PRINCIPLES OF ACCOUNTING PBBS 203

LECTURER:

RICHARD AMANKWA FOSU

History of Accounting • Evidence of accounting records can be found in the

Babylonian Empire (4500 B.C.), in pharaohs' Egypt and in the Code of Hammurabi (2250 B.C.).

• Modern Accounting owes its origin to an Italian named Luca Pacoili. In 1494, Pacioli published his famous book "Summa de Arithmetica, Geometria, Proportioni et Proportionalita" (The Collected Knowledge of Arithmetic, Geometry, Proportion and Proportionality). One section of this book was dedicated to the description of double-entry accounting.

History of Accounting • There would be little modification to Pacioli's system

for the next 500 years.

• The present day trial balance did not get its form until 1868 and the income statement was developed before World War II.

• In the 1980s, statements of financial position were developed with the purpose to provide relevant "information about the operating, financing, and investing activities of an enterprise and the effects of those activities on cash resources" .

Definition of Accounting • It is the art of recording, classifying and summarizing

in a significant manner and in terms of money, transactions and events which are, in part at least, of financial character and interpreting the results thereof

• It is the process of identifying, measuring and communicating economic information to permit informed judgements and decisions by users of the information.

Definition Cont.

• It is the art of recording, classifying, summarising and communicating financial information

The Objectives of Accounting • To keep systematic records

• To protect business property

• To ascertain the operational profit or loss

• To Provide information on a business’ financial

position - what businesses own, what they owe

• To facilitate rational decision making – accounting

helps people make better decisions, including

assessing opportunities, products, investments etc.

Stages in Accounting

1. Identification and recording of financial characters

in business transactions. Example of transaction

include sale of goods, purchase of goods, receipt

and payment of money, incurring expenses etc

2. The recording is done in such a way as to identify

the different types and classes of transactions. For

example sales of goods are recorded separately

from the purchase of goods

Stages in Accounting Cont. 3. The records are summarised in such a way as

to show the overall effect of the transactions to the owners of the business and others. The summary, which normally is in a statement will show the profit or loss made by the entity over a period of time and the total capital employed by the entity.

4. Management and others use the statement showing the profit or loss and capital to make business decisions

Scope of Accounting Accounting statements are presented in monetary terms and therefore capture only items which have monetary values.

Accounting information may cover varied areas as

• Profit earned by a business or its department or division in a period

• Assets and liabilities of a business at a period or date

Scope of Accounting Cont. • Cost of producing and/or selling a particular

product or range of products

• Cost of running a particular department or division

• Amount of cash coming into or leaving the business over a defined period

Purposes / Merits of Financial Statements • It provides relevant information which forms

the basis for decision making and actions by users of Accounting information

• Financial Statements help management discharge their steward function effectively

• Depicts the financial progress and position of an entity

• Helps to settle claims

• It uses standards which allows uniformity in financial reporting

Accounting Standards • Accounting Standards are pronouncements

made by standard setters which are expected to be used in the preparation of financial statements.

• The standard setters include Ghana National Accounting Standards Board (GNASB), Accounting Standards Board (ASB) in the U.K, Financial Accounting Standards Board (FASB) in the U.S.

Accounting Standards Cont.

• The International Accounting Standards Board (IASB)

• Professional accounting bodies which are members of International Federation of Accountants (IFAC) such as ICA (Ghana), ACCA, ICA(Eng &Wales), AICPA, ICA(Scotland), etc.

• Standards are not static; but are revised continuously to suit changing business environment.

Components of Financial Statements

• Statement of Financial Position (Balance Sheet)

• Statement of Comprehensive Income (Income statement / Profit or Loss)

• A Statement of changes in equity

• A Cash flow statement

• Notes, made up of a summary of significant accounting policies and other explanatory notes

Characteristics of Financial Statements

Fundamental Qualitative Characteristics

• Relevance

• Materiality

• Faithful Representation

Enhancing Qualitative Characteristics

• Comparability

• Verifiability

• Timeliness

• Understandability

Fundamental Characteristics

• Relevance: relevant financial information is capable of making a difference in the decisions made by users

• financial information is capable of making a difference in decisions if it has predictive value, confirmatory value or both

– Financial information has a predictive value if it can be used as an input to processes employed by users to predict future outcomes

Fundamental Characteristics Cont.

• Financial information has confirmatory value if it provides feedback about(confirms or changes) previous evaluations

• Materiality : information is material if omitting it or misstating it could influence decisions that users make on the basis of financial information about a specific reporting entity

• Materiality is an entity-specific aspect of relevance based on the nature or magnitude, or both

Fundamental Characteristics Cont. • Faithful Representation: financial reports

represents economic phenomenon in words and numbers. To be useful, financial information must not only represent relevant phenomenon, but it must also faithfully represent the phenomenon that it purport to represent.

• To be a perfectly faithful representation, a depiction would have three characteristics.

• It should be complete, neutral and free from error

Enhancing Characteristics • Comparability is the qualitative characteristic that

enables users to identify and understand similarities in, and differences among, items

• Verifiability means that different knowledgeable and independent observers could reach consensus, although not necessarily complete agreement, that a particular depiction is a faithful representation.

• Timeliness means having information available to decision-makers in time to be capable of influencing their decisions

• Understandability means classifying, characterising and presenting information clearly and concisely makes it understandable

• Financial reports are prepared for users who have reasonable knowledge of business and economic activities

Enhancing Characteristics cont.

• They are based on historical or out of date information and may not reflect the current or future thinking about the business.

• It involves making subjective judgements and estimates.

• Accounting Concepts and Standards have impact on figures used in the financial statement

• Information provided may be legal requirement by legislature or accounting standard.

