ACCA f7 EW 2013

Publishing

2013

ACCA F7 (INT)
Financial
Reporting

Study Text

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ACCA

Paper

F7 (INT)

Financial Reporting
(International)

Welcome to Emile Woolf‘s study text for
Paper F7 Financial Reporting (International) which is:
„

Written by tutors

„

Comprehensive but concise

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In simple English

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Publishing


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ii

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Paper F7 (INT)
Financial Reporting

c
Contents
Page
Syllabus and study guide

v

Chapter 1:

The conceptual framework

1

Chapter 2:

Recognition and measurement

19

Chapter 3:

Accounting for the substance of transactions

43

Chapter 4:

The regulatory framework

53

Chapter 5:

The financial statements of a single company

65

Chapter 6:

Reporting financial performance

87

Chapter 7:

Tangible non-current assets

105

Chapter 8:

Intangible assets

135

Chapter 9:

Impairment of assets

147

Chapter 10:

Inventory

157

Chapter 11:

Financial assets and financial liabilities

171

Chapter 12:

Leases

195

Chapter 13:

Provisions, contingent liabilities and contingent assets

213

Chapter 14:

Taxation

235

Chapter 15:

Reporting of non-group financial statements

257

Chapter 16:

Earnings per share

277

Chapter 17:

Statements of cash flows

303

Chapter 18:

Consolidated accounts

343

Chapter 19:

Consolidated accounts: intra-group adjustments

393

Chapter 20:

Associates

421

Chapter 21:

Analysis and interpretation of financial statements

435

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iii


iv

Practice questions

463

Answers to practice questions

493

Index

545

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Paper F7 (INT)
Financial Reporting

S
 
 
 

Syllabus and study guide
 
 

 

Aim

To develop knowledge and skills in understanding and applying accounting
standards and the theoretical framework in the preparation of financial statements
of entities, including groups and how to analyse and interpret those financial
statements.

Main capabilities
On successful completion of this paper candidates should be able to:
A

Discuss and apply a conceptual framework for financial reporting

B

Discuss a regulatory framework for financial reporting

C

Prepare and present financial statements which conform with International
accounting standards

D

Account for business combinations in accordance with International
accounting standards

E

Analyse and interpret financial statements

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v


Paper F7: Financial Reporting (International)

Rationale
The financial reporting syllabus assumes knowledge acquired in Paper F3, Financial
Accounting, and develops and applies this further and in greater depth.
The syllabus begins with the conceptual framework of accounting with reference to
the qualitative characteristics of useful information and the fundamental bases of
accounting introduced in the Paper F3 syllabus within the Knowledge module. It
then moves into a detailed examination of the regulatory framework of accounting
and how this informs the standard setting process.
The main areas of the syllabus cover the reporting of financial information for single
companies and for groups in accordance with generally accepted accounting
principles and relevant accounting standards.
Finally, the syllabus covers the analysis and interpretation of information from
financial reports.

Detailed Syllabus
A

B

C

vi

A conceptual framework for financial reporting

1.

The need for a conceptual framework

2.

The fundamental concepts of relevance and faithful representation (‘true
and fair view’)

3.

The enhancing characteristics of comparability, verifiability, timeliness
and understandability

4.

Recognition and measurement

5.

The legal versus the commercial view of accounting

6.

Alternative models and practices

A regulatory framework for financial reporting
1.

Reasons for the existence of a regulatory framework

2.

The standard setting process

3.

Specialised, not-for-profit, and public sector

entities

Financial statements
1.

Statements of cash flows

2.

Tangible non-current assets

3.

Intangible assets

4.

Inventory

5.

Financial assets and financial liabilities

6.

Leases

© Emile Woolf Publishing Limited


Syllabus and study guide

D

E

7.

Provisions, contingent liabilities, and contingent assets

8.

Impairment of assets

9.

Taxation

10.

Regulatory requirements relating to the preparation of financial

statements

11.

Reporting financial performance

Business combinations
1.

The concept and principles of a group

2.

The concept of consolidated financial statements

3.

Preparation of consolidated financial statements including an associate

Analysing and interpreting financial statements
1.

Limitations of financial statements

2.

Calculation and interpretation of accounting ratios
address users’ and stakeholders’ needs

3.

Limitations of interpretation techniques

4.

