TOPIC 2

THE CONCEPTUAL
FRAMEWORK FOR
FINANCIAL REPORTING
 OBJECTIVES
Understand the definition,
recognition and measurement
Aware on the need for
of the elements in financial
conceptual framework
statements

Know the objective of financial Understand the link

reporting and the qualitative between MASB and MFRS
characteristics of financial Framework with
reporting international standards

Understand the concept of

Understand the going capital and capital
concern assumption maintenance
 Based on Positive Theory Based on Normative Approach
What is the
• Principles are developed based on • Accounting principles are
appropriate approach observing and predicting
to setting principles prescribed based on what
practices.
of accounting? should or ought to be.
• The aim is to predict what would
happen. • IASB, US FASB and MASB
• Accounting practices adopted by
generally take this approach
firms are often explained on the to develop reporting
basis of showing the true image of standards.
financial performance of the firm. • In deciding what should or
ought to be, an accounting
Criticism framework needs to be
• It does not predict what should or developed first to provide a
ought to be. starting point or as a
• It merely explain and predicts foundation for the
what would happen. formulation of reporting
standards.
Definition of accounting
framework
A structured or coherent system of inter-
related objectives, fundamental
characteristics and concepts that lead to
formulation of high quality and consistent
reporting standards to prescribe the nature,
function and limits of financial accounting and
reporting.
 To identify foundation for financial reporting

To identify the objective of financial

Reasons for statements

developing an To identify the desirable qualitative

accounting characteristics of financial information
Framework
To provide a basis for setting of high-quality
and consistent reporting standards

To serve as a reference point for resolving

accounting issues and disputes.
  July 1998 – MASB issued a discussion
paper MASB DP1, Framework for the
Preparation and Presentation of Financial
The MASB Statements.
 July 2007 – the above discussion paper
Conceptual was finalised as the MASB’s Framework.
Framework  The MASB is currently in the process of
updating its conceptual framework.
for Financial  Conceptual Framework is not a MFRS/FRS
Reporting and hence does not define standards for
any particular measurement or disclosure
issue. If there is a conflict between
Conceptual Framework and MFRS/FRS,
the requirements of the MFRS/FRS prevail.
 Scope of Conceptual Framework

The conceptual Framework document comes in 7 chapters:

• Chapter 1 – The objective of general purpose financial reporting
• Chapter 2 – Qualitative characteristics of useful financial information
• Chapter 3 –The reporting entity
• Chapter 4 – Elements of Financial Statement
• Chapter 5 - Recognition And Derecognition - The Recognition Process
• Chapter 6 - Measurement
• Chapter 7 - Presentation and Disclosure
• Chapter 8 - Concepts of Capital and Capital Maintenance
To assist MASB in development of future MFRSs/FRSs
and review of existing MFRSs/FRSs;

To assist preparers of financial statements in applying

MFRSs/FRSs and in dealing with topics that have yet to
form the subject of MFRSs/FRSs;

To assist auditors in forming an opinion on whether

The Purpose of
financial statements comply with MFRSs/FRSs; Conceptual
To assist users of financial statements in interpreting
Framework
the information whether financial statements comply
with MFRSs/FRSs;

To provide those who are interested in the work of

MASB with information about its approach on
formulation of MFRSs/FRSs.
 An accounting framework needs a
starting point to provide a foundation
for the characteristics, concepts and
What is the models to be developed.
appropriate
objective of
financial
reporting? This requires identifying the
appropriate objective of financial
reporting.
What is the appropriate objective of financial reporting?

1. To provide information to comply with laws and other regulations

(characteristic - reliability/cost model)  emphasise on stewardship

OR
2. To provide information to all users including meeting the social
needs of society (characteristic – understandability/performance
model based on contribution rather than profit)  emphasise on
understandability and based on contribution
OR
3. To provide information to specific users such as providers of risk
capital (characteristic – relevance/fair value model)  more relevant
 Objective chosen
3. To provide information to providers of
risk capital (Investors/Lenders)
Chapter 1 -
Objective of Chapter 1 of Conceptual Framework
The objective of general purpose
General financial reporting is to provide
Purpose information about the reporting entity
Financial that is useful to existing and potential
investors, lenders and other creditors in
Reporting making decisions about providing
resources to the entity.
 Information provided to users
Information provided to users are information about the nature and amounts of
reporting entity’s:
• Economic resources (Assets)
• Claims (Equity and Liabilities)
• How efficient and effective the entity’s management and governing board
have discharged their responsibilities to use the resources

This information can help users to identify the reporting entity’s:

• Financial strengths and weaknesses
• Liquidity and solvency
• Needs for additional financing and how successful in obtaining financing
• Distribution of future cash inflows and outflows
 Buying, selling or holding
equity and debt instruments
Decisions
to be made Providing or settling loans
by users

Other forms of credit

General  General Purpose Financial Reports do
not or cannot provide all of the
Purpose information that the primary users need.
Financial
Reporting  The users need to consider pertinent
information from other sources eg.
Economic conditions, political events and
climate, industry and company outlooks.

