Introduction – set the stage
This is all about: An economic resource is a right that has the potential to produce economic benefits.
Many assets, for example, receivables and property, are associated with legal rights, including the right of ownership. In determining the existence of an asset, the right of ownership is not essential; thus, for example, property held on a lease is an asset if the reporting entity controls the benefits which are expected to flow from the property. This emphasises that the resource in question is not, for example, a physical object (such as an item of property, plant and equipment), but a right (or set of rights) over that physical object. This is a shift away from accounting for physical objects and towards accounting for different rights composing economic resources. However, describing a set of rights as a physical object will often provide the most concise, clear and understandable information.
Although the capacity of an reporting entity to control benefits is usually the result of legal rights, an item may nonetheless satisfy the definition of an asset even when there is no legal control. For example, know-how obtained from a development activity may meet the definition of an asset when, by keeping that know-how secret, an reporting entity controls the benefits that are expected to flow from it.
The Conceptual Framework explains rights with the potential to produce economic benefits along some essential features captured in the following subjects:
1. Form of rights with potential to produce economic benefit
Rights that have the potential to produce economic benefits take many forms, including:
(a) rights that correspond to an obligation of another party (see opposite right in Liability – Obligation to transfer an economic resource), for example:
- rights to receive cash. Rights with potential to produce economic benefits
- rights to receive goods or services. Rights with potential to produce economic benefits
- rights to exchange economic resources with another party on favorable terms. Such rights include, for example, a forward contract to buy an economic resource on terms that are currently favorable or an option to buy an economic resource. Rights with potential to produce economic benefits
- rights to benefit from an obligation of another party to transfer an economic resource if a specified uncertain future event occurs (see opposite transfer in Liability – Transfer of an economic resource).
(b) rights that do not correspond to an obligation of another party, for example:
- rights over physical objects, such as property, plant and equipment or inventories. Examples of such rights are a right to use a physical object or a right to benefit from the residual value of a leased object.
- rights to use intellectual property. Rights with potential to produce economic benefits
In the Conceptual Framework 2018, an asset is now specified as ‘a present economic resource controlled by the reporting entity as a result of past events’. An economic resource, which previously had no definition, is defined as ‘a right that has the potential to produce economic benefits’.
Previously an asset was defined as ‘a resource controlled by the reporting entity as a result of past events and from which economic benefits are expected to flow to the reporting entity’.
In other words, the potential to produce economic benefits now means that the flow of economic benefits no longer needs to be certain, or even likely (but be aware if it is not certain or likely, however, then the asset’s recognition and measurement may be affected!!). It is only necessary that the economic resource already exists and that there is at least one circumstance in which it would produce economic benefits.
2. Legal form of rights with potential to produce economic benefit Rights with potential to produce economic benefits
Many rights are established by contract, legislation or similar means. For example, an reporting entity might obtain rights from owning or leasing a physical object, from owning a debt instrument or an equity instrument, or from owning a registered patent. However, an reporting entity might also obtain rights in other ways, for example:
- by acquiring or creating know-how that is not in the public domain (see Control of an economic resource); or
- through an obligation of another party that arises because that other party has no practical ability to act in a manner inconsistent with its customary practices, published policies or specific statements (see opposite obligation in Liability – Constructive obligation).
Explanations as to sub (a): Rights with potential to produce economic benefits
This section has been included to avoid a limited application of the definition of an economic resource in IFRS accounting. The notion ‘right’ encompasses not merely legal rights but also access that an reporting entity controls in other ways, for example, by having the ability to keep know-how secret and thus prevent all other parties from directing its use and benefiting from it.
Explanation as to sub (b): Rights with potential to produce economic benefits
This is included to clarify that certain rights a reporting entity has do not necessarily create an economic resource for the reporting entity, resulting into a financial reporting event. The reporting entity and other parties all have the same rights to a certain benefit. It could be argued that such rights, for example, a right to access a road network, are, in principle, a resource for the reporting entity. However, including information about them in financial statements is unlikely to be useful, because they do not give the reporting entity access to greater economic benefits than those available to any other reporting entity.
3. Receipt and immediate consumption of goods and services
Some goods or services—for example, employee services—are received and immediately consumed. An reporting entity’s right to obtain the economic benefits produced by such goods or services exists momentarily until the reporting entity consumes the goods or services.
