ACCOUNTING STUDIES

Stage 2
CHAPTER 1:
THE ROLE OF ACCOUNTING
(PART 2)
 The Objectives of Financial Reports
 Qualitative Characteristics of Accounting Information
 Qualitative Characteristics of Financial Reports
 The Objectives of Financial
Reports
(extracted from the Australian Accounting Conceptual Framework)

1) To provide information about the financial position,

financial performance and cash flows of an entity that is
useful to a wide range of users in making decisions.

However, financial reports do not provide all the

information that users may need to make decisions since
they largely portray the financial effects of past events
and do not necessarily provide non-financial information.

2) Financial reports also show the results of the stewardship

of management or the accountability of management for the
resources entrusted to it.

Example of economics decisions, to hold or sell their

investment in the entity, or whether to reappoint or
replace the management.
 Qualitative Characteristics of
Accounting Information

Selection of Constraints on
Financial Presentation of Qualitative
Financial
Information Characteristics
Performance
• Relevance • Comparability • Timeliness
• Reliability • Understandability • Costs vs
• Materiality Benefits
 Selection of Financial Information

RELEVANCE RELIABILITY

MATERIALITY
 Relevance Relevant
information
should posses the
following
Accounting information has relevance if it characteristics:
makes a difference in a decision or it
1. Predictive
influences the economic decisions of users. value
PREDICTIVE VALUE - helps users forecast future events.
2. Feedback
Eg, when Sime Darby issues financial statements, the
value
information in them is considered relevant because it
provides a basis for predicting future earnings.
3. Timely
FEEDBACK VALUE- confirms or
corrects prior expectations. TIMELY- information is available
When Sime Darby issues when it is needed. Financial
financial statements, it information may lose its
confirms or corrects prior relevance if there is a long time
expectations about the span/undue delay before the
financial health of the info is presented to interested
company. parties.
 Reliability
Financial information must be free from bias and
undue error.
undue error- lacking justification or authorization

can be depended upon by users to represent

faithfully that which it either purports to represent
or could reasonably be expected to represent.

Reliability of information should posses the

following characteristics:
1. Faithful representation
2. Substance over form
3. Naturality
4. Prudence
5. Completeness
 Faithful representation
To be reliable, info must represent faithfully the transactions &
other events it either purports to represent or could reasonably
be expected to represent.
Faithful representation is the concept that financial
statements be produced that accurately reflect the
condition of a business.
E.g. A Balance Sheet should represent faithfully the transactions
& other events that result in assets, liabilities & equity of the
entity at the reporting date.
 Substance over form
It is necessary that information is accounted for & presented in
accordance with their substance & economic reality & not merely
their legal form.

E.g. Machinery held by the business under a long-term lease

arrangement is recorded by the business as its own asset.
 Neutrality
…free from bias.

Financial reports are not neutral if, by the selection & presentation
of info, they influence the making of a decision or judgment in order
to achieve a predetermined result or outcome.

Eg; how to derive at profit??

Revenue-expenses = profit/loss.
In sequence, not the other way around
Not based on predetermined profit, you create your revenue and
expenses (this is not neutral).
 Prudence
The accountant should always exercise caution when dealing
with uncertainty while, at the same time, ensuring that the
financial statements are neutral. Therefore, assets & income
are not overstated & liabilities & expenses are not understated.

E.g. collectability of doubtful receivables, probable useful life of

fixed assets, etc.
 Completeness

Financial reports must be completed within the bounds of

materiality & costs. An omission can cause info to be false
or misleading & thus, unreliable & deficient in terms of its
relevance.
 MATERIALITY
Info is material if its omission or misstatement
could influence the economic decisions of users
taken on the basis of financial reports.

Info may be relevant in the general operations of an enterprise

but might not be of significance when the entity is reporting.

A small business may round off to the

nearest $10 whereas a large business may
round off to the nearest $1000 as this still
presents an accurate picture of business.
 Presentation of Financial Information

COMPARABILIT
Y

UNDERSTANDABILITY
COMPARABILITY

• Users must be able to compare the fin. reports of an

entity at one point in time; through time (trends); with
other entities at one point in time and over time.

• Consistent method of accounting must be used from one

period to the next so that meaningful comparison can be
made.

• Notes maybe included when changes has been made to the

method of valuation of the figures. This reflect the
consistency concept.
 UNDERSTANDABILITY
Do you
UNDERSTAND?? Readily understandable by users
- Financial info must be
persisted/maintained in a form that
assist users in it understanding.

We therefore need to consider

who are users of accounting.
- Users are assumed to have a Eg: the presentation
reasonable knowledge of business of I/S and B/S with
& economic activities & accounting various classification
& a willingness to study the info assist the users to
with reasonable diligence better understand
these reports. This is
Info about complex matters which are particularly helpful
relevant to the economic decision making when users have
needs of users should not be excluded merely limited accounting
on the grounds that it may be too difficult knowledge.
for certain users to understand.
 Constraints on qualitative characteristics

TIMELINESS
COSTS vs
BENEFITS
 Costs vs Benefits
Benefits derived from info > Costs of
providing info

Accountants need to consider whether the provision of certain

financial info will stimulate more benefits than the cost incurred.

Increase in revenue and ultimately profit should

outweigh the overall cost.

EXAMPLE- E.g. the cost of gathering research data should

be less than the benefits that this data will provide to the
business.
 Timeliness
It must be available to decision makers before it
loses its capacity to influence decisions.

Financial information may lose its relevance if there is along time

span/ undue delay before the info is presented to interested parties.
How best
To provide info on a timely basis it may often
be necessary to report before all aspects of a to satisfy
transaction or other event are known, thus users??
impairing reliability.

EXAMPLE- Income statement and balance sheet: are

prepared regularly (monthly, quarterly, or yearly), so
that managers can make decision to ensure the business
stays on track to achieved objective.
Who’s volunteer to
answer?
1. The qualitative characteristics of accounting information are
summarized as:

Useful Financial
Information has:

Relevance Comparability (c) Reliability

(a) (d)
(b) Neutral
Timely (e)
(a) ____________________
(b) ____________________
(c) ____________________
(d) ____________________
(e) ____________________
2. Given the qualitative characteristics of accounting
established by the FASB’s conceptual framework,
complete each of the following statements.

(a) _____________ is the quality of information that gives

assurance that it is free of error and bias; it can be
depended on.
(b) _____________ means using the same accounting
principles and methods from year to year within a
company.
(c) For information to be _____________, it should have
predictive or feedback value, and it must be presented on a
timely basis.
3. Presented below is a set of qualitative characteristics of accounting
information.

i) Predictive value iii) Verifiable

ii) Neutral iv) Timely

Match these qualitative characteristics to the following statements,

using (i) through (iv).

(a) ___ Accounting information should help users make predictions

about the outcome of past, present, and future events.
(b) ___ Accounting information cannot be selected, prepared, or
presented to favor one set of interested users over another.
(c) ___ Accounting information must proved to be free of error and
bias.
(d) ___ Accounting information must be available to decision makers
before it loses its capacity to influence their decisions.
 TO BE CONTINUED:
CHAPTER 1
“ROLE OF ACCOUNTING”