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Conseil National de la Comptabilité
3, Boulevard Diderot
Paris, 3rd November 2006
75572 PARIS CEDEX 12
Téléphone 01 53 44 52 01
Télécopie
01 53 18 99 43/01 53 44 52 33
Internet
www.finances.gouv.fr/CNCompta
Mel
antoine.bracchi@cnc.finances.gouv.fr
Li Li Lian
Assistant project manager
Le Président
International Accounting Standards
Committee Foundation
AB/PhS
30 Cannon Street
N°790
London EC4M 6XH
United Kingdom
July 2006 Discussion Paper–Conceptual Framework for Financial Reporting
Dear Li Li,
I am writing on behalf of the Conseil National de la Comptabilité to give you our comments
on the above-mentioned Discussion Paper (“DP”). Our detailed comments are set out in the
Appendix.
The CNC’s main comments are as follows:
1 – The scope and authoritative status of the framework require clarification before
proceeding with the subsequent stages of the project.
The definition of the user target group and their financial information needs is
imprecise.
The objective of financial reporting is defined in very general terms so that it is not
possible to determine exactly which needs of which users will be satisfied by it.
The types of financial reporting within the scope of the framework have not been
determined .As a first step it may be advisable to concentrate on defining the
objectives, characteristics and content of financial statements.
The purpose and authoritative status (mandatory or “guide”?) should be defined at an
early stage in the project because they have consequences on the form and content of
the framework.
2 – Certain fundamental orientations are adopted without sufficient discussion or
justification.
The main objective of financial reporting is described as helping current and potential
investors in their decisions to buy, sell or hold the shares of the company (resources
allocation). The objective of “accountability”, as described in the current framework,
has been downgraded as a subset of this main objective. We do not subscribe to this
decision. The management of a company acts as an agent of the shareholders and
therefore has to report to the current shareholders. This reporting constitutes a separate
objective of the financial statements.
The “entity approach” to financial reporting is adopted without sufficient justification
and in apparent contradiction with the focus on investors’ and creditors’ information
needs, as primary users .The full implications of adopting the “entity approach” are
not discussed.
• The extension of the scope from financial statements to financial reporting is
proposed without analysing the possible implications of such a change e.g. the
objectives and qualitative characteristics of certain types of financial reporting may be
different to those of financial statements.
• The DP focuses on “information about an entity’s economic resources and claims.”
The reasons for which this approach is preferred to other possible solutions are not
given. Moreover, it is not clear exactly which user needs are satisfied by the resources
and claims approach.
3 –The step by step validation of the framework
At this stage, because of the above-mentioned imprecision in scope definition, it does not
appear to be possible to form an opinion on the validity of the objectives and qualitative
characteristics of financial reporting set out in the discussion paper.
In particular, it is not possible to determine whether the different types of financial reporting
which may be within the scope of the framework can be treated by a single framework.
Furthermore we have reservations about the project validation process which is phase by
phase. Without having an overall view of the coherency of the project as a whole it appears
impossible to validate the first phase definitively. We therefore believe it may be necessary to
reconsider the objectives and qualitative characteristics at a later stage.
On the whole, we recommend that the due process which has been defined at the beginning of
the project be strictly followed: proceed step by step with each identified phase, allow time
for comment and more research between phases, allow time for reconsideration when all
phases have been completed.
We trust you have found our comments helpful and would be pleased to give you any further
information or explanations you require.
Yours sincerely,
Antoine BRACCHI
APPENDIX
JULY 2006 DISCUSSION PAPER–CONCEPTUAL FRAMEWORK FOR
FINANCIAL REPORTING
1. PURPOSE AND STATUS OF FRAMEWORK
1.1.Introduction
Although the purpose and status of the framework are to be dealt with in phase F of the
project, at a date to be determined, the boards appear to be taking a position on this subject in
the current discussion paper.
The main issue dealt with is the authoritative status of the framework for standard setting
and/or for the preparation of financial reporting:
1.2. Is the framework mandatory for standard setting and/or for the
preparation of financial reporting?
IASB/FASB position in DP
For standard setting
The position which the boards appear to take in the discussion paper is that the framework is a
non-mandatory guide for standard setters.