This explains that goods or services that are received and immediately consumed are momentarily rights to obtain economic benefits until they are consumed, at which point the consumption is recognised as an expense.
4. Rights are not necessarily assets of the reporting entity recording them
Not all of an reporting entity’s rights are assets of that reporting entity—to be assets of the reporting entity, the rights must both have the potential to produce for the reporting entity economic benefits beyond the economic benefits available to all other parties (see Potential to produce economic benefit) and be controlled by the reporting entity (see Control of an economic resource). For example, rights available to all parties without significant cost—for instance, rights of access to public goods, such as public rights of way over land, or know-how that is in the public domain—are typically not assets for the entities that hold them.
In assessing whether an item meets the definition of an asset, attention needs to be given to its underlying substance and economic reality and not merely its legal form. Thus, for example, in the case of finance leases, the substance and economic reality are that the lessee acquires the economic benefits of the use of the leased asset for the major part of its useful life in return for entering into an obligation to pay for that right an amount approximating to the fair value of the asset and the related finance charge. Hence, the finance lease gives rise to items that satisfy the definition of an asset and a liability and are recognised as such in the lessee’s balance sheet. Thus, the Framework stresses economic substance over legal form and reminds us that not all assets and liabilities will meet the criteria for recognition.
5. No right to obtain economic benefit exists from itself
An reporting entity cannot have a right to obtain economic benefits from itself. Hence:
- debt instruments or equity instruments issued by the reporting entity and repurchased and held by it for example, treasury shares—are not economic resources of that reporting entity; and
- if a reporting entity comprises more than one legal entity, debt instruments or equity instruments issued by one of those legal entities and held by another of those legal entities are not economic resources of the reporting entity.
This seems pretty obvious but for completeness it has to be dealt with, transactions consisting of a sale and purchase within the same legal entity (a) or between separate legal entities within the reporting entity (b) (i.e. in consolidated or combined financial statements) are netted because it does not result in a (new) economic resource. Based on this section intra-group transactions are eliminated on consolidation and for goods sold from one entity to another entity (within the reporting entity) still on stock in the other entity are assigned at cost of the first entity (intra-group profits are eliminated).
6. Separate asset and legal ownership several rights Rights with potential to produce economic benefits
In principle, each of an reporting entity’s rights is a separate asset. However, for accounting purposes, related rights are often treated as a single unit of account that is a single asset (see Unit of Account). For example, legal ownership of a physical object may give rise to several rights, including:
- the right to use the object; Rights with potential to produce economic benefits
- the right to sell rights over the object;
- the right to pledge rights over the object; and
- other rights not listed in (a)–(c). Rights with potential to produce economic benefits
This is a restriction caused by the enhancing qualitative characteristic Understandability. Separating each existing single right connected to an asset would cause the value of assets to become split into a (larger) number of interrelated financial reporting lines resulting in financial statements being less understandable, but also less comparable and verifiable.
7. Physical object versus set of rights
In many cases, the set of rights arising from legal ownership of a physical object is accounted for as a single asset. Conceptually, the economic resource is the set of rights, not the physical object. Nevertheless, describing the set of rights as the physical object will often provide a faithful representation of those rights in the most concise and understandable way.
Many assets, for example, property, plant and equipment, have a physical form. However, physical form is not essential to the existence of an asset; hence patents and copyrights, for example, are assets if future economic benefits are expected to flow from them to the reporting entity and if they are controlled by the reporting entity.
8. Uncertainty as to do rights exists?
In some cases, it is uncertain whether a right exists. For example, an reporting entity and another party might dispute whether the entity has a right to receive an economic resource from that other party. Until that existence uncertainty is resolved—for example, by a court ruling—it is uncertain whether the reporting entity has a right and, consequently, whether an asset exists.
In some cases, that uncertainty, possibly combined with a low probability of inflows or economic benefits and an exceptionally wide range of possible outcomes, may mean that the recognition of an asset, necessarily measured at a single amount, would not provide relevant information.
Whether or not the asset is recognised, explanatory information about the uncertainties associated with it may need to be provided in the financial statements.
In addition, the notion ‘right’ encompasses not merely legal rights but also access that an reporting entity controls in other ways, for example, by having the ability to keep know-how secret and thus prevent all other parties from directing its use and benefiting from it (i.e. receiving an increase of economic resources (or reduction of claims against the reporting entity)).