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- Herausgeber: John Wiley & Sons
- Kategorie: Fachliteratur
- Sprache: Englisch
A concise FAQ guide to IFRS principles and practices Co-written by Steven Collings, winner of Accounting Technician of the Year at the British Accountancy Awards 2011, this book is a comprehensive guide to International Financial Reporting Standards (IFRS) which became mandatory in the EU in 2005, and they will almost certainly be adopted by most other developed countries in the near future. Unlike US-GAAP and other sets of standards, the IFRS are principles-based rather than rules-based, putting the onus of interpretation more on users than has previously been the case. Under IFRS users must understand the economic substance of operations, and they must be able to make assumptions, hypotheses, and estimations leading to an accounting treatment consistent with the general objectives of and principles behind IFRS financial reporting. In a handy, easy-to-navigate Q&A format, Frequently Asked Questions on IFRS provides accounting and finance professionals with the answers to some of the most commonly asked questions on the new standards. Covering the often complicated areas of accounting for financial instruments, tangible and intangible assets, provisions, and revenue recognition, the book also contains a valuable overview of the standards and the thinking behind them. * Includes a comprehensive section on the new IFRS for small and medium enterprises * Contains real-world examples from financial reports; a glossary of commonly used terms; and a 'Test Your Knowledge' section * Provides a simple way to get up to speed on these often confusing, principles-based standards
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Table of Contents
Title Page
Copyright
Dedication
About the Author
Acknowledgements
Preface
Foreword
Frequently Asked Questions
Introduction—What is IFRS?
What exactly is IFRS?
Chapter 1: What is the Role of the International Accounting Standards Board (IASB)?
What exactly does the IASB do and what are its objectives?
Chapter 2: Frequently Asked Questions
1. What is the Conceptual Framework?
2. What are the qualitative characteristics of financial statements?
3. What are the elements of the financial statements?
4. Can you change accounting policies and, if so, how do you do it?
5. What are accounting estimates and how are these accounted for?
6. What is defined as current and non-current under IFRS?
7. What happens when an entity adopts IFRS for the first time?
8. What happens when one company acquires another company?
9. What are step acquisitions?
10. What are deemed disposals in business combinations?
11. Why are consolidated financial statements prepared and how do these differ from separate financial statements?
12. How is an associate defined under IFRS?
13. How do you account for an associate under IFRS?
14. What are joint arrangements and joint ventures?
15. How do you account for a joint venture under IFRS?
16. How does an entity deal with exchange rate differences?
17. How and when does an entity recognize a non-current tangible asset?
18. What is the accounting treatment for non-current assets held for sale?
19. Can internally generated goodwill be recognized on the statement of financial position?
20. What are intangible non-current assets, other than goodwill?
21. How does an entity deal with investment property in the statement of financial position?
22. What is an impairment test?
23. How does an entity account for borrowing costs (interest) incurred whilst constructing an asset?
24. What is the difference between a revaluation of property, plant and equipment, and the revaluation model for investment property?
25. What distinguishes whether an asset to be disposed of is classified as held for sale?
26. What are the accounting principles under IFRS for inventories?
27. If a company enters into construction contracts, how does it account for these?
28. What are the rules where leases are concerned?
29. Are there any changes planned for lease accounting?
30. When a company receives a government grant, how does it account for this?
31. What are the different categories of revenue under IFRS and how do they differ from gains?
32. How does a company recognize revenue in its income statement/statement of profit or loss?
33. What is the difference between current and deferred tax?
34. How do you work out deferred tax under IFRS?
35. How does an entity recognize a deferred tax asset?
36. What are the different types of share-based payment transactions?
37. How are share-based payments accounted for under IFRS?
38. What is the difference between a defined contribution pension plan and a defined benefit pension plan?
39. How are short-term employee benefits accounted for under IFRS?
40. What are operating segments?
41. What are the disclosure requirements for operating segments?
42. Why does a company have to report earnings per share and how are these calculated?
43. What are events after the reporting period and how do you differentiate between an adjusting and non-adjusting event?
