The Regulatory

Framework of
Accounting

M C Pratt
St Martin’s College
Lancaster

Copyright, 2002 © M C Pratt

Introduction 1

 Unincorporated UK businesses can prepare their

financial statements in any form they choose
 Companies must comply with the provisions of:
 the Companies Act 1985
 SSAPs Accounting standards
 FRSs
Introduction 2

 Accounting standards apply to all

financial statements whose purpose is to
give a ‘true and fair’ view
 therefore, they apply to every UK
company’s financial statements
Introduction 3

 Therefore, regulatory framework based on:

 company law
 accounting standards
 International accounting standards and
 other national standard setting bodies’ influence
 Stock Exchange requirements
Company
Companylaw
law11

 Companies Act 1985 consolidated most

previous UK company legislation and
subsequently amended by Companies Act
1989
 EU: UK obliged to comply with EU legislation
by enacting UK laws to implement EU
directives. Companies Act 1989 in part
enacted to implement provisions of EU’s 7th
and 8th Directives
Company law 2

 Some accounting principles are embodied

in law.
 Others are regulated by accounting
standards
Accounting standards 1

 rules or sets of rules prescribing the

method(s) by which accounts (financial
statements) should be prepared and
presented.
 These are ‘working regulations’ and are
issued by a national or international
body of the accountancy profession.
Accounting standards 2

 previously known as SSAP s

 formulated by Accounting Standards
Committee (ASC)
 now known as FRS s
 formulated by the Accounting
Standards Board (ASB)
 ASB is the successor to the ASC
Accounting standards 3
2

 SSAPs formulated by ASC, and not been

replaced by an FRS, are still in force
 accounting standards interact with
company law:
 final accounts (financial statements)
must state whether accounting standards
provisions have been followed or give
reasons for any departures
Accounting standards 4

 Stock Exchange insists on member

organizations (listed companies)
following accounting standards
 failure to comply with accounting
standards will lead to auditors
“qualifying” their report
 – which companies will wish to avoid!
UK standards setting
process (1)

 Dearing Committee Report 1988 led to

ASC being disbanded
 Replaced by following:
FRC
 guides the standards setting body
(ASB) on policy and
 sees that its work is properly financed
UK standards setting
process (2)

ASB
 devises the accounting standards
 issues standards on its own authority
 full-time chair and technical director
 two-thirds majority required to
approve (and issue) new accounting
standard
 legal backing to accounting standards
UK standards setting
process (3)

UITF
 Offshoot of ASB
 Function:
 ‘to tackle urgent matters not covered
by accounting standards and for
which, given the urgency, the normal
standards-setting process would not
be practicable.’
(Sir Ron Dearing)
UK standards setting
process (4)
 U I T F cont’d
 pronouncements called ‘abstracts’
 and intended to become effective quickly
 tend to become effective within approx.
1 month of pub. date
 abstracts then superseded by FRSs and
FREDs
 abstracts close loopholes, thus halting
abuses when they become widespread
UK standards setting
process (5)
 Review Panel 1
 chaired by barrister
 concerned with examining and questioning
departures from accounting standards by
large companies
 Companies Act 1985’s provisions - financial
statements must give reasons for any
departures - ‘triggers’ cases for
investigation by Review Panel
UK standards setting
process (6)
 Review Panel 2
 revised accounts have to be circulated to
all persons likely to rely on the previous
accounts
 companies are becoming more cautious in
their attempts to break or bend the rules
 most ‘disciplined’ companies have obeyed
Panel decisions without any real argument
UK standards setting
process (7)
 Review Panel 3
 discussion with company should resolve
most referrals, but
 Panel has power to apply to courts for
revisions of company’s accounts
 court costs potentially payable by directors
 auditors can also be disciplined if audit
report was not qualified due to departure
from accounting standards
International Accounting
standards (IASs)
 Produced by IASC

 IASC 1
 set up in 1973
 works for improvement and harmonisation
of financial reporting
 develops IAS s through an international
process, involving:
International Accounting
standards (IASs)
 IASC 2
 involving:
 world-wide accounting profession,
 preparers and users of financial statements
 national standard setting bodies
International Accounting
standards (IASs)
 IASC 3
 Objectives:
 formulate and publish accounting standards (in
public interest) for companies to observe in
presenting financial statements, and
 promote world-wide acceptance and observance
 works generally for improvement and
harmonisation of regulations, accounting
standards and procedures relating to financial
statements presentation
International Accounting
standards (IASs)
 IASC 4
 impact on ASB:
 IASC’s Framework for preparation and
presentation of financial statements was
introduced to:
 ‘set out the concepts that underlie the
preparation and presentation of
financial statements for external users’
International Accounting
standards (IASs)
 IASC 5
 ASB has adopted same conceptual
approach to financial reporting as the
IASC, because:
 ASB has based own Statement of
Principles on the IASC’s Framework
 ASB states in its FRS s that they comply
with IAS s or IAS exposure drafts
The Stock Exchange 1

