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CONCEPTUAL FRAMEWORK AND ACCOUNTING STANDARDS NOTESby: Jose Noel P. PalomoOVERVIEW OF ACCOUNTINGAccounting DefinitionAc c o u n t i n g i s t h e p r o c e s s o f i d e n t i f y i n g , m e a s u r i n g a n d communicating economic information to permit informed judgements and decisions by users ...

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CONCEPTUAL FRAMEWORK AND ACCOUNTING STANDARDS NOTES by: Jose Noel P. Palomo OVERVIEW OF ACCOUNTING

Accounting Definition

Accou nting is the process of identifying, mea su ring a nd communicating economic information to permit informed judgements and decisions by users of the information

Three most important

1. Identifying activities included in 2. Measuring the definition of 3. Communicating accounting Identifying

analysing whether or not they will be recognised

T yp es of ev ent s o r 1. External Events transactions

2. Internal Events

1. Exchange (Reciprocal Transfer) T y pe s o f E xt er n al 2. Non-reciprocal Transfer Events 3. External Event Other Than Transfer Exchange (Reciprocal Giving and receiving Transfer) Non-reciprocal Transfer “one way” External event other Involves changes in the economic resources or obligations caused by than transfer

an external party or external source, but does not involve transfer

T y p e s o f I n t e r n a l 1. Production Events

2. Casualty

Production

Resources transformed into finished goods

Casualty

Unanticipated loss from disasters

Measuring

Most commonly used is historical cost, to be prepared using a mixture of costs and values

Valued by Opinion

Affected by estimates

Valued by Facts

To be valued by facts

Types of Information provided by accounting Q u a n t i t a t i v e Information Qualitative Information

1. Quantitative Information 2. Qualitative Information 3. Financial Information Numbers Words

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Financial Information General Purpose; Special Purpose

Money Types of Accounting Information Classifies as to Users’ Needs

General Purpose

Designed to meet the common needs of most statement users

Special Purpose

Designed to meet the specific needs of particular statement users

Body of Knowledge

Accounting as a social science

Cr ea t ive S k il ls a nd Judgement

Accounting as a practical art

Information to Financial Reports and Accounting as an Information System Communicates Fundamental

to c o m m u n i c a t i o n o f Accounting as a language of business financial information Creative Thinking

Most important in identifying alternative solution

Critical Thinking

Most important in evaluating alternative solution 1. 2. 3. 4. 5.

Double-entry System Going Concern Assumption Separate Entity Stable Monetary Unit Time Period

6. Materiality Concept 7. Cost-benefit 8. Accrual Basis of Accounting

Accounting Concepts

9. Historical Cost Concept 10. Concept of Articulation 11. Full Disclosure Principle 12.Consistency Concept 13. Matching 14. Entity Theory 15. Proprietary Theory 16. Residual Equity Theory 17. Fund Theory 18. Realization 19. Prudence 20.Matching Concept 21. Systematic and Rational Allocation 22.Immediate Recognition

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1. Financial Accounting 2. Management Accounting 3. Cost Accounting 4. Auditing 5. Tax Accounting Common Branches of 6. Government Accounting Accounting 7. Fiduciary Accounting 8. Estate Accounting 9. Social Accounting 10. Institutional Accounting 11. Accounting Systems 12.Accounting Research 1. Practice of Public Accountancy Sectors in Practice of 2. Practice in Commerce and Industry 3. Practice in Education/Academe Accountancy 4. Practice in the Government N e e d f or r e p o r t i n g Financial statements would not be comparable, the risk of fraudulent standards reporting is heightened 1. Financial Reporting Standards Council (FRSC) 2. Philippine Interpretations Committee (PIC) Accounting Standard 3. Board of Accountancy (BOA) S et t in g B od i es a n d 4. Securities and Exchange Commission (SEC) Other R elev ant 5. Bureau of Internal Revenue (BIR) Organisation 6. Bangko Sentral ng Pilipinas (BSP) 7. Cooperative Development Authority (CDA) 1. International Financial Reporting Interpretations Committee (IFRIC) 2. IFRS Advisory Council I n t e r n a t i o n a l 3. International Federation of Accountants (IFAC) Organisations 4. International Organisation of Securities Commissions (IOSCO) Other

