CHAPTER 1

THE CONCEPTUAL FRAMEWORK

CHAPTER LIST
1. Definition and purpose of the IFRS’ conceptual framework for financial reporting
2. Advantages and disadvantages of a conceptual framework
3. Objectives of financial statements
4. Underlying assumption when preparing financial statements
5. Qualitative characteristics of financial statements
6. Elements of financial statements
7. Recognition
8. Measurement

Prepared by

Mr. Kaulu B

© 2017

Kaulu .B. © 2017 Phone: 0979024916

1
 THE CONCEPTUAL FRAMEWORK

1.1 The conceptual framework and its purpose

The IFRS conceptual framework is a statement of generally accepted theoretical principles that
forms a frame of reference for financial reporting (BPP, 2010). The International Accounting
Standards Board (IASB) first released a Framework for the Preparation and Presentation of
Financial Statements in the year 1989. This was replaced by the Conceptual Framework for
Financial Reporting in the year 2010. This latter document is what is used/ referred to by the
IASB when preparing new financial reporting standards.

The purpose of the conceptual framework is to:

(1) describe the basic concepts that underlie the preparation and presentation of financial
statements for external users.

(2) serve as a guide to the Board in developing future IFRSs and as a guide to resolving
accounting issues that are not addressed directly in an International Accounting Standard
or International Financial Reporting Standard or Interpretation.

From the foregoing, apart from helping guide the standard setting process, the conceptual
framework forms a frame of reference for financial reporting and covers inter alia the following:

(a) The objective of general purpose financial reporting

(b) The reporting entity
(c) Qualitative characteristics of financial statements
(d) Underlying assumptions
(e) The elements of financial statements
(f) Recognition of the elements of financial statements
(g) Measurement of the elements of financial statements
(h) Concepts of capital and capital maintenance

We will look at these in turn in the rest of this chapter.

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 IAS Plus (2017)

1.2 Advantages and disadvantages of a conceptual framework

The existence of a conceptual framework has both advantages and disadvantages. Figure 1.1
below summaries some of these.

Figure 1.1: Advantages and disadvantages of a conceptual framework

Source: Author’s construction from various sources (2017)

NB: See sources of GAAP for an explaination of three tier accounting in Zambia.

Students often confuse the conceptual framework with Generally Accepted Accounting Practice
(GAAP). Whereas; the former can be thought of as a single document, the latter (GAAP) refers
to all the rules from whatever source that govern accounting. Therefore, the examples of GAAP
include:

 National company law (for Zambia, this is the Chapter 388 of the Laws of Zambia: The
Companies Act 1994 – as amended). Some sections of this law stipulate when financial
statements should be prepared by companies registered under this Act and require

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 companies to provide an annual return to the registrar of companies which should include
financial statements for the year. Hence, company law is a source of GAAP
 National Accounting Standards: For Zambia, the Accountant’s Act of 2008 delegates
the authority of regulating the accountancy profession in Zambia to a regulatory body
which is currently the Zambia Institute of Chartered Accountants (ZICA). All accounting
rules adopted by ZICA therefore become part of GAAP in Zambia.
 Local stock exchange requirements: Listed and quoted companies are supposed to
follow the accounting regulations stipulated by the local stock exchange laws. These
requirements therefore form part of GAAP. In Zambia, the local stock exchanges have
been regulated under CAP354, the Securities Act of 1993 which was recently replaced by
the Securities Act 2016.
 International Accounting Standards (IAS) and International Financial Reporting
Standards (IFRS): Prior to 2005, ZICA had not fully adopted international accounting
standards and accountants used to use national standards. However, since that year, IFRS
were adopted with Zambia following a three tier framework of financial reporting

(a) In the first tier, full IFRS are supposed to be applied. This tier includes companies
that are listed, public interest companies and government owned enterprises.
(b) Tier two consists of economically significant companies which are neither listed nor
quoted on the stock exchange and have turnover equal to or greater than K20 million.
These can choose to either use IFRS for SMEs or full IFRS.
(c) Micro and small entities with turnover of less than K20 million fall under tier three
and should follow Zambian Financial Reporting Standards for Micro and Small
Entities

Because GAAP refers to all the rules from whatever sources which govern accounting; the list of
sources of GAAP for any country could be endless. What is important is to know the key sources
in any jurisdiction under consideration.

