4. Framework-based_understanding of IFRSs

International Financial Reporting Standards

The views expressed in this presentation are those of the presenter, not necessarily those of the IASB or IFRS Foundation.

© IFRS Foundation | 30 Cannon Street | London EC4M 6XH | UK. www.ifrs.org

Framework-based understanding of IFRSs

Joint World Bank and IFRS Foundation ‘train the trainers’ workshop hosted by the ECCB, 30 April to 4 May 2012

KThe views expressed in this presentation are those of the presenter, not necessarily those of the IASB or IFRS Foundation.

© 2010 IFRS Foundation. 30 Cannon Street | London EC4M 6XH | UK. www.ifrs.org

2Framework-based understanding… 2

Principles RulesConcepts

• relates IFRS requirements to the concepts in the Conceptual Framework

• reasons why some IFRS requirements do not maximise those concepts (eg application of the cost constraint or inherited requirements)



3

Framework-based understanding provides… 3

• a cohesive understanding of IFRSs – Framework facilitates consistent and logical

formulation of IFRSs

• a basis for judgement in applying IFRSs – Framework established the concepts that underlie

the estimates, judgements and models on which IFRS financial statements are based

• a basis for continuously updating IFRS knowledge and IFRS competencies


4

Minimum guidance that gives effect to the principles

Presentation and disclosure principles

Measurement principle/s

Recognition principle

Structure of a principle-based standard 4

Derecognition principle

Concepts


5The ideal principle-based standard

• Scope– no exceptions

• Principles– derived from the Conceptual Framework– reliance on professional judgement to apply

principles in business context• Application guidance

– explains application of principles– gives effect to the principles

5


6Get rule-based standards if• Preparers and auditors

– refuse to exercise judgement– don’t act with integrity– ask for detailed interpretations– refuse to accept raw economic facts

• Regulators – want one answer in spite of different economic

facts• Courts

– lawyers fail to defend reasonable judgements

6


7

Rules/application guidance

Application guidance to give effect to the principles

Rules (interpretations)Rules (exceptions)

Principles

Structure of some IFRSs 7

Concepts


8

Example:Business combinations

• Objective• Concepts

– elements definitions– representational faithfulness

• Core principle– an acquirer of a business (scope)– recognises assets acquired and liabilities assumed

(recognition principle)– at their acquisition-date fair values (measurement

principle)– discloses information that enables users to evaluate

the nature and financial effects of the acquisition (disclosure principle)

8


9

Example:Business combinations continued

• Rules– exceptions to the recognition principle– exceptions to the measurement principle– specified disclosures

9


10

Example:Business combinations continued 10

To understand build from objective through concepts to core principle and rules– recognition—understand reason for removing

(i) the probability criterion; and (ii) the explicit reliability of measurement criteria (see Basis for Conclusions on IFRS 3 paragraphs BC125–BC130)

– understand reasons for exceptions to IFRS 3:– recognition principle– measurement principle

(see Basis for Conclusions on IFRS 3)


11

Example:Business combinations continued 11

Focus on judgements, eg– identifying a business – measuring fair value in the absence of an active market etc

Consider with reference to the objective and QCs whether uncertainty should enter recognition or measurement (for business combinations and then extend to consider

for other transactions and elements)


12

Rules

Application guidance to give effect to the broadly stated requirements

InterpretationsExceptions

Broadly stated requirements (not based on concepts in

Conceptual Framework)

Structure of other IFRSs 12


13What if requirement not principle-based 13

• Understand why IASB deviated from the main concepts in the Conceptual Framework

– see Basis for Conclusions (BfC) – If no BfC then requirement could predate Conceptual

Framework (eg IAS 20))

A Guide through IFRSs cross-references all IFRS requirements to the Basis for Conclusions

• Consider what a more principle-based requirement could be (consider rejected alternatives, subsequent IASB DPs and EDs, etc)


14

Example: Lease classification

• Objective • Concepts

– faithful representation– element definitions

• Broadly stated lease classification requirement– capitalise in-substance purchases (finance leases)– other leases = executory contracts (operating leases)– is this requirement principle-based?

