The accounting conceptual framework has been criticized for not providing an adequate basis for standard setting. This inadequacy is evidenced through the FASB’s standards becoming more and more rule-based. Nevertheless, no empirical evidence has been gathered to support the criticisms of the conceptual framework. We analyzed the five qualitative characteristics of accounting information from the conceptual framework in conjunction with an individual’s intention to use/rely on financial statements. Using structural equation modelling, we found that only one qualitative characteristic, reliability, affected a person’s intention to use financial statements. Additionally, it appears that the greatest factor that influences whether an individual rely on financial statements is their familiarity with accounting. Based on our findings, it appears that not only does the conceptual framework need to be altered, but it also needs to be changed to help create principle-based accounting standards that are useful to all people, regardless of their background.
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Criticism has been directed towards the Financial Accounting Standards Board (FASB) for not requiring firms to report information that is interpretable and useful for financial statements users (CICA, 1980). The FASB’s conceptual framework is the core in which all accounting standards are derived. Therefore, the accounting conceptual framework must embody a set of qualitative characteristics that ensure financial reporting grants users of economic statements with sufficient information for assessments. The U.S. financial accounting conceptual framework was established between late 1970’s and early 1980’s. Statement of Financial Accounting Concepts (SFAC) No. 2 (1980) indicates that there are five main qualitative characteristics of accounting information; understandability, relevance, reliability, comparability, and consistency.
Nature and Purpose of the Conceptual Framework
The conceptual frame work has some disadvantages. It is broad based in nature and principles and may not help when actually producing the financial statement. Its standards contents may conflict with those of other boards. This framework, with minor changes, still provides the basis for the FASB’s standard setting today. Statement of Financial Accounting Concepts (SFAC) No. 2 (1980) develops and discusses the qualitative characteristics that make accounting information useful. SFAC No. 2 separates the qualitative characteristics as possessing either user-specific or decision-specific qualities. The overall user-specific characteristic of accounting information is that it must be understandable. Today, the accounting conceptual framework is being blamed for accounting standards becoming rule-based, which leads to the structuring of transactions (Nobes, 2005; SEC 108(d)). In fact, FASB has even acknowledged that the conceptual framework might be inadequate for current accounting standards (AICPA, 2002).
The conceptual framework was formed with the intention of providing the backbone for principle-based accounting standards (Nobes, 2005). However, the Securities and Exchange Commission (SEC) has recently criticized the accounting standards setting board for becoming overly rules-based, which paves the way for the structuring of transactions in the company’s favour (SEC 108(d)). Critics of the framework have stressed that the move towards rule-based standards are a consequence of inadequacies in the accounting conceptual foundation. Nobes (2005) argues that the need for rule-based accounting standards is a direct result of the FASB trying to force a fit between standards and a conceptual framework that is not fully developed. A coherent and strong conceptual framework is vital for the development of principle-based accounting standards and the progression towards convergence in international accounting standards.
However, researchers are unaware of any empirical evidence that supports the criticisms of the current conceptual framework. Additionally, none of the critics have looked at the conceptual framework from the most important viewpoint, the user’s perspective. Therefore, the rationale of this paper is to practically analyze the sufficiency of the conceptual framework, from a user’s perspective, in relation to an individual’s reliance on financial statements for decision making. We developed a survey instrument to analyze an individual’s intention to rely on financial statements using Ajzen’s (1991) Theory of Planned Behaviour. We found that the reliability characteristic of the conceptual framework represented the only significant dimension of a person’s attitude affecting their intention to rely on financial statements. However, the understandability characteristic was approaching significance. Within the context of the theory of planned behaviour, social pressures was not significant influence on the intention to use/rely on financial statements, yet familiarity with accounting was found to significantly influence intention.
