The IASB recently issued its revised conceptual framework for financial reporting.
It seemed to me that the project might have been ongoing for as long as I’d been more than vaguely aware of IFRS, and for once my memory wasn’t too flawed: the IASB and the FASB initiated a joint project to revise their conceptual frameworks in 2004, and issued two chapters of a revised conceptual framework in 2010. After a period of suspension, the IASB started up again in 2012, this time without the FASB, and subsequent discussion papers and exposure drafts eventually brought us to this end point. It’s a fairly epic achievement then, no doubt a source of deserved satisfaction among the many who contributed to it.
The IASB’s project summary and feedback statement helpfully summarize what’s changed and what hasn’t, and I can’t summarize their content any better here (various articles on this blog dealt in the past – here for instance – with aspects of the proposals). I thought though that the issuance of the framework might provide a good opportunity to touch on one of the eternally challenging dynamics of financial reporting – the relationship between the balance sheet and the income statement. This is how the new framework defines income and expenses:
- Income is increases in assets, or decreases in liabilities, that result in increases in equity, other than those relating to contributions from holders of equity claims.
- Expenses are decreases in assets, or increases in liabilities, that result in decreases in equity, other than those relating to distributions to holders of equity claims.
These definitions might look rather sparse, in that they identify income and expenses entirely with reference to changes in balance sheet items, without any essential characteristics in themselves. In contrast, past definitions included the concept of income and expenses as representing increases or decreases in economic benefits during the accounting period, which at least superficially might seem to connote something that’s partly identifiable on its own terms, not merely as a difference. The change really only tracks tighter underlying definitions of assets and liabilities rather than embodying any kind of rethink. Still, as the basis for conclusions records, some commentators argued that this approach “gives undue primacy to the statement of financial position over the statement(s) of financial performance and insufficiently acknowledges the importance of accounting for transactions in the statement(s) of financial performance or of matching income and expenses.”
While the IASB didn’t find these concerns persuasive, it did take pains to emphasize in the conceptual framework the following:
- Users of financial statements need information about both an entity’s financial position and its financial performance. Hence, although income and expenses are defined in terms of changes in assets and liabilities, information about income and expenses is just as important as information about assets and liabilities.
Still, in day to day exchanges with users of financial reporting, it’s not unusual to encounter complaints that accounting now is too much about the balance sheet, or that it doesn’t devote enough attention to matching income and expenses, or words to that effect. These arguments are invariably intuitive more than analytical – for example, the proposed concepts of “matching” could often only be achieved by recognizing conceptually meaningless deferred cost assets. Still, they never seem to entirely disappear.
I can’t help finding something rather existentially loaded about this. Notwithstanding the Cy Coleman song that “it’s not where you start, it’s where you finish,” the human condition resists any firm identification of a finishing point, in favour of perpetual replenishments and journeys (of course, the balance sheet is the most transient of stopping points, a snapshot of a mere moment in time). It’s often pointed out how much great art is built around journeys (leaving aside that by some definition, all of it is) – the “road movie” for instance holds an elevated place in film culture. And the term is always that – road movie – as opposed to “route movie,” as if referencing Milan Kundera’s distinction between a road as a “tribute to space” and a route as the “triumphant devaluation” of it. A route, in this kind of sense, “has no meaning in itself; its meaning derives entirely from the two points that it connects.” Which ties directly to the comments above about the current definitions of income and expenses. (For another reference point, take my previous comments on how “sales” evokes something substantial and grounded, whereas “receivables” just evokes, well, accounting.)
“Every stretch of road,” said Kundera, “has meaning in itself and invites us to stop.” But in financial reporting, there’s no stopping – the income statement is just the route by which we press on to the next balance sheet. The journey is conceptually wondrous, but also relentless and exhausting, easily capable of triggering a sense of regret…
The opinions expressed are solely those of the author (who else would want them…?)