Specialised, not-for-profit, and public sector

and

trends

to

entities

Approach to examining the syllabus
The syllabus is assessed by a three-hour paper-based examination.
All questions are compulsory. It will contain both computational and discursive
elements.
Some questions will adopt a scenario/case study approach.
Question 1 will be a 25 mark question on the preparation of group financial
statements and/or extracts thereof, and may include a small discussion element.
Computations will be designed to test an understanding of principles.
Question 2, for 25 marks, will test the reporting of non-group financial statements.
This may be from information in a trial balance or by restating draft financial
statements.
Question 3, for 25 marks, is likely to be an appraisal of an entity’s performance and
may involve statements of cash flows.
Questions 4 and 5 will cover the remainder of the syllabus and will be worth 15 and
10 marks respectively.

© Emile Woolf Publishing Limited

vii


Paper F7: Financial Reporting (International)

An individual question may often involve elements that relate to different subject
areas of the syllabus. For example the preparation of an entity’s financial statements
could include matters relating to several accounting standards.
Questions may ask candidates to comment on the appropriateness or acceptability
of management’s opinion or chosen accounting treatment. An understanding of
accounting principles and concepts and how these are applied to practical examples
will be tested.
Questions on topic areas that are also included in Paper F3 will be examined at an
appropriately greater depth in this paper.
Candidates will be expected to have an appreciation of the need for specified
accounting standards and why they have been issued. For detailed or complex
standards, candidates need to be aware of their principles and key elements.

 

viii

© Emile Woolf Publishing Limited


Syllabus and study guide

Study guide
This study guide provides more detailed guidance on the syllabus. You should use
this as the basis of your studies.

A

A conceptual framework for Financial Reporting
1

The need for a conceptual framework
a)
b)

2

The fundamental concepts of relevance and faithful representation
(‘true and fair view’)
a)
b)
c)

3

Discuss what is meant by relevance and faithful representation
and describe the qualities that enhance these characteristics.
Discuss whether faithful representation constitutes more than
compliance with accounting standards.
Indicate the circumstances and required disclosures where a ‘true
and fair’ override may apply.

The enhancing characteristics
timeliness and understandability
a)
b)
c)

d)

4

Describe what is meant by a conceptual framework of accounting.
Discuss whether a conceptual framework is necessary and what an
alternative system might be.

of

comparability,

verifiability,

Discuss what is meant by understandability and verifiability in
relation to the provision of financial information.
Discuss the importance of comparability and timeliness to users of
financial statements.
Distinguish between changes in accounting policies and changes
in accounting estimates and describe how accounting standards
apply the principle of comparability where an entity changes its
accounting policies.
Recognise and account for changes in accounting policies and the
correction of prior period errors.

Recognition and measurement
a)
b)

c)
d)
e)

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Define what is meant by ‘recognition’ in financial statements and
discuss the recognition criteria.
Apply the recognition criteria to:
i)
assets and liabilities.
ii)
income and expenses
Discuss revenue recognition issues; indicate when income and
expense recognition should occur.
Demonstrate the role of the principle of substance over form in
relation to recognising sales revenue.
Explain the following measures and compute amounts using:
i)
historical cost

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Paper F7: Financial Reporting (International)

ii)
iii)
iv)
5

The legal versus the commercial view of accounting
a)

b)
c)
d)

6

b)
c)

Describe the advantages and disadvantages of the use of historical
cost accounting.
Discuss whether the use of current value accounting overcomes
the problems of historical cost accounting.
Describe the concept of financial and physical capital maintenance
and how this affects the determination of profits.

A regulatory framework for financial reporting
1

Reasons for the existence of a regulatory framework
a)

b)
c)

2

Explain why a regulatory framework is needed also including the
advantages and disadvantages of IFRS over a national regulatory
framework.
Explain why accounting standards on their own are not a
complete regulatory framework.
Distinguish between a principles based and a rules based
framework and discuss whether they can be complementary.

The standard setting process
a)

b)

x

Explain the importance of recording the commercial substance
rather than the legal form of transactions – give examples where
recording the legal form of transactions may be misleading.
Describe the features which may indicate that the substance of
transactions differs from their legal form.
Apply the principle of substance over form to the recognition and
derecognition of assets and liabilities.
Recognise the substance of transactions in general, and specifically
account for the following types of transaction:

i)
goods sold on sale or return/consignment inventory
ii)
sale and repurchase/leaseback agreements
iii) factoring of receivables.

