TABLE OF CONTENT

PREFACE ................................................................................... Error! Bookmark not defined.

TABLE OF CONTENT............................................................. Error! Bookmark not defined.
A CONCEPTUAL FRAMEWORK ......................................... Error! Bookmark not defined.
1. Overview of a Conceptual Framework ..................................... Error! Bookmark not defined.
1.1 The History of a Conceptual Framework ................................ Error! Bookmark not defined.
1.2 The Scope of a Conceptual Framework .................................. Error! Bookmark not defined.
1.3 The Role of a Conceptual Framework .................................... Error! Bookmark not defined.
1.4 The Objectives of a Conceptual Framework ........................... Error! Bookmark not defined.
2. Developing A Conceptual Framework ...................................... Error! Bookmark not defined.
2.1 Principles-Based and Rule-Based Standard Setting .......... Error! Bookmark not defined.
2.2 Information for Decision Making and The Decision-Theory Approach Error! Bookmark not
defined.
2.3 International Developments: The IASB and FASBs Conceptual ......... Error! Bookmark not
defined.
3. A Critique of Conceptual Framework Projects ....................... Error! Bookmark not defined.
3.1 Approaches of Conceptual Framework ................................... Error! Bookmark not defined.
3.2 Ontological and Epistemological Assumptions ...................... Error! Bookmark not defined.
3.3 Circularity of Reasoning ......................................................... Error! Bookmark not defined.
3.4 An Unscientific Discipline ...................................................... Error! Bookmark not defined.
3.5 Positive Research .................................................................... Error! Bookmark not defined.
3.6 The Conceptual Framework as A Policy Document ............... Error! Bookmark not defined.
3.7 Professional Values and Self-Preservation ............................. Error! Bookmark not defined.
4. Conceptual Framework for Auditing Standard ....................... Error! Bookmark not defined.
CONCLUSION AND RECOMMENDATION ....................... Error! Bookmark not defined.
REFERENCES ........................................................................... Error! Bookmark not defined.
 CHAPTER 1

A CONCEPTUAL FRAMEWORK
Background

1. Overview of a Conceptual Framework

A conceptual framework establishes the concepts that underlie

financial reporting. It is a coherent system of concepts that flow from an

objective to provide guidance in the preparation of financial statement.

1.1 The History of a Conceptual Framework

The establishment of conceptual framework began in the year of
1980 in the USA, Canada, UK, and Australia. However, in 1989 its
development went through a few obstacles such as difficulties in
forming fundamental issues regarding measurement and public
intervention. In 2002, a significant progress occurred due to the
establishment of IASB/FASB convergence program. This program
required a strong framework to formulate an ideal accounting
standards. Thats why in 2004 IASB and FASB had to start forming a
completed and consistent framework.

1.2 The Scope of a Conceptual Framework

The framework is concerned with general purpose financial
statement, including consolidated financial statement. The overall
scope of the document covers:

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 1. Objectives of Financial Statements
2. Qualitative characteristics that determine the usefulness of
financial statement information
3. Definition, recognition, and measurement of financial statement
elements
4. Concepts of capital and capital maintenance

1.3 The Role of a Conceptual Framework

A conceptual framework is defined by FASB as a coherent system
of interrelated objectives and fundamentals that is expected to lead to
consistent standard and that prescribes the nature, function and limits
of financial accounting and reporting.
Standard setting that is based on personal conceptual frameworks
will lead to different conclusions about similar issues. This may cause
standard inconsistency between one another. Thus, a general
conceptual framework should increase financial statement users
understanding of and confidence in financial reporting. It also should
enhance comparability among firms financial statements.
A conceptual framework states the scope and objective of financial
reporting. It identifies and defines qualitative characteristics of
financial information and the basic elements of accounting. It deals
with principles and rules of recognition and measurement, and reports
disclosures.
The existence of conceptual framework enables a more consistent
and logical financial reporting requirements, strengthens compliance
through defined regulations, and enhances accountability. It also
minimizes risk and over regulations, enhances understanding of
reporting requirements, and initiates a more economical standard
setting.
Despite all the benefits, conceptual framework also raises a few
argumentations; do we need a general theory of accounting? is current
accounting too permissive? are current accounting practices too
inconsistent? is there too much political interference in the neutrality
of accounting reports? These issues are still being debated over as the
accounting theory develops in the present day.