The conceptual framework and potential financial statement user’s intentions can be analyzed within the context of Ajzen’s (1991) Theory of Planned Behaviour. Ajzen (1991) indicates that empirical evidence suggests that we can determine an individual’s intention to perform behaviour through analyzing their attitude, subjective norms, and perceived behavioural control. Within this perspective, we adapted Ajzen’s (1991) theory of planned behaviour to an individual’s propensity to rely on accounting financial statements as shown in the figure below (figure 2):
(Draw a figure)
The purpose of this study was to provide an empirical analysis to the criticism against the FASB’s conceptual framework. Our overall results suggest that the current conceptual framework does not adequately align the objectives of financing reporting with the users of financial statements. Nevertheless, available findings have some interesting implications for the conceptual framework and future standard setting. Reliability is the only qualitative characteristic that has a positive statistical significant relationship with intention. The accounting profession is facing a choice between reliability and relevance in financial reporting, as there is an inherent trade-off between reliability and relevance (Paton and Littleton, 1940; Vatter, 1947). Reliable information possesses the characteristic of objectivity and verifiability, which is associated with historical cost accounting. Relevance, on the other hand, pertains to any information that will influence the users’ financial decision.
Many times the most relevant information is often current or prospective in nature. Thus, we cannot have accounting information that maximizes the characteristics of both relevant and reliable because relevant information is not always verifiable. We would have expected to see relevance as a significant factor in users’ intention to use financial statements since the recent accounting standards have moved toward fair value accounting measures, which are considered to be more relevant than reliable information (Ciesielski & Weirich, 2006). However, our results show that reliability is a significant factor. The current accounting curriculum could be the cause of our results since it is rooted in Paton and Littleton’s historical cost approach, which focuses on reliability of information.
In the context of the Theory of Planned Behaviour, we found that familiarity to be a statistically significant factor to an individual’s intention to use financial statements. Thus, as an individual becomes more familiar with financial statements, he or she is more likely to have the intention to use or rely on them when making decision. An ANOVA analysis provides further support for this as it indicates that intention to use or rely on financial statements is significantly different between accounting majors and non-accounting majors. This provides evidence that accounting could be becoming too difficult for individuals who are not proficient in accounting to understand.
It appears that the movement towards rule-based accounting standards could be a contributing cause of this disparity in intention. That is, the accounting standards have become so technical upon their execution that the average reader of accounting can no longer discern the main objective of each financial statement element. This finding is troubling to accounting since it contradicts the primary objective of accounting, which is to offer practical book-keeping information for judgment making. Book-keeping information should be useful for all people who want to use it rather than only being useful to those who understand it. Additionally, under no circumstances, should accounting information provide an advantage to individuals who happen to be experts within the field. Accounting should be a tool and not a barrier
At the-present, the accounting profession is grappling with a problem, which it has identified as the need for a conceptual framework of accounting. This framework has been painstakingly developed over centuries, and it is merely the profession’s task to fine tune the existing conceptual framework because of the need for continual development due to changing conditions. This conceptual framework has never been laid out in explicit terms; consequently, it is continually overlooked. A conceptual framework has been described as “a constitution,” an articulate arrangement of interconnected objectives and rudiments that can guide to reliable standards and that stipulates the character, purpose, and confines of financial book-keeping and fiscal statements.
For many accountants, the conceptual framework project is difficult to come to grips with because the subject matter is abstract and accountants are accustomed to dealing with specific problems. In resolving those problems, accountants may unconsciously rely on their own conceptual frameworks, but CPAs have not previously been called on to spell out their frameworks in systematic, cohesive fashion so that others can understand and evaluate them. It is essential that a framework be expressly established so that the FASB and those evaluating its standards are basing their judgments on the same set of objectives and concepts. An expressly established framework is also essential for preparers and auditors to make decisions about accounting issues that are not specifically covered by FASB standards or other authoritative literature.
It is considered that if the conceptual framework makes sense and leads to relevant information, and if financial statement users make the necessary effort to fully understand it, their confidence in financial statements and their ability to use them effectively will also be enhanced. No one who supports the establishment of a conceptual framework should be labouring under the illusion that such a framework will automatically lead to a single definitive answer to every specific financial accounting problem. A conceptual framework can only provide guidance in identifying the relevant factors to be considered by standard setters and managers and auditors in making the judgments that are inevitable in financial reporting decisions.
