EVALUATION OF CONCEPTUAL FRAMEWORKS OF ACCOUNTING

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Table of Contents
Introduction................................................................................................................ 3
Benefits and limitations of the conceptual framework............................................4
Qualitative characteristics relied upon in developing the conceptual framework. . .6
Conceptual frameworks and their evolution............................................................7
Development of new conceptual frameworks.......................................................10
Conclusion................................................................................................................ 10
References................................................................................................................ 13

Introduction
As an integral part of systems of financial reporting, a conceptual framework forms the
basis upon which accounting standards can be developed and upon which items such as assets,
liabilities, income and expenses present in financial statements can be recognized. This
framework underpins the development of new standards or the evaluation of existing standards
of accounting (Potter 2005), creating a base that enables the true and fair concept of financial
reporting as well as producing consistencies in its basic concepts. With a conceptual framework
agreed upon, the architects and designers of standards can set about building rules of accounting
founded on a cohesive set of basic principles. Without it, standards would be developed in a
haphazard manner. The FASB of the USA has defined a conceptual framework as a coherent
system of interrelated objectives and fundamentals expected to lead to consistent standards
(FASB 1980). The framework is intended to govern the financial reporting environment by
defining the nature, purpose, subject and content of financial reporting used for general purposes,
prescribing the nature, function and limits of financial accounting and reporting (Miller 1998).
The success of accounting is in its translation of business activities of an entity into a
'language' that can create an understanding and create awareness among various stakeholders
including investors, regulators, creditors and the general populace. A shared vision encapsulated
in a conceptual framework is, therefore, hugely beneficial. The central goal is consensus on
general principles such as the scope and objective of financial reporting, qualitative
characteristics possessed in financial information and their relevance, and the elements that
compose financial reporting (FASB 2007).

Benefits and limitations of the conceptual framework

The benefits of a conceptual framework include the development of concepts in orderly
sets that make financial accounting and reporting consistent and logical; increased compatibility
of standards internationally enabled through such consistency; economical development of
accounting; and overall enhanced communication (Sterling 1982).
Developing standards with the backing of a conceptual framework is made easier and
more economical (in terms of cost) as the founding basic principles are already debated and
established (FASB 1980). These principles can be useful applied in situations where no relevant
accounting standards or other guide exist, and where there may be conflicts of interest on which
policies to employ in particular instances. Policies already established deriving from the
conceptual framework will suffer less criticism (Mosso 1998).
Without the conceptual framework, the standard setters often acceded to external pressure
from interest groups leading to haphazard and ambiguous rules and guidelines. With a defined
framework, however, and clarification of the reasoning behind specific standards, setters of
standards are made more accountable to users of financial statements and reporting with these
users made clearly aware and able to recognize departure from the principles set out (ASB 1999).
Overall, the conceptual framework contributes significantly to the credibility and public
confidence of financial reporting with consistency, relevance and reliability conferred through
the employment of uniform, clearly defined principles (ASB 1999).
On the downside, the conceptual framework can, however, be too general in nature and
its principles with its huge reliance on various assumptions. It may, therefore, be of little help

when actually producing financial statements and can lead to the development of accounting
standards which are very academic, theoretical and prone to fraud. These standards may also, in
practice, make provision of financial information quite complex for both the preparers and the
users of the financial reports (Sterling 1982). Concepts might be pure and refined but with the
complexity and difficulty in understanding, the usefulness of financial statements can be watered
down.
The conceptual frameworks tend to focus on the usefulness of information contained in
financial statements which is significant but interest on information enabling the assessment of
the stewardship of management is not catered for (Solomon 2000). The focus of accounting
principles only on economic phenomena and transactions expressed in monies is also criticized.
There is belief that other aspects of operations such as an entity's effect on the wider community
and the natural environment are also significant when making investment decisions (Potter
2005).
User requirements are diverse and there may be need for a variety of standards and a
conceptual framework however cannot, without suffering complexity, cover these numerous and
diverse requirements. In the search for common ground and simplicity and for it gain the desired
wide acceptance, the framework needs to cover several generalizations suffering inadequacies
(FASB 1980). This necessitates the development of specific rules to govern instances of the
frameworks inadequacies (Potter 2005).

