Discussion on Accounting Framework: Developing a Conceptual Framework Project

Question 1 PART A

What advantages or benefits have been claimed by standard-setters in support of the advancement of conceptual framework projects? In your response, identify groups which stand to benefit from the development of conceptual framework projects.

The rise and use of Conceptual Frameworks have been abundant during the course of the previous three decades. The Financial Accounting Standard Board and accounting standard-setting agencies around the globe have all developed or are in the process of developing Conceptual Frameworks. This is because of the advancement in accounting as Conceptual Frameworks allow a systematic approach.

The sole purpose of developing a Conceptual Framework is to have a basis through which accounting standards can be set. The formulation of these Conceptual Frameworks implies a shift from the unorganised conventional methods and move to a normal approach based on a standard Conceptual Framework.

Following are some of the other benefits of Conceptual Framework Projects:

1. Through the use of a Conceptual Framework in accounting, logical and consistent evaluations can be made. 2) Due to the use of these Conceptual Frameworks by a large number of countries, there is good compatibility and comparability of accounting practices between one another.
2. Due to the use of these Conceptual Frameworks by a large number of countries, there is good compatibility and comparability of accounting practices between one another.
3. Because of the systematic nature of a Conceptual Framework, outliers and standard setters have to be more responsible because in order for them to deviate from the Conceptual Framework, they have to be clear and give solid reasons.
4. Conceptual Frameworks also assist financial report makers in the way that they provide guidance in addressing an issue.
5. In solving issues such as recognition criteria and the objective of financial reporting, accounting standard-setters will have a Conceptual Framework to look to rather than making decisions based upon political pressure.
6. Due to a Conceptual Framework, standard-setters will have an agreement on key issues and expansion of accounting standards will have to be more economical. There will be no point in going back to board on solving issues.

A lot of groups benefit from the use of these Conceptual Framework Projects. These include standard-setters, accounting counterparts from various countries alongwith all those involved in the use of these accounting practices because Conceptual Framework Projects allow a systematic and logical solution.

Question 1 Part B

Hines (1989, p. 89) says that conceptual frameworks are ‘a strategic maneuver for providing legitimacy to standard setting bodies during periods of competition or threatened government intervention’. Compare and contrast the arguments of Hines with the advantages (and who stands to benefit from those advantages) you identified in part a)

Some authors have agreed upon the fact that Conceptual Frameworks are a great way out for standard setters and the fact that in times of evaluation, Conceptual Frameworks fail to focus on the key factors and just provide indecisive logical explanations. Although there is a huge discussion about the advantages of Conceptual Frameworks given above, there are some disadvantages as well. Conceptual Frameworks continue to have functional and technical failures but are still in use because they provide a great solution in times of confusion and government intervention.

Some of the other disadvantages of Conceptual Frameworks include:

1. Conceptual Frameworks are expensive to develop.
2. Some authors argue that the development of Conceptual Frameworks is the result of possible political interference and are made to have a back-up plan in times of chaos.
3. In times of huge disagreement, Conceptual Frameworks have failed to show progress let alone solve the issue of conflict.
4. Conceptual Frameworks focus only on the financial aspects neglecting all the other factors such as social and environmental. At times, it has also taken the focus away from important issues such as corporate performance.
5. Conceptual Frameworks only offer a type of codification of previously present information and fail to provide actual methods of accounting.

Looking at all these disadvantages given above alongwith the arguments of Hines which gives an idea that although Conceptual Frameworks do have some great logic-based advantages, their only soul benefit is in times of confusion and great political interference. This is because Conceptual Frameworks allow a set of rules that are undertaken by everyone. Furthermore, it is evident that Conceptual Frameworks stand to benefit standard-setters and other members of the accounting team because of the presence of standard guiding system and the fact that all future decisions are based upon this system alone.

The only big problem is the purely logical nature of Conceptual Frameworks. Even though Conceptual Frameworks do assist in many areas of accounting, they fail to look at some other factors that are not purely economic but are principal in guiding the present economic situation.

Question 2

The AASB Framework OB2 states that: “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.Those decisions involve buying, selling or holding equity and debt instruments, and providing or settling loans and other forms of credit”

Does the identification of particular groups of users have implications for the measurement basis that will ultimately be adopted by the AASB for use in Australia? Justify your position. In your response you should consider whether fair values or historical costs would be more relevant to the users identified in the AASB Framework.

A reporting entity as defined by the AASB 2014 Framework is an entity with users who have common elements in their needs and these users cannot individually access or command the preparation of information. The ideal benefit of these reports is to offer and provide people with useful bits of information that will help them in making decisions based upon the proper allocation of resources.
The basic advantage of the general-purpose financial reporting as stated by the AASB is the provision of useful information for the existing and potential investors, lenders as well as creditors in making multiple decisions about the resources and the information required to do proper management.

The framework addresses a number of different points such as the basic purpose of general purpose, financial reporting, characteristics of valuable financial information, statements and the reporting entity alongwith the recognition, derecognition, measurement, presentation and disclosure. The main users of general-purpose financial reporting include present and ongoing investors, creditors and lenders alongwith those who are a potential prospect for the future and are not a part yet.

All these present and potential users use this information in order to make decisions about selling and buying, holding debt and equity instruments, providing and setting up loan payments or coming up with other various forms of credit. They also exercise their rights in voting and collectively opting for decisions such as managements actions and decisions that might badly affect and influence the entity’s financial and economic resources.