44. What is the difference between a provision and a contingent liability?
45. How is a provision accounted for under IFRS?
46. What disclosures are needed for contingent liabilities?
47. Why is a statement of cash flows produced as part of the primary financial statements under IFRS?
48. What is the prescribed method for preparing a statement of cash flows?
49. How are agricultural and biological assets accounted For?
50. If a company operates in a hyperinflationary economy, how should the financial statements be prepared?
51. What is an audit of a company's financial statements and are there any ethical issues that affect auditors?
52. What are the basics with regards to financial instruments?
53. How are financial assets and financial liabilities accounted for?
54. What is the IFRS for SMEs and how is it structured?
Chapter 3: Test Your Knowledge
Chapter 4: Answers
Chapter 5: Additional Recommended Reading
IFRS for Dummies
Interpretation and Application of International Standards on Auditing
International GAAP 2012
Appendix: The Differences Between Full IFRS and IFRS for SMEs
Index
This edition first published 2013
© 2013 Steven John Collings
Registered office
John Wiley & Sons Ltd, The Atrium, Southern Gate, Chichester, West Sussex, PO19 8SQ, United Kingdom
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Library of Congress Cataloging-in-Publication Data to follow
A catalogue record for this book is available from the British Library.
ISBN 978-1-119-99897-6 (paperback) ISBN 978-1-118-45424-4 (ebk)
ISBN 978-1-119-96067-6 (ebk) ISBN 978-1-119-96068-3 (ebk)
For my mother — a truly inspirational person.
About the Author
Steve Collings is the audit and technical director at Leavitt Walmsley Associates Ltd, a firm of Chartered Certified Accountants based in Manchester in the United Kingdom. Steve trained and qualified with the firm and specializes in financial reporting (UK GAAP and IFRS), auditing, and solicitors accounts rules. Steve qualified with the Association of Accounting Technicians (AAT) in 2001 and then qualified as an Associate Chartered Certified Accountant (ACCA) in 2005, becoming a Fellow Chartered Certified Accountant in 2010. Steve also holds the ACCA's Certificates in International Financial Reporting Standards and International Standards on Auditing, and has a Diploma in International Financial Reporting Standards, which he obtained in 2008.
Steve has been writing professionally for several years and is the author of several articles that have been published in the various accounting media, primarily AccountingWEB.co.uk. In addition, Steve is also the author of Interpretation and Application of International Standards on Auditing (Wiley, March 2011) and IFRS For Dummies (Wiley, April 2012), as well as the author of other publications on IFRS. Steve also lectures to professional accountants on areas of financial reporting, company law, auditing and solicitors accounts rules. Much of Steve's work can be seen on his personal website at www.stevecollings.co.uk.
In 2011, Steve was named Accounting Technician of the Year at the 2011 British Accountancy Awards.
Follow Steve on Twitter: @stecollings.
Acknowledgements
Writing a book is a significant task – whether it be a work of fiction or a technical book such as this. Every author of a book therefore needs a strong and supportive team at the back of them to cope with the demands of such a project, so to put one name on the front cover feels quite fraudulent. I am extremely proud of the team that I have supporting me at Wiley and offer my heartfelt thanks and gratitude to Gemma Valler, the associate commissioning editor for all her support (and patience) during the production of this book. The road to publication was long, but we got there in the end!
Books do not print themselves and therefore I offer my thanks to all the production team at Wiley for their work in producing this book after the manuscript had been finalized. I also offer my sincere thanks to Wiley's marketing team in helping to get this book into the market.
Caroline Fox BA FCA, my technical reviewer, has once again applied deftness during her review of this book. Caroline's input into the structure, flow and technicality of this book has been, without a doubt, invaluable, and I am eternally grateful for her review of my manuscript and the suggestions she has offered (all of which were incorporated within the book). I am also extremely grateful to Caroline for writing the book's foreword. Her technical ability is outstanding and every author of an accountancy related book needs someone like Caroline on board!
I have to thank my family and friends (all of whom feature in the illustrative examples littered throughout this book) for their unwavering help and support over the years. In particular I would like to thank Les Leavitt for his continued support – Les always shows an amazing amount of enthusiasm for my book projects and always asks how the writing is going! I would like to thank my friends Mark and Sue Breary for making sure my weekends were not completely filled up with writing!
Finally, I would like to thank you, the reader, for picking up this book. I sincerely hope you find it a useful reference to the murky world of IFRS and I hope that it answers some of your questions in a clear and concise manner. Make notes in the margin and keep it by your side as a companion to help you in your dealings with IFRS.
Preface
Financial reporting has become more and more complex over the years. The ways in which many industries around the globe reported financial information, based on domestic Generally Accepted Accounting Practices (GAAP), differed significantly from one country to another because a set of accounting rules in one country may not be the same for a reporting entity operating in a similar industry but in another jurisdiction.
