Changes to the conceptual framework – because foundation matters!

The IASB has published for public consultation proposals to improve the Conceptual Framework for Financial Reporting, with comments to be received by October 26, 2015.

Here’s how the news release summarized this step:

  • The Conceptual Framework underpins International Financial Reporting Standards (IFRS) and helps the IASB to develop Standards that bring transparency, accountability and efficiency to financial markets around the world. The Exposure Draft proposes a number of enhancements to the Conceptual Framework, including:
  • A new chapter on measurement that describes appropriate measurement bases (historical cost and current value, including fair value), and the factors to consider when selecting a measurement basis;
  • Confirming that the statement of profit or loss is the primary source of information about a company’s performance, and adding guidance on when income and expenses could be reported outside the statement of profit or loss, in ‘Other Comprehensive Income (OCI)’; and
  • Refining the definitions of the basic building blocks of financial statements—assets, liabilities, equity, income and expenses
  • Having listened to feedback from parties affected by the IASB’s work, the Board is also proposing to place more emphasis on the importance of providing information needed for investors to assess management’s stewardship, and to reintroduce an explicit reference to ‘prudence’, explaining clearly what it means. Hans Hoogervorst, Chair of the International Accounting Standards Board, said:
  • “A solid Conceptual Framework is essential because it shapes the decisions the IASB takes when developing Standards. Two particularly important areas of the proposals published today are the clarification of the key role of profit or loss as an indicator of a company’s financial performance, and the chapter that describes the information provided by historical cost and current value measurements.”
  • The Conceptual Framework was last revised in 2010. In 2011, respondents to the IASB’s Agenda consultation called for the IASB to restart and prioritize revision of the parts that were not revised in 2010. The IASB has listened to that feedback and plans to issue a final Conceptual Framework in 2016.

I imagine many practitioners will see this as something they can leave to the insiders and the geeks, and I can’t really criticize that stance. Changing the conceptual framework doesn’t of course directly lead to changes in existing standards. The exposure draft points out that “entities could be affected by the changes if they need to use the Conceptual Framework to develop or select accounting policies when no Standard specifically applies to a transaction,” but many or most entities will never find themselves in that situation.

In the future, “a more complete, clear and updated set of concepts will help the IASB to develop Standards that better meet the needs of investors, creditors and other lenders.” But, naturally, the way in which this actually happens will continue to depend heavily on human subjectivity. To take a random example, the exposure draft proposes to bring some structure to the current distinction between profit/loss and other comprehensive income/loss by setting out a presumption that all income and all expenses will be included in the statement of profit or loss. For certain kinds of income and expenses, this presumption can’t be rebutted. For other kinds, it can be rebutted if (in part), “excluding those income or expenses (or components of them) from the statement of profit or loss would enhance the relevance of the information in that statement for the period.” But even though the proposal contains a bit more language about what makes information relevant than the current conceptual framework does (noting in particular that “if measurement uncertainty is high, an estimate is less relevant than it would be if it were subject to low measurement uncertainty”), it seems inevitable that judgments in this regard will often be based, ultimately, as much as intuition as on anything else.

This is only to say that the business of setting accounting standards is a human process just like any other. The judges on a nation’s supreme court, to take a relevant analogy, will all claim (perhaps honestly, perhaps not) to be interpreting the issues before them with principled regard to the governing constitution, but it nevertheless works out time and again that some of them will virtually always reach a predictably “liberal” answer, while others will always reach a predictably “conservative” one. This variability is no doubt aided by the passage of time, so that the constitution’s originators are no longer around to explain exactly what they meant by an ambiguously worded clause, and social and other norms move way beyond anything the originators would ever have considered. But even in interpreting a relatively recent document, there can be a fundamental difference between (say) a judicial philosophy that claims to seek to adhere to the original meaning of the text, and one which sees it as ever-evolving to reflect changing times and needs. Fortunately for us, the possible range of resulting outcomes on financial reporting matters isn’t usually as wide or as grave in its consequences as those relating to, say, human rights. Anyway, we’ll look at aspects of the new proposal in more detail in future posts…

The opinions expressed are solely those of the author.

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