• Rules– guidance (eg contingent rentals)– specified disclosures

14


15

Example: Lease classification continued 15

– understand broadly stated requirement is inconsistent with the Conceptual Framework

(see basis for conclusions on ED Leases)– consider what a principle-based lease classification

principle could be (see ED Leases) – focus on making the judgements to apply



16

Does the Framework help me understand IFRSs? 16

• Yes, the starting point for understanding all IFRS information is the objective and the concepts that flow logically from that objective:– IASB uses Framework to set IFRSs– Teachers/Trainers use Framework-based teaching

to prepare students to make judgements that are necessary to apply IFRSs

– Preparers use Framework to make the judgements that are necessary to apply IFRSs

– Auditors and regulators assess those judgements– Investors, lenders and others consider those

judgements when using IFRS financial information to inform their decisions



22

Examples:errors and changes in policies and estimates

• Objective• Concepts

– faithful representation– comparability

• Principle – Prior period error: retrospective restatement– Change in policy: retrospective application– Change in estimate: prospective application

• Rules– impracticable exception– transitional provisions (new requirements)– specified disclosures

22



232323Pervasive constraint

• Cost – IASB assesses whether the benefits of reporting

particular information are likely to justify the costs incurred to provide and use that information.

Note: It is consistent with the Framework for an IFRS requirement not to maximise the qualitative characteristics of financial information and other main Framework concepts when the costs of doing so would exceed the benefits.



24

Transitional provisions and effective dates

• The concepts = objective of financial reporting and qualitative characteristics (see Conceptual Framework)

• The principle for changes in accounting policies (see IAS 8) =

– retrospective application of new accounting policy

– voluntary policy change only if change results in reliable and more relevant information

– disclose the effects of retrospective application© IFRS Foundation | 30 Cannon Street | London EC4M 6XH | UK. www.ifrs.org


25

Transitional provisions and effective dates

• Rule transitional provisions for new and amended IFRSs

• cost constraint• prevent abuse from the use of hindsight

• Rule impracticability exception • practical expedient

• Rule specified disclosures• application guidance



26Elements

Asset• resource controlled by the

entity • result of past event • expected inflow of economic

benefitsLiability • present obligation • arising from past event • expected outflow of

economic benefits

Equity = assets less liabilities

Income• recognised increase in

asset/decrease in liability in current reporting period

• that result in increased equity except…

Expense• recognised decrease in

asset/increase in liability in current reporting period

• that result in decreased equity except…

26



27Elements, examples• Asset?

• an oil explorer’s exploration rig• a fish farmer’s breeding stock• fish in the sea (from a fish harvester’s

perspective)• own shares held by an entity• firm order to acquire gold, settle net in cash• firm order to acquire gold, cannot settle net• expenditure on major inspection (a condition of

continuing to operate an item of PPE)• ‘right’ to recover past costs incurred increased

future prices in a rate regulated activity

27



28Elements, examples• Liability?

• defending a lawsuit• promise to make good environmental damage

(no legal obligation to do so)• law requires smoke filters be fitted to factory• lessee—short-term car rental agreement• participant in a cap and trade emission trading

scheme

28



29Elements, examples• Liability or equity?

• issue ordinary share• issue compulsorily redeemable debt (fixed

interest, fixed redemption) • issue convertible debt instrument (holder has

option to convert) • non-controlling interest

29



30Elements, examples 30

Liability or equity at 31/12/20X1?•On 15/01/20X2 the shareholders of an entity approved the distribution of CU40,000 dividend for the year ended 31/12/20X1 (as proposed by management on 21 December 20X1.

– CU18,000: minimum dividend required by law for the year ended 31 December 20X1

– CU22,000: additional to required minimum dividends



31Classification

• Objective of financial reporting• Financial statements portray financial effects of

transactions and events by:– grouping into broad classes (the elements, eg asset) – sub-classify elements (eg assets sub-classified by their

nature or function in the business)

• IAS 1– application of IFRSs with additional disclosures when

necessary results in a fair presentation (faithful representation of transactions, events and conditions)

– don’t offset assets & liabilities or income & expenses



32Classification, assets and claims

• Information about the nature and amounts of a reporting entity’s economic resources and claims can help users to identify the reporting entity’s financial strengths and weaknesses.

• That information can help users to: – assess the reporting entity’s liquidity and

solvency – its needs for additional financing and how

successful it is likely to be in obtaining that financing.

(CF.OB13)© IFRS Foundation | 30 Cannon Street | London EC4M 6XH | UK. www.ifrs.org


33Classification, claims

• Information about priorities and payment requirements of existing claims helps users to predict how future cash flows will be distributed among those with a claim against the reporting entity (CF.OB13)



34Classification, liability• Which IFRS classification of liability are?

• obligation to pay current tax• metered power used but not yet billed by

supplier• ‘normal’ warrantee obligation to make good

manufacturing defect• warrantee obligation to compensate for

manufacturing defects by settling in compensation in cash

• extended warrantee obligation

34



35Classification, assets

• Different types of economic resources affect a user’s assessment of the reporting entity's prospects for future cash flows differently.