International Financial Reporting Standards (IFRSs) are primarily designed to enhance uniform financial reporting around the globe, promoting consistency, harmonization and comparability. The idea behind this uniform financial reporting is that it will give access to more capital markets because of the consistency in the way that financial information is both prepared and reported.
Mainstream IFRS are primarily designed for large entities that are listed on a recognized stock exchange (for example, the London Stock Exchange). As a consequence, mainstream IFRSs are extremely vast and significantly complex in many areas, and require a reporting entity that has adopted IFRS as its financial reporting framework to make extensive disclosures within its financial statements. This can result in a company's annual report running to hundreds of pages.
The introduction of the International Accounting Standards Board's (IASB's) IFRS for SMEs in July 2009 was a big step in promoting an international-based framework for those companies that mainstream IFRS would prove too costly and burdensome to adopt. IFRS for SMEs was designed by the IASB to be a less complex, less onerous and less burdensome standard with a primary objective of enabling ‘small-medium entities’ (SMEs) to have access to more capital markets because it improved the quality of reporting compared with many existing national accounting standards. In addition to allowing SMEs the opportunity to access more capital markets, IFRS for SMEs also allows enhanced comparability for the users of the financial statements in, and across, borders. The target audience for IFRS for SMEs is essentially a company of any size, provided the company does not have ‘public accountability’ – a company has public accountability when its securities are traded or it is a financial institution. Such companies are beyond the scope of IFRS for SMEs and are mandated to use full IFRS as a financial reporting framework.
IFRS have been criticized by many countries as not being ‘fit for purpose’ or ‘flawed’ in many areas. This is largely due to the principles-based approach that IFRS is based upon (unlike US GAAP, which is largely rules-based). The turbulent economic difficulties that started in 2008 and are currently ongoing have been blamed, partly, on IFRS and the ways in which fair value accounting was essentially manipulated by the banking industry. IFRS has also been partly blamed for some large-scale corporate disasters that have occurred in the mid-2000s – however, many of these were mainly due to the ways in which management deliberately concealed or manipulated information to suit their own reporting requirements.
Notwithstanding the criticism that IFRS has been subjected to over recent years, it is the ambition of the International Accounting Standards Board (IASB) that the use of IFRS as a financial reporting framework will eventually be adopted throughout the globe to enhance consistency and comparability, and open up capital markets to promote a larger degree of trading. Many countries have adopted IFRS as their financial reporting framework, with many also considering the transition across to IFRS.
Steve Collings March 2013
Foreword
The development of IFRS is like an old friend to some of us. My own interest goes back to working for a New York investment bank, trying to consolidate results from our Italian, Spanish and other subsidiaries into the UK holding company accounts that were then to be explained, channelled and translated into results fit for our US parent to use.
As to the potential adoption of IFRS by the US, it is with some sadness that I write this in the week that SEC spokesman John Nestor has announced that ‘the report [on IFRS] is nearing completion but staff have not established a timetable for completing a recommendation’.1
Notwithstanding, on a more optimistic note, more than 100 countries now use IFRS, including two-thirds of the Group of 20. I quote Sir David Tweedie: ‘the gain to international investors, regulators and multinational companies of all speaking the same financial reporting language significantly outweighs the loss of national standards’.2
An exciting initiative has been the IFRS for SMEs, with scope for applicability to small and medium-sized enterprises, estimated as per the IFRS Foundation to account for nearly 95% of companies worldwide.3
As to the need for this book, following Sir David's letter as quoted above, there followed a series of letters in the Financial Times – one reader even offering a prize – to anyone who could offer an explanation of certain terminology.
So for those of us using IFRS in Australia, Brazil, China or Dubai, to name but a few, read on – you will surely find answers to probably all of your frequently asked questions ahead.
Caroline Fox BA FCA March 2013
1Accountancy Age, 12 July 2012
2 Chairman IASB, 2001–2011. Letter to the Financial Times, 29 March 2012
3IFRS.org website, July 2012
Frequently Asked Questions
Introduction—What is IFRS?
What exactly is IFRS?
International Financial Reporting Standards (IFRSs) are a set of accounting rules that have been produced by the International Accounting Standards Board (IASB). Many countries still prepare financial statements using their own national accounting standards (for example, the United States Generally Accepted Accounting Practice (US GAAP)), but many other countries have adopted the use of IFRS as an acceptable financial reporting framework.