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1.4 The Objectives of a Conceptual Framework
The purpose of conceptual framework is to provide guidance in
preparation and presentation of general purposes financial statement.
These financial statements should provide information that is useful
to present and potential investors and creditors and other users in
making rational investment, credit, and similar decisions. This
information should:
Be useful in making economic decisions
Be useful in assessing cash flow prospects
Includes facts about enterprise resources, claims to those resources
and changes in them

The picture above shows hierarchy of accounting qualities. It is a

graphic that shows the desirable characteristics of a financial statements,
with main point of usefulness for decision making since if it is not useful
then it is not beneficial. The IASBs Framework was developed following
FASB that issued seven concept statements covering the following topics:

Objectives of financial reporting by business enterprises and non-

profit organizations
Qualitative characteristics of useful accounting information
Elements of financial statements
Criteria for recognizing and measuring the elements

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 The use of cash flow and present value information in accounting
measurements.

Unlike FASB, the IASB has only one concept statement which is the
Framework for the Preparation and Presentation of Financial Statements.
It describes basic concepts by which financial statements are prepared.
The IASB states that the Framework:

Defines the objectives of financial statements

Identifies qualitative characteristics that make useful information
Defines the basic element of financial statements and the concepts
for recognizing and measuring them in financial statements.

If the framework doesnt mention a standard about a transaction,

management must use its judgement to make an information:

Relevant to the economic decision making needs of users

Reliable which means financial statements are represented
faithfully, reflect the economic substance of transactions, free from
bias, prudent and complete.
1.4.1 Qualitative characteristics
A company chooses an acceptable accounting method by
determining which alternatives provides the most useful information for
decision-making purposes. Quantitative characteristic distinguishes better
information from less useful information for decision-making purposes. It
is either fundamental or enhancing characteristics.

Relevance and faithful representation are two of the fundamental

characteristics. An information can be called relevant if it is capable of
making difference and has value as an input to predictive processes used
by investors to make expectations about the future (predictive value) and
also can help user confirm or correct prior expectations (confirmatory
value). The last ingredient of relevance is materiality; information must
make a difference or a company need not disclose it.

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 Faithful representation means that the numbers and descriptions
show what really happened. It is crucial because most users have neither
time nor the expertise to evaluate the factual content of the information.

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 In order to reach faithful representation, a financial statement must
be complete, neutral, and free from error. All the information that is
necessary is provided, company doesnt select information to favor one
set of interested parties over another, and the information is accurate.

Besides fundamental, a conceptual framework also has enhancing

qualities that can distinguish more-useful information from less-useful
ones. Enhancing qualities are comparability, verifiability, timeliness, and
understandability.
1.4.2 Basic Elements
Basic elements here are the definitions to be included in
conceptual framework such as asset, liability, equity, income, and
expenses.
Development

2. Developing A Conceptual Framework

2.1Principles-Based and Rule-Based Standard Setting
IASB aims to create a principle-based standard that refers to
conceptual framework. Therefore, the content of conceptual
framework should be ideas supporting standards development and
assisting users to interpret them. However, IASB happen to have
policies that are rule-based. This opposes the initial purpose. So
although rule-based standard increases comparability, increases
verifiability, and limits chances of earning management, its still

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 arguable that principle-based standard remains more ideal as long as
it fulfills these characteristics:
Based on conceptual framework that has already been
consistently developed and applied
Discloses clearly the objective of standard
Provides enough detailed and consistently utilizable and
applicable structure
Minimizes exception from standards
Avoids the use of percentage of tests (bright lines) which
allows financial engineering to achieve technical compliance
by avoiding the point of the standard

