The Purpose of Financial Reporting: The Case for Coherence in the Conceptual Framework and Standards

Abstract

This paper proposes a basis for progress in the development of the conceptual framework (CF) as a foundation for developing accounting standards. This topic has gained increased prominence following the IASB's (2013) release of its Review of the Conceptual Framework for Financial Reporting (RCFFR) proposing changes to the CF. In this paper the broad socio-economic environment is seen as determining the primary purpose of General Purpose Financial Reporting (GPFR), which, in turn, establishes the high-level properties of a CF suitable to meet that primary purpose. This is to support market stability and efficiency through the provision of an account of the financial position and performance of an entity that accords with economic reality.The case is made that the primary purpose of a CF is to provide the principles for the development of accounting standards that will result in GPFR that is useful. This requires theoretical coherence. The CF should drive the standards and if standards depart from the CF principles, such departures should be justified. This proposal is consistent with the position adopted in the RCFFR. However, in contrast to the RCFFR, this paper accents the purposive approach and links the formation of standards directly to the CF. This approach implies that standards are subordinate to CF principles; therefore compliance with standards should not provide a basis for compromising the faithful representation of economic reality. From the purpose identified for GPFR, the paper argues for a default presumption in favour of Fair Value Accounting, a retreat from the asset/ liability approach, and a re-casting of the income statement to focus on operational flows.

Fair value accounting: Perspective on stewardship function

“…The conceptual perspective on FVA in the context of the stewardship function is well established in the FVA literature. The scope of the studies facilitates understanding of the role of the IASB/FASB joint Conceptual Framework in the development of accounting standards applying fair value measurement (Whittington, 2008;Hitz, 2007;Ronen, 2008;Yong et al, 2016;Sutton et al, 2015). The joint project has sparked interest amongst academics discussing the possible implications of the common framework, and its changes, for measurement basis in current and future accounting standards.…”

“…First, the majority of research interest examines the impact of FVA on equity valuation (Hann et al, 2007;Carroll et al, 2003;Petroni and Wahlen, 1995;Barth, 1994) and FVA impact on economic decisions made by financial intermediaries (Lim et al, 2013;Magnan et al, 2015;Ayres et al, 2017). Secondly, following the joint project between IASB and FASB to develop a conceptual framework, the second strand evaluates the fundamental shift in the development of accounting standards towards emphasis on the primacy of assets and liabilities rather than their value changes (Sutton et al, 2015;Bromwich et al, 2010). Thirdly, an important strand of the literature has surfaced in response to the accusations of FVA being a cause of the subprime mortgage crisis which resulted in the global financial meltdown in 2007-08 (Laux and Leuz, 2009;Véron, 2008).…”

“…The project by IASB and FASB to develop a joint conceptual framework and its amendments, such as the shift from reliability to faithful representation, and the removal of free from bias from the fundamental qualitative characteristics, further support the trend in favour of FVA in the development of accounting standards for many years to come. The case is often made that the FASB and IASB highlight the primacy of assets and liabilities, based on a definition of income grounded on a theory prevalent in economics (Sutton et al, 2015). However, the attributes contained within this definition solely apply to assets and liabilities in complete and perfect markets (Bromwich et al, 2010), a fact which further questions the reliability of Level 2 and 3 fair values.…”

Grouping of Major Changes in Conceptual Framework of Financial Reporting and Analysis of New Challenges

“…This explains the Research Question №3. Besides, given that the main purpose of the Conceptual Framework is to provide principles for the development of accounting standards, Sutton et al (2015) considered their theoretical inconsistency with the standards, which should always be substantiated in practice. Among the frequent discrepancies, the authors call the assumption of fair value, assets, and liabilities, the preparation of additional income statements to focus on operating flows.…”

“…Third, there is a lack of consistent results of prior studies that have investigated the IFRS issues more frequently and rules, particular, in terms of the need for measurement concepts (Barth, 2014), market recognition and disclosure (Barth et al, 2003), asymmetric timeliness of earnings (Basu, 1997;Healy et al, 2001), income concepts (Bromwich et al, 2010), IASB comprehensive project ( Van et al, 2007). The researches that related only to the Conceptual Framework were presented within some reflective comments (Swapan, 2012;Gordon et al, 2015;Smieliauskas, 2015;Smieliauskas et al, 2017) (Beerbaum et al, 2016) for financial reporting (Sutton et al, 2015), the unit of account in financial reporting (Bunting, 2010), the accounting uncertainty and ‗balance sheet' approach (Barker and Penman, 2013), the decision-usefulness and stewardship (Cordery et al, 2016), The difference Conceptual Frameworks for public and private enterprises were considered by Thornton (2015). Thus, these prior studies were conducted mostly in the time range before the 2018 changes in the Conceptual Framework of IASB.…”