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CONCEPTUALFRAMEWORKS

James J. LeisenringIASB member

Standards Advisory Council meetingFebruary 2005

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CONCEPTUAL FRAMEWORKS

In the areas I want to discuss, there are only smalldifferences between the IASB and FASB framework

Focus on the elements of financial statements and on

recognition and not measurement as both frameworks arequite unresolved as to measurement

FASB Conceptual Framework more expansive and Ihave selected it to describe several points also made in

IASB Framework

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Purposes of the two frameworks are quite similar

Both frameworks accept decision usefulness of

information to a broad group of outsiders as thepurpose of financial reporting (IAS paragraph 12)

More expansive use of IASB framework as aresult of IAS 8 hierarchy for establishing

accounting policies

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The FASB in Concepts Statement No. 1 concluded:

. . . Financial reporting should provide information to help

investors, creditors, and others assess the amount, timing,and uncertainty of prospective net cash inflows to the related

enterprise. (paragraph 39)

The IASB framework:

The economic decisions that are taken by users of financial

statements require an evaluation of the ability of an entity to

generate cash and cash equivalents and of the timing and

certainty of their generation. (paragraph 15)


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The primary focus of financial reporting is

information about an enterprises

performance provided by measures of

earnings and its components. Investors,creditors, and others who are concerned with

assessing the prospects for enterprise net cash

inflows are especially interested in that

information. (Con 1, paragraph 43)


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Furthermore, the Board said, Information about

enterprise earnings and its components measured by

accrual accounting generally provides a better

indication of enterprise performance than

information about current cash receipts and

payments. (Con 1, paragraph 44)


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Information about the performance of an entity, in

particular its profitability, is required in order to

assess potential changes in the economic resources

that it is likely to control in the future. Information

about variability of performance is important in this

respect. Information about performance isuseful in

predicting the capacity of the entity to generate cash

flows from its existing resource base.

(IAS, paragraph 17)


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Accepting these conclusions focuses the

debate on the items to be recognized in

accrual basis earnings (profit and loss) and themeasurement of those items.

The fundamental nature of most accounting

debates is that we dont agree on what shouldbe considered earnings or profit and loss.


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Controversy sometimes over amount

Controversy usually over timing and uncontrolled

volatility

Controversy over classification and display of items

in earnings or profit and loss


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Source of the Early Debates

Assets, liabilities, or what-you-may-call-its

Proper matching to avoid distortingperiodic income

Argument often used to avoid recognition of

an item is that the result will distort income

(earnings)


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APB STATEMENT NO. 4ASSETS

Assetseconomic resources of an enterprise that are

recognized and measured in conformity with generally

accepted accounting principles. Assets also include

certain deferred charges that are not resources but that

are recognized and measured in conformity with

generally accepted accounting principles.


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APB STATEMENT NO. 4LIABILITIES

Liabilitieseconomic obligations of an enterprise that

are recognized and measured in conformity with

generally accepted accounting principles. Liabilities

also include certain deferred credits that are not

obligations but that are recognized and measured in

conformity with generally accepted accountingprinciples.


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Asset

Assets are probable future economic benefits obtained orcontrolled by a particular entity as a result of past

transactions or events. (Con 6, paragraph 25)


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Liability

Liabilities are probable future sacrifices of economicbenefits arising from present obligations of a particular

entity to transfer assets or provide services to other entities

in the future as a result of past transactions or events.

(Con 6, paragraph 35)


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Asset

An asset is a resource controlled by the entity as a result

of past events and from which future economic benefitsare expected to flow to the entity. (IAS, paragraph 49a)


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Liability

A liability is a present obligation of the entity arising

from past events, the settlement of which is expected toresult in an outflow from the entity of resources

embodying economic benefits. (IAS, paragraph 49b)


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Assets

Three essential characteristics: (Con 6, paragraph 26)

(a) It embodies a probable future benefit that involves a

capacity, singly or in combination with other assets,to contribute directly or indirectly to future net cash

inflows

(b) A particular entity can obtain the benefit and control

others access to it

(c) The transaction or other event giving rise to the

entitys right to or control of the benefit has already

occurred.