Take, for example, countries in the European Union: the June 2002 European Commission Regulation requires that all EU-listed companies from 2005 must prepare their consolidated financial statements using IFRS as opposed to national GAAP. As a consequence, the preparation of consolidated financial statements of listed companies under IFRS is now well-established. This is particularly the case, for example, in the UK; however, not every entity in the UK adopted IFRS and very many remained on UK GAAP. The IFRS regime is permissible for entities that still report under UK GAAP, although very few do actually report under IFRS if they are not mandated to do so.
At the time of writing, there are 40 International Financial Reporting Standards (IFRSs) and International Accounting Standards (IASs) in issuance, which are detailed as below.
International Financial Reporting Interpretation Committee (IFRIC) and Standing Interpretation Committee (SIC) Interpretations (which are beyond the scope of this publication) can also be found on the IASB's website at www.ifrs.org.
In May 2011, the IASB issued the following IFRSs:
IFRS 10 Consolidated Financial Statements;
IFRS 11 Joint Arrangements;
IFRS 12 Disclosure of Interests in Other Entities; and
IFRS 13 Fair Value Measurement.
The IASB also went onto amend and rename the following standards:
IAS 27 Consolidated and Separate Financial Statements became IAS 27 Separate Financial Statements;
IAS 28 Investment in Associates became IAS 28 Investments in Associates and Joint Ventures; and
IAS 31 Interests in Joint Ventures was superseded by IFRS 11 Joint Arrangements and IFRS 12
Disclosure of Interests in Other Entities
for annual periods commencing on or after 1 January 2013.
Since 2007, the IASB has issued a separate document that outlines annual improvements to existing IFRSs. Such improvements are first issued as an exposure draft; if the exposure draft is approved, they are then issued as a separate standard that will then eventually be embedded into the standards that are subject to the relevant amendment (usually with an ‘effective from’ date of 1 January in the next year).
Traditionally, many of the IASs allowed more than one alternative method of accounting for certain transactions that were referred to as the benchmark treatment. Over the years there has been an increasing tendency of the IASB reducing the number of benchmark treatments contained within the standards. On the one hand, having a benchmark treatment is advantageous to a reporting entity, because it increases the acceptability of the relevant accounting standard; on the other hand, having alternative accounting treatments within the standards gives rise to a reduction in the comparability of financial statements – the ultimate aim of IFRS is to achieve comparability across the board.
IAS 23 Borrowing Costs and IAS 31 Interests in Joint Ventures were the last two standards that gave an entity a choice of following either a benchmark or alternative accounting treatments. IAS 23 was amended in 2007, which resulted in all borrowing costs relating to qualifying assets having to be capitalized on the statement of financial position (balance sheet) as opposed to having an option of writing these off to the statement of comprehensive income (income statement/profit and loss account). IAS 31 allowed a reporting entity that had an interest in a joint venture to account for its share of a joint venture's income, expenses, assets and liabilities by way of the ‘equity’ method or the ‘proportionate consolidation’ method. IAS 31 was superseded by IFRS 11 Joint Arrangements and this standard does not permit the use of the proportionate method of consolidation.
Notwithstanding the fact that much of the work of the IASB has been to remove alternative accounting treatments, there are still accounting standards that offer reporting entities options to account for various items. For example, IAS 16 Property, Plant and Equipment permits a reporting entity to value its property, plant and equipment (non-current tangible assets) using either the cost model or the revaluation model. IFRS 3 Business Combinations permits non-controlling interests to be valued at either fair value or at the fair value of the identifiable assets and liabilities (resulting in ‘full’ goodwill or ‘proportionate’ goodwill on the part of the parent).
An important point to emphasize in the introduction section to Frequently Asked Questions in IFRS is the fact that IFRSs do not override local legislation governing the issue of financial statements in a particular jurisdiction. In addition, the IASB does not have the power to mandate the use of IFRS on any jurisdiction; regulators in different countries are left to decide whether or not to adopt IFRS as that particular country's financial reporting framework.
Notwithstanding the fact that the EU is the most notorious constituency to adopt the use of IFRS, there are also a number of other commercially developed countries that have already adopted IFRS as their financial reporting framework, or are in the process of adopting:
Australia adopted IFRS with effect from 2005.
Canada replaced Canadian GAAP for ‘publicly accountable’ entities for accounting periods commencing on or after 1 January 2011.
Japan approved a roadmap for adoption of IFRS and a decision is still being deliberated.
Banks in Russia, Ukraine, Kazakhstan and the United Arab Emirates.