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1.2 Objectives of financial reporting

The objective of financial reporting is to provide information about the reporting entity that is
useful to users of financial statements in making economic decisions. In line with the foregoing,
financial statements are prepares with three main objectives. These are to show the financial
position, to show the financial performance and the changes in financial performance. These
objectives are summarized in Figure 1.2.

Figure 1.2: Objectives of financial statements

Source: Author’s construction from various sources (2017)

1.3 Underlying assumptions when preparing financial statements

Financial statements are prepared with the underlying assumption of going concern. Going
concern is the assumption that the entity will not liquidate or curtail materially the scale of its
operations. Simply put, it is the assumption that the entity will continue in operation for the
foreseeable future. Although not recognized as an underlying assumption, the conceptual
framework further states that financial statements are prepared on the assumption of accruals.
The accruals concept assumes that effects of a transactions are recognized in the period when
the transaction occurs rather than when cash changes hands. Hence revenue is recognized when

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earned rather than when cash changes hands and expenses are recognized when incurred rather
than when they are paid for.

1.3 Qualitative characteristics of financial statements

Financial statements must have some characteristics for them to be useful to the users. The
fundamental qualitative characteristics of financial statements according to the conceptual
framework are:

(a) Faithful representation

(b) Relevance

Additionally, these are supported by the following enhancing characteristics:

(a) Comparability
(b) Understandability
(c) Timeliness
(d) Verifiability

Mnemonic: Think of Financial Reporting; See You TV (FR-CUTV)

1.4 Elements of financial statements

The elements of financial statements are the broad classes into which transactions are grouped in
the financial statements. There are five main elements as per Table 1.3.

Table 1.3: Elements of Financial statements

Statement of Financial Position Statement of profit or loss

1. Assets 2. Income

3. Liabilities 4. Expenses

5. Equity

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The following are the definitions of the elements of financial statements:

(a) Asset: An asset is a resource controlled by the entity as a result of past events and which
is expected to result in an inflow of resources to the entity embodying economic benefits.
(b) Liability: A liability is the entity’s present obligation arising from past events the
settlement of which would result in an outflow of resources from the entity embodying
economic benefits.
(c) Equity: Equity is the company owners’ residual interest in the assets of the entity after
deducting all its liabilities.
(d) Income: Income refers to increases in economic benefits during the accounting period.
These increases are as a result of:
 Inflows or enhancements of assets or
 decreases of liabilities that result in increase in equity other than those relating to
contributions from equity participants
(e) Expenses: Expenses are decreases in economic benefits during the accounting period.
These decreases are as a result of:
 outflows or depletions of assets or
 incurrence of liabilities that result in decrease in equity other than those relating to
distributions to equity participants

The conceptual framework stipulates the recognition and measurement criteria for each of the
elements.

1.5 Recognition of elements of financial statements

Recognition is the process of incorporating elements in the financial statements. According to

the conceptual framework, an item should be recognized in the financial statements if:

• it meets the definition of an element

• it is probable that future economic benefits will flow to or from the entity

• the [value of the] item can be measured reliably.

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1.6 Measurement of elements of financial statements

Measurement is the process of attaching value/cost to the transactions/elements for the purpose
of determining at what amount they will be carried in the financial statements. The framework
recognizes four measurement bases as summarized below:

Figure 1.4: Measurement bases

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 Exam focus and tips
After reading this chapter, review the following questions:
1. What is the IFRS’s conceptual framework for financial reporting?
2. What are the advantages and disadvantages of a conceptual framework?
3. What is/are GAAP?
4. State three objectives of financial statements.
5. State the main underlying assumption of financial statements.
6. Briefly explain two fundamental and four enhancing qualitative characteristics of
financial statements.
7. What are the elements of financial statements? Define them.
8. What is recognition of elements of financial statements and what is the recognition
criteria for each of the five elements of financial statements?
9. What is measurement of elements of financial statements?
10. Explain the four major bases for measurement of elements.

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REFERENCES

ACCA (2016), ACCA Study notes Paper F7 – FR S16/17, Kaplan Publishing UK Unit 2, The
Business Centre, Molly Millars Lane, Wokingham, Berkshire, RG41 2QZ.

ACCA (2016), ACCA Study notes Paper P2 – CR S16/17, Kaplan Publishing UK Unit 2, The
Business Centre, Molly Millars Lane, Wokingham, Berkshire, RG41 2QZ.

Kaulu .B. © 2017 Phone: 0979024916

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