The boards indicate that the main purpose of the framework is to be a conceptual guide (see
IN2, IN3, and IN4) and a long-term goal for standard setters (OB 15).
IN5 goes on to say that IFRSs are developed in response to changes in business practices and
the economic environment, which may in turn contribute to a change in the framework
For the preparation of financial reporting
In P2 the DP highlights the differences between the authoritative status of the boards’ existing
frameworks.
For entities reporting under IFRSs, management is expressly required to consider the
framework if no standard or interpretation specifically applies or deals with a similar and
related issue (see IAS8 §10and 11). Entities reporting under US GAAP are not required to
consider the FASB’s Concepts Statements.
The DP (IN5) indicates that the framework “does not establish standards for particular
financial reporting issues” and therefore appears to be maintaining the status quo.
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Position of the CNC
The Purpose and authoritative status of the framework should be dealt with at an early
stage in the project because they determine the content and the form of the framework.
A framework for standard setters in a principle based system would set out general
concepts and principles whereas it would be more detailed if it were for preparing
financial reporting
The CNC agrees that the framework is essentially for standard setting and that it
should only be considered, as currently prescribed in IAS 8, for preparing financial
reporting when no standard or interpretation is applicable. It is then also most useful
for users of financial statements, as it guarantees the consistency of the information
they will get through financial statements.
However, in our view, a framework with mandatory status is the most useful for
standard setters in that it provides a stable conceptual basis for developing standards
and ensures the coherence and consistency of financial reporting standards.
The position expressed by the boards in IN5 suggests that IFRSs might be developed
from other sources and possibly on the basis of concepts different to those in the
framework and that the framework might be changed subsequently.
We disagree with this approach because it is in contradiction with the objective of the
framework, as expressed by the boards in P3, which is to ensure the conceptual
consistency of financial reporting standards.
We believe that conceptual changes should be introduced into the framework after an
appropriate public debate and that new standards should normally be based on the
framework.
When a standard departs from the framework in the very rare cases when the
application of its concepts does not permit to correctly apprehend a specific economic
phenomenon, it should clearly be stated so in the Basis for conclusions of the standard
and the framework should be revised as soon as possible.
2/10
JULY 2006 DISCUSSION PAPER–CONCEPTUAL FRAMEWORK FOR
FINANCIAL REPORTING
2. THE OBJECTIVE OF FINANCIAL REPORTING
2.1.The objective as set out in the DP
“The objective of general purpose external financial reporting is to provide information that
is useful to present and potential investors and creditors and others in making investment,
credit, and similar resource allocation decisions.” (See OB2 of the discussion paper)
“To help achieve its objective, financial reporting should provide information to help present
and potential investors and creditors and others to assess the amounts, timing, and uncertainty
of the entity’s future cash inflows and outflows (the entity’s future cash flows).”(See OB 3)
2.2.The scope as set out in the DP
Business entities in the private sector (OB 1)
The objective pertains to all types of financial reporting not just financial statements. (OB 16)
2.3. The underlying issues
The following issues underlie the above definitions:
- Who are the users of financial reporting?
- What are the needs of the users of financial reporting?
- Are the needs of users of financial reporting the same for different kinds of entity?
- Are the objectives the same for financial statements and all other types of financial
reporting?
- Is stewardship or accountability an objective of financial reporting?
2.4.Who are the users of financial reporting?
IASB/FASB position in DP
According to OB6 the potential users of financial reports include Equity Investors, Creditors
(« lenders ») Suppliers, Employees, Customers, Governments and their agencies and
regulatory bodies, Members of the public.
The information provided by general purpose external financial reporting is directed to the
needs of a wide range of users rather than only to the needs of a single group (OB 10).
The external users concerned are those that “lack the ability to prescribe all the financial
information they need from an entity.” Hence management is excluded.
“Accordingly, financial reports reflect the perspective of the entity” (OB 10).
Investors and creditors are designated as primary users because they are the most prominent
group whose needs are understood and because information that satisfies their requirements is
likely to be useful to other user groups (OB 12).
3/10
Position of the CNC
Are investors and creditors a valid primary user group?
As stated in OB 12 the DP identifies investors and creditors as primary users but without
demonstrating that they constitute a homogeneous group with common reporting needs.