Alternative models and practices
a)

B

fair value/current cost
net realisable value
present value of future cash flows.

Describe the structure and objectives of the IFRS Foundation, the
International Accounting Standards Board (IASB), the IFRS
Advisory Council (IFRS AC) and the IFRS Interpretations
Committee (IFRS IC).
Describe the IASB’s Standard setting process including revisions
to and interpretations of Standards.

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Syllabus and study guide

c)

3

Specialised, not-for-profit and public sector entities
a)
b)

C

Explain the relationship of national standard setters to the IASB in
respect of the standard setting process.

Distinguish between the primary aims of not-for profit and public
sector entities and those of profit oriented entities.
Discuss the extent to which International Financial Reporting
Standards (IFRSs) are relevant to specialised, not-for-profit and
public sector entities.

Financial statements
1

Statements of Cash flows
a)

b)

c)

2

Tangible non-current assets
a)

b)
c)
d)
e)

f)
g)
h)

3

Prepare a statement of cash flows for a single entity (not a group)
in accordance with relevant accounting standards using the direct
and the indirect method .
Compare the usefulness of cash flow information with that of a
statement of profit or loss or a statement of profit or loss and other
comprehensive income.
Interpret a statement of cash flows (together with other financial
information) to assess the performance and financial position of an
entity.

Define and compute the initial measurement of a non-current
(including a self-constructed and borrowing costs) asset.
Identify subsequent expenditure that may be capitalised,
distinguishing between capital and revenue items.
Discuss the requirements of relevant accounting standards in
relation to the revaluation of non-current assets.
Account for revaluation and disposal gains and losses for noncurrent assets.
Compute depreciation based on the cost and revaluation models
and on assets that have two or more significant parts (complex

assets).
Apply the provisions of relevant accounting standards in relation
to accounting for government grants.
Discuss why the treatment of investment properties should differ
from other properties.
Apply the requirements of relevant accounting standards for
investment property.

Intangible assets
a)

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Discuss the nature and accounting treatment of internally
generated and purchased intangibles.

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Paper F7: Financial Reporting (International)

b)
c)
d)
e)

f)

4

Inventory
a)
b)
c)
d)

5

b)
c)

d)
e)

Explain the need for an accounting standard on financial
instruments.
Define financial instruments in terms of financial assets and
financial liabilities.
Indicate for the following categories of financial instruments how
they should be measured and how any gains and losses from
subsequent measurement should be treated in the financial
statements:
i)
amortised cost
ii)
fair value ( including option to elect to present gains and
losses on equity instruments in other comprehensive
income)
Distinguish between debt and equity capital.
Apply the requirements of relevant accounting standards to the

issue and finance costs of:
i)
equity
ii)
redeemable preference shares and debt instruments with no
conversion rights (principle of amortised cost)
iii) convertible debt

Leases
a)

b)

xii

Describe and apply the principles of inventory valuation.
Define a construction contract and discuss the role of accounting
concepts in the recognition of profit.
Describe the acceptable methods of determining the stage
(percentage) of completion of a contract.
Prepare financial statement extracts for construction contracts.

Financial assets and financial liabilities
a)

6

Distinguish between goodwill and other intangible assets.
Describe the criteria for the initial recognition and measurement of
intangible assets.

Describe the subsequent accounting treatment, including the
principle of impairment tests in relation to goodwill.
Indicate why the value of purchase consideration for an
investment may be less than the value of the acquired identifiable
net assets and how the difference should be accounted for.
Describe and apply the requirements of relevant accounting
standards to research and development expenditure.

Explain why recording the legal form of a finance lease can be
misleading to users (referring to the commercial substance of such
leases).
Describe and apply the method of determining a lease type (i.e. an
operating or finance lease).

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Syllabus and study guide

c)
d)
e)
7

Provisions, contingent liabilities and contingent assets
a)
b)
c)
d)
e)

f)

8

c)
d)

Define an impairment loss.
Identify the circumstances that may indicate impairments to
assets.
Describe what is meant by a cash generating unit.
State the basis on which impairment losses should be allocated,
and allocate an impairment loss to the assets of a cash generating
unit.

Taxation
a)
b)
c)
d)

10

Explain why an accounting standard on provisions is necessary.
Distinguish between legal and constructive obligations.
State when provisions may and may not be made and demonstrate
how they should be accounted for.
Explain how provisions should be measured.
Define contingent assets and liabilities and describe their
accounting treatment.

