RECAPE LECTURE 8

RECAPE LECTURE 8

• A REVIEW OF FINANCIAL ACCOUNTING

• A FIELDS OF ACCOUNTING?

RECAPE LECTURE 8

1. FINANCIAL ACCOUNTING2. MANAGEMENT ACCOUNTING3. COST ACCOUNTING4. AUDITING

RECAPE LECTURE 8

• WHO INTERNAL AND EXTERNAL AUDITORS?

RECAPE LECTURE 8

• WHAT IS GAAP?

• GAPP MOST IMPORTANT PRINCIPLES?

RECAPE LECTURE 8

1. BUSINESS ENTITY2. GOING CONCERN3. CONSISTENCY4. MATERIALITY5. PRUDENCE

A REVIEW OF FINANCIAL ACCOUNTING

BUSINESS ENTITY

• WHEN ACCOUNTING TRANSACTIONS ARE RECORDED, EVERY BUSINESS OR ORGANIZATION IS TREATED AS A SEPARATE ENTITY. A SOLE TRADERSHIP HAS BUSINESS RECORD SEPARATE FROM THE OWNER’S PERSONAL RECORDS JUST AS A CORPORATION HAS RECORDS SEPARATE FROM ITS SHAREHOLDERS.

A REVIEW OF FINANCIAL ACCOUNTING

GOING CONCERN

• A GOING CONCERN IS A BUSINESS THAT IS EXPECTED TO OPERATE FOR AN INDEFINITE PERIOD OF TIME.

• THIS PRINCIPLE IS FOLLOWED IN PREPARING ACCOUNTING RECORDS UNLESS THERE IS EVIDENCE THAT THE BUSINESS IS EXPERIENCING DIFFICULTIES AND MAY CEASE OPERATING

A REVIEW OF FINANCIAL ACCOUNTING

GOING CONCERN

• A BASIC PRINCIPLE IN ACCOUNTING THAT ASSUMES A COMPANY WILL CONTINUE TO OPERATE IN THE FORSEEABLE FUTURE

• HOW WE WILL FIND THAT COMPANY HAS GOING CONCERN PROBLEM