– Some future cash flows result directly from existing economic resources (eg accounts receivable and investment property).

– Other cash flows result from using several resources in combination to produce and market goods or services to customers (eg PPE and intangible assets). Although those cash flows cannot be identified with individual economic resources (or claims), users of financial reports need to know the nature and amount of the resources available for use in a reporting entity’s operations. (CF.OB14)



36Asset classification• Which IFRS classification of asset are?

• investment in ordinary shares• gold• land• land planted with plantation• farm implements• bird breeder’s birds• birds in a zoological garden• birds in a bird breeding zoo• owner-occupied building held for sale• owner-occupied building decided to abandon

36



37Recognition

• Accrual basis of accounting– recognise element (eg asset) when satisfy

definition and recognition criteria

• Recognise item that meets element definition when– probable that benefits will flow to/from the entity– has cost or value that can measured reliably

• Unit of account (unit of measure for recognition)

• Materiality



38Recognition, examples

• Recognise the asset?• a hospital’s backup backup generator (expect never

to use it)• an oil explorer’s exploration rig• an oil extractor’s unproven reserves• an oil extractor’s proven reserves• advertising expenditure • research and development expenditure • internally generated brand• lessee—short-term car rental agreement• firm order to acquire gold, cannot settle net



39Measurement ‘concepts’ 39

• Measurement is the process of determining monetary amounts at which elements are recognised and carried. (CF.4.54)

• To a large extent, financial reports are based on estimates, judgements and models rather than exact depictions. The Conceptual Framework establishes the concepts that underlie those estimates, judgements and models (CF.OB11)



40Measurement ‘concepts’ 40

• Measurement part of Conceptual Framework is weak

• A number of different measurement bases are employed to different degrees and in varying combinations in financial statements, including

– historical cost – current cost – realisable (settlement) value – present value (CF.4.55)

• IASB guided by objective and qualitative characteristics when specifying measurements.


The concept, defined in IFRS 13• Fair value is the price that would be received to sell

an asset or paid to transfer a liability (exit price) in an orderly transaction (not a forced sale) between market participants (market-based view) at the measurement date (current price).

• Fair value is a market-based measurement (it is not an entity-specific measurement)

• consequently, the entity’s intention to hold an asset or to settle or otherwise fulfil a liability is not relevant when measuring fair value.

41Fair value measurement concept



42Fair value measurement concept 42

• Information about an entity’s financial performance in a period, reflected by changes in economic resources is useful in assessing the entity’s past and future ability to generate net cash inflows (see CF.OB18)

• Income (expenses) are increases (decreases) in economic benefits during an accounting period in the form of enhancements (depletions) of assets (CF.4.25)

• Measure element at fair value with changes in fair value recognised as income or expense for the period in which it arises


© 2010 IFRS Foundation. 30 Cannon Street | London EC4M 6XH | UK. www.iasb.org

43

ASSET TYPE MEASUREMENT AT INITIAL RECOGNITION

MODEL BASED ON FAIR VALUE

BASIS OF IMPAIRMENT TEST

IFRS 9 Financial Instruments

Fair value For specified financial assets and for particular business models: fair value

IAS 16 Property, Plant and Equipment

Purchase costs + construction costs + costs to bring to the location and condition necessary to be capable of operating in the manner intended by management.

Accounting policy choice: revaluation model

Compare carrying amount to recoverable amount.

Recoverable amount is greater of value in use and fair value less disposal costs (IAS 36)IAS 38 Intangible

AssetsPurchase costs + development costs + costs to bring to the location and condition necessary to be capable of operating as intended by management

Accounting policy choice: revaluation model

IAS 40Investment Property

Cost including transaction costs Accounting policy choice: fair value

IAS 41 Agriculture Fair value less costs to sell Fair value less costs to sell


44

ExampleBiological asset in agricultural activity 44

• The concepts: see slides 41 and 42• The principle: a gain or loss arising on initial

recognition of a biological asset at fair value less costs to sell and from a change in fair value less costs to sell of a biological asset shall be included in profit or loss for the period (IAS 41.26)

• The limited exception: inability at initial recognition to measure fair value reliably then cost-depreciation-impairment model (IAS 41.27)



45Historical cost ‘concept’ 45

• Assets are recorded at the amount of cash or cash equivalents paid or the fair value of the consideration given to acquire them at the time of their acquisition.