R elev ant

CONCEPTUAL FRAMEWORK FOR FINANCIAL REPORTING Purpose of Conceptual 1. Assist the International Accounting Standards Board (IASB) Framework for General 2. Assist preparers in developing consistent accounting policies P ur p o se F i na n ci a l 3. Assist all parties in understanding and interpreting Reporting Conceptual Framework

1. Promote transparency provides foundation for 2. Strengthen accountability the de ve lopm ent of 3. Contribute to economic efficiency standards Status of Conceptual Conceptual Framework is not a Standard. If a conflict arises, standard Framework will always prevail

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General Purpose Scope of the Conceptual Framework Financial Reporting Objective of Financial Useful to existing and potential investors, lenders and other creditors Reporting Liquidity

Pay short-term

Solvency

Pay long-term

Q u a l i t a t i v e Identify the types of information that are likely to be most useful. Characteristics F u n d a m e n t a l

1. Relevance Q u a l i t a t i v e 2. Faithful Representation Characteristics 1. Enhancing Qualitative 2. Characteristics 3. 4.

Comparability Verifiability Timeliness Understandability

R e l e v a n c e 1. Predictive Value Characteristics 2. Confirmatory Value

Materiality

Matter of judgement; has four steps 1. Identify 2. Assess 3. Organise 4. Review

Faithful Representation

1. Completeness

Characteristics

2. Neutrality 3. Free From Error

Cost Constraint

Pervasive constraint to provide useful financial information

1. 2. Elements of Financial 3. Statements 4.

Assets Liabilities Equity Income

5. Expenses M e a s u r e m e n t Must be measured to be recognised; use of reasonable estimates is an Uncertainty essential part of financial reporting Unit of account

Group of rights; group of obligations; group of rights and obligation

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1. Historical Cost 2. Current Value Measurement Bases

A. Fair Value B. Value in Use and Fulfillment Value C. Current Cost

C a s h - fl o w - b a s e d 1. Statistical Mean M e a s u r e m e n t 2. Statistical Median Techniques 3. Statistical Mode P r e s e n t a t i o n a n d 1. Presentation and disclosure objectives and principles D i s c l o s u r e 2. Classifying Requirements 3. Aggregating Presentation and 1. Flexibility to provide relevant faithfully represented information Disclosure Objectives 2. Intra-comparability and Inter-comparability and Principles Offsetting

Assets and liabilities with separate units of account are combined

Aggregation

Adding together of assets, liabilities, equity, income or expenses

Concepts of Capital and Capital Maintenance

1. Financial Concept of Capital - invested money or invested purchasing power 2. Physical Concept of Capital - entity’s productive capacity

PAS 1: PRESENTATION OF FINANCIAL STATEMENTS Purpose of PAS 1

PAS 1 prescribes the basis for presentation of general purpose financial statements; to ensure comparability

Types of Comparability

1. Intra-comparability 2. Inter-comparability

Primary Objective of Provide financial position, financial performance and cash flows Financial Statements Secondary Objective of Show results of management’s stewardship Financial Statements 1. Fair Presentation and Compliance with PFRS 2. Going Concern 3. Accrual Basis of Accounting Gener al Fea tur es of 4. 5. Financial Statements 6. 7. 8.

Materiality and Aggregation Offsetting Frequency of Reporting Comparative Information Consistency of Presentation

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1. Name of entity 2. Individual or group entity

Structure and Content 3. Date of end/ Period covered of Financial Statements 4. Currency used 5. Rounding used 1. Preparation and fair presentation M a n a g e m e n t ’ s 2. Internal control R es po ns ib il it y ov er 3. Going concern 4. Oversight Financial Statements 5. Review and approval Statement of Financial Position

PAS 1 does not prescribe the order or format

Types of Presentation of

1. Classified Statement of Financial 2. Unclassified Position Wo r k ing Ca p it a l Formula

Current Assets - Current Liabilities

Refinancing Agreement

Replacement of an existing debt with a new one but with different terms

Loan facility

Credit line

Statement of Profit or L o s s a n d O t h e r 1. Single Statement Comprehensive Income 2. Two Statements Presentation This method of computing for profit or loss is called the “transaction approach” Profit or Loss