A Classical Model of Accounting: The Framework Expanded
Historically, the particularized information, which constituted the emergence of accounting, was embedded in a framework for control of human behaviour. With the advent of exchange replacing a sustenance society, and with exchange ultimately producing a private economy, accounting derived its second, and in modern times considered its most important, function as a planning instrument. The classical model simply states that behavioural patterns do exist in the structural development of accounting; that is, given a stimulus there will be a response which is direct reaction (an expected reaction) to that stimulus. One can relate this model to the classical model in economics, in which supply and demand for a commodity react in an expected manner due to a change in price. Figure 3 is a geometric illustration of the classical model. The special features of the model are:
(a) Stimulus (S) = Demand; Response (R) = Supply
(b) Equilibrium (E) = Stimulus = Response
(c) Environmental Condition (EC) = Price
(d) Accounting Concept (AC) = Product
A Test of the Validity of the Model
If the classical model does exist in accounting, the historical observations (see table I) should then bear testimony to its existence. The evidence to support this model is purely historical. However, no parallel should be drawn between this thesis (stimulus/Response) and Toynbee’s (1946, 88) line of inquiry: “Can we say that the stimulus towards civilization grows positively stronger in proportion as the environment grows more difficult?” Consequently, the criticism directed at his work should not be considered even remotely as applicable to this inquiry (Walsh 1951, 164-169).On the other hand, only in the extreme can the accusation levelled at Kuhn  be directed here, that the conceptual framework (classical model of accounting) as presented “may subsume too many possibilities under a single formula (Buchner 1966, 137).” More appropriately, this study is undertaken along the lines suggested by Einthoven (1973, 21): Accounting has passed through many stages: These phases have been largely the responses to economic and social environments. Accounting has adapted itself in the past fairly well to the changing demands of society. Therefore, the history of commerce, industry and government is reflected to a large extent in the history of accounting.
What is of paramount importance is to realize that accounting, if it is to play a useful and effective role in society, must not pursue independent goals. It must continue to serve the objectives of its economic environment. The historical record in this connection is very encouraging. Although accounting generally has responded to the needs of its surroundings, at times it has appeared to be out of touch with them. The purpose of this line of inquiry is to put into perspective concepts which have emerged out of certain historical events. (In this treatise, accounting concepts are considered to be interlocking with accounting measurement and communication processes; thus, whenever the term concept is used herein, it is to be understood that accounting measurement and communication processes are subsumed under this heading.)
These concepts collectively constitute, or at least suggest, a conceptual framework of accounting. The classical model is postulated as follows: For any given environmental state, there is a given response function which maximizes the prevailing socio-economic objective function. This response function cannot precede the environmental stimulus but is predicated upon it; when such response function is suboptimal, the then existing objective function will not be maximized. In a dysfunctional state, a state in which environmental stimulus is at a low level – a level below pre-existing environmental stimuli, disequilibrium would ensue. In any given environment, the warranted response may be greater or less than the natural or actual response.
When environmental stimuli cease to evoke response, then the socio-economic climate will be characterized by stagnation as the least negative impact of disequilibrium conditions, and decline when such environmental stimuli are countercyclical.
Stage 1 – In this period, (1901 to 1920) the environmental stimulus was corporate policy of retaining a high proportion of earnings [(Grant 1967, 196-197); (Kuznets 1951, 31); (Mills 1935, 361,386-187)]. This period is the beginning of corporate capitalism. The term ‘corporate capitalism’ is used because it emphasizes the role in capital formation which corporations have ascribed to themselves. Hoarding of funds by corporations has reduced the role and importance of the primary equity securities market. The resource allocation process has been usurped by corporations (Donaldson 1961, 51-52, 56-63). The implication of such a condition is accentuated in the following statement: “It is the capital markets rather than intermediate or consumer markets that have been absorbed into the infrastructure of the new type of corporation.” (Rumelt 1974, 153).