Investors would appear to include different profiles such as long term investors and market
traders with rather different goals and information needs.
Creditors would also appear to include different categories such as debenture holders and
bankers.
It is therefore suggested that further research is required to validate the primary user group.
Does financial reporting that meets investors requirements satisfy the needs of
other users?
The assertion made to this effect in OB12 (see above) does not appear to be supported by
analysis in the DP.
What justification is provided in the DP for adopting the entity perspective to
financial reporting?
The main argument, provided in OB 10, is that since financial reporting is directed to a wide
range of users (“stakeholders”), it follows that the entity perspective of financial reporting
should be adopted.
Given that investors and creditors (who are presumed to have the same reporting needs as
investors) are identified as the primary users of financial reporting it is not clear why that
would lead to the adoption of the entity (stakeholder) perspective as opposed to the
proprietary (shareholder) perspective.
Before adopting one or other approach a full discussion of the reasons for and the
consequences of the choice are necessary.
Also, to avoid further debates in standard setting, a clear choice between the two approaches
should be made from the beginning and the choice should be followed consistently throughout
the project. This does not appear to be the case in the current DP.
2.5. What are the needs of the users of financial reporting?
IASB/FASB position in DP
The objective of financial reporting set out in OB2 and OB3 refers to information
useful in:
-resource allocation decisions
-assessing future cash inflows of an entity.
Because of these two main objectives the focus is then put on “economic resources” and
claims. Performance is the result of changes in the resources and claims.
The description of “Potential users of financial reporting and their information needs”
set out in OB6 is of a general nature and gives little further analysis e.g. for investors
and creditors the needs correspond to information about an entity’s capacity to
generate cash flows.
4/10
Position of the CNC
Is financial reporting used only for resource allocation decisions?
Financial reporting may be used for other decisions e.g. to replace or keep the management, to
approve the annual accounts, vote dividends. These are separate objectives and relate more
specifically to the financial statements.
There is little or no analysis of user needs in the DP. It is therefore difficult to judge
whether investors, creditors and other users have common needs.
User needs are described at a very general level. Information about an entity’s
capacity to generate cash flows could take on quite different forms and relate to
different objectives .It might well take the form of cash forecasts with different
objectives and horizons to the financial statements e.g. information used for appraising
liquidity would have a different focus to information about long term growth.
It is not clear which user needs for cash flow information the DP is targeting . Is it
information derived from the financial statements ,forecasts or both ? For which user
requirement e.g. assessing liquidity , growth or some other objective ? There is no
direct link made between the precise needs of a user group and the objective of
financial reporting.
The focus is put all throughout the DP on economic resources and claims, which are
central in the conceptual framework. However, the DP gives only a very general
justification for this focus i.e. information on resources and claims will be useful in
assessing cash flow prospects .No other approaches e.g. revenue approaches are
considered .The choice of the “balance sheet” approach is therefore a basic
assumption of the DP .Moreover , there is no definition in the DP of what “economic
resources” are. It is therefore difficult to assess at this stage whether they are the most
useful information for investors. Such a focus on economic resources is therefore not
acceptable at this stage of the project.
2.6.Are the needs of users of financial reporting the same for different kinds
of entity?
IASB/FASB position in DP
The focus of the DP is on business entities in the private sector
“P8 The boards decided to focus initially on business entities in the private sector. Once
concepts for those entities are developed, the boards will consider the applicability of those
concepts to financial reporting by other entities, such as not-for-profit entities in the private
sector and, in some jurisdictions, business entities in the public sector.”
The objectives of general purpose external financial reporting are the same for small,
large, listed and unlisted entities that issue such reports(BC1.23)
Some entities, such as small or “closed companies ”may have little need to issue general
purpose external financial reports. However, for entities that do have external users of their
financial reports, the objective of the reports issued to them is the same because the
information needs of investors, creditors, and others who need to make resource allocation
decisions about the entity generally are the same (BC1.24)
Cost-benefit considerations may lead standard setters to reduce reporting
requirements for certain types of entity(BC1.25)
5/10
Position of the CNC
Is the focus of the framework on business entities justified?