Qualitative characteristics relied upon in developing the

conceptual framework
Qualitative characteristics are the basic principles that are essential in the evaluation of
the quality of financial information, the qualities of useful accounting information. The
principles include the requirement for the provision of high quality information and consist of
such qualitative characteristics such as the true and fair view which is a basic and an essential
tenet for financial reporting; the usefulness of information in aiding the decision-making process;
and transparency which entails adequate and appropriate disclosure (ASB 1999).
Another quality characteristic essential in financial reporting is relevance to the purpose
for which the information is prepared which is the satisfaction of its users. This consists of
understandability which is the quality enabling comprehension of such presented information,
timeliness and value of the information for intended purposes (FASB 1980).
Reliability is another important qualitative characteristic which refers to the dependability
and the confidence on the information presented. It consists of inherent qualities that enable such
confidence and dependability such as representational faithfulness which refers to the way in
which information presented and reality closely correspond; neutrality which represents a lack of
bias which affects the reliability of information presented; as well as substance and legal form,
completeness, verifiability (lending credibility), and consistency (Mosso 1998).
Other important qualitative characteristics deemed to be secondary include comparability
and prudence which refers to the inclusion of a degree of caution to the judgments undertaken
while preparing unbiased financial statements (Mosso 1998, Sterling 1982).

Conceptual frameworks and their evolution

Before the US stock market crash in 1929, there had been no endeavour to issue
accounting standards whether from a private or a public group. After the crash however, and to
regain public confidence and the trust of investors, there was a demand to supervise public
companies and the U.S Securities and Exchange Commission (SEC) came into being with the
Securities and Exchange Act of 1934. This was the foundation for GAAP (Generally Accepted
Accounting Principles (United States)) outlining standards for external reporting of financial
information (FASB 2007).
Many professional bodies, committees and boards over the next half century released
procedural frameworks to govern financial accounting. In 1976 the development of a US
conceptual framework was initiated governed by the Financial Accounting Standards Board
(FASB) which remains in place to date (FASB 2007). Since 2001, the International Accounting
Standards Board (IASB) has been developing new international standards to govern financial
reporting referred to as International Financial Reporting Standards (IFRS). This is aimed at
updating and refining concepts and providing guidance including comparison of IFRS and US
GAAP reporting requirements (FASB 2007). With these endeavours, the conceptual frameworks
and standards continue being updated and converged so as to reflect the rapid changes in
business practices, markets and the economic environment in recent decades (FASB 2007).
With the collapse of giant entities such as Enron, WorldCom and Arthur Andersen, and
the international drive to converge standards of accounting, there has been a revival of interest on
conceptual framework projects at the FASB and IASB (Potter 2005). These corporate failures
and collapses came about despite financial reports showing health and good stewardship of

management. They served as a wake-up call to the potential misuse of goodwill and the failure
resulting from the anomalous assumption of objectivity in the corporate world (Solomon 2000).
Tricks such as the formation of loose affiliations of enterprises such as multiple public
subsidiaries with joint ventures and other shady affiliations (virtual companies) are raising issues
with regard to ways of accounting for the entity as was the case with Enron (Potter 2005).
Past frameworks have been too general in nature and in the principles it routes for
making their definitions and their reach in terms of governance of standards too narrow with the
potential for variant interpretations (FASB 2004). This potential of misinterpretation gives
chances of misuse and loopholes through which financial information can be made subjective to
particular interests.
Other failures of past frameworks include the focus on usefulness of information
contained in financial reports per se without enabling further probes and assessments of the
stewardship of management and doubtful financial reports (Mosso 1998). With the awareness of
an entity's health hindered, users end up banking on the hope of objectivity in the increasingly
subjective business environment, and the qualitative characteristics the conceptual frameworks
espouse (faithful representation, reliability, neutrality, etc.)
Recommendations for the development of these new projects and the updating of
concepts include demands that FASB adopts an approach which is objectives-oriented to the
setting of standards. This recommendation for change of approach comes alongside
recommended improvements to the conceptual frameworks which include; a clarified articulation
on how trade-offs among the qualities -relevance, reliability and comparability should be made;
the elimination of inconsistencies between the definitions of the elements that compose financial
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statements and the discussion of the earnings process; and the establishment of a method for the
selection among measurement attributes (FASB2004)