 Provide information to help the primary

users to estimate the value of the
reporting entity.
 Fundamental Qualitative
Chapter 2 – Characteristics
Qualitative
Characteristics of Enhancing Qualitative
Useful Financial a) Relevance Characteristics
Information  Materiality
a) Comparability
b) Faithful Representation b) Verifiability
 Completeness c) Timeliness
 Neutrality d) Understandability
 Free from error
 a) Relevance
Relevant financial information is capable of making a
difference in the decisions made by users.
Information is relevant when it influences economic decisions
of users by helping them evaluate past, present and future
events or confirming, correcting past evaluations.
Fundamental Financial information is capable of making a difference in
decisions if it has predictive value, confirmatory value or both.
Qualitative Judgement is required in deciding whether an information is
Characteristics relevant.
Both the nature and materiality of the item are important
considerations in deciding its relevance.
Information is considered material if omitting it or misstating it
could influence decisions made by users.
Materiality is based on the nature or magnitude, or both, of the
items that influenced by either the size of the item or the error
of its omission or misstatement.
 b) Faithful Representation
 Financial reports represented economic phenomena in words and
numbers.
 Financial information must faithfully represent the phenomena that it is
supposed to represent.
 To be a perfectly faithful representation, it has 3 characteristics :
 (i) Completeness
Fundamental  Complete information necessary for a user to understand the
phenomenon being depicted, including descriptions and explanation.
Qualitative  (ii) Neutrality

Characteristics
 The selection or presentation of financial information is depicted
without bias and should not be slanted, weighted, emphasised, de-
emphasised or manipulated, so that users are free to use it to make
their own judgments and decisions.
 Information provided should be based upon facts and supportable
evidences rather than personal opinions of management.
 (iii) Free from error
 There are no errors or omissions in the description of the
phenomenon, the process used to produce the reported
information.
 Applying the Fundamental
Qualitative Characteristics
a) Identify economic phenomenon that has the
potential to be useful to users of financial
information;
b) Identify the type of information about that
phenomenon that would be most relevant
and can be faithfully represented;
c) Determine whether that information is
available and can be faithfully represented;
d) If so, the process of satisfying the
fundamental qualitative characteristics ends.
If not, the process is repeated with next
most relevant type of information.
Enhancing Qualitative Characteristics
Comparability – information
is useful if it can be
compared with similar Verifiability – direct and
information of other indirect verification
entities and with similar
information of the same
entity for another period.

Timeliness – information
Understandability –
available to decision
financial information
makers in time to be
can be easily read and
capable of influencing
understood by users.
their decisions.
 Applying the Enhancing Qualitative
Characteristics

Enhancing qualitative It is a process that does Sometimes one enhancing

qualitative characteristics may
characteristics should be not follow a prescribed have to be diminished to
maximised to the extent order. maximise another qualitative
possible. characteristics.
  Reporting financial information imposes
costs and it is important that those costs
are justified by the benefits of reporting
that information.
The Cost  Costs incurred by providers of financial
Constraint information include collecting, processing,
on Useful verifying and disseminating financial
information.
Financial  Costs incurred by users include analysing
Reporting and interpreting the information provided.
 Benefits derived from information should
exceed the cost of providing it.
 Chapter 4 – Remaining Text (The 2007
Framework)

Chapter 3 Chapter 4 Chapter 5 Chapter 6 Chapter 7 Chapter 8

Underlying The Recognition Measurement Presentation Concepts of
Assumption elements of of elements of elements of and capital and
of Financial financial of financial financial disclosure capital
Statements statements statements statements maintenance
 3. Underlying Assumption