• Liabilities are recorded at the amount of proceeds received in exchange for the obligation, or in some circumstances (for example, income taxes), at the amounts of cash or cash equivalents expected to be paid to satisfy the liability in the normal course of business.



46Cost-based IFRS measures 46

• Few things measured at historical cost – unimpaired land (IAS 16 + IAS 40 cost model)– unimpaired indefinite life intangibles (IAS 38)– unimpaired inventories (IAS 2)

• Cost-based measures are more common– unimpaired depreciated historic cost (IAS 16)– unimpaired amortised historical cost (IAS 38)– amortised cost (IFRS 9)

Impairment changes to a fair value or other measure© IFRS Foundation | 30 Cannon Street | London EC4M 6XH | UK. www.ifrs.org

© 2010 IFRS Foundation. 30 Cannon Street | London EC4M 6XH | UK. www.iasb.org

47ASSET TYPE MEASUREMENT AT INITIAL

RECOGNITIONCOST MODEL BASIS OF

IMPAIRMENT TEST

IAS 2 Inventory Cost of purchase and/or conversion costs and costs to get the item to the location and condition for sale

Cost unless impaired Lower of cost (initial recognition) and net realisable value

IAS 16 Property, Plant and Equipment

Purchase costs + construction costs + costs to bring to the location and condition necessary to be capable of operating in the manner intended by management.

Accounting policy choice: cost less accumulated depreciation and impairment, if any

Compare carrying amount to recoverable amount.

Recoverable amount is greater of value in use and fair value less disposal costs (IAS 36)

IAS 38 Intangibles Assets

Purchase costs + development costs + costs to bring to the location and condition necessary to be capable of operating as intended by management

Accounting policy choice: cost less accumulated amortisation (unless indefinite life asset) and amortisation, if any

IAS 40 Investment Property

Cost including transaction costs Accounting policy choice: cost less accumulated depreciation (unless land) and impairment (if any)

IFRS 9 Financial Instruments

Fair value For particular business models amortised cost

IAS 39 specifies impairment rules


48

Example:allocating depreciation: concepts 48

• Information about an entity’s financial performance in a period, reflected by changes in economic resources (eg PPE) is useful in assessing the entity’s past and future ability to generate net cash inflows (CF.OB18)

• Expenses are decreases in economic benefits during an accounting period in the form of depletions of assets… (CF.4.25)

• Depreciation represents the consumption of the assets service potential in the period.

– land with an indefinite useful life is not depreciated because its service potential does not reduce with time

© IFRS Foundation | 30 Cannon Street | London EC4M 6XH | UK. www.ifrs.org`


49

Example: allocating depreciation: principle 49

• Depreciation is the systematic allocation of the depreciable amount of an asset over its useful life (IAS16.6).

–essentially a cost allocation technique (IAS16.BC29)



50

Example: allocating depreciation: application guidance (1) 50

• Systematic allocation (application guidance):– depreciation method must closely reflects the pattern

in which the asset’s future economic benefits are expected to be consumed by the entity. (cannot use a

revenue-based depreciation method?) – unit of measure for depreciation is different from that

for an item of PPE. By depreciating significant parts of an item of PPE separately, depreciation more faithfully represents the consumption of the assets service potential. (IAS16.BC26)



51

Example: allocating depreciation: application guidance (2) 51

• Depreciable amount = – cost model: historical cost less residual value– revaluation model: fair value less residual value

• Residual value = – amount that the entity would currently obtained

from disposal of asset (less estimated disposal costs) if the asset were already of the age and in the condition expected at the end of its useful life



52

Example: allocating depreciation:application guidance (3) 52

• Useful life (entity specific) =– the period over which the asset is expected to be available for

use by the entity; or– the number of production or similar units expected to be

obtained from the asset by the entity.

• Consequently, depreciation continues when idle (if useful life = period)

• However, depreciation ceases when classified as held for sale because IFRS 5 measurement is essentially a process of valuation, rather than allocation (IFRS5.BC29)



53Derecognition 53

• Derecognition occurs when a recognised item is removed from the statement of financial position

• There is no explicit concept for derecognition in the Conceptual Framework. Consequently:

• derecognition requirements are specified at the Standards level

• inconsistencies exist between the derecognition requirements of different IFRSs

• derecognition does not necessarily coincide with no longer meeting the requirements specified for recognition



54Derecognition of PPE 54

• IAS 16.67 specifies: the carrying amount of an item of PPE shall be derecognised: (a) on disposal; or(b) when no future economic benefits are

expected from its use or disposal.

• Note: derecognition of PPE does not necessarily coincide with the loss of control of the asset.