Identify and account for:
i)
warranties/guarantees
ii)
onerous contracts
iii) environmental and similar provisions
iv) provisions for future repairs or refurbishments.

Impairment of assets
a)
b)

9

Discuss the effect on the financial statements of a finance lease
being incorrectly treated as an operating lease.
Account for assets financed by finance leases in the records of the
lessee.
Account for operating leases in the records of the lessee.

Account for current taxation in accordance with relevant
accounting standards.
Record entries relating to income tax in the accounting records.
Explain the effect of taxable temporary differences on accounting
and taxable profits.
Compute and record deferred tax amounts in the financial
statements.

Regulatory requirements relating to the preparation of financial
statements

a)
b)

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Describe the structure (format) and content of financial statements
presented under IFRS.
Prepare an entity’s financial statements in accordance with the
prescribed structure and content.

xiii


Paper F7: Financial Reporting (International)

11

Reporting financial performance
a)
b)
c)
d)
e)
f)

g)

D

Business combinations

1

The concept and principles of a group
a)
b)
c)

d)
e)

f)

xiv

Discuss the importance of identifying and reporting the results of
discontinued operations.
Define and account for non-current assets held for sale and
discontinued operations.
Indicate the circumstances where separate disclosure of material
items of income and expense is required.
Prepare and explain the contents and purpose of the statement of
changes in equity.
Describe and prepare a statement of changes in equity.
Earnings per share (eps)
i)
calculate the eps in accordance with relevant accounting
standards (dealing with bonus issues, full market value
issues and rights issues)
ii)
explain the relevance of the diluted eps and calculate the

diluted eps involving convertible debt and share options
(warrants)
iii) explain why the trend of eps may be a more accurate
indicator of performance than a company’s profit trend and
the importance of eps as a stock market indicator
iv) discuss the limitations of using eps as a performance
measure.
Events after the reporting date
i)
distinguish between and account for adjusting and nonadjusting events after the reporting date
ii)
Identify items requiring separate disclosure, including their
accounting treatment and required disclosures

Describe the concept of a group as a single economic unit.
Explain and apply the definition of a subsidiary within relevant
accounting standards.
Identify and outline using accounting standards and other
applicable regulation the circumstances in which a group is
required to prepare consolidated financial statements.
Describe the circumstances when a group may claim exemption
from the preparation of consolidated financial statements. .
Explain why directors may not wish to consolidate a subsidiary
and outline using accounting standards and other applicable
regulation the circumstances where this is permitted.[2
Explain the need for using coterminous year ends and uniform
accounting polices when preparing consolidated financial
statements.

© Emile Woolf Publishing Limited

Syllabus and study guide

g)
2

The concept of consolidated financial statements
a)
b)

c)

d)

3

Explain why it is necessary to eliminate intra-group transactions.

Explain the objective of consolidated financial statements.
Indicate the effect that the related party relationship between a
parent and subsidiary may have on the subsidiary’s entity
statements and the consolidated financial statements.
Explain why it is necessary to use fair values for the consideration
for an investment in a subsidiary together with the fair values of a
subsidiary’s identifiable assets and liabilities when preparing
consolidated financial statements.
Describe and apply the required accounting treatment of
consolidated goodwill.

Preparation of consolidated financial statements including an
associate
a)

b)

c)
d)
e)

f)
g)
h)

© Emile Woolf Publishing Limited

Prepare a consolidated statement of financial position for a simple
group (parent and one subsidiary) dealing with pre and post
acquisition profits, non-controlling interests and consolidated
goodwill.
Prepare a consolidated statement of profit or loss and consolidated
statement of profit or loss and other comprehensive income for a
simple group dealing with an acquisition in the period and noncontrolling interest.
Explain and account for other reserves (e.g. share premium and
revaluation reserves).
Account for the effects in the financial statements of intra-group
trading.
Account for the effects of fair value adjustments (including their
effect on consolidated goodwill) to:
i)

depreciating and non-depreciating non-current assets
ii)
inventory
iii) monetary liabilities
iv) assets and liabilities not included in the subsidiary’s own
statement of financial position, including contingent assets
and liabilities
Account for goodwill impairment.
Define an associate and explain the principles and reasoning for
the use of equity accounting.
Prepare consolidated financial statements to include a single
subsidiary and an associate.