 In UK, two different securities markets:

 Stock Exchange
 Alternative Investment Market

 shares quoted on Stock Exchange are said to be ‘listed’

 to obtain listing, company must conform with Stock
Exchange rules in ‘Yellow Book’ issued by Stock
Exchange’s Council
The Stock Exchange 2

 firms commit themselves to obey certain procedures and

standards, including rules on accounting information
disclosure
 rules are more stringent than Companies Acts
 Yellow Book requirements not backed by law,
 Stock Exchange can withdraw company’s securities from
its market/listing, so company’s shares would not be
traded on Stock Exchange
GAAP (1)

 Means all rules from whatever source which

govern accounting.
 In UK, combination of:
 Company law, mainly Companies Act 1985
 Accounting standards
 Stock Exchange requirements
GAAP (2)

 Also includes:
 International Accounting standards
 Laws in other countries, particularly in USA
 Not backed by law in UK.
 No UK legal definition
 Has US legal definition/authority
GAAP (3)

 dynamic – changes with circumstances: legal,

accounting standards and practice changes
 this recognised in ASB’s Statement of Aims:
‘changes’:
 ‘evolving business practices, new economic
developments and deficiencies identified in
current practice…’
GAAP (4)

 emphasis has shifted from ‘principles’ to

‘practice’ in UK GAAP
 Not easy to settle ‘generally accepted’ so is:
 whether practice addressed by UK accounting
standards, laws, international equivalents,
 whether other companies have adopted practice.
 Especially: is practice consistent with needs of
users and objectives of financial reporting and
 is it consistent with ‘true and fair’ concept
GAAP and Conceptual
Framework of Accounting (1)
 FASB (USA) has defined Conceptual Framework.
 Conceptual Framework: (1)
 ‘a constitution, a coherent system of
interrelated objectives and fundamentals that
can lead to consistent (accounting) standards
and that prescribes the nature, function and
limits of financial accounting and financial
statements.’
GAAP and Conceptual
Framework of Accounting (2)
 avoids ‘fire fighting’ – in SSAP approach
 aim to develop underlying philosophy as basis
for consistent accounting principles so each
SSAP/FRS structured into whole framework
 lot of work on conceptual framework carried out
 by IASC’s Framework for preparation and
presentation of financial statements, published
1989
GAAP and Conceptual
Framework of Accounting (3)
 Professor David Solomons’ 1989 discussion
paper addressed to:
 ASC’s Guidelines for Financial Reporting
Standards
 paper known as Solomons Report
GAAP and Conceptual
Framework of Accounting (4)
 IASC’s Framework not mandatory. Deals with:
 Objectives of financial statements
 Qualitative characteristics that decide usefulness
of information in financial statements
 Definition, recognition and measurement of
elements from which financial statements built
 Concepts of ‘capital’ and ‘capital maintenance’
GAAP and Conceptual
Framework of Accounting (5)
 IASC believe international harmonisation of
accounting methods possible by focussing on above
 Solomons Report is similar and deals with:
 purpose of financial reporting
 financial statements and their elements
 qualitative characteristics of accounting information
 recognition and measurement
 choice of a general purpose accounting model.
GAAP and Conceptual
Framework of Accounting (6)
 Solomons Report:
 Recognises unsatisfactory nature of then
current ‘fire fighting’ approach to UK standard
setting and
 Produced his own set of guidelines he felt
could provide an explicit statement of agreed
financial accounting concepts
GAAP and Conceptual
Framework of Accounting (7)
 Advantages : (1)
 SSAPs were on ‘patchwork’ basis
 Certain SSAPs were subject to considerable political
interference from interested parties
 Some external pressure was too strong for ASC to
withstand
 Policies derived from conceptual framework would
be less open to criticism leading to strong external
pressure
GAAP and Conceptual
Framework of Accounting (8)
 Advantages : (2)
– Some SSAPs concentrated on Income Statement.
– Others concentrated on Balance Sheet.
– An unambiguous definition of ‘income’ and ‘value’
would ensure that all financial statements have
equal usefulness to different user groups.
GAAP and Conceptual
Framework of Accounting (9)
 Disadvantages : (1)
 Counter argument might be:
Financial statements intended for variety of
users and may not be possible to devise
single conceptual framework suiting all users.
May need variety of accounting standards,
each produced for different purpose (and
with different concepts as basis)
Accounting Standards
Board (ASB) (1)
 ASC set up in 1970
 joint committee of 6 major UK accountancy bodies,
members of CCAB
 Produced SSAPs after consultation
 Not all consultation was satisfactory and some SSAPs
criticised for being ‘unrealistic’ and ‘unfair’.
 SSAPs applied to all financial statements intended to
give a ‘true and fair’ view, including overseas
companies incorporated in UK company accounts
Accounting Standards
Board (ASB) (2)
 Some SSAPs only applied to listed companies
 Some areas of SSAPs overlap with company law but
intention is to cover areas where law is silent
 UK accountancy bodies prefer self-regulation, not
laws
 Departure from Companies Act 1985 allowable if
consistent with giving ‘true and fair’ view, so
SSAPs may recommend departure from the law
Accounting Standards
Board (ASB) (3)
 SSAPs and FRSs generally apply to UK private
companies
 accounting standard will choose one particular
treatment deemed to be best practice
 But is it?
 SSAPs have been developed haphazardly
Accounting Standards
Board (ASB) (4)
• FRS s
 Draft for Discussion (DD) is first produced
 Then converted into F R E D s
 Other ASB published documents known as
Exposure Drafts
Accounting Standards
Board (ASB) (5)
• Statement of Aims
 ‘To establish and improve (accounting)
standards of financial accounting and reporting
by’ :
 developing principles
 issuing new accounting standards
 addressing urgent issues promptly
Urgent Issues Task Force (UITF)