PAS 1 prohibits the presentation of extraordinary items in the statement of profit or loss and other comprehensive income or in the notes

Presentation Expenses

of

1. Nature of Expense 2. Function of Expense If the function of expense method is used, additional disclosures on the nature of expenses shall be provided

Other Comprehensive Income

Comprises of items of income and expense that are not recognised in profit or loss as required or permitted by other PFRSs Amounts recognised in OCI are usually accumulated as separate components of equity

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Amounts reclassified to profit or loss in the current period that were recognised in other comprehensive income in the current or previous period Reclassification adjustments arise on disposal of foreign operation, Reclassification derecognition of debt instruments measure at FVOCI, or when a cash Adjustments flow hedge becomes ineffective or affects profit or loss On derecognition the cumulative gains and losses that were accumulated in equity on these items are reclassified from OCI to profit or loss called reclassification adjustment Total Comprehensive Income

Sum of profit or loss and other comprehensive income Comprises all ‘non-owner’ changes in equity

Statement of Changes in PAS 1 allows the disclosure of dividends, and the related amount per Equity share, either in the statement of changes in equity or in notes S t a t e m e n t o f C a s h PAS 1 refers the discussion and presentation of statement of cash Flows flows to PAS 7 Notes provides information addition to those presented in the other financial statements Notes

PAS 1 requires an entity to present the notes in a systematic manner Notes are prepared in a necessarily detailed manner PAS 2: INVENTORIES

Purpose of PAS 2

Accounting treatment for inventories

Measurement

Measured at the lower of cost and net realisable value

Types of Costs

1. Purchase Cost 2. Conversion Costs 3. Other Costs

1. Excluded from cost of 2. inventories 3. 4.

Abnormal amounts water Storage costs Administrative overheads Selling costs

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Computation of cost of inventories that are charged as expense 1. Specific Identification - not ordinarily interchangeable; not

Cost Formulas

appropriate for inventories of large number of items 2. First-In, First-Out (FIFO) - inventories that were purchased or produced first are sold first 3. Weighted Average (WA) - weighted average cost of beginning inventory and all inventories purchased Cost formulas refer to “cost flow assumption” PAS 2 does not permit the use of Last-in, first out (LIFO) Estimated selling price in the ordinary course of business less estimated cost of completion and the estimated costs necessary to

Net Realizable Value make the sale (NRV) Write-downs of inventories are usually carried out on an item by item basis REMARKS

Please refer to the book for computations PAS 7: STATEMENT OF CASH FLOWS

Purpose of PAS 7

PAS 7 prescribes the requirements in the requirements in the presentation of statement of cash flows

Cash

Cash on hand and cash in bank

Cash Equivalents

Short-term, highly liquid investments

Cash Flows

Inflows and outflows

1. Operating Activities Classification of Cash 2. Investing Activities Flows 3. Financing Activities Operating Activities

Revenue-producing activities

Investing Activities

Acquisition and disposal of noncurrent assets and other investments

Financing Activities

Affect the entity’s equity capital

Ge ne r a l Co nc ep t in Prepara tion o f Only transactions that affected cash and cash equivalents are S t a t e m e n t o f C a s h reported Flows

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1. Direct Method 2. Indirect Method

Presentation

PAS 7 does not require ant particular method, however, PAS 7 encourages the direct method Direct and indirect method of presentation is applicable only for operating activities

Changes in Ownership Loos or obtaining of control are classified as investing activities. Interes ts i n Those that do not result to loss or obtaining of control are classified as Subsidiaries financing activities PAS 8: ACCOUNTING POLICIES, CHANGES IN ACCOUNTING ESTIMATES AND ERRORS

Purpose of PAS 8

PAS 8 prescribes the criteria for selecting, applying, and changing accounting policies and the accounting and disclosure of changes in accounting policies, changes in accounting estimates and correction of prior period errors Specific principles, bases, conventions, rules and practices applied by an entity in preparing and presenting financial statements

Accounting Policies

The management uses its judgement in developing and applying an accounting policy that results in information that is relevant and reliable PAS 8 requires the consistent selection and application of accounting policies

Changes in Accounting Policies

PAS 8 permits a change in accounting policy only is the change: 1. Required by PFRS 2. Reliable and more relevant information

1. Transitional Provision Accounting for Changes 2. Retrospective Application in Accounting Policies 3. Prospective Application R e t r o s p e ct i ve Adjusting the opening balance of each affected component of equity Application Adjustment of the carrying amount of an asset or a liability Change in Accounting Estimate Changes in accounting estimates result from new information or new developments and accordingly, are corrections of errors.