A convergence project is currently underway in Indonesia and a transition over to IFRS.
From 2012, Mexico requires all listed companies to report under IFRS.
There are still many countries that do not permit IFRS at present, but many (if not all) countries are aware of its existence and its primary objective of allowing access to more capital markets.
The country that seems to hold the key to the vast majority of countries converging to IFRS is the United States. The US Securities and Exchange Commission (US SEC) is a prominent member of the International Organisation of Securities Commissions (IOSCO). The members of IOSCO are securities commissions and other stock exchange regulators. The global harmonization of financial reporting standards has been high on their agenda for quite some time. The US has been reluctant to adopt IFRS because of the major gaps between IFRS and US GAAP; however, the IASB and the US standard-setters (the Financial Accounting Standards Board (FASB)) are working together in an attempt to come to an agreement so that eventually the US may eventually adopt IFRS. This will be a huge step forward, and may prompt many other countries to adopt the use of IFRS.
Chapter 1
What is the Role of the International Accounting Standards Board (IASB)?
What exactly does the IASB do and what are its objectives?
Answer
The IASB was previously known as the International Accounting Standards Committee (IASC) until April 2001, when it became the IASB.
The IASC was originally set up in 1973 and was the sole body to have both responsibility and authority to issue international accounting standards. In 2001, when the IASB took over responsibility for international financial reporting, it took on all of the IASC's standards (which were all prefixed with ‘IAS’ – e.g. IAS 2 Inventories, IAS 10 Events After the Reporting Period). The IASB amended many of the standards, but then began to issue its own standards, which were known as International Financial Reporting Standards (IFRS). This is why you see standards prefixed with IAS (IASC standards) and IFRS (IASB standards). The term ‘IFRS’ has become a somewhat generic term that refers to all the standards (both IAS and IFRS).
The setup of the IASB is as follows:
Monitoring Board
The Monitoring Board has been subject to criticism over the years because of its lack of accountability and lack of responsiveness to the concerns of its constituent members. However, the responsibilities of the monitoring board are to oversee the IFRS Foundation trustees, participate in the trustee nomination process and approve appointments of new trustees.
It also has responsibility to review and provide advice to the trustees on the fulfilment of their responsibilities: there is an obligation for the trustees to report, on an annual basis, to the Monitoring Board. The Monitoring Board also has the authority to request meetings with the trustees, or separately with the chairs of the trustees and the IASB, to discuss any area of the trustees' or IASB's work.
IFRS Foundation
The 22 trustees within the IFRS Foundation act under the terms of the IFRS Foundation Constitution. It is a requirement of this constitution that in order to ensure a broad international basis, the Foundation must comprise of:
six trustees that are appointed from Asia/Oceania regions;
six trustees that are appointed from Europe;
six trustees that are appointed from North America;
one trustee that is appointed from Africa;
one trustee that is appointed from South America; and
two trustees that are appointed from any area, but this is subject to the Foundation maintaining an overall geographical balance.
The IFRS Foundation oversees the IASB, and in addition the trustees appoint members of the:
IASB;
IFRS Advisory Council; and
Interpretations Committee.
Other responsibilities include monitoring the IASB's effectiveness, securing funding and approving the IASB's budgets.
IASB
The IASB comprises 16 members (of whom only three may be part-time) that are appointed for a term of three to five years. The IASB has overall responsibility for all technical matters, which include:
preparing and issuing IFRSs;
preparation, and issuance, of exposure drafts;
setting up procedures for reviewing comments received on documents that have been published for comment; and
issuing bases for conclusions.
It is expected that by July 2012, the IASB will comprise of the following:
four members from Asia/Oceania;
four members from Europe;
four members from North America;
one member from Africa;
one member from South America; and
two members appointed from any area (subject to the IASB retaining overall geographical balance).
Each member of the IASB has one vote and the approval of ten members is required for exposure drafts to be issued as discussion or as the final standard. If there are fewer than 16 members of the IASB, approval by at least nine members is required.
IFRS Advisory Council
There are approximately 40 members appointed to Council by the trustees for a renewable term of three years. Each member has a diverse geographic and functional background.
Council provides a forum for participation by organizations and those individuals that have an interest in international financial reporting. It meets at least three times a year and its primary responsibilities include:
advising the board on agenda decisions and priorities;
giving advice to the trustees and the board; and
passing on the views of the council members on the major standard-setting projects.