 offshoot of Accounting Standards Board

 ‘urgent matters not covered by existing standards,
and for which, given... urgency,… normal standard
setting process ...not ...practicable’ (Dearing)
 ‘abstracts’ intended to come into force quickly
 at least 22 ‘abstracts’ so far; some ‘turned into’
FRSs or FREDs
 has closed many loopholes
Big GAAP/Little GAAP (1)

 Most UK companies small, generally owned and

managed by one person or family
 No outside shareholders
 Large companies with outside shareholders needing
protection so larger companies need tougher rules
 Could have 2 types of company accounts:
 Simple ones with fewer rules and requirements
 Complicated ones for large companies with stringent
rules and requirements
Big GAAP/Little GAAP (2)

 Therefore, been that suggested small companies

should be exempt from all accounting standards,
except certain (5) core ones
 This seen as too radical at first,
 now idea is being more accepted
 an FRS for small companies/entities (FRSSE) has
been developed
Big GAAP/Little GAAP (3)

 FRSSE (1)
 retains all basic principles of accounting standards
but discards detailed explanatory notes
 applicable to all companies meeting definition of
‘small company’
 company complying with FRSSE then exempt from
all other accounting standards
 FRSSE contains, in simplified form, requirements
from existing accounting standards relevant to most
small entities
Big GAAP/Little GAAP (4)

 FRSSE (2)
 large companies must prepare cash flow statement
 small companies do not need to,
 but recommended to produce simplified version by
FRSSE
 ‘a commendable summary of UK GAAP… succint and
to the point.’
(Barry Johnson, Certified Accountant, Feb. 1996)
Big GAAP/Little GAAP (4)

 FRSSE (3)
 However:
 FRSSE not likely to make preparing financial
statements easier or cheaper
 exemption from disclosure, not measurement
 Not everybody convinced of case for relaxing
measurement for smaller companies
 Some say it should say, in each FRS or SSAP, what
not applicable to smaller companies
Big GAAP/Little GAAP (4)

 FRSSE (4)
 questionable whether accounts produced under
FRSSE will give ‘true and fair’ view (which applies
to all companies) under the Companies Acts
 users would still have to refer to ‘mainstream’
accounting standards in order to give a ‘true and
fair’ view
 balance between those favouring no accounting
standards for small companies and those wanting
to retain present system
Big GAAP/Little GAAP (4)

 FRSSE (5)
 FRSSE will be periodically updated and revised to
reflect future developments in financial reporting
 FRSSE will probably be carefully monitored and
reviewed after 2 years in operation
Key (1)
• AIM Alternative Investment Market
• ASB Accounting Standards Board
• ASC Accounting Standards Committee
• CA Companies Act(s) (eg CA 1985)
• CCAB Consultative Committee of Accounting Bodies
• DDs Drafts for Discussion/Discussion Drafts
• DTI Dept. of Trade and Industry
• EDs Exposure Drafts
• EU European Union
• FASB The Financial Accounting Standards Board (USA)
• FRC Financial Reporting Council
Key (2)
• FREDs Financial Reporting Exposure Drafts
• FRRP (Financial Reporting) Review Panel
• FRSs Financial Reporting Standards
• FRSSE FRS for Small Entities
• GAAP Generally Accepted Accounting Practice
• IASC International Accounting Standards Committee
• IASs International Accounting Standards
• SORPs Statements of Recommended Practice
• SSAPs Statements of Standard Accounting Practice
• UITF Urgent Issues Task Force
• UK United Kingdom