Development of new conceptual frameworks

To address changes to its concepts statements, the FASB has three current projects which
include the Revenue Recognition Project that is addressing the inconsistencies between the
definition of elements and the earning process; the Liabilities and Equity project that is dealing
with aspects of definition of liabilities as well as reconsidering the distinction between equity and
liabilities; and the Fair Value project considering how to apply the relevance and reliability
characteristics in selecting a measurement attribute that would be appropriate (FASB 2007,
2004).
Current initiatives aim to produce global pronouncements with regard to the concept of
measurement concepts rather than having varied national pronouncements. The measurement
project involves the Canadian Accounting Standards Board (AcSB), the IASB and FASB in
collaborative standard setting (FASB 2007). The reliance on the same qualitative characteristics,
however, still remains despite efforts to cover potential loopholes with new standards and
renewed awareness. It is a challenge finding common ground on such problem areas as obtaining
measurement criteria for the various elements (Miller 1998).

Conclusion
A conceptual framework prescribes the nature of financial accounting and reporting, its
function, and its limits. It is considered that the FASB's contribution thus far and its existence to
this day are due to the quality of the conceptual framework and its utility (Miller 1998).The main

reasons for developing agreed conceptual framework are that it provides fundamental principles
which enhance the setting of standards for accounting (Mosso 1998).
Despite limitations such as its generalizations and inadequacy in specific situations
among other downsides, the benefits of the conceptual framework and its contribution to
accounting practice including the setting up of standards that enhance consistency and
comparability, as well as generally accepted criteria and principles governing financial reporting,
far outweigh the limitations and shortcomings. Continued development and enhancement of the
framework is therefore recommended (Potter 2005).
A major challenge that still bedevils the accounting practice remains the reliance on
numerous assumptions that give opportunity for the creation of loopholes. The failures that have
thus far been witnessed resulting from the assumption of an objective corporate world free from
greed and ill motives have had the effect of enhancing the drive internationally towards greater
regulation. Such regulation is enabled through the development of enhanced frameworks and
guidelines with increased awareness of potential loopholes. Also necessitated is vigorous
verification and concern with regard to investment decisions (Solomon 2000).
Conceptual framework projects are still the way to go and endeavours towards its various
developments and evolutions into the future including attempts to dissect varied user
requirements and covering of grey areas are welcome.

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References

Accounting Standards Board (1999). Statement of Principles for Financial Reporting, Revised
Exposure Draft. London: ASB.
Financial

Accounting

Standards

Board

(2007).Facts

About

FASB.Viewed

from:

http://fasb.org/facts
Financial Accounting Standards Board (2004).On the Road to an Objectives-Oriented
Accounting System.
Potter, B., 2005. Accounting as a Social and Institutional Practice: Perspectives to Enrichour
Understanding of Accounting Change. pp. 265289.Abacus.
Miller, B., et al., 1998.TheFASB: The People, the Process, and the Politics. Burr Ridge, IL:
Irwin/McGraw-Hill.
Mosso, D., 1998.Developing and Adhering to a Conceptual Framework. Status Report of the
Financial Accounting Standards Board, No. 305, September30: 5-7.
Qualitative Characteristics of Accounting Information.Statement of Financial Accounting
Concepts No. 2 Stamford, Conn.: FASB, 1980.
Solomon, J., et al., 2000. A Conceptual Framework for Corporate Risk Disclosure Emerging
from the Agenda for Corporate Governance Reform. In: British Accounting Review, Vol.32,
No.4, December, pp.447-478.

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Sterling, R., 1982. The Conceptual Framework: An Assessment. In: Journal of Accountancy,
Vol. 154, No. 5: 103-106, 108.

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