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Unformatted text preview: LEARNING OBJECTIVES After studying this chapter, you should be able to: Describe the usefulness of a conceptual framework. Describe the FASBs efforts to construct a conceptual framework. Understand the objectives of financial reporting. Identify the qualitative characteristics of accounting information. Define the basic elements of financial statements. Describe the basic assumptions of accounting. Explain the application of the basic principles of accounting. Describe the impact that constraints have on reporting accounting information. The growth of new-economy business on the Internet has led to the development of new measures of performance. When Priceline.com splashed on the dot- com scene, it touted steady growth in a measure called unique offers by users to explain its heady stock price. And Drugstore.com focused on unique customers at its Web site to draw investors to its stock. After all, new businesses call for new performance measures, right? Not necessarily. The problem with such indicators is that they do not exhibit any consistent relationship with the ability of these companies to earn profits from the customers visiting their Web sites. Eventually, as the graphs below show, the profits never materialized, and stock price fell. 27 C H A P T E R 2 C H A P T E R 2 Conceptual Framework Underlying Financial Accounting S how Me the Earnings! PRICELINE.COM Net unique offers by users 3.0 million 2.0 1.0 I II III 1999 IV I II III 2000 IV Stock price 2000-IV close $2.13 $120 a share 80 40 I II III 1999 IV I II III 2000 IV DRUGSTORE.COM Unique customers 2.0 million 1.5 1.0 0.5 I II III 1999 IV I II III 2000 IV Stock price 2000-IV close $1.03 $40 a share 30 20 10 I II III 1999 IV I II III 2000 IV According to one accounting expert, investors use of nonfinancial measures is not detrimental when combined with financial analysis, which is based on measures such as earnings and cash flows. The problem is that during the recent Internet craze, investors placed too much emphasis on nonfinancial data. Thus, the new economy may require some new measures but investors need to be careful not to forget the relevant and reliable traditional ones. 1 1 Story and graphs adapted from Gretchen Morgenson, How Did They Value Stocks? Count the Absurd Ways, New York Times (March 18, 2001), section 3, p. 1. 8658d_c02.qxd 10/24/02 9:18 AM Page 27 mac76 mac76:385_reb: PREVIEW OF CHAPTER 2 CONCEPTUAL FRAMEWORK UNDERLYING FINANCIAL ACCOUNTING Qualitative characteristics Basic elements First Level: Basic Objectives Basic assumptions Basic principles Constraints As indicated in the opening story about dot-com reporting, users of financial state- ments need relevant and reliable information. To help develop this type of financial in- formation, a conceptual framework that guides financial accounting and reporting is used. This chapter discusses the basic concepts underlying this conceptual framework....
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