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Paper F7: Financial Reporting (International)

E

Analysing and interpreting financial statements
1

Limitations of financial statements
a)
b)
c)
d)

2

Calculation and interpretation of accounting ratios and trends to
address users’ and stakeholders’ needs
a)
b)
c)

d)
e)

3

b)

c)

Discuss the limitations in the use of ratio analysis for assessing
corporate performance.
Discuss the effect that changes in accounting policies or the use of
different accounting polices between entities can have on the
ability to interpret performance.
Indicate other information, including non-financial information,
that may be of relevance to the assessment of an entity’s
performance.

Specialised, not-for-profit and public sector entities
a)

xvi

Define and compute relevant financial ratios.
Explain what aspects of performance specific ratios are intended to
assess.
Analyse and interpret ratios to give an assessment of an entity’s
performance and financial position in comparison with:
i)
an entity’s previous period’s financial statements
ii)
another similar entity for the same reporting period
iii) industry average ratios.
Interpret an entity’s financial statements to give advice from the
perspectives of different stakeholders.
Discuss how the interpretation of current value based financial
statements would differ from those using historical cost based
accounts.

Limitations of interpretation techniques
a)

4

Indicate the problems of using historic information to predict
future performance and trends.
Discuss how financial statements may be manipulated to produce
a desired effect (creative accounting, window dressing).
Recognise how related party relationships have the potential to
mislead users.
Explain why figures in a statement of financial position may not be
representative of average values throughout the period for
example, due to:

i)
seasonal trading
ii)
major asset acquisitions near the end of the accounting
period.

Discuss the different approaches that may be required when
assessing the performance of specialised, not-for-profit and public
sector organisations.

© Emile Woolf Publishing Limited


CHAPTER

Paper F7 (INT)
Financial reporting

1

The conceptual framework

Contents

© Emile Woolf Publishing Limited

1

A conceptual framework for financial reporting

2

The IASB Conceptual Framework

3

Qualitative characteristics of useful financial
information

4

The elements of financial statements

5

Accounting policies

6

Fair presentation

1


Paper F7: Financial Reporting (International)

A conceptual framework for financial reporting
„

The meaning of GAAP

„

The meaning of a conceptual framework

„

The purpose of a conceptual framework

„

The alternative to a conceptual framework

1

A conceptual framework for financial reporting

1.1

The meaning of GAAP
The preparation and presentation of financial statements is based on a large number
of concepts, principles and detailed rules. Some of these are contained in law, and
others are in financial reporting standards. Many of the most fundamental concepts
are not contained in any law or regulation or standard, but are simply accepted
accounting principles and conventions.
All the concepts, principles, conventions, laws, rules and regulations that are used
to prepare and present financial statements are known as Generally Accepted
Accounting Principles or GAAP.
‘Generally accepted accounting principles’ vary from country to country, because
each country has its own legal and regulatory system. The way in which businesses

operate also differs from country to country. For example, there is US GAAP and
UK GAAP.
Many countries have now adopted International Financial Reporting Standards or
IFRSs, sometimes called international accounting standards. Although there are no
international laws on financial reporting it is now fairly common to refer to
‘international GAAP’. International GAAP includes the IASB’s conceptual
framework, plus all the international accounting standards, and all the associated
interpretations and guidelines.

1.2

The meaning of a conceptual framework
A conceptual framework is a system of concepts and principles that underpin the
preparation of financial statements. These concepts and principles should be
consistent with one another.
More recently, the term ‘conceptual framework’ has come to mean not only the
principles themselves, but a document or statement that sets out and explains the
concepts and principles that support the preparation of financial statements. A
conceptual framework is developed for a particular regulatory system or a
particular set of ‘generally accepted accounting principles’ or GAAP.
The International Accounting Standards Committee (the predecessor of the IASB)
issued a conceptual framework document in 1989. This was called the Framework for
the Preparation and Presentation of Financial Statements and was adopted by the IASB.
It is comprised of the following sections:

2

© Emile Woolf Publishing Limited

Chapter 1: The conceptual framework

„

The objective of financial statements (now replaced – see below)

„

Underlying assumptions of financial statements

„

Qualitative characteristics of financial statements (now replaced – see below)

„

The elements of financial statements

„

Recognition of the elements of financial statements

„

Measurement of the elements of financial statements

„

Concepts of capital and capital maintenance.

