpose of noting points of likeness and
difference. Comparable information presents similarities and dissimilarities. Comparability may be made
within an entity or across entities.
Timeliness- requires that the accounting information must be available or communicated early enough
when a decision is to be made.

Verifiability- Means that different knowledgeable and independent observers

could reach consensus although not necessarily complete agreement,

that a particular depiction is a faithful representation

Financial Statements and reporting entity Underlying Assumptions

GENERAL OBJECTIVE OF FINANCIAL STATEMENTS

Financial statements provide information about economic resources of the reporting entity, claims
against the entity and changes in economic resources and claims

Types of financial statements

1. Consolidated financial statements-these are the FS prepared when the reporting entity comprises
both the parent and its subsidiaries.

2. Unconsolidated financial statements-these are the FS prepared when the reporting entity is the
parent alone.

3. Combined financial statements- these are the FS prepared when the reporting entity comprises two
or more entities that are not linked by a parent and subsidiary relationship

REPORTING ENTITY

A reporting entity is an entity that is required or chooses to prepare financial statements

UNDERLYING ASSUMPTIONS

Are the basic notions or fundamental premises on which accounting process is based? AKA postulates

Going Concern

Implicit basic assumptions

1. Accounting entity

2. time period

3. Monetary unit

Going Concern- Means that in the absence of evidence to the contrary, the accounting entity is viewed
as continuing in operation indefinitely. Thus, assets are normally recorded at cost.

Accounting Entity

The entity is separate from the owners, managers, and employees who constitute the entity

Time period- Requires that the indefinite life of an entity is subdivided into accounting periods, which
are usually of equal length for the purpose of financial reports on financial position, performance and
cash flows.
Monetary Unit

Quantifiability-means that the assets, liabilities, equity, income and expenses should be stated in terms
of a unit of measure which is the peso in the Philippines.

Stability of peso-means that the purchasing power of the peso is stable or constant and that its
instability is insignificant and therefore may be ignore.

Elements of Financial Statements

Financial Position

Asset - resource controlled by the entity as a result of past events and from which future economic
benefits are expected to flow to the entity.

Liability - 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.

Equity – assets less liabilities

Performance

Income – encompasses both (a) revenues and (b) gains

Expense – encompasses both (b) expenses and (losses)

Recognition –the process of capturing for inclusion in the financial statements an item that meets the
definition of an asset, liability, equity, income or expense.

Recognition:

Only items that meet the definition of an asset, a liability or equity are recognized in the statement of
financial position

Only items that meet the definition of income or expense are recognized in the statement of financial
performance.

The said items are recognized only when their recognition provides users of financial statements with
information that is both relevant and faithfully represented.

Recognition of Income and Expense

Point of sale income recognition- income shall be recognized when earned.

Expenses are recognized when incurred.

Expense Recognition Principles

Direct association or matching

Systematic and rational allocation

Immediate recognition

Direct association or matching

“the expense is recognized when the revenue is already recognized” on the basis of a presumed direct
association of the expense with specific revenue. This is actually the “strict matching concept”.

Systematic and rational allocation

Under the systematic and rational allocation principle, some costs are expensed by simply allocating
them over the periods benefited.

The reason for this principle is that the cost incurred will benefit future periods and that there is an
absence of a direct or clear association of the expense with specific revenue.

Immediate recognition

the cost incurred is expensed outright because of uncertainty of future economic benefits or difficulty of
reliably associating certain costs with future revenue.

Derecognition

The removal of all or part of recognized asset or liability from the statement of financial position.

Measurement

Quantifying in monetary terms the elements in the financial statements.

2 Categories

A. Historical cost

B. Current value

Historical Cost

Of an asset- is the cost incurred in acquiring or creating the asset comprising the consideration paid plus
transaction cost.

Of a liability- is the consideration received to incur the liability minus the transaction cost.

Historical cost is the entry price or entry value to acquire an asset or to incur a liability.