The focus on profit-oriented entities as a first step, as proposed by the current IASB
Discussion Paper, is consistent with the objective set out in the IASCF constitution of helping
participants in the world’s capital markets in their decision making and reflects the priority
given to profit-oriented entities in the IASB’s standard setting activity.
Do the users of financial reporting of small, large, listed and unlisted entities have
similar needs?
The users of the financial reporting of listed entities are not the same as for small or “closed”
companies. Financial market participants will be the users of the financial reporting of listed
companies whereas the financial reporting of small-unlisted companies may have few external
users other than bankers. However, the basic reporting models (statements of financial
position and performance) are fundamentally the same. The differences come from the greater
sophistication of the information requirements of the financial markets, which include
reporting by business segment, interim reporting etc.
Further research is required on this subject in order to focus on a specific category of entities
(e.g. listed entities?). This would prevent diluting reporting requirements.
2.7. Are the objectives the same for financial statements and all other types of
financial reporting?
Position of the FASB/IASB Discussion Paper
The scope of the Discussion Paper is extended to financial reporting. However, the DP
acknowledges that Financial Statements still play a major role. It considers that the
framework applicable to financial reporting would be applicable to financial statements.
Position of the CNC
There is no definition of financial reporting within the scope of the framework, nor of
financial statements. It assumes that the objectives and qualitative characteristics of all
kind of financial reporting are the same.
Financial reporting may include not only the financial statements, the information
contained in the notes to the financial statements, information in the management
commentary, but goes much further than that and may also include any type of
information that a company may publish outside of its annual accounts (communiqués,
press releases and so on, for example). It may include actual financial information but
also forecasts, non-financial information including judgements on market trends etc.
Financial reporting is therefore a potentially far-reaching concept and consequently it
is legitimate to ask: Do all kinds of financial information correspond to the definition
of financial reporting?
It therefore appears that both definitions – financial statements and financial reporting
- are needed before proceeding with the framework. It may then very well appear that
there is a need for specific parts of the framework addressing separately financial
statements.
Notably, the objectives of the financial statements may be different than the one of
other form of financial reporting. Also, characteristics such as verifiability or
comparability may be used differently for financial statements and financial reporting.
6/10
2.8. Is stewardship or accountability an objective of financial reporting?
Position of the FASB/IASB Discussion Paper
In OB 27 the DP explains that management is accountable to shareholders for the custody
and safekeeping of the entity’s economic resources and their efficient and profitable use.
Protection includes dealing with the effects of technological and social change, compliance
with laws etc. Management’s performance affects the cash flow generating capacity of an
entity.
In OB 28 the DP says that decisions to replace or keep management is also a resource
allocation decision “in a broad sense “. Therefore stewardship is included in the overall
objective of resource allocation decisions set out in OB2.
Position of the CNC
The conclusion set out in OB 28 that stewardship, as described in OB 27, is just a
category of resource allocation decision would not seem to be correct. We believe that
the fact that management has to report to the shareholders of the entity should be a
distinct objective of financial statements. Financial statements should be designed in
such a way that they help the management reporting to the shareholders of the entity.
The management of the company is not mentioned in the list of users in scope of the
framework, as management has access internally to all the information it may require.
However, management are clearly users as part of their stewardship role. With regard
to the management, we consider that the following issues should be addressed before
proceeding: which information might be useful to the management and not to other
users of financial statements, and vice versa.
7/10
JULY 2006 DISCUSSION PAPER–CONCEPTUAL FRAMEWORK FOR FINANCIAL
REPORTING
3.QUALITATIVE CHARACTERISTICS (“QC”) OF DECISION-USEFUL FINANCIAL
REPORTING INFORMATION
IASB/FASB position in DP
The order of application of QCs is:
1.Relevance (= pertinence to decision making) which includes predictive and
confirmatory value, timeliness.
2.Faithful representation (includes verifiability, neutrality, and completeness)
3.Comparability
4.Understandability
By order, relevance should be considered first “because relevance determines which
economic phenomena should be depicted in financial reports.”
Once the economic phenomena are chosen, a representation faithful to the economic
phenomena should be applied.
Comparability and understandability enhance the decision-usefulness of financial reporting
information that is relevant and ensures faithful representation.