The IASB has been working closely with FASB (the US standard setter) on a wide
range of projects with the aim of converging IFRS and US GAAP. One of the
projects has had the aim of producing a conceptual framework common to each
GAAP.
The new conceptual framework is being developed on a chapter by chapter basis.
Each chapter is being released as an exposure draft and then, subject to comments
received, released as the final version. To date, two chapters have been finalised and
these replace the sections on “The objective of financial statements” and “Qualitative
characteristics of financial statements” from the original document. To avoid confusion
the IASB has published a new document called ”The conceptual framework for financial
reporting” which, includes the new chapters and those retained from the original
framework.
The new document is made up of the following sections:
„

Chapter 1 – The objective of general purpose financial statements

„

Chapter 2 – The reporting entity (to be added – currently in release as an
exposure draft)

„

Chapter 3 – Qualitative characteristics of financial information

„

Chapter 4 – The Framework (1989): The remaining text (These sections are
unchanged as of yet)

−

Underlying assumptions of financial statements

−

The elements of financial statements

−

Recognition of the elements of financial statements

−

Measurement of the elements of financial statements

−

Concepts of capital and capital maintenance.

The original document was known as “The IASB Framework”. This text will
describe the new document as “The IASB Conceptual Framework”. Note that the
changes are not fundamental in terms of their impact on IFRS.

© Emile Woolf Publishing Limited

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Paper F7: Financial Reporting (International)

1.3

The purpose of a conceptual framework
Most preparers and users of financial statements recognise that there is a need for a
formal conceptual framework and that this can be useful in a number of ways.
Where there is a formal conceptual framework for accounting, accounting practice
and accounting standards are based on this framework.
Lack of a formal framework often means that standards are developed randomly or
only to deal with particular problems. The result is that standards are inconsistent
with each other or with legislation.
Lack of a conceptual framework may also mean that accounting standards fail to
address important issues. For example, until the IASB developed its Framework,
there was no proper definition of terms such as ‘asset’, ‘liability’, ‘income’ and
‘expenses’.
The business environment is becoming increasingly complex. It is unlikely that
accounting standards can cover all possible transactions. Where an entity enters into
an unusual transaction and there is no relevant accounting standard, it can refer to
the framework and apply the principles in it.
It can also be argued that a conceptual framework strengthens the credibility of
financial reporting and the accounting profession in general.

1.4

The alternative to a conceptual framework
The alternative to a system based on a conceptual framework is a system based on
detailed rules.
Accounting standards based on detailed rules are open to abuse. ‘Creative
accounting’ is the name given to techniques which enable management to give a
biased impression (usually favourable) of the company’s performance while still

complying with accounting standards and other regulations. During the 1980s there
were a number of scandals in which investors were misled by the financial
statements of apparently healthy companies which then collapsed. This was one of
the original reasons why the IASB and other standard setters developed their
conceptual frameworks. Principles are normally much harder to evade than rules.
Another disadvantage of a rule-based system is that standard setters are more likely
to be influenced by ‘vested interests’ such as large companies or a particular
business sector. The existence of a conceptual framework is an important safeguard
against this kind of political pressure.
Despite these problems, some preparers and regulators still appear to favour rule
based standards. Standards based on principles may require management to use its
judgement (and to risk making a mistake), while rules simply need to be followed.
This can be important where management can face legal action if an investor makes
a poor decision based on the financial statements.
The use of a conceptual framework can lead to standards that are theoretical and
complex. They may give the ‘right answer’ but be very difficult for the ordinary
preparer to understand and apply. However, a system of extremely detailed rules
can also be very difficult to apply.

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Chapter 1: The conceptual framework

The IASB Conceptual Framework
„

Introduction

„

Underlying assumption

„

Users and their information needs

„

Chapter 1: Objective of general purpose financial financial statements

2

The IASB Conceptual Framework

2.1

Introduction
The ideas in the Conceptual Framework should already be familiar to you from
previous studies. This chapter contains revision material on these areas, but you
should think about the concepts and principles in the Framework, and be prepared
to discuss any of them in your exam.
Financial reports are based on estimates, judgements and models rather than exact
depictions. The Conceptual Framework establishes the concepts that underlie those
estimates, judgements and models.
The Conceptual Framework deals with:
„

the objective of financial reporting;

„

the qualitative characteristics of useful financial information;

„

the definition, recognition and measurement of the elements from which
financial statements are constructed; and

„

concepts of capital and capital maintenance.