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Liabilities

Three essential characteristics: (Con 6, paragraph 36)

(a) It embodies a present duty or responsibility to one or

more other entities that entails settlement by probablefuture transfer or use of assets at a specified or

determinable date, on occurrence of a specified event,

or on demand

(b) The duty or responsibility obligates a particular entity,leaving it little or no discretion to avoid the future

sacrifice

(c) The transaction or other event obligating the has

already happened.


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Revenues are inflows or other enhancements of assets

of an entity or settlements of its liabilities (or acombination of both) from delivering or producing

goods, rendering services, or other activities that

constitute the entitys ongoing major or central

operations. (Con 6, paragraph 78)

Revenues


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Expenses are outflows or other using up of assets or

incurrences of liabilities (or a combination of both)from delivering or producing goods, rendering

services, or carrying out other activities that constitute

the entitys ongoing major or central operations.

(Con 6, paragraph 80)

Expenses


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Income is increases in economic benefits during the

accounting period in the form of inflows orenhancements of assets or decreases of liabilities that

result in increases in equity, other than those relating

to contributions from equity participants.

(IAS, paragraph 70a)

Income


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Expenses are decreases in economic benefits during

the accounting period in the form of outflows ordepletions of assets or incurrences of liabilities that

result in decreases in equity, other than those relating

to distributions to equity participants.

(IAS, paragraph 70b)

Expenses


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Basic conclusion as to the conceptual primacy of

assets and secondarily liabilities

Thought to be a balance sheet approach

Can there be an income statement view?


IASB and FASB Framework

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Some individual frameworks are sharply defined and

firmly held; others are vague and weakly held; still

others are vague and firmly held.

(Chuck Horngren

Stanford University)


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Accounting is more a process of allocating transactions

to accounting periods by reference to the established

conventions of matching and prudence. . . . Assets and

liabilities do not form a natural starting point fordevising recognition rules; the balance sheet is the result

of the accounting process, not the starting point.

(Ron PatersonErnst & YoungUK)


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Patersons balance sheet [that] is the result of the

accounting process is commonly the result of debits and

credits that have been created as the necessary offsetting

entries to achieve the appropriate amount of revenue and

expense. Many of those debits and credits do not meet the

definitions of assets or liabilities but nevertheless are

identified as such on balance sheets. Would it be

acceptable to Paterson to accurately describe those items as

debit (or credit) necessary to get net income to theappropriate level? I doubt it.

(James J. LeisenringFASBUSA)


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. . .The application of the matching concept under this

Frameworkdoes not allow the recognition of items in the

balance sheet which do not meet the definition of assets or

liabilities.

(IAS, paragraph 95)


IASB Framework

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Income is recognised in the income statement when anincrease in future economic benefits related to an increase

in an asset or a decrease of a liability has arisen that can be

measured reliably.

(IAS, paragraph 92)


IASB Framework

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Expenses are recognised in the income statement when a

decrease in future economic benefits related to a decrease

in an asset or an increase of a liability has arisen that can

be measured reliably.

(IAS, paragraph 94)


IASB Framework

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Define revenue and expense without regard to assets andliabilities.

Accept that a balance sheet will contain a debit or credit

necessary to achieve the appropriate amount of net

income. Define or describe what is the appropriate amount of

net income

For the income statement view to have any intellectual

rigor, proponents must either:


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Cant define revenues, expenses, gains, and losses

without reference to assets

Absent independent definition of revenues, expenses,

gains, and losses (not dependent on assets andliabilities), the income statement view is vacuous

Measuring net income by the change in net assets

provides an anchor for resolving difficult accounting

questions


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Asking the Right Questions

What is the asset?

What is the liability?

Did an asset or liability or its value change?

Increase or decrease?

By how much?Did the change result from what we call:

Investment by owners?

Distribution to owners?

Comprehensive income?

Revenue?

Expense?

Gain?

Loss?

(Storey & Storey)


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CONCEPTUALFRAMEWORKS

James J. LeisenringIASB member

Standards Advisory Council meetingFebruary 2005

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