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Change in Accounting Policy Vs. Change in Accounting Estimate

Change in Accounting Policy - change in measurement basis Change in Accounting Estimate - changes on how the expected inflows or outflows of economic benefits

Accounting for Changes

Changes in accounting estimates are accounted for by prospective in Accounting application Estimates Errors

Financial statements do not comply with the PFRSs if they contain either material errors or immaterial errors made intentionally

Material Errors

Misstated

Intentional Errors

Fraud

Error of Commission

Doing something wrong

Error of Omission

Doing something what should have been done

Current Period Errors

Discovered either during the current period or after, corrected simply by correcting entries

Prior Period Errors

Discovered either during the current period or after, corrected by retrospective restatement

R e t r o s p e ct i ve Restatement R e t r o s p e ct i ve

1. Restating the comparative amount for the prior periods 2. Earliest prior period presented, restating the opening balances of assets, liabilities an equity Retrospective Restatement - correcting a prior period error, as if it

never occurred Restatement Vs. R e t r o s p e ct i ve Retrospective Application - applying new accounting policy, as if Application always applied PAS 10: EVENTS AFTER THE REPORTING PERIOD Purpose of PAS 10

PAS 10 prescribes the accounting for, and disclosures of, events after the reporting period

Events After Reporting Events after the reporting period, favourable and unfavourable Period Date of authorisation of the financial statements

Date when management authorises the financial statements for issue

Two Types of Events 1. Adjusting Events After The Reporting Period After of the Financial 2. Non-adjusting Events After The Reporting Statements Adjusting Events After Provide evidence of conditions that existed at the end Reporting Period

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Non-adjusting Events of Indicative of conditions that arose after The Reporting Period Adjustments of amounts in the financial statements 1. Settlement of a court case that confirms a present obligation at the end of reporting period Adjusting Events After The Reporting Period

2. Receipt of information after the reporting period that an asset was impaired 3. Determination of cost of asset, proceeds from asset sold, before the end of the reporting period 4. Determination after the reporting period of profit-sharing or bonus payments 5. Discovery of fraud or errors 1. Changes in fair values

2. 3. 4. Non-adjusting Events 5. Af ter the R epor ting 6. Period 7. 8. 9.

Casualty losses Litigation Significant commitments or continent liabilities Major ordinary share and potential ordinary share Major business combination Announcing, or commencing, major restructuring Announcing a plan to discontinue an operation Change in tax rate

10. Declaration of dividends after the reporting period Going Concern

PAS 10 prohibits the preparation of financial statements on a going concern basis PAS 12: INCOME TAXES PAS 12 prescribes the accounting for income taxes Income tax expense reported in the statement of comprehensive income may be different from the amount of income tax required to be paid to the Bureau of Internal Revenue

Purpose of PAS 12 Income tax expense is computed using PFRSs while current tax expense is computed using Philippine tax laws PAS 12 addresses the accounting presentation and reconciliation of these differences Accounting Profit

Before deducting tax expense

Taxable Profit

Income taxes are payable

Accounting Pr ofit or Accounting Profit - computed using PFRSs Loss Vs. Taxable Profit

Taxable Profit - computed using tax laws

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Tax Expense or Income Total amount included in the determination of profit or loss for the Tax Expense period Current Tax or Current Amount of income taxes payable Tax Expense Deferred tax expense

Sum of net changes in deferred tax assets and deferred tax liabilities

Temporary Difference Taxable Profit - Accounting Profit Formula Deferred Tax Expense

Current Tax Expense - Income Tax Expense

Income Tax Expense Current Tax Expense + Deferred Tax Expense or - Deferred Tax Formula

Benefit When income and expenses enter in the computation of either accounting profit or taxable profit but not both

Permanent Differences

Permanent differences usually arise from non-taxable and nondeductible expenses and those that have already been subjected to final taxes Differences between the carrying amount of an asset or l...