Reliability is not a clear concept (BC2.13) and is often used with different meanings
(BC2.26). The components of reliability are included in “faithful
representation”(BC2.28).
For the sake of clarity “faithful representation” is used instead of reliability (BC2.29).
In Concepts Statement 2, the components of reliability are representational faithfulness,
verifiability and neutrality, and its discussion of representational faithfulness also
encompasses completeness and freedom from bias.
The IASB framework §31 indicates that reliable information is “free from material error and
bias” and can be depended on by users as a faithful representation of transactions.
“Faithful representation” embodies “substance over form” by definition
(BC2.18).”The proposed framework does not identify substance over form as a
component of faithful representation because to do so would be redundant.”
“Prudence” conflicts with the neutrality characteristic of faithful representation.
(BC2.22). Neutrality implies freedom from bias and “an admonition to be prudent is
likely to lead to a bias in reported financial position and financial performance.”
8/10
POSITION OF THE CNC
3.1.Is the proposed classification of QC by order of application valid (QC42 –QC47)?
The sequence of application is logical .It is however difficult to dissociate relevance and
verifiability since the relevance of unverifiable information to decision making is
questionable.
3.2.Should reliability be maintained as a QC (QC16–QC34; BC2.13–BC2.29)? Can
information be relevant without being reliable?
Reliability is currently used as a threshold criterion to determine, for example, whether
a liability or an intangible asset should be recognised. Where a transaction cannot be
estimated with sufficient reliability it is not recognised under existing IFRSs (IAS
37,38) .The “reliability threshold” would appear to have disappeared in the draft
framework.
Verifiability does not equate to reliability. According to QC23 (b) the application of a
chosen recognition or measurement method without material error or bias makes
information “verifiable” .If the chosen method or underlying assumptions are subject
to considerable uncertainty the information will be “verifiable” but not necessarily
reliable.
Although the discussion paper says that reliability is difficult to define, it appears to be
a useful notion, which is of practical application .On balance, we disagree with
eliminating reliability and its recognition threshold function.
Reliability should be assessed at the same time as relevance since there is no relevance
without reliability. Many commentators therefore consider that reliability is a
qualitative characteristic of the same importance as relevance.
3.3.Should economic substance over legal form be maintained as a QC (BC2.17–BC2.18)?
Some jurisdictions have a tradition of legal form over substance and it is therefore
useful at international level to have a framework which corrects this tendency.
The concept of substance over form requires to be clarified in order to develop a
common understanding. Do we all agree that the economic substance should
systematically be given priority over the legal form of the contract to faithfully
represent a transaction? If not, we need to define when the economic substance has
priority.
The IASB has recently raised this issue in its treatment of the distinction between debt
and equity by giving priority to the legal form of financial instruments with a “step up
clause” over the economic substance. Where there is an “economic compulsion” to
redeem an instrument at a fixed date should the instrument be considered as debt
rather than equity?
On balance we consider that the notion of substance over form should be clarified and
maintained as an element of faithful representation.
9/10
3.4.Should prudence be maintained as a QC? Is prudence necessarily biased (BC2.19-
BC2.22)?
The DP states that prudence has often lead to excessive conservatism, which results in
biased information. This is not consistent with the definition of prudence given in §37
of the current framework, which specifically excludes deliberate understatements of
assets or income etc.
A prudent approach to uncertainty would not necessarily give rise to biased
information. Are systematic estimates in the middle of the possible range of
uncertainty less biased than estimates at the upper (or lower) end?
On balance the arguments for eliminating prudence are not convincing.
The issue of how to treat the uncertainty of financial information arises in considering
“reliability” and “prudence”. We consider that this issue should be addressed
specifically in the framework in order to develop a conceptual basis for dealing with it.
3.5.Are the Qualitative Characteristics (QC) set out in the DP valid for financial reporting
other than financial statements?
Different types of financial reporting may have different QC :
- Financial statements are more standardised , neutral ,comparable
- Management commentary is more entity specific , less neutral , less comparable
It may well be difficult to establish the comparability, the neutrality of the verifiability of
non-financial and judgmental information including forecasts.
It is therefore suggested that these types of reporting would have to be treated separately to
financial statements and possibly not in the same framework.
10/10
