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Abstract
The stated purpose of the IFRS Conceptual Framework is to assist the IASB to develop Standards that are based on consistent concepts, and also to assist preparers to develop consistent accounting policies when Standards either do not apply or allow a choice of accounting policy. Yet, the Framework actually does surprisingly little to help the IASB (or preparers) determine which assets, liabilities, income and expenses should be recognised, and how they should be measured. The Framework’s focus on assets and liabilities implies that the accounting can, and should, be determined from the balance sheet. Yet, many current financial reporting requirements focus initially on the income statement, and so they are not so much derived from the Framework as instead in need of being reconciled back to it. At its heart, the problem here is that, while the Framework states that accrual accounting provides a better basis for assessing past and future performance than cash-based information, it does not explain why. To do so would require a conceptualisation of how entities’ business models are employed to create value, and of the strengths and limitations of accounting data in enhancing investors’ understanding of that value-creation. The lack of explanation of the purpose and informational objectives of accruals, how they relate to business models and how they cause the income statement and the balance sheet to interact are gaps in the Framework. Filling those gaps would provide a more robust, and natural, way for the IASB to develop recognition and measurement requirements in its Standards.
Acknowledgements
This paper has benefited from comments from two anonymous referees, members of the UK Financial Reporting Council’s Academic Panel and participants at the 2017 IASB Research Forum.
Disclosure Statement
No potential conflict of interest was reported by the authors.
Notes
1 There is only a brief mention of accrual accounting in the Framework: 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 information about a reporting entity’s economic resources and claims and changes in its economic resources and claims during a period provides a better basis for assessing the entity’s past and future performance than information solely about cash receipts and payments during that period. (IASB, Citation2018, para. 1.17).
2 Easton et al suggest that earnings explain about 80 per cent of returns when both variables are measured over a 10 year window.
3 The invitation to comment on the exposure draft of the Conceptual Framework states that the IASB did not include a general discussion on the role of a business model in financial reporting, but does discuss how the way in which an entity conducts its business activities may affect (a) the unit of account; (b) measurement; and (c) presentation and disclosure.
4 IASB (Citation2018, para. 6.1).
5 The current value in IFRS is net realisable value. The current value in the FASB’s requirements is replacement cost, although replacement cost should not exceed the net realisable value or be lower than net realisable value less a normal profit margin.
6 IASB (Citation2018, para. 6.55).
7 In economics the term unit of account means a nominal monetary unit of measure or currency used to value or cost an economic item. In contrast, the IASB uses the term to describe the item being measured. This paper uses the term with the meaning ascribed by the IASB, to be consistent with how it is used in the Framework.
8 IASB (Citation2018, para. 4.48).
9 See Baxter (Citation1971) on alternative conceptualisations of depreciation.
10 The use of accruals requires preparers to make assumptions about how they will recover the carrying amount from their future activities. The assumptions for long-lived assets include the period over which they expect to use the asset and the amount they expect to receive or recover when the asset has reached the end of its useful life. Several accounting Standards focus on those assumptions.
11 IASB (Citation2018, para. 6.48).
12 It would be interesting to examine the extent to which entities recognise gains or losses on initial recognition of financial instruments that are subsequently measured at amortised cost. If such cases do not happen in practice, this exception to transaction-based initial measurement is redundant.
13 IASB (Citation2018, para. 6.5).