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Chapter 2

Chapter 2 notes

Financial Accounting
Course Code
G.Quan Fun

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Chapter 2 Financial Statements—Framework, Presentation, and Usage Notes
Conceptual Framework of Accounting
x conceptual framework of accounting : a coherent system of interrelated elements that guides the development and application
of accounting principles; it includes the objective of financial reporting, qualitative characteristics of accounting information,
elements of financial statements, and recognition and measurement criteria
x as a foundation for accounting, the conceptual framework does the following:
1. It ensures that existing standards and practices are clear and consistent.
2. It makes it possible to respond quickly to new issues.
3. It increases the relevance, faithful representation, comparability, and understandability of financial reporting results.
x International Accounting Standard Board (IASB) formed to try to reduce areas of difference and unify global standard-setting
x after 2011, Canadian standards with cease to exist for profit-oriented publicly traded companies as they move to the International
Financial Reporting Standards (IFRS)
x not-for-profit companies and private companies will move to simplified set of standards considered to be suitable for their needs
x with such an unprecedented level of change in accounting standards about to occur, never before has conceptual framework been
as important as it is today to companies and other users of accounting, whose need to interpret financial data accurately always
remains the same
x conceptual framework of accounting has four main sections
1. The objective of financial reporting
2. The qualitative characteristics of accounting information
3. The elements of financial statements
4. Recognition and measurement criteria (assumptions, principles, and constraints)
The Objective of Financial Reporting
x objective of financial reporting : the objective of financial reporting is to provide information that is useful to individuals
making investment and credit decisions
x financial reporting should provide information about the amounts, timing, and uncertainty of future cash flows, economic
resources (assets), and claims to those resources (liabilities and equity), and it should also include management’s explanations
about the companys financial activities, since management knows more about the company than external users do
Qualitative Characteristics of Accounting Information
x relevance : a quality for describing information that makes a difference in a decision; it should have predictive and feedback
value and be timely
x predictive value—relevant info helps users make predictions about potential effects of PPF transactions or other events
x feedback value—relevant info helps users confirm or correct their previous expectations
x for accounting information to be relevant, it must also be timely
Faithful Representation
x faithful representation : quality for describing info that represents economic reality; it must be verifiable, neutral, and complete
x verifiability means that 2 or more people reviewing the same information and using the same method would reach the same
results or similar conclusions
x neutrality means the absence of bias, that is, accounting info cannot be selected, prepared, or presented to favour one set of
interested users over another
x completeness means that all the info that is needed to faithfully represent economic reality must be included
x comparability : a quality for describing a company’s accounting information when it can be compared to the information of
another company because both companies use similar accounting standards and operate in similar circumstances
x consistency : use of the same accounting standards from year to year within a company
x companies can change accounting standards, but only if the change is required by the Accounting Standards Board, or if the
change will result in more relevant information for decision-making
x understandability : quality for describing info provided in financial statements that is understandable; average user is assumed
to have reasonable understanding of accounting concepts and procedures, as well as of general business and economic conditions
x understandability is greater when the information is classified, characterized, and presented clearly and concisely
Elements of Financial Statements
x elements of financial statements : definition of basic terms in accounting; includes assets, liabilities, equity, revenues, expenses
Recognition and Measurement Criteria
x monetary unit assumption : an assumption stating that only transaction data that can be expressed in terms of money should be
included in the accounting records; also assumes that the unit of measure remains stable over time, that is, the effects of inflation
(or deflation) are assumed to be minor and are therefore ignored
x economic entity assumption : an assumption that economic events can be identified with a particular accounting unit whose
activities are separate and distinct from the activities of the shareholders and of all other economic entities
x time period assumption : accounting assumption that the economic life of a business can be divided into artificial time periods
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