CHAPTER6

CONCEPTUAL FRAMEWORK
Recognition and measurement

TECHNICAL KNOWLEDGE

To define recognition of the elements of financial

statements.

To know the recognition criteria for asset, liability,

income and expense.

To define measure,nent of the elements of

financial statements.

To be aware of the various financial attributes

for measuring asset, liability, income and
expense.

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 RECOGNITION
The Revi sed Conceptual Framewor~ define_s rec~gnition as the'
ts
process of capt urin g for in_cl':'-~ion in the finan~ia~ ~tateme~ty,
an item that meets the defin ition of an asset, liab ility , equi
income or expense.
is
The amo unt at whic h an asse t, a liab ility or equ ity
recogruzed in the state men t of fina ncia l posi tion is repo rted
as carrying amount.
l
Recognition link s the elem ents to the state men t of fina ncia
position and state men t of finan cial perf orm ance .
The state men ts are link ed beca use the recognition of an item
in one state men t requ ires the recognition of the sam e item
1n anot her state men t.
s
For exam ple, the reco gnit ion of inco me hap pen
t
simu ltane ousl y with the recognition of an incr ease in asse
or decr ease in liability.

The recognition of expe nse happ ens simu ltan eoul y with the
recognition of a decrease in asse t or incr ease in liability.

Rec ogn itio n crit eria

Only itenis that rneet the defin ition of an asset, a liab ility ·or
equi ty are recognized in the sta.tenient of fina ncia l posi tion.
Si:milarly, only item,s that meet the .defi nitio n of inconie orl
expe nse are reco gniz ed in the stat enie nt of fina ncia
perf orni ance .
s
In addi tion to mee ting the defi nitio n of an elem ent, item s
are reco gniz ed only whe n thei r reco gnit ion prov ides user ant
of fina ncia l state men ts with info rma tion that is both relev
and faith fully represented.

Recognitio!1 does not focus anyniore on how prob able econ omic
bene fits will flow to or from the enti ty and that the cost can
be mea sure d reliably.
An ass~t or liab~lity and any ~o_rresponding income or expe nse
the
can e~is~ even if the prob abil ity of inflo w or outf low of
bene fits is low.

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poin t of sale income reco gniti on
fhe basic princ iple of income recognition is that incom e shall
be recogruzed when earned.
But the quest ion is when is income consi dered to b.e earne d?
With respect to sale <?f goods in t~e ordinary cou~se of bU:5ines5 ,
the po~n:t of sale is unqu estio nably the point of incom e
recogn1,twn.
T}ie reaso n is that it is at the point of sale th~t the entity has
transf erred to the buyer the significant risks and rewar ds of
ownership of the goods.
State d differently, legal title to the goods passe s to the buyer at
the point of sale.
Moreover, it is at the point of sale that the entity has transf erred
control of the goods to the customer.
aowe ver,. under cert ~ condi.t~ons, income may be recognized
at the po~t of production, dunn g production and at the point
of collection.
Expe nse reco gniti on
The ~xpense recoQnition princ iple mean s that expenses are
recognized when incurred.
But the quest ion is when are expen ses incur red?
Actually, the _expen~e recog nition princi ple is the applic ation
of the match ing principle.
The gener ation of reyen ue i~ not witho ut any cost. There has
got to be some cost m earm ng a reven ue.
There is no gain if there is no pain.
The matc~ ing pri,nciple requires that those costs and expenses
incurred in earni ng a revenue shall be reported in the same
period. ,
The match ing princ iple or expen se recog nition princ iple has
three appli cation s, name ly:
a. Cause and effect assoc iation
b. Syste matic and ration al alloca tion
c. Imme diate recog nition

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 1
Cause and effect association
Under the cause and effec~ association, t~e expense i 8
recognized when the revenue ~s already recognized.

The reason is the presumed direct association of the e~Pe.nse

with specific income. Th~ caus e ~nd effec t assoc1atiotl
principle is actually the strict matching concept.

This matching proces~, commonly r~ferred to as the matc~ing

of cost with revenue, involves the swul taneo us o~ combined
recognition of revenue and expenses that resul t directly and
jointly from the same transactions or events. ·

The best example is the cost of merchandis~ inventory.

Such cost is considered as an asset in the meantime that the

merchandise is on hand.

When the merchandise is sold, the cost is expensed in tbP.

form of cost of goods sold because at such time revenue can
now be recognized.

Other examples include doubtful accounts, warr anty expense

and sales commissions.

Systematic and rational allocation

r Uncf,er systematic and rational allocation, some costs are
expensed by simply allocating them over the periods benefited.
The reason for this principle is that the cost incur red will
benefit future periods and that there is an absence of a direct
or clear association of the expense with specif5.c revenue.

When economic benefits are expected to arise over several

accounting per_iod~ and the ass~ciation with income can only
be broadly or indirectly determined, expenses are recognized
on the basis of systematic and allocation procedures.

Concret~ examples include depreciation of prop erty, plan t

and equ~pment, amortization of intangibles, and allocation
of prepa id rent, insur ance and other prepayments.
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immediate recognition

Under this principle, the cost incurred is expensed outright

because of uncertainty of future economic benefits or
difficulty of reliably associating r.ertain costs with future
revenue .