Ultimately, IFRSs are the basis of international financial reporting and must be complied with in their entirety; in other words, financial statements can never be prepared using a mix of IFRSs and national accounting standards. There are several steps involved in the creation of an IFRS, which include:
Clearly, once a standard has been published, that is not necessarily the end of the line. There is often a need to amend a standard for a variety of reasons, and any necessary (but not urgent) changes are incorporated within the IASB's Annual Improvements Project. There are generally two types of amendments required to an IFRS/IAS:
To clarify a standard due to ambiguous wording or because of unintentional gaps within the standard itself.
To correct a minor (and unintended) consequence, conflict resolution, and to deal with any oversights. It is important to emphasize that the correction does not introduce, or change, the existing principles contained within the standard.
However, in situations when the amendment is considered priority, the IFRS interpretations committee will deal with such issues. IFRS interpretations committee does not issue standalone standards, but it is important to point out that IFRICs are authoritative. There are seven steps that IFRS interpretations committee must follow to achieve transparency and consistency:
Chapter 2
Frequently Asked Questions
1. What is the Conceptual Framework?
Consistency and comparability are at the heart of preparing general purpose financial statements, and over the years many authorities have attempted to officially define the purpose of accounting. The provision of a ‘coherent and consistent foundation for the development of accounting standards’ was a study carried out in 1940 by Paton and Littleton, and the intention was to provide an accounting framework that would do just that.
Answer
The truth of the matter is that financial reporting has evolved considerably—not necessarily from the position it was at, say, 100 years ago, but even in modern times. It is true to say that the information conveyed in financial statements is indeed more detailed than it was possibly even ten years ago, which is a legacy of today's globalization of business and the increased access to the global capital markets.
The definition of a Conceptual Framework is essentially a framework that contains a set of generally accepted theoretical principles that form the basis of new reporting practices (such as the introduction of a new IFRS) or evaluation of existing practices (such as when an IFRS is amended). The theoretical basis for a Conceptual Framework must keep in mind the overarching principle that the financial reporting process must be able to provide information to the user of the financial statements that allows them to make rational, informed and economic decisions.
It follows, therefore, that a Conceptual Framework—whilst being theoretical in nature—has a very practical objective in mind.
In 1989, the IASB's Framework for the Preparation and Presentation of Financial Statements was published. It was derived from the US Financial Accounting Standards Board (FASB) framework, which had been developed and published much earlier.
In September 2010, the IASB issued the Conceptual Framework for Financial Reporting 2010 (referred to as the Conceptual Framework). This current version of the Conceptual Framework is still in the stages of being developed and at the time of writing currently comprised two chapters that were developed in the first phase of a project between the IASB and the FASB to develop an agreed framework. The 2010 Conceptual Framework will have four chapters, comprising:
Chapter 1—The objective of general purpose financial reporting.
Chapter 2—The reporting entity (this chapter was in the process of development at the time of writing—check
www.ifrs.org
for up-to-date details).
Chapter 3—Qualitative characteristics of useful financial information.
Chapter 4—The 1989 framework: the remaining text.
It is important to emphasize that while the Conceptual Framework is clearly the ‘backbone’ of IFRS, as it assists in the development and evaluation of IFRSs, the Conceptual Framework itself does not have the force of an accounting standard. Where conflicts arise between the Conceptual Framework and an accounting standard, the accounting standard will always prevail.
The overall purpose of the Conceptual Framework is to:
assist the IASB in developing future IFRSs and evaluating (and amending) existing ones;
assist the IASB to promote global harmonization of regulations, accounting standards and procedures in attempts to provide a basis for the number of differing accounting treatments provided for in IFRS;
assist national standard-setters in developing their own accounting standards;
assist preparers of financial statements to apply IFRS and also deal with issues that are currently not covered by an IFRS;
provide assistance to auditors to form an opinion as to whether the financial statements of a reporting entity comply with IFRS; and
provide those who are interested in the work of the IASB with information as to the IASB's approach in the formulation of IFRSs.
It is important that preparers of financial statements are aware of the overall objective of financial reporting that is contained within Chapter 1 of the Conceptual Framework. Paragraph CF.OB2 defines the objective of general purpose financial reporting as being:
‘to provide financial information about the reporting entity that is useful to existing and potential investors, lenders and other creditors in making decisions about providing resources to the entity. Those decisions involve buying, selling or holding equity and debt instruments, and providing or settling loans and other forms of credit.’
