Conceptual Framework — Joint Project of the IASB and FASB

Conceptual Framework — Joint Project of the IASB and FASB

WHY WE NEED A CONCEPTUAL FRAMEWORK?

A common goal of the FASB and IASB, shared by their constituents, is for their standards to be “principles-based.” To be principles-based, standards cannot be a collection of conventions but rather must be rooted in fundamental concepts. For standards on various issues to result in coherent financial accounting and reporting, the fundamental concepts need to constitute a framework that is sound, comprehensive, and internally consistent.

·        The goals of the new project are to build on the two Boards’ existing frameworks by refining, updating, completing, and converging them into a common framework that both Boards can use in developing new and revised accounting standards.

·        Without the guidance provided by an agreed-upon framework, standard setting ends up being based on the individual concepts developed by each member of the standard-setting body.

This Preliminary Views is the first in a series of publications being developed jointly by the Financial Accounting Standards Board (FASB) and the International Accounting Standards Board (IASB) (the Boards) as part of a joint project to develop a common Conceptual Framework for Financial Reporting. The Boards expect to issue other discussion papers that will seek comments on parts of what ultimately will be an improved conceptual framework for financial reporting that both will adopt to replace their separate frameworks.

WHY THE BOARDS ARE RECONSIDERING THEIR FRAMEWORKS

A common goal of the Boards—a goal shared by their constituents—is for their standards to be clearly based on consistent principles. To be consistent, principles must be rooted in fundamental concepts rather than being a collection of conventions. For the body of standards taken as a whole to result in coherent financial reporting, the fundamental concepts need to constitute a framework that is sound, comprehensive, and internally consistent.

Another common goal of the Boards is to bring their standards into convergence. The Boards are aligning their agendas more closely to achieve convergence in future standards, but they will encounter difficulties in doing that if they base their decisions on different frameworks.

To provide the best foundation for developing principles-based and converged standards, the Boards undertook a joint project to develop a common and improved conceptual framework. The goals for the project include updating and refining the existing concepts to reflect changes in markets, business practices, and the economic environment in the two or more decades since the concepts were developed. The Boards also intend to improve some parts of the existing frameworks, such as recognition and measurement, as well as to fill some gaps in the frameworks. For example, neither framework includes a robust concept of a reporting entity. The FASB’s Concepts Statements include no definition of a reporting entity or discussion of how to identify one. Paragraph 8 of the IASB’s Framework defines a reporting entity as “an entity for which there are users who rely on the financial statements as their major source of financial information about the entity.” But the Framework does not include a discussion of either why that definition is appropriate or how it should be applied.

Because the qualitative characteristics distinguish more useful information from less useful information, they are the qualities to be sought in making decisions about financial reporting.

Relevance

Whether relevance is a desirable qualitative characteristic that belongs in the conceptual framework is not at issue. Both the FASB’s and the IASB’s existing frameworks discuss relevance as a qualitative characteristic of financial reporting information, as do all other frameworks that the Boards reviewed. However, the two frameworks define relevance and identify its components somewhat differently, and the Boards determined that the meaning of predictive value needed attention.

Capable of Making a Difference in Decisions

 

The FASB’s and the IASB’s definitions of relevance are similar, with one potentially significant exception. The IASB Framework (paragraph 26) says that information is relevant “when it influences the economic decisions of users by helping them evaluate past, present or future events or confirming, or correcting, their past evaluations.” FASB Concepts Statement No. 2, Qualitative Characteristics of Accounting Information, paragraph 47, says that, to be relevant, “. . . accounting information must be capable of making a difference in a decision by helping users to form predictions about the outcomes of past, present, and future events or to confirm or correct expectations.” Thus, the definitions differ in whether information must actually make a difference in a decision or be capable of making a difference in a decision.

The Boards concluded that information must be capable of making a difference in a decision to be relevant. 

The other qualitative characteristics and the pervasive constraints on financial reporting help to determine how much of the information that may be capable of making a difference can and should be provided in financial reports.

Whether or not it is possible to demonstrate conclusively that a particular item of information will affect (or has affected) users’ decisions, standard setters can and should take steps to understand how investors and creditors use financial reporting information and how financial reports might better serve their needs.

What Are the Components of Relevance?

The Boards identified no significant issues that relate to identifying the components of relevance. Therefore, they made only minor changes in that area, one of which affects terminology. The IASB Framework identifies predictive value and confirmatory value as components of relevance, and the FASB’s Concepts Statement 2 refers to predictive value and feedback value.

The Boards concluded that confirmatory value and feedback value have the same meaning. In the interest of convergence of terminology, the Boards decided to use confirmatory value in the broad sense of either confirming the accuracy of prior predictions or correcting them.

The Boards concluded that timeliness pertains only to relevance. In contrast, materiality is pertinent to faithful representation.

What Does Predictive Value Mean?

The Boards identified the meaning of predictive value as an issue needing attention, more specifically, whether the framework should define predictive value in statistical terms. That is an issue largely because it is easy to confuse predictive value as used in financial reporting concepts with predictability and related terms used in statistics.

The Boards concluded that adopting statistical notions and terminology in the framework would be inappropriate. To do so would imply that relevant financial reporting information must, in itself, predict the future. Although financial reporting might include forward-looking information, the Boards noted that information need not be forward-looking to have predictive value. In other words, financial reports supply the information; investors, creditors, and other users make the predictions Standard setters cannot, and do not try to, dictate how an individual user makes those predictions.

Should Additional Qualitative Characteristics Be Added?

The Boards considered whether additional qualitative characteristics should be added. They evaluated potential candidates in the context of the purpose of the qualitative characteristics, which is to help ensure that financial reporting information achieves its objective to the maximum extent feasible by distinguishing more useful information from less useful information.

1.    Transparency

Regardless of exactly what it is that accountants or others think should be transparent, they seem to use the term to mean clear, candid, or easily seen through, which is consistent with the term’s meaning in general use.

The Boards concluded that transparency should not be added as a qualitative characteristic of decision-useful financial reporting information because to do so would be redundant because the framework already, including faithful representation which mean the same thing.

2.    True and Fair View

Some discussions of accounting concepts or principles refer to a true and fair view or fair presentation.

The Boards concluded that true and fair view or present fairly is not a qualitative characteristic. Instead, a true and fair view should result from applying the qualitative characteristics. Or to present a true and fair view is much the same as for a financial report to faithfully represent, which already is a qualitative characteristic.

3.    High Quality

Qualitative characteristics should lead to high-quality accounting standards, which in turn should lead to high-quality financial reporting information that is useful for making decisions. That is, quality is defined by the objectives and qualitative characteristics.

The Boards concluded that high quality is achieved by adherence to the objectives and qualitative characteristics. High-quality information is the goal to which financial reporting and standard setters aspire. Therefore, the Boards did not add high quality as a qualitative characteristic.

4.    Credibility

5.    Internal Consistency

Constituents have sometimes suggested other criteria for standard-setting decisions, and the Boards have at times cited some of those criteria as part of the rationale for some decisions. Those criteria include: a. Simplicity

b. Preciseness

c. Operationality

d. Practicability or practicality

e. Acceptability.