Conceptual Framework
Expense Recognition Principle (aka Matching Principle)
Costs should be recognized as expenses when the goods or services represented by the costs contribute to revenue.
Basic Principles of Accounting
Measurement Principle Historical Cost Fair Value
FASB has issued eight Statements of Financial Accounting Concepts
(SFAC or SCON).
The framework is comprised of three levels:
1st level: Basic objective of financial reporting 2nd level: Fundamental concepts; qualitative characteristics of accounting information and basic elements of financial statements 3rd level: Recognition and measurement concepts
Recognition
process of formally incorporating an item into the financial statements of an entity
Fair Value Hierarchy
Level 1 - observable inputs that reflect quoted prices for identical assets or -liabilities in active markets. Level 2 - inputs other than quoted prices included in Level 1 that are observable for the asset or liability either directly or through corroboration with observable data; may rely on observing market information for assets and liabilities traded in active markets that are similar to the company's assets and liabilities. Level 3 - Unobservable inputs; judgment is needed based on the best information available to arrive at a relevant and faithful representation of the asset or liability.
Fundamental Qualities
Relevance 1. Predictive value 2. Confirmatory value 3. Materiality Faithful representation 1. Completeness 2. Neutrality 3. Free from error
3rd level: Recognition and measurement concepts
SFAC 5 presents basic assumptions and principles that underlie the structure of financial accounting and provides guidance about recognition of financial statement elements and specific guidance about revenue recognition.
Elements of Financial Statements
SFAC 6, a revision of SFAC 3 * Assets * Liabilities * Equity * Investments by owners * Distributions to owners * Comprehensive income * Revenues * Expenses * Gains * Losses
1st level: Basic objective of financial reporting
SFAC 8 Information that is useful to present to potential equity investors, lenders, and other creditors in making decisions about providing resources to the entity.
2nd level: Qualitative characteristics of accounting information and basic elements of financial statements
SFAC 8, Chapter 3: describes the fundamental qualities of accounting information
The FASB specified that general-purpose financial statements that serve the needs of these two user groups are based on the assumption that:
the users are reasonably sophisticated, and understand the information
Constraints
* Cost constraint (cost-benefit relationship) * Industry Practice * Conservatism - SFAC 8 removed
Recognition criteria
* Definitions * Measurability * Relevance * Reliability
Assumptions Underlying Current Accounting Theory
* Economic Entity Assumption * Going Concern Assumption * Monetary Unit Assumption * Periodicity Assumption
Enhancing Qualities
1. Comparability 2. Timeliness 3. Understandability
The conceptual framework has two major goals:
1. Guide the standard-setting process, with the goal of achieving a more theoretically consistent body of accounting standards. 2. Provide a theoretical foundation for the timely resolution of emerging accounting issues
Full Disclosure Principle
In the preparation of financial statements, the accountant should include information to permit the knowledgeable reader to make an informed judgment about the financial condition of the enterprise in question.
the Conceptual Framework is
a coherent system of interrelated objectives and fundamental concepts that prescribes the nature, function, and limits of financial accounting and reporting and that is expected to lead to consistent guidance
Revenue Recognition Principle
• the earnings process is complete or virtually complete (i.e., earned) and • the amount and timing of the revenue to be collected are reasonably determinable (i.e., realized or realizable).