2.2 Information for Decision Making and The Decision-Theory Approach

It is widely known that accounting data is used in decision-making
and evaluation purposes. This began with accounting data serving the
stewardship function. In the present day, managers are responsible to
equity holders. Information on how the managers are performing their
stewardship responsibility can be used as performance evaluation of
the company
Information for decision-making indirectly covers a much wider
scope of stewardship information. This is because the users of
financial information are greatly expanded to include all resources
providers and recipients of goods. Also, accounting information is
seemed as input data for prediction models of users. Lastly, whereas
stewardship is concerned mainly with the past, prediction looks
toward the future. Hence, the future should be held considerable.
On the other hand, decision theory is advantages to examine
whether or not accounting has served its purpose. If individual
systems cant provide useful information, then the theory behind the
said system can be categorized as effective or valid.
In short, the decision-theory approach maps the process by which
the outputs of the accounting system provide inputs to the decision
model of a user.

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2.3 International Developments: The IASB and FASBs Conceptual
Framework
In October 2004, FASB and IASB generated a joint project to
develop a conceptual framework. The following are their agendas:
1. Focus on changes in the environment since the original
frameworks were issued, as well as omissions in the original
frameworks, in order to efficiently and effectively improve,
complete, and converge the existing frameworks.
2. Give priority to addressing and the liberating those issues within
each face that are likely to yield benefits to the boards in the short
term; that is, cross cutting issues that affect a number of their
projects for new or revised standards. Thus, work on several phases
of the project, will be conducted simultaneously and the boards
expect to benefit from work being conducted on other project.
3. Initially consider concepts applicable to private sector business
entities. Later, the boards will jointly consider the applicability of
those concepts to private sector not-for-profit organizations.
Representatives of public sector standard-setting boards are
monitoring the project, and in some cases, considering the potential
consequences of private sector deliberations for public sector
entities.

This joint project is conducted in eight phases, which is shown in

the picture below:

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The exposure draft of this project discloses four issues. Those are:

1. Entity vs Proprietorship Perspective

This represents the different approaches to financial reporting. The
boards recommended that report should be prepared from entitys
perspective. Alternatives are still being discussed.
2. Primary User Group
The represents the group that general purpose financial reports are
intended for. The boards proposed present and potential capital
providers. The concern on this is that a diverse group can
oversimplify the relation between entities and individual users, and
that one particular focus can possibly distort undervalue other
parties.
3. Decision Usefulness and Stewardship
The board suggests that the objective of financial reporting should
be broad enough to encompass all the decisions that equity
investors, lenders, and other creditors make in their capacities as
capital providers, including resources allocation decision as well as

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 decisions made to protect their investment. The concern here is
the lack of emphasis on stewardship.
4. Qualitative Characteristics
Differing from the IASB framework, this exposure draft proposes
relevant, faithful representation, comparability, verifiability,
timeliness, and understandability as qualitative characteristics.

Critique

3. A Critique of Conceptual Framework Projects

3.1 Approaches of Conceptual Framework
Scientific: Framework must be validated logically and
empirically
Professional: Framework should focus on prescribing the best
course of action in terms of professional values

3.2 Ontological and Epistemological Assumptions

The objective of the formation of conceptual framework is to
provide unbiased and objective information to financial report users.
Unbiased or neutrality refers to an information quality that avoids
leading users to conclusions that secure particular needs or desires.
This is also explained as a financial map-making. The better the map,
the more completely it represents the complex phenomena that are
being mapped.
This philosophy in accounting assumes that we can observe,
measure, and communicate an objective economic reality. However,
some believes that scientific rules are not absolute. It refers only to a
statement about a constructed reality. Therefore, it is questionable
whether the underlying theory is neutral, independent, and free from
bias. From this, we can imply that if absolute reality doesnt exist in
accounting then no conceptual framework can provide universal
objectivity in measuring economic reality. Conceptual framework is
in fact a collection of opinions from institution and individuals in
authority. This leads the project hypothetic-deductive approach. This
approach affects epistemology and methodology assumption about
test of truth.

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3.3 Circularity of Reasoning
From what we have observed, one of the stated objective of a
conceptual framework is to guide the everyday practices of
accountants. A superficial view of a conceptual framework indicates
that accountants at least follow one scientific path deducting
principles and practices from generalized theories. However, various
countries existing conceptual framework are typified by an internal
circularity, meaning 3. Therefore, there isnt a specific guidance to
achieve ideal condition.