Current value

Fair value

Value in use for asset

Fulfillment value for liability

Current cost

Fair Value
Of an Asset- is the price that would be received to sell an asset in an orderly transaction between
market participants at measurement date.

Of a liability- is the price that would be paid to transfer a liability in an orderly transaction between
market participants at measurement date.

Exit price or exit value

Value in use

Is the present value of the cash flows than an entity expects to derive from the use of an asset and from
the ultimate disposal.

Exclude transaction costs.

Fulfillment value of liability

Is the present value of cash that an entity expects to transfer in paying or settling a liability.

Exclude transaction costs.

Exit price or exit value

Current cost

Of an asset-is the cost of an equivalent asset at the measurement date comprising the consideration
paid and transaction cost.

Of a liability-is the consideration that would be received less any transaction cost at a measurement
date.

Also based on entry price or entry value but reflects market conditions on measurement date.

PRESENTATION AND DISCLOSURE

Effective communication tool about the information in financial statements.

Effective communication makes the information more relevant and contributes to a faithful
representation of an entity’s assets, liabilities, income and expenses.

Classification

Is the sorting of assets, liabilities, equity, income and expenses on the basis of shared or similar
characteristics.

Aggregation

Is the adding together of assets, liabilities, equity, income and expenses that have similar or shared
characteristics and are included in the same classification

Concepts of Capital

Financial concept of capital - capital is synonymous with net assets of the enterprise. This is the concept
of capital adopted by most enterprises.
Physical concept of capital – capital is regarded as the productive capacity of the enterprise based on,
for example, units of output per day.

Concepts of Capital Maintenance

Financial capital maintenance – Under this concept, a profit is earned only if the financial (or money)
amount of the net assets at the end of the of the period exceeds the financial (or money) amount of the
net assets at the beginning of the period, after excluding any distributions to, and contributions from,
owners during the period.

Physical capital maintenance – Under this concept, a profit is earned only if the physical productive
capacity (or operating capability) of the enterprise (or the resources need to achieve that capacity) at
the end of the period exceeds the physical productive capacity at the beginning of the period, after
excluding any distributions to, and contributions from, owners during the period.

Definition of Accounting

Accounting is “the process of identifying, measuring, and communicating economic information to

permit informed judgment and decisions by users of information.”

Three important activities

Identifying - the process of analyzing events and transactions to determine whether or not they will be
recognized. Only accountable events are recognized.

Measuring - involves assigning numbers, normally in monetary terms, to the economic transactions and
events.

Communicating - the process of transforming economic data into useful accounting information, such as
financial statements and other accounting reports, for dissemination to users.

Types of Events

External events – events that involve an external party.

Exchange (reciprocal transfer) – reciprocal giving and receiving

Non-reciprocal transfer – “one way” transaction

External event other than transfer – an event that involves changes in the economic resources or
obligations of an entity caused by an external party or external source but does not involve transfers of
resources or obligations.

2. Internal events – events that do not involve an external party.

Production – the process by which resources are transformed into finished goods.

Casualty – an unanticipated loss from disasters or other similar events.

Measurement

The several measurement bases used in accounting include, but not limited to, the following:

historical cost,

fair value,

present value,

realizable value,

current cost, and

sometimes inflation-adjusted costs.

The most commonly used is historical cost. This is usually combined with the other measurement bases.
Accordingly, financial statements are said to be prepared using a mixture of costs and values.

Valuation by fact or opinion

When measurement is affected by estimates, the items measured are said to be valued by opinion.

When measurement is unaffected by estimates, the items measured are said to be valued by fact.

Basic purpose of accounting

The basic purpose of accounting is to provide information about economic activities intended to be
useful in making economic decisions.

Types of accounting information classified as to users’ needs

General purpose accounting information - designed to meet the common needs of most statement
users. This information is governed by the Philippine Financial Reporting Standards (PFRSs).

Special purpose accounting information - designed to meet the specific needs of particular statement
users. This information is provided by other types of accounting, e.g., managerial accounting, tax basis
accounting, etc.