[CF.OB2]
2. What are the qualitative characteristics of financial statements?
Answer
The ‘qualitative characteristics’ of financial statements are contained within the IASB's Conceptual Framework, which recognizes that financial information must contain two ‘fundamental qualitative characteristics’ and four ‘enhancing characteristics’.
The two fundamental qualitative characteristics are:
relevance; and
faithful representation.
These are supplemented by the enhancing characteristics, which are:
comparability;
verifiability;
timeliness; and
understandability.
Relevance
Financial information is relevant when it is capable of making a difference to the decisions made by the user(s) of the financial statements. The Conceptual Framework identifies that financial information is capable of making a difference in the decisions of users if it has ‘predictive’ or ‘confirmatory’ value, or both.
Financial information will have predictive value if it can be used as an input to processes employed by users that will predict future outcomes. This need not be a prediction or forecast, but instead is a tool adopted by users to make their own predictions. Financial information has confirmatory value when it confirms, or changes, previous evaluations (for example by confirming a previously estimated outcome).
Gabriella Garment Co. has seen the value of its revenue fall in the last three years and operates in an industry where it is forecast that the turbulent economic times will continue and inevitably see more companies in Gabriella's industry cease trading.
The declining revenue in the financial statements for the current and comparative year (together with industry speculation) can be used as a prediction that revenue will continue to fall. Should revenue continue to fall as predicted, then the financial statements will have confirmatory value.
As a consequence, it should be appreciated that both predictive and confirmatory value are very much interrelated.
Materiality
The Conceptual Framework also includes materiality as a ‘sub-section’ of relevance. An item is material if its omission (or misstatement) may cause the user of the financial statements to arrive at an incorrect conclusion. The Conceptual Framework regards materiality as very much an ‘entity-specific’ matter of relevance that is to be based on the nature or magnitude (or both) of items to which the information relates to in an entity's financial statements. Due to materiality being an ‘entity-specific’ matter, it is impossible for the IASB to specify quantitative thresholds for materiality or pre-determine what could be material in a given situation.
Faithful representation
When financial statements are prepared they must be useful to the user of them. Faithful representation contains three characteristics, hence financial statements must be:
complete;
neutral; and
free from error or bias.
The term ‘free from error’ does not imply that the financial statements are completely accurate in all respects. It implies that there are no errors or omissions in the description of the economic phenomenon being depicted or in the selection or application of the process used to produce the financial statements.
Comparability
Users of financial information need to be able to compare financial information so that they arrive at an informed decision as to whether to make, or sell, an investment. As a consequence, financial information is more useful if it can be compared with similar financial information about other entities, or about the same entity from one period to another.
Verifiability
Verifiability means that different, knowledgeable users of the financial statements could reach consensus, although the Conceptual Framework recognizes that such users may not reach complete agreement. It goes on to say that a range of possible amounts and related probabilities can also be verified [CF.QC26].
Timeliness
Financial statements prepared at a year or period end are often prepared some time after the year or period end. Timeliness means that information is available to users of financial statements in time so that they can make their decisions. It is widely understood that the older the financial information, the less useful it is. Conversely, financial information may need to be timely long after the end of the reporting period, for example to assess trends.
Understandability
Information is made understandable when it is classified, characterized and presented in a clear and concise manner. Financial information should not be omitted from the financial statements just because it is too complex; when this information is complex, it might be the case that the user should seek specialist advice to assist them.
3. What are the elements of the financial statements?
Answer
There are generally four sets of elements to a complete set of general purpose financial statements, which include:
assets;
liabilities;
equity; and
income and expenses.
The elements of the financial statements are all defined in the IASB's Conceptual Framework and the section of the Conceptual Framework that deals with the elements of a set of general-purpose financial statements are derived from the FASB equivalent.
Assets
An asset is defined as:
‘a resource controlled by the entity as a result of past events and from which future economic benefits are expected to flow to the entity.’
[CF.4.4(a)]
While the definitions of the elements are derived from the FASB equivalent, it is important to note that the definition of an asset refers to resources that are ‘controlled’ by the entity. The FASB's definition of an asset refers to benefits that are ‘obtained and controlled’.
Many individuals or entities regard an asset as something that an entity owns. However, nowhere in the definition will you find the word ‘own’ or ‘ownership’. This is because the principles work on the basis of control and from which future economic benefits are expected to flow to the enterprise. ‘Future economic benefits’ refer to items of property, near cash (such as debtors/receivables), or cash itself—in other words, that an asset will generate another asset for the reporting entity.