Primary users require such form of information to make different evaluations. They need such information in order to know about the resources of the entity which will as a result help them to make further evaluations. This information is used to have a complete understanding with the past, present and future of the concerned entity. This helps them to not only know about the prospects of an entity’s future cash inflows but also about the previous management and the fact that how well have they worked with the entity’s resources.

This also briefs them about the efficiency of the procedure from the past and the present. No matter how descriptive and standard a general-purpose financial reporting may be, it still cannot provide all sorts of information required to make economic decisions. This means that in order to make quality decisions about buying, selling, holding equity and debt as well as offering and settling of loans alongwith other forms of credit, they will need to have assistance from various other resources.

Other frameworks such as IFRS Framework in particular exclaims that other users and parties such as concerned personnel alongwith market regulators do find general-purpose financial reporting useful. However still, these are not considered as major primary users and these general-purpose financial reports are not primarily given forth to upcoming parties or even the regulators. This is solely because of their incomplete nature and it is evident that in finding solutions to a problem or making decisions about buying, selling or others such as settling of a loan, users might have to consider other bits of information to gain assistance.

Information such as the nature and financial conditions of a reporting entity is helpful in assessing the entity’s financial strength and weaknesses alongwith other variables such as liquidity and solvency as well as the need and ability of an entity to obtain financial help or other forms of such information. Materials such as these which include claims and payment receipts, assist users in a better evaluation for the past, present as well as the future. Furthermore, the changes in an entity’s economic resources and claims are a result of the performance of that particular entity as well as other transactions such as issuing of debt and other equity instruments. It is also important for users to be able to differentiate between them.

Question 3

Despite the efforts of various people, including Chambers, Sterling, Edwards and Bell, historical cost accounting is still a widely used method within financial reporting. Why do you think that historical cost accounting remains an accepted method of measurement? In your response, you should consider the merits (or otherwise) of the methods proposed by the aforementioned authors (CCA, CoCoA, CPPA etc). 

Change is never welcomed with open-arms, not matter how good its nature is. This is in the human nature and change is almost always frowned upon because it usually requires working out of the regular comfort zone. The concept is the same when it comes to accounting. During the course of the past two decades, the use of modern forms of accounting has increased worldwide i.e. by agencies as well as international students.

Fair value accounting is being used for a large number of financial reporting purposes. The International Boards such as IASB (International Accounting Standards Board) and FASB (Financial Accounting Standards Board) have both agreed upon the creation of a standardised global framework which has uniformity in its usage.

This framework contains a large number of rubrics and sections which take information like the worth of assets or liabilities without having a strong look at the market values. This means that the new framework is smart and can give a better decision making and problem-solving strategy than the traditional systems. Under historical cost accounting, the price that matters is the one that’s paid by the company at the time of the purchase of an asset. This price remains the same in normal conditions but during times of exception such as depreciation, depletion or obsolescence, the value can be reduced.

However, for a financial asset, the price given on the balance sheet does not change until or unless the security of the particular assets is in a state of liquidity. In normal conditions, historical cost accounting is easy to get a grip of because it is usually based upon a price that is fixed and is almost always known during the complete process.

Due to the same reasons, historical cost accounting is also easy to follow because it is based upon only certain inputs. Where this decreases uncertainty from the initial decision, historical cost accounting also happens to create uncertainty for the future as it tells nothing about the true value of the assets in the future.

Obviously, because it is not easy to make such predictions without a known set of criteria. Historical cost accounting has been a subject to a number of criticisms, some of which include the fact that it only considers the cost of the acquisition and does not even consider the present market value at the time of the purchase. Historical costs are based only upon the allocations of costs and nothing else; it has no interest in the value of the asset.

Historical cost accounting does give a good bit of information about the cost of the acquisition and factors that will affect its cost such as depletion or depreciation, it still does not tell about the market value of the asset and the fact that the value might be subject to a change depending upon the market’s liquidity. Another major flaw of historical cost accounting is its behaviour in times of market inflation.

Historical cost accounting relies heavily on the stability of the currency in which the transaction is recorded where normally, this is a huge problem because no currency is ever stable. Another major prospect is the increase of decrease of prices in times of inflation which also disturbs the stability. However, there is a whole range of people who still use historical methods of accounting.

Where there is a huge speculation and critical arguments about historical cost accounting, it does happen to have some positive points as well. This is the reason why a large number of people still tend to use historical cost accounting rather than its alternatives. One of the major reasons why historical cost accounting is still in use is because of the fact that no matter how unstable the market is or seems to be, accountants are still reluctant to make decisions based upon the present situation and price the assets based upon the present market value of that asset.

Over the past years, there have been many malpractices done by accountants that have made the users reluctant in trying to indulge in complex accounting techniques. Users in the recent years prefer to first have an understanding of the accounting methods and then take part. Another positive feature of historical cost accounting is the protection of the value of an asset done by the accountant against times of market instability.

Some of the other advantages of historical cost accounting is its benefit to the managers as it provides them with a number of alternatives in recognising, reporting and measuring financial information. Similarly, it also helps managers and accountants in predicting upcoming operational costs based upon past practices. So, as we can see, historical cost accounting still seems to have a lot of advantages which is why a lot of users still use them.