Going Concern
If the business is ongoing, going concern basis can be
applied. Assets and liabilities are recognised in the
balance sheet based on cost models, revaluation model
or fair market value.
If the business cannot continue – going concern basis
cannot be applied. Financial statements need to be
prepared on other basis eg. Liquidation basis.
 Elements of Elements of
Financial Position Performance
• Assets • Income
4. Elements • Liabilities • Expenses
of Financial • Equity • Capital
Statements maintenance
and
adjustments
4. Elements of Financial Statements
INCOME
• Recognised increase in asset or decrease in liability in
ASSET current reporting period
• Resources controlled by entity • Result in increased equity
(tangible/intangible) • Eg: Sales of goods or services – Asset cash/bank
• As a result of past events increase
• Inflow of future economic benefits EXPENSE
• Recognised decrease in asset or increase in liability in
LIABILITIES current reporting period
• Present obligation of entity • Result in decreased equity
• Eg: Purchased of goods, payment of salary – asset
• Arising from past events
cash/bank decrease
• Settlement is expected to result in
outflow of entity resources CAPITAL MAINTENANCE ADJUSTMENTS
• Some items such as PPE, the increases and decreases
are not included in the IS.
EQUITY • Result in equity as capital maintenance adjustment or
Asset - Liabilities revaluation reserves.
 Are the following assets?
1. Fish in the sea (from the
fishermen’s perspective)
Examples 2. Cattle in the farm (from the
owner of the farm’s perspective)
of elements 3. Inventory of cooking oil in the
grocery shop (from the owner of
the shop’s perspective)
5. Recognition of elements of financial
statements
• Recognition is the process of incorporating in the balance
sheet or income statement an item that meets the definition
of an element and satisfies the following criteria for
recognition:
a) It is probable that any future economic benefit associated
with the item will flow to or from the entity.
b) The item has a cost or value that can be measured with
reliability.
 On 1 August 2013, company ABC Bhd purchased
a second-hand motor van by cash RM10,000.
The van is to be used by the company to sent
goods to customers.

Answer:
Example: • The van is an asset because it is controlled by
the company. It is a result of past events and
there will be an inflow of future economic
benefits from the used of the van since the
company use it to sent goods to customers.

• The amount to be recognised is RM10,000.

6. • Measurement is the process of determining the
monetary amounts at which the elements of
Measurement financial statements are recognised and carried
of elements of in the balance sheet and income statement.
financial • This involves the selection of the particular basis
statements of measurement such as:
a) Historical cost
b) Current cost
c) Realisable value – the settlement value
d) Present value – discounted value of future
cash inflows
 To facilitate effective communication of information in financial
statements, thus a balance is needed between:
(a) giving entities the flexibility to provide relevant information that
faithfully represents the entity’s assets, liabilities, equity, income and
expenses; and
(b) requiring information that is comparable, both from period to
period for a reporting entity and in a single reporting period across
entities.
7. Presentation Classification
and Disclosure • sorting of assets, liabilities, equity, income or expenses on the basis
of shared characteristics for presentation and disclosure purposes.
• Such characteristics include—but are not limited to—the nature of
the item, its role (or function) within the business activities
conducted by the entity, and how it is measured.
Aggregation
• adding together of assets, liabilities, equity, income or expenses
that have shared characteristics and are included in the same
classification.
 8. Concepts of capital and capital maintenance
Adopted by Concepts of capital
most entities
Physical concept of
Financial concept of capital
capital Capital is regarded as the
Capital is the net asset or productive capacity of the
equity of the entity. entity based on eg. Units of
Eg: Invested money or invested
output per day.
purchasing power
- Operating capability
Concepts of capital maintenance
• Selection of the appropriate concept of capital should be
based on the needs of users:
A financial concept of capital should be applied if users
are primarily concerned with nominal invested capital
or purchasing power of invested capital.
A physical concept of capital should be applied if users
are primarily concerned with the operating capability of
the entity.
• Most entities adopt financial concept of capital.
  Direct effect on the determination of profit
Concepts of  The principle difference: the effects of changes in the
capital prices of the assets and liabilities.

maintenance Financial capital Physical capital maintenance

maintenance Profit is earned only if the
A profit is earned only if the physical productive capacity
financial amount of net (operating capability) of the
assets at the end of the entity at the end of the
period exceed the financial period exceeds the physical
amount of net assets at the productive capacity at the
beginning of the period, beginning of the period,
after excluding contribution after excluding contribution
from and distribution to from and distribution to
owners during the period. owners during the period.
Example of Concepts
of capital
maintenance (pg. 60)
Conceptual
Framework
Thank You