The hard empirical evidence of this condition was revealed by several tests of the Linter Dividend Model, which maintains that dividends are a function of profit, and are adjusted to accommodate investment requirements [(Kuh 1962, 48); (Meyer and Kuh 1959, 191); (Brittain 1966, 195); (Dhrymes and Kurz 1967, 447)]. Given the new role assumed by the corporation in capital formation, the investment community (investing public) became concerned with the accounting measurement process. The accounting response was verifiability (auditing) – to demonstrate the soundness of the discipline. Productivity of existing measurements had to be verified to satisfy the investors and creditors. The Companies Act 1907 required the filing of an audited annual balance sheet with the Registrar of Companies [(Freer 1977, 18); (Edey and Panitpadki 1956, 373); (Chatfield 1956, 118)]. Thus, auditing became firmly established. The function of auditing measurements is the process of replication of prior accounting.
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Accounting is differentiated from other scientific disciplines in this aspect of replication. Replication is a necessary condition in sound disciplines; however, replication is generally undertaken in rare instances. In accounting, on the other hand, replication is undertaken very frequently for specified experiments – business operations – at the completion of the experiments – business (operating) cycle. These experiments – business operations, cover one year; at the end of the year, the experiments are reconstructed on a sampling basis. Auditing is the process by which replication of accounting measurements are undertaken. Publicly held and some privately held corporations are required to furnish audited annual financial statements which cover their business activities on an annual basis.
Stage 2- This period, (1921 to 1970) witnessed the reinforcement of corporate retention policy. This condition shifted the emphasis of the investor to focus on the Securities market in the hope of capital gains, because of the limited return on investment in the form of dividends. Indubitably, investors’ concern was shifted to market appreciation through stock price changes reflecting the earnings potential of the underlying securities (Brown 1971, 36-37, 40-41, and 44-51).
With the securities market valuation of a company’s share (equity) inextricably linked to the earnings per share, the emphasis is placed on the dynamics of accounting as reflected in the income statement. The Companies Act of 1928 and 1929 explicitly reflect this accounting response by requiring an income statement as a fundamental part of a set of financial statements [(Freer 1977, 18); (Chatfield 1974, 118)]; although an audit of such statement was not explicitly stipulated, it was implied. The accounting response of this period is extension of accounting disclosure [(Chatfield 1974, 118); (Blough 1974, 4-17)].The Wall Street Crash of 1929 and subsequent market failures constitutes the environmental stimulus. In the U.S.A., the Securities Act of 1933 and then the Securities and Exchange Act of 1934 were enacted, providing for a significant involvement of the government in accounting.
Stage 3- This period is characterized by the social awareness that business as well as government must be held socially accountable for their actions. Business can transfer certain costs to other segments of society, thus business benefits at the expense of society; and government can not only squander hard earned dollars but through its policies affect adversely the welfare of various segments of society.
This awareness is epitomized in the thesis posited by Mobley [1970, 763]: “The technology of an economic system imposes a structure on its society which not only determines its economic activities but also influences its social well-being. Therefore, a measure limited to economic consequences is inadequate as an appraisal of the cause-effect relationships of the total system; it neglects the social effects.”
The environmental stimulus of corporate social responsibility evoked the accounting response of socio-economic accounting – a further extension of accounting disclosure. The term socio-economic accounting gained prominence in 1970, when Mobley broadly defined it as “the ordering, measuring and analysis of the social and economic consequences of governmental and entrepreneurial behaviour.” Accounting disclosure was to be expanded beyond its existing boundaries – beyond the normal economic consequences “to include social consequences as well as economic effects which are not presently considered” (Mob1ey 1970, 762).
Approaches to dealing with the problems of the extension of the systemic information are being attempted. It has been demonstrated that the accounting framework is capable of generating the extended disclosures on management for public scrutiny and evaluations [(Charnels, Co1antoni, Cooper, and Kortanek 1972); (Aiken, Blackett, Isaacs 1975)]. However, many measurement problems have been exposed in this search process for means to satisfy the systemic information requirement of this new environmental stimulus [(Estes 1972, 284); (Francis 1973)]. Welfare economics, as a discipline, has always been concerned with the social consequences of governmental and entrepreneurial actions, but the measurement and communication problems are, and always have been that of the discipline of accounting (Linowes 1968; 1973).