Basic Accounting Concepts

Double-entry system – each accountable event is recorded in two parts – debit and credit.

Going concern - the entity is assumed to carry on its operations for an indefinite period of time.

Separate entity – the entity is treated separately from its owners.

Stable monetary unit - amounts in the financial statements are stated in terms of a common unit of
measure; changes in purchasing power are ignored.

Time Period – the life of the business is divided into series of reporting periods.

Materiality concept – information is material if its omission or misstatement could influence economic
decisions.
Cost-benefit – the cost of processing and communicating information should not exceed the benefits to
be derived from it.

Accrual Basis of accounting – effects of transactions are recognized when they occur (and not as cash is
received or paid) and they are recognized in the accounting periods to which they relate.

Historical cost concept – the value of an asset is determined on the basis of acquisition cost.

Concept of Articulation – all of the components of a complete set of financial statements are
interrelated.

Full disclosure principle – financial statements provide sufficient detail to disclose matters that make a
difference to users, yet sufficient condensation to make the information understandable, keeping in
mind the costs of preparing and using it.

Consistency concept – financial statements are prepared on the basis of accounting policies which are
applied consistently from one period to the next.

Matching – costs are recognized as expenses when the related revenue is recognized.

Residual equity theory – this theory is applicable where there are two classes of shares issued, ordinary
and preferred. The equation is “Assets – Liabilities – Preferred Shareholders’ Equity = Ordinary
Shareholders’ Equity.”

Fund theory – the accounting objective is the custody and administration of funds.

Realization – the process of converting non-cash assets into cash or claims for cash.

Prudence (Conservatism) – the inclusion of a degree of caution in the exercise of the judgments needed
in making the estimates required under conditions of uncertainty , such that assets or income are not
overstated and liabilities or expenses are not understated.

Common branches of accounting

Financial accounting - focuses on general purpose financial statements.

Management accounting – focuses on special purpose financial reports for use by an entity’s
management.

Cost accounting - the systematic recording and analysis of the costs of materials, labor, and overhead
incident to production.

Auditing - the process of evaluating the correspondence of certain assertions with established criteria
and expressing an opinion thereon.

Tax accounting - the preparation of tax returns and rendering of tax advice, such as the determination of
tax consequences of certain proposed business endeavors.

Government accounting - refers to the accounting for the government and its instrumentalities, placing
emphasis on the custody of public funds, the purposes for which those funds are committed, and the
responsibility and accountability of the individuals entrusted with those funds.
Four sectors in the practice of accountancy

Practice of Public Accountancy - involves the rendering of audit or accounting related services to more
than one client on a fee basis.

Practice in Commerce and Industry - refers to employment in the private sector in a position which
involves decision making requiring professional knowledge in the science of accounting and such
position requires that the holder thereof must be a CPA.

Practice in Education/Academe – employment in an educational institution which involves teaching of

accounting, auditing, management advisory services, finance, business law, taxation, and other
technically related subjects.

Practice in the Government – employment or appointment to a position in an accounting professional

group in the government or in a government–owned and/or controlled corporation where decision
making requires professional knowledge in the science of accounting, or where civil service eligibility as
a CPA is a prerequisite.

Accounting standards in the Philippines

Philippine Financial Reporting Standards (PFRSs) are Standards and Interpretations adopted by the
Financial Reporting Standards Council (FRSC). They comprise:

Philippine Financial Reporting Standards (PFRSs);

Philippine Accounting Standards (PASs); and

Interpretations

The need for reporting standards

Entities should follow a uniform set of generally acceptable reporting standards when preparing and
presenting financial statements; otherwise, financial statements would be misleading.

The term “generally acceptable” means that either:

the standard has been established by an authoritative accounting rule-making body; or the principle has
gained general acceptance due to practice over time and has been proven to be most useful.

The process of establishing financial accounting standards is a democratic process in that a majority of
practicing accountants must agree with a standard before it becomes implemented.