To see how the concepts of the framework come into practice, an annual report was chosen as an example. "MTR Corporation Limited - A dynamic and engaging report with clear, concise

        Therefore, it is important, for all of the other users to be aware that this is one of

the principles.

        The framework tells which kind of information is provided in different parts of financial statements. For example, “information about financial position is primarily provided in a balance sheet.” It is also reminded that none of the component parts of the financial statements is likely to serve only a single purpose or provide all the information necessary for particular needs of users.

        Underlying assumptions, i.e. accrual basis and going concern, are being included in the Framework. These assumptions are necessary so to meet the objectives of financial reporting.

   

2. Qualitative characteristics

        The Framework lists out four qualitative characteristics which make the information provided in financial statements useful to users. They are understandability, relevance, reliability and comparability.

        

        Each characteristic is supported with certain concepts for completeness. For example, the ideas of neutrality and prudence are introduced which affect the reliability of information.

        All these characteristics should exist together for completeness but there will be tradeoff between each other in practice. For example, trade-off between relevance and reliability comes into play with the requirement that complex information that is relevant to economic decision making should not be omitted because some users find it difficult to understand. Hence, the Framework reminds that the relative importance of the characteristics in different cases is based on judgment.

(c)        Definition, recognition and measurement of the elements

        The conceptual framework form a theoretical basis for determining which events should be accounted for and how they should be measured and presented. Definitions and recognition criteria of elements like assets and liabilities are listed out. All these definitions have been used as the basis for developing standards.

3. Concepts of capital and capital maintenance

        Financial and physical concepts of capital are introduced. The concepts give rise to the concepts of capital maintenance. Which concepts should be adopted is a important decision based on the concern of users.

        Generally speaking, in the conceptual framework, the concepts and contents coupled with each other for completeness. However, the conceptual framework is in theoretical, difficulties may arise when it comes into practice.

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PART B

        The 2005 annual report of MTR Corporation is being reviewed and evaluated in terms of relevance, reliability, comparability and understandability in the view of a potential investor.

Qualitative Characteristics

        The four qualitative characteristics appear diagrammatically as follows [Elliott and Elliott 2005] :

        

        Definition of each characteristic is specified in the Framework.

1. Relevance

        “If there is undue delay in the reporting of information it may lose its relevance.” as indicated by the Framework.

        The 2005 annual report of MTR Corporation was published within 90 days after its financial year ended which was earlier than that allowed under the Listing Rules. Therefore it was able to provide more timely financial information and met market expectations, which eventually enhances relevance of the report.

        

        The annual report also provides additional useful financial and non-financial investor information above the statutory minimum. There is a separate section of key shareholder information which highlighted information that investors are directly interested, such as dividend payments. Also, ten year statistics are provided as basis for predicting future financial position. All these increase the relevance as mentioned in the Framework.

2. Reliability

        Corporate governance is developed in order to ensure the reliability of financial information as stipulated by Elliott and Elliott 2005.

        Corporate governance report and remuneration report of a total of 9 pages were included in the MTR annual report. Independent non-executive directors were appointed and exceeds the requirement of the Listing Rile which requires every board of directors of a listed issuer to have at least three. Audit committee, remuneration committee, internal control, etc are present and described in the report. All these make the annual report more reliable.

        Most importantly, the annual report was audited by external independent auditor and unqualified audit report was issued. High level of compliance with the mandatory disclosure requirements indicates the reliability.

3. Comparability

        It was the first year most of the companies, including MTR Corporation, were required to report under the new accounting rules. Comparability would be affected as uniformity over periods is distorted.

        MTR annual report remains at a high level of compliance despite the change in accounting policies. In order to be consistent with previous trends, MTR corporation disclosed the financial impacts caused by the adoption of new HKFRS. It is important that investors are informed about the impacts, remarked by the Framework.

        On the other hand, high compliance with standard already helps investors to compare between different enterprises.  

4. Understandability

        “Good design of the annual reports and presentation of corporate information in a structured and logical manner with illustrations, photographs, diagrams and charts also helps to enhance understanding.” [2006 HKMA Best Annual Reports Awards]

        

         MTR annual report surely has demonstrated a good design and structure. Wide variety of presentation methods is used, e.g. ratios, bar charts, pie charts, tables, photographs, etc. There are 30 charts in the annual report highlighting different trends or distribution in a clear way. The whole annual report is informative and organized with narratives on material terms in simple language. Glossary of terms at the end of the report further enhances the readers’ understandability.

        After evaluating the four qualitative characteristics, the level of usefulness of information in MTR annual report to potential investor is concluded to be high.

        

        

        

        

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PART C

        

        Personally speaking, as a potential investor, the most important qualitative characteristic of financial statements should be relevance where the other three are less important.

1. Reliability

The question of financial statement reliability is a critical question. Investors basically assumed that the financial statements they read are reliable. The reliability of the financial statement can be assessed by audit opinion given and other areas like corporate governance. An unqualified audit opinion indicates a high reliability.

“Nevertheless, the collapse of Enron has brought into question every one of these assumptions.” 

In the case of Enron 2001, ‘Partnerships’ was used to hide large debts and heavy losses. The financial statement was in fact not reliable at all though unqualified audit report was issued. Enron eventually went into bankrupt when the fraud was found, and the investors suffered.

There is no doubt saying reliability is important, however, Enron is a rare case. It is difficult to find out what is the fact behind, as an investor. Trust on the audit opinion is reasonable since it means the financial statement is at least 95% free from material errors. Investors may look at the corporate governance also to evaluate the reliability. There is not much investor can do on the reliability issue.

2. Comparability        

        The comparability is usually adequate if the annual report complies with the accounting standards and consistent from period to period. It is not necessary to be highly comparable. In the case of new established company, there is no comparative figure in the previous years. Investor can still make an investing decision base on the  other factors like the future plans of the business or the general prospect of that industry.

3. Understandability

        Users are assumed to have a reasonable knowledge of business and economic activities and accounting and a willingness to study the information with reasonable diligence, as stated by the Framework.        If the information is not that understandable, investors can ask advices from professionals, i.e. accountants or auditors. Relevance information should not be excluded merely on the grounds that it may be too complex to be understood.

4. Relevance

        Highly relevant information is the crucial factor of decision-making process. For example, investors are always interested to know more about relevant information like how the funds are allocated, the future plans, the risks involved, business strategies and management policies, etc. The global trend for disclosure of all these areas is indisputable. Also, the information will be useless if the reporting is delayed.

        Thus, no matter how reliable, how comparable or how understandable the information is, without relevancy, investor cannot make a decision at all.

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Summary

        To conclude, concepts and content of the conceptual framework are interrelated and there may be trade-off between concepts in practice. Hence, it is important to strike a balance.

        

        MTR annual report 2005 illustrates how the usefulness of information is based on the four qualitative characteristics.

        

         As a potential investor, getting high relevance financial information is the most important.

Word Count

1,844

        

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Bibliography

2005 annual report of MTR Corporation

Elliott B and Elliott J (2005) Financial Accounting and Reporting 10th edition

Framework for the Preparation and Presentation of Financial Statement, IASC, 1989, Preface

2006 HKMA Best Annual Reports Awards

  24 Nov 2006

Marcelo Eduardo et al (2005) Financial Statement Reliability and Large Firm Stock Prices: The Impact of the Enron Collapse

  24 Nov 2006

GEM Listing Rules of The Stock Exchange of Hong Kong Limited

  24 Nov 2006

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