3.4 An Unscientific Discipline

Conceptual framework has developed adopting the scientific
approach. This approach, however, is questionable if accounting isnt
even qualified as a science to begin with. It is widely considered that
accounting is more closely to law than to physical science. It faces
imperfect markets and involves subjectively based human decision-
making process. Accounting lacks theoretical and empirical elements
and a definitive science paradigm.
Positive accounting which explains and proves scientifically the
accuracy of statements or phenomenon in accounting is still in its
embryonic possibly pre scientific bridge. Although, if accountants
continue to move forward on this direction, it may be a path to
scientific methodology being thoroughly applied.

3.5 Positive Research

This basically refers to one of the objective of conceptual
framework being to ensure that financial report user receive a useful
information in term of decision-making.

3.6 The Conceptual Framework as A Policy Document

An alternative to viewing the conceptual framework as either
scientific or deductively derived normative models is to consider
them as policy model. Ijiri differentiates policy models from
normative models. He says that a normative model is based on a
certain assumptions concerning the goal to be served. Thus, although
a normative model has policy implication, it differs from a policy
judgement which involves commitment to goals. He also mentions
that accounting theory and policy integrates.

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 3.7 Professional Values and Self-Preservation
Professional values suggest idealism and altruism. self-preservation
implies the pursuit of self-interest.

Auditing Standard

4. Conceptual Framework for Auditing Standard

In 1961, Mautz and Sharaf attempted to state a general
comprehensive theory of auditing. They think of auditing as a field of
knowledge built on various branches of science such as mathematics,
logic and metaphysics, not as a subdivision of accounting. In modern
days, Miller highlighted that Mautz and Sharaf attempted to provide
theoretical support for a discipline which at that time regarded as
practical exercise. Mautz and Sharaf also questioned the compatibility of
auditing and consulting services and recommended separation of these
two types of services to create an independence for auditor. Their work
was developed in early 1970s by the Statement of Basic Auditing
Concepts (ASOBAC), issued by the American Accounting Association.
ASOBAC focuses on the process of collecting and evaluating evidence.
This was the period of rapid growth in audit practices, the expansion of
the professional personnel pool, improvements in technology, and the
perceived need to reduce costs in the audit process according to Knechel.
He also argues that by the 1990s the traditions of auditing to formalize
audit process faced opposition from other forces, including pressure from
clients to reduce audit fees and deliver more value. So there began to be
less focused on direct testing of transactions and more reliance on testing
clients control systems as a means to gather evidence on the financial
statements that are produced by those systems. This process became
known as business risk auditing.
Business risk auditing is a form of auditing that considers client
risk as part of the audit evidence process. It is formalized in 1970s.
Auditors are required to consider the risk of an inappropriate audit
opinion as a function of the inherent risk of error occurring or not
detectable by the system. The focus on audit risk was not new because in
the 1940s auditors were instructed to begin their audit with a thorough
investigation of the clients system and consider fraud and error. Knechel
argues that auditors perceptions of risk began to change dramatically
with the release of Internal Control-Integrated Framework in 1992 by

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 the Committee of Sponsoring Organizations (COSO). Auditors then
become more aware of internal control and its relation with the conduct
of an audit. Clients with more effective internal controls tend to be at
lower risk of fraud and error thus justify a reduction in resources, costs
and audit fees for these clients. Business risk auditing focuses on threats
to a clients business model from the complexities in its business
environment, and business risk is seen to drive audit risk. The change that
business risk auditing brought to auditors was the requirement to think
through the causal relation from the clients business model and
operations to the financial accounts, rather than to think in terms of
accounting error first. Development of the business risk model was
primarily undertaken at the large accounting firms although it was not
necessarily clearly articulated until the 1990s.

REFERENCES

Godfrey. 2010. Accounting Theory. New York: Wiley.

Kieso, Donald E., et al. 2011. Intermediate Accounting. New York: Wiley.

Astuti, Leli. 2014. The Role of A Conceptual Framework. [Online]. Retrieved from:
https://www.scribd.com/doc/213659765/Chapter-4. [29 September 2017]

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