The Conceptual Framework sets out the concepts that underlie the preparation and
presentation of financial statements for external users. Its purpose is:
„

to assist the IASB in the development of future IFRSs and in its review of
existing IFRSs;

„

to assist the IASB in promoting harmonisation of regulations, accounting
standards and procedures relating to the presentation of financial statements
by providing a basis for reducing the number of alternative accounting
treatments permitted by IFRSs;

„

to assist national standard-setting bodies in developing national standards;

„

to assist preparers of financial statements in applying IFRSs and in dealing
with topics that have yet to form the subject of an IFRS;

„

to assist auditors in forming an opinion on whether financial statements
comply with IFRSs;

„

to assist users of financial statements in interpreting the information contained
in financial statements prepared in compliance with IFRSs; and

„

to provide those who are interested in the work of the IASB with information
about its approach to the formulation of IFRSs.

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Paper F7: Financial Reporting (International)

This Conceptual Framework is not an IFRS and nothing in the Conceptual
Framework overrides any specific IFRS.
On very rare occasions there may be a conflict between the Conceptual Framework
and an IFRS. In those cases, the requirements of the IFRS prevail over those of the
Conceptual Framework.

2.2

Underlying assumption
The going concern basis of accounting is the assumption in preparing the financial
statements that the entity will continue to operate for the foreseeable future, and
does not intend to go into liquidation and will not be forced into liquidation. The
going concern assumption is particularly relevant for the valuation of assets.
This found in chapter 4 of The Conceptual Framework.

2.3

Users and their information needs
Many existing and potential investors, lenders and other creditors cannot require
reporting entities to provide information directly to them and must rely on general
purpose financial reports for much of the financial information they need. These are
the primary users to whom general purpose financial reports are directed.
„

General purpose financial reports cannot provide all the information needed
and users also need to consider pertinent information from other sources.

„

General purpose financial reports do not show the value of a reporting entity;

but they provide information to help users estimate a value.

„

Individual primary users have different information needs. The aim of IFRSs
is to provide information that will meet the needs of the maximum number of
primary users.

Other users

2.4

„

Regulators and members of the public other than investors, lenders and other
creditors may also find general purpose financial reports useful but these
reports are not primarily directed to these groups.

„

A company’s management is of interested in financial information but the
management do not need to rely on general purpose financial reports.

Chapter 1: Objective of general purpose financial financial statements
The objective of general purpose financial reporting forms the foundation of the
Conceptual Framework. Other aspects of the Conceptual Framework flow logically
from the objective.
The objective
The objective of general purpose financial reporting is 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.

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Chapter 1: The conceptual framework

Those decisions involve buying, selling or holding equity and debt instruments, and
providing or settling loans and other forms of credit.
„

In order to make these decisions the users need information to help them
assess the prospects for future net cash inflows to an entity.

„

In order to assess an entity’s prospects for future net cash inflows, users need
information about:
−

the resources of the entity;

−

claims against the entity; and

−

how efficiently and effectively the entity’s management have discharged
their responsibilities to use the entity’s resources. (This information is also
useful for decisions by those who have the right to vote on or otherwise
influence management performance).

Information provided
General purpose financial statements provide information about:
„

the financial position of the entity – information about economic resources
and the claims against them; and

„

changes in its financial position which could be due to:
−

financial performance; and/or

−

other events or transactions (e.g share issues).

Economic resources and claims
Information about the nature and amounts of economic resources and claims can
help users to:
„

identify the financial strengths and weaknesses of a reporting entity;

„

to assess a reporting entity’s liquidity and solvency and its needs for
additional financing;

Information about priorities and payment requirements of existing claims helps
users to predict how future cash flows will be distributed among those with a claim
against the reporting entity.
Changes in economic resources and claims – Financial performance
Accrual accounting depicts the effects of transactions and other events and
circumstances on a reporting entity’s economic resources and claims in the periods
in which those effects occur, even if the resulting cash receipts and payments occur
in a different period.
This is important because such information provides a better basis for assessing the
entity’s past and future performance than information solely about cash receipts
and payments during that period.
Importance of information about a reporting entity’s financial performance:
„

It helps users to understand the return generated from its economic resources.
This in turn provides an indication of how well management has discharged
its responsibilities to make efficient and effective use of these resources.

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