The Conceptual Framework: A Continuing Process
Presented above, the stimulus/response framework – exhibiting structural adequacy, internal consistency and implemental practicality – has demonstrated, unequivocally, its effectiveness over the centuries. The systemic information of financial accounting is the connective tissue of time in a financial perspective. The systemic information of managerial accounting is non-connective, but rather reflects events in a decision-making perspective. This can be best illustrated in the table below:
(Draw a table)
The process of concept-formation is a special type of learning. The formation takes time and requires a variety of stimuli and reinforcements. The process is never fully determinate for even when the concept is well, it can suffer neglect or inhibition and it can be revived by further reinforcement or modified by new stimulation (Emphasis added.) (Meredith; 1966, 79-80). A body of concepts and interlocking measurement and communication processes (types of information – stocks and flows; constraints on information – allowable values and methods of measurement; media of communication – quantitative and qualitative) has been developed over the centuries.
This set of concepts and interlocking measurement and communication processes has emerged as responses to specific stimuli at specific points in time to satisfy specific information needs. It is this body of concepts and interlocking measurement and communication processes, which is subject to amplification and modification that constitutes the conceptual framework of accounting. Possibly, with other modifications or amplifications deemed necessary, the conceptual framework as presented above can serve as an “expressly established framework” to enable “preparers and auditors to make decisions,” which would conform and be upheld, “about accounting issues that are not specifically covered by FASB standards or authoritative literature.”
A conceptual framework is necessary because in the first place, to be constructive, paradigm setting must develop and connect to a reputable body of perceptions and objectives. A severely developed theoretical outline should facilitate the FASB to issue additional functional and reliable standards in due course. A coherent set of principles and regulations should be the outcome, since they would be constructed upon a similar basis. The framework should augment fiscal statement users’ indulgence of and self-assurance in economic reporting, and it has to improve comparability amongst companies’ fiscal reports. Secondly, latest and emerging realistic problems ought to be more rapidly unravelled by reference to an existing outline of fundamental supposition. It is complicated, if not unfeasible, for the FASB to recommend the appropriate accounting action promptly for circumstances like this. Accountants in practice, nevertheless, ought to resolve such exertions on a routine basis.
With the application of excellent verdict and with the facilitation of a commonly acknowledged conceptual scaffold, practitioners may discharge certain options promptly and then centre their attention on a tolerable dealing. Over the years various associations, commissions, and concerned persons developed and printed their personal theoretical frameworks. However, no particular framework was unanimously acknowledged and relied on practically. Identifying the necessity for a commonly acknowledged structure, the FASB in 1976 initiated effort to construct a conceptual structure that would possibly be a foundation for setting book-keeping principles and for reconciling fiscal reporting disagreements.
The FASB has given out six Statements of Financial Accounting Concepts that recount to monetary reporting for commerce schemes. These include: 1, “Objectives of Financial Reporting by Business Enterprises,” that presents objectives and intentions of book-keeping. 2, “Qualitative Characteristics of Accounting Information,” that inspects the descriptions that make book-keeping information helpful. 3, “Elements of Financial Statements of Business Enterprises,” that offer descriptions of objects in economic statements, for instance, revenues, assets, expenses and liabilities. 4, “Recognition and Measurement in Financial Statements of Business Enterprises,” that lays down elementary acknowledgment and dimension standards and direction on the kind of information that should be officially integrated into economic assertions and at what time. 5, “Elements of Financial Statements,” which substitutes number 3 and increases its extent to comprise non-profit institutes.6, “Using Cash Flow Information and Present Value in Accounting Measurements,” that gives a structure for using probable expectations of cash flows and outline principles as a foundation for measurement.
The figure below is an overview of the conceptual framework.