55Presentation

• Presentation: financial statements portray financial effects of transactions and events by:

– grouping into broad classes (eg asset) – sub-classify assets by their nature or function

in the business (eg land could be inventory, investment property or PPE)

– PPE classified into classes—grouping of assets of a similar nature and use in the entity’s operations

– do not offset assets and liabilities or income and expenses



56Example—classes of PPE

• How many classes (similar nature and use in the entity’s operations) of property, plant and equipment?

– plot on which HQ is built– vacant plot, about to construct new HQ– plot that operates as landfill site– plot on which sales office is built– 10 plots in different cities each with retail outlet– vacant plot acquired for an undetermined

purpose



57Disclosure

• Objective of financial reporting• Notes provide narrative descriptions or

disaggregations of items presented in ‘primary’ statements and information about items that do not qualify for recognition in those statements

– the failure to recognise an item cannot be rectified by disclosure

• Application of IFRSs with additional disclosures when necessary results in a fair presentation (faithful representation of transactions, events and conditions)



58Framework’s role in applying IFRSs 58

Does the Framework help me apply IFRSs?• Yes, Framework is in IAS 8 hierarchy (see next

slide) – Preparers use the Framework to make the

judgements that are necessary to apply IFRSs– Auditors and regulators assess those

judgements– Investors, lenders and others consider those

judgements when using IFRS financial information to inform their decisions



59If no specific IFRS requirement

• Use judgement to– develop a policy that results in relevant

information that faithfully represents (ie complete, neutral and error free)

– Hierarchy: 1st IFRS dealing with similar and related issue 2nd Framework definitions, recognition crit. etc Can also in parallel refer to GAAPs with similar

framework

59



60In other words, if no IFRS requirement… 60

Framework-based approach would ask:• What is the economics of the phenomenon (eg

transaction or event)?• What relevant information using the accrual

basis of accounting faithfully present that economic phenomenon to inform decisions of investors and lenders (potential and existing)?

• Is there anything in IFRSs that prevents me from providing that information?



61Example: non-cash distribution 61

Before IFRIC 17, entity distributes non-cash asset (eg land or shares in another) whose fair value = CU1 mill. Carrying amount of asset = cost = CU1K

• Economics = reduce owners’ claims against the entity by distributing to them an asset worth CU1 million.

• Relevant information for investors and lenders that faithfully represents the economics: – investors received CU1 million refund of capital. – value of assets available to meet lenders’ claims

reduced by CU1 million. © IFRS Foundation | 30 Cannon Street | London EC4M 6XH | UK. www.ifrs.org


62Example: non-cash distribution 62

Before IFRIC 17… (continued)• Does IFRSs prevent providing that information?

No. Therefore:– recognise CU999K income (previously

unrecognised increase in the value of the asset derecognised).

– recognise CU1 million distribution to owners.



63Example: share-based payment 63

Before IFRS 2, entity pays employee in own shares. Par value of shares issued = CU1K. Fair value of services provided = CU1 million = fair value of shares.

• Economics = entity paid employees CU1 million for services. Employees invested CU1 million in entity.

• Relevant information for investors and lenders that faithfully represents the economics:– CU1 million services received = staff cost.– CU1 million invested = increased owner equity.

• Does IFRSs prevent providing that information? No. Therefore, recognise CU1 million expense and recognise CU1 million increase in owners’ equity.



64Support for Framework-based teaching 64

• IFRS Foundation education initiative works with others to support Framework-based teaching

– create awareness– develop material (starting with PPE and non-financial

liabilities)– workshops 2012: Brighton (BAFA), Llubijana (EAA),

Melbourne (AFAANZ), Washington DC (AAA) – encourage those certifying accountants to examine

their students’ ability to make the judgements that are necessary to apply IFRSs



6565Questions or comments?

Expressions of individual views by members of the IASB and their staff are encouraged. The views expressed in this presentation are those of the presenter. Official positions of the IASB on accounting matters are determined only after extensive due process and deliberation.


© 2011 IFRS Foundation | 30 Cannon Street | London EC4M 6XH | UK | www.ifrs.org

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The requirements are set out in International Financial Reporting Standards (IFRSs), as issued by the IASB at 1 January 2012 with an effective date after 1 January 2012 but not the IFRSs they will replace.The IFRS Foundation, the authors, the presenters and the publishers do not accept responsibility for loss caused to any person who acts or refrains from acting in reliance on the material in this PowerPoint presentation, whether such loss is caused by negligence or otherwise.

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4. Framework-based_understanding of IFRSs

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