An expense is recognized immediately:

a. When an expenditure produces no future ec.onom1c

benefit.

b. When cost incurred does not qualify or ceases to qualify

for recognition as an asset.

Examples include officers' salaries and most administrative

expenses, advertising and most selling expenses, amount to
settle lawsuit and worthless intangibles.

Many losses, such as loss from disposal of building, loss from

sale of investments, and casualty loss, are. immediately
recognized because they are not directly related to specific
revenue.

Derecognition
The Revised Conceptual Framework introduced the term
derecognition.
Derecogn,:tion is defined as the rem.oval of all or part of a
recognized asset or liability from the statement of financial
position.
Dere.cognition normally occurs when an item no longer meets
the definition of an asset or a liability.

Derecognition of an asset. occurs when the entity loses control

of all or part of the asset.

Derecognit,:on of a. liabi:hty occurs when the entity no longer

has a present obligation for all or part of the liability.

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 1
MEASUREMENT
Measurement is defined as quantifying in monetary
terms th
e
elements in the financial sta.tenlents.
nti ons tw 0
The Rev ise d Co nce ptu al Fra me wo :rk me
cate gor ies:
a. His tori cal cos t
b. Cur ren t value
HISTORICAL COST
The historical cost or or_ igj,nal acqui~ition cost of an as~et is
et comprising
the cost inc urre d in a~qU1r1ng or creat~ng the ass
the consideration pai d plus tran sac tion cost.
The historica~ co~~ of a. _liability is th~ con side rati on received
to incur the liability min us tran sac tion cost.
Simply stat ed, historical ~ost is th_e e~~ry. price or
entry value
to acquire an ass et or to inc ur a liability
An application of the historical cost measuremen
t is to measure
financial asset and financial liability at am,orti2ed
cost.
re cas h flows
The amortized cost reflects the esti mat e of futu gnition.
discounted at a rate determined at init ial reco
Historical cost updated
l. Historical cost of an asset is upd ated bec
ause of:
a. Depreciation and amortization
b. Pay men t received as a resu lt of disposing
par t ·o r all
of the ass et
c. Imp airm ent
d. Accrual of inte rest to reflect any financing
component
of the ass et
e. Amortized cos t measurement of financial ass et
.
2. His tori cal cost of a lia.bility is upd ated
because of:
to deliver
a. Pay men t made or satisfying an obligation
goods
economic
b. Increase in value of the obligation to tran sfer rous
reso.urces ~uch tha t the liability becomes one com ponent
c. Afcc1 ual_ of _u;1terest to reflect any financin
g
o the liability
ility
d. Amortized cost mea sure men t of financial liab
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CURRENT VALUE
Current value includes:
8
Fair value
b. Value in use for asset
c · Fulfillment value for hability
i Current cost
Fair value
Fair val'ue of a.n asset is the price that would be received to
sell an asset in an orderly transaction between market
participants at measurement date.
Fair value of liability is the price that would paid to transfer
a liability in an orderly transaction between market
participants at the measurement date.
Fair value is an exit price or exit value.
Fair value can be observed directly using market price of
the asset or liability in an active market.
In cases where fair value cannot be directly measured, an
entity can use present value of ca.sh fl,ows.
Fair value is not adjusted for transaction cost. The reason is
that such cost is a characteristic of the transaction and not
of the asset or liability.
Value in use
Value in use is the present value of the cash flows that an
entity expects to derive from the use of an asset and from
the ultimate disposal.
Value in use does not include transaction cost on acquiring
the asset but includes transaction cost on the disposal of the
asset.
Value in use is an exit price or exit value.
Fulfillment value
Fulfillment value is the present value of cash that an entity
expects to transfer in paying or settling a liability.
Fulfillment value does not include transaction cost on
incurring a liability but includes transaction cost on
fulfillment of a liability.
Fulfillment value is an exit price or exit value.

lll
 Current cost
Current cost of an asset is the cost of an e~uiva~ent asset
the measw·ement date comprising the ~ons1deration Paid a~
transaction cost.
Current cost of a liability is the consideration that would b
received less any transaction cost at measurement date. e

Similar to historical cost, current cost is also base~. on the

entry price or entry ua.lue but reflects market conditions on
measurement date. -

Selecting a 1.11easurement basis

In selecting a measurement basis for an asset or a liability
and for the related incolll:e and e~pense, it is necessary to
consider the nature of the 1nforma~1on that the measurement
basis will produce.
In most ca.ses, no single fa.ctor will determine which
mea.snrem.ent basis should be selected.
The relative importance of each factor will depend on facts
and circumstances.
The information produced by the measurement basis must
be useful to the users of financial statements.

To a.chieve this, the information must be both relevant and,

f a.ithfully represented.

Historica.l cost is the measurement basis most. commonly

adopted in preparing financial statements.

In many situations, it is simpler and less costly to measure

historical cost than it is to measure a current value.

In addition, historical cost is generally well understood and

verifiable.

The IASB did not mandate a single measurement basis because

~he diff~rent measurement bases could produce useful
inforniation under different circumstances.

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