In the initial stage, the purposes classify the aspirations and rationale of book-keeping. Ideally, book-keeping principles developed with accordance to a theoretical structure will upshot in book-keeping reports that are extra helpful. At the subsequent stage are the qualitative descriptions that make book-keeping information functional and the essentials of monetary report, that is, liabilities, assets, among others. In the third stage are the dimension and acknowledgment perceptions employed in instituting and affecting book-keeping principles. These conceptions include suppositions, ideologies, and restrictions that illustrate the current reporting atmosphere.
First Level: Basic Goals
The major goals of monetary reporting are to give information which is: (1). Helpful to those concerned with the creation of savings and credit judgment and have a sensible perception of commerce and financial performance. (2). Useful to current and prospective financiers, creditors, as well as other users in gauging the quantities, instances, and ambiguity of prospective cash flows and (3). Concerns financial capital, claims to such possessions, and the adjustments in them. The goals consequently, begin with a broad concern regarding information that is valuable to financier and creditor assessments. That apprehension constricts to the financiers’ and creditors’ concern in the outlook of accepting cash from their investments or credits to commerce ventures. Ultimately, the goals centre on the monetary declarations that provide information useful in the assessment of prospective cash flows to the business enterprise. This advancement is known as judgment effectiveness. It has been said that the golden rule is the central message in many religions and the rest is elaboration.
Similarly, decision usefulness is the message of the conceptual framework and the rest is amplification. In giving information to users of monetary reports, general-purpose financial statements are prepared. These reports give the most helpful information feasible at negligible expenditure to diverse consumer groups. Principal to these goals is the conception that consumers require logical acquaintance of commerce and economic book-keeping issues to comprehend the facts contained in economic reports. This fact is essential. It implies that in the groundwork of monetary statements, a stage of rational proficiency on the part of consumers can be alleged. This has an effect on the method and the scope to which data is accounted for.
Second Level: Fundamental Concepts
The objectives of the first level are concerned with the purposes and intentions of book-keeping. Between the second and third levels, it is essential to give particular theoretical construction blocks that elucidate the qualitative descriptions of book-keeping knowledge and describe the essentials of monetary reports. These theoretical construction blocks outline a connection involving the why of book-keeping (the goals) and the how of book-keeping (acknowledgment and capacity).
Qualitative Descriptions of Book-keeping Facts
Deciding on a suitable accounting technique, the quantity and kinds of facts to be revealed, and the layout in which data ought to be presented entails establishing which option provides the most helpful information for assessment making intentions (judgment convenience). The FASB has recognized the qualitative descriptions of book-keeping facts that differentiate enhanced (extra valuable) facts from substandard (less valuable) facts for assessment creation intentions. Additionally, the FASB has acknowledged particular restrictions (“cost-benefit and materiality”) as a component of the conceptual structure. The descriptions might be analysed as a hierarchy.
Assessment Creators (Users) and Understandability
The makers of judgement differ extensively in the nature of assessments they formulate, the way they formulate these assessments, the facts they already have and any other relevant information that they may acquire from their own trusted sources, and their aptitude to process the facts. For knowledge to be helpful there ought to be a correlation (relationship) involving these consumers and the judgment they create. This connection, understandability, is the eminence of facts that authorizes realistically knowledgeable users to distinguish its connotation. To demonstrate the significance of this connection; suppose that IBM Corp. gives a three-month’ income statement (interim statement) that illustrates temporary income way down. This statement gives appropriate and dependable facts for assessment creation intentions. A number of users, upon evaluation of the statement, choose to retail their stock. While others do not comprehend the content and importance of the report, they are astonished when IBM proclaims a lesser year-end share and the worth of the stock turns down. Therefore, even though the facts presented were exceedingly appropriate and consistent, it was futile to those who did not comprehend it.
Prime Qualities: Reliability and Relevance
Importance and dependability are the two major virtues that make book-keeping information helpful for assessment making. As assured in FASB Concepts Statement No. 2, “the qualities that distinguish ‘bet
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