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According to the FASB - "A coherent system of interrelated objectives and fundamentals that can lead to consistent standards and that prescribes the nature, function and limits of financial accounting and financial statements"
IASB - "This Framework sets out the concepts that underlie the preparation and presentation of financial statements for external users"
The idea of a conceptual framework surfaced long before it was formally recognized. FASB was created in 1973 for this purpose. The board realized that the first thing it had to was to develop certain fundamental concepts that it could look to for consistent guidance in analyzing and resolving issues such as inco me, liablity etc.
Between 1974 and 1985, the FASB issued 30 publications (eight discussion memoranda, seven research reports, eight exposure drafts, one invitation to comment, and six concepts statements) in its massive conceptual framework project.
The Statements of Financial Accounting Concepts issued by the FASB:
- SFAC No.1: Objectives of Financial Reporting by Business Enterprises
- SFAC No.2: Qualitative Characteristics of Accounting Information
- SFAC No.6: Elements of financial Statements [Replaced SFAC No.3]
- SFAC No.5: Recognition and Measurement in Financial Statements of Business Enterprises.
- SFAC No.7: Using Cash Flow Information and Present Value in Accounting Measurement.
The SFAC No.1 issued in November,1978 talks about the objectives of financial reporting and that business enterprises have the responsibility to publish financial information showing Financial performance and changes in Financial position. The statement however, confines its attention to the needs of investors and creditors ignoring other groups such as labour and tax authorities.
The SFAC No.2 issued in May,1980 defines the characteristics of useful financial information.
The attributes that make information useful to users include:
The SFAC No.6 issued in December, 1980 It replaces SFAC No.3 and re-defines the basic elements of financial Statements.Financial statements consists of Balance sheet and Income statement. The balance sheet describes the financial position of the business entity whereas the income statement potray's its financial performance. The elements of the Balance sheet which relate to financial position are :Assets, Liability and Equity. And the elements of the Income statement which relate to Financial Performance are : Revenue & Expenses.
It is in this statement that the FASB favors "Asset and Liability view" over the "Revenue and Expense view" to define earnings
Assets: "probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events"
Liabilities: "probable future sacrifices of economic benefits 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"
Equity: "Equity or net assets is the residual interest in the assets of an entity that remains after deducting its liabilities."
Revenues: "inflows or other enhancements of assets of an entity or settlements of its liabilities (or a combination of both) during a period from delivering or producing goods, rendering services, or other activities that constitute the entity's ongoing major or central operations"
Expenses: "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 entity's ongoing major or central operations."
Comprehensive income: "the change in equity (net assets) of an entity during a period from transactions and other events and circumstances from nonowner sources"
The definitions provided are not consistent with the Accounting Standards in many cases.
And in July, 2001 the FASB/IASB/ASB concluded that the definitions were deficient.
The SFAC No. 5 was issued in December,1984 . This statement defines the criteria to recognize and measure elements that can be used in the financial statements of Business Enterprises.To be recognized , it should be able to be defined under the elements of financial statement, it should be measurable, relevant and reliable. There are various ways for measurement and some of them are the following :
- Historical Cost
- Current Cost
- Realisable Value
- Present Value
In the statement, the board did not conclude as to which method business entities should rely on to measure the elements of the Financial Statement. Therefore , the Statement was given a grade "F" by Solomon[1986, p. 124] .
The SFAC No.7 was issued in 2000, this statement can be seen as a subset to SFAC No.5. It applies to situations where present market determined amounts such as cash received or paid and current cost or market value are not available at the point of recognition. Instead estimated future cash flows must be used for asset or liability measurement.
According to the latest FASB/IASB (May,2008) - "To be consistent, principles must be rooted in fundamental concepts rather than a collection of conventions. To consistently achieve useful financial reporting, the body of standards taken as a whole and the application of those standards should be based on a framework that is sound, comprehensive and internally consistent"