Limitations of Financial statements

• They provide only financial information about the business. Information such as quality of product, delivery time, customer service etc maybe needed by internal users.

• They tend to include information which can be measured in monetary terms. Information like skills of workforce are ignored

• They tend to ignore information on major external factors which may impact on the business. For example a change in government policy

Limitations cont.

• To Establish accountability for the assets and liabilities under an individual’s control

• To keep track of routine business activities such balances at bank, amounts due from creditors, amount owed to suppliers etc

• To obtain detailed information about a particular transaction

• To evaluate the efficiency and performance of various departments within the entity

• To maintain documentary evidence of the entity’s business activities

Role of Accounting Records/Accountants

Different groups have direct or indirect interest in a business organization and for that matter accounting information. These groups include:

• Management – Need information for their decision making, planning, control and performance evaluation functions. Will be interested in the analysis of revenues and expenses. This will provide useful information for plan formulation and

decision making. They are considered internal users

Users of Financial Statements

• Employees and their trade Union Representatives – they are interested in the profitability, stability as well as the vulnerability and potential of the business to ensure continuous safe employment and promotion through growth over a period of time.

Users of Financial Statements

• The Equity Investor Group: existing and potential shareholders / investors. The shareholders want to know how management have used their funds to grow the business or otherwise.

• The Analyst Advisory Group: Includes financial analysts, journalists, credit-rating agencies, advisors, brokers, commentators & other groups of advisory

services. Interested in general financial performance of business and future prospects for use by media, investors, competitors , etc.

Users of Financial Statements

• Lenders – these include both short term and long term lenders. Banks, suppliers of raw materials etc. They are interested in the business’s creditworthiness and long term solvency

• Government agencies / Regulators – They may use the information to collect statistical data to reveal trends with the entity and for Revenue Authorities, to calculate or verify the entity’s tax obligation

Users of Financial Statements Cont.

• The Business contact group – Customers may use the information to assess the validity of the company if a long term contract is to be placed. Competitors may also want the information for comparison and industry espionage.

• External Auditors – They may want to use the information from competing entities to assess the reasonableness of their report on a client

Users of Financial Statements Cont.

• The Public – The local community in which the company operates may want to know the relationship between the entity’s profitability as against how much they are investing in the community as social responsibility.

Users of Financial Statements

• Among all these users identified, it is only Management who may be described as internal users of accounting information.

• All the others (including employees) may be described as external users.

• Employees are considered part of the external users because, their interests are normally represented by their labour unions who are usually outside the organisations where they work. E.g. UTAG representing lecturers, GPRTU representing drivers, etc.

Users of Financial Statements Cont.

Branches of Accounting

Branches

09/02/2016 Larry 31

ACCOUNTING

FINANCIAL ACCOUNTING

MANAGMENT ACCOUNTING

TAX ACCOUNTING

Branches of Accounting

Financial accounting is the preparation of

financial statements summarizing past events,

usually in the form of profit and loss accounts and

balance sheets.

These historic statements are mainly of interest to

outside parties such as investors, loan providers

and suppliers

Management accounting

• The provision of much more detailed information about current and future planned events to allow management to carry out their roles of planning, control and decision-making and performance evaluation.

• Cost Accounting and Responsibility Accounting are two significant parts of Management Accounting.

Branches of Accounting

Tax Accounting

• Financial Statements are prepared using GAAP. Accounting standards allow flexibility in the treatment of different items which may not be acceptable to the tax authorities.

• The preparation of tax returns has become a specialized field.

• Tax planning requires the thorough knowledge of the tax laws

Branches of Accounting

• Objectives – Financial Accounting is designed to provided information to outsiders like shareholders, creditors, investors, Government agencies etc Management accounting provides information principally for internal use by management.

Differences btw management acct. and Financial Accounting

• Analysing Performance – Financial accounting provides the position of the business as a whole. Management Accounting focuses on various divisions, departments and other units and report on their performance and profitability or otherwise. Management Accounting provides detailed analytical data for management decision making.

Differences btw management acct. and Financial Accounting

• Data Used – Financial Accounting is concerned with the monetary record of past events. It more of a post-mortem analysis of historical events. Management Accounting uses historical and current data but focuses more on the future in its analysis and decision making.

Differences btw management acct. and financial Accounting

• Monetary Measurement – Financial Accounting considers only economic events that can be captured in money. Management Accounting gathers non monetary economic data in addition to the monetary data e.g. technical innovations, human resources, etc

Differences btw management acct and Financial Accounting

• Periodicity of Reporting – The period for reporting is much longer in Financial Accounting (yearly, half yearly) compared to Management Accounting (weekly, fortnightly or monthly).

• Precision – Financial Accounting reporting has to be precise and follow certain laid down guidelines, Management Accounting need not be very precise but rather timely

Differences btw management acct and Financial Accounting

7. Nature – Financial Accounting is more objective whiles Management Accounting is more subjective.

8. Legal Requirement – Financial Accounting has become more of a legal / regulatory requirement whiles there is no or minimal such requirement for Management Accounting.

Differences

1. Discuss the roles of accounting records in an organisation

2. Select any four users of accounting information and discuss the type of accounting information they would require and why?

3. What are the characteristics of Accounting information?

4. What are the differences between Financial and Management Accounting?

Questions

3. The following letter has been received from a client:

I gave my bank manager those audited accounts you prepared for me last year. But he says he would require more information before he will agree to increase my overdraft.

What could he possibly want to know that he can’t get from those accounts? If they are not good enough, why bother to prepare them?

Questions

IFRS Terminologies