Liabilities
Liabilities are defined in the IASB's Conceptual Framework as:
‘a present obligation of the entity arising from past events, the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits.’
[CF.4.4(b)]
IAS 37 Provisions, Contingent Liabilities and Contingent Assets is built on the principle of a liability in that an entity can only recognize a provision within the financial statements if it essentially has a liability that meets specified criteria. This is to prevent reporting entities from inappropriately recognizing provisions or creating ‘big bath provisions’ to manipulate profits or losses.
Assets and liabilities are characterized as ‘rights and obligations’: in other words, ‘rights’ to receive future economic benefits and ‘obligations’ to transfer out economic benefits in the form of cash outflows.
Equity
The Conceptual Framework defines equity as ‘the residual interest in the assets of the entity after deducting all its liabilities’ [CF.4.4(c)].
The logic here is that a company takes all of its assets (non-current and current), and deducts all of its liabilities (non-current and current)—the result is the entity's equity.
Income and expenses
The Conceptual Framework defines income and assets with regard to changes in assets and liabilities as follows:
‘Income is increases in economic benefits during the accounting period in the form of inflows or enhancements of assets or decreases of liabilities that result in increases in equity, other than those relating to contributions from equity participants.
‘Expenses are decreases in economic benefits during the accounting period in the form of outflows or depletions of assets or incurrences of liabilities that result in decreases in equity, other than those relating to distributions to equity participants.’
[CF.4.25].
Income can represent revenue from sales of goods or services, interest, royalties and dividends. It is also worth pointing out that ‘gains’ are not the same as revenue. Gains are one-off transactions (such as the disposal of a building), but for the purposes of the Conceptual Framework they represent increases in economic benefits and as such are not different in nature from revenue, so they are not regarded as constituting a separate element in this Conceptual Framework [CF.4.30].
In terms of losses, the Conceptual Framework recognizes that these may or may not arise in the ordinary course of business. It acknowledges that losses may arise, for example, due to natural disaster, fire and flood, and also recognizes losses in the context of unrealized losses, for example those arising from the effects of increases in the rate of exchange for a foreign currency [CF.4.35]. The Conceptual Framework requires such losses to be displayed separately, because knowledge of them is useful for the purposes of decision making. In addition, the Conceptual Framework also requires losses to be reported net of related income [CF.4.35].
Recognition and measurement
The Conceptual Framework requires that an asset is recognized if ‘it is probable that the future economic benefits will flow to the entity and the asset has a cost or value that can be measured reliably’ [CF.4.38]. Conversely, a liability is recognized ‘when it is probable that an outflow of resources embodying economic benefits will result from the settlement of a present obligation and the amount at which the settlement will take place can be measured reliably’ [CF.4.46].
Measurement is defined in the Conceptual Framework as:
‘the process of determining the monetary amounts at which the elements of the financial statements are to be recognised and carried in the balance sheet and income statement. This involves the selection of the particular basis of measurement.’
[CF.4.54]
This recognition and measurement criteria means that an item may meet part of the asset recognition test, but not necessarily be recognized. In such cases, disclosure will be necessary [CF.4.41].
4. Can you change accounting policies and, if so, how do you do it?
Answer
Accounting policies are essentially the backbone for the preparation of an entity's financial statements. Accounting policies (and changes in estimates and error correction) are dealt with in IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors.
The selection of appropriate accounting policies is a critical issue for reporting entities and, as such, entities must ensure that the accounting policies they select will enable the financial statements to present fairly the financial affairs of the reporting entity. (‘Present fairly’ is also known as ‘give a true and fair view’.) IAS 8 does permit a reporting entity to change an accounting policy, but only in limited circumstances. A reporting entity can change an accounting policy if the change:
is required by an IFRS; or
results in the financial statements providing reliable and more relevant information about the effects of transactions, other events or conditions on the entity's financial position, financial performance or cash flows [IAS 8.14].
IAS 8 also addresses changes in an entity's accounting policy which arise from three sources:
the initial application (including early application) of an IFRS containing specific transitional provisions;
the initial application of an IFRS that does not contain specific transitional provisions; and
voluntary changes in accounting policy.
When an entity changes an accounting policy, it does so retrospectively. In other words, it must apply that change to the earliest period reported in the financial statements (usually the comparative year) so that the financial statements reflect the revised accounting policy as if that revised policy had always been in existence, so as to achieve consistency. The opening retained earnings figure must be restated and the comparative year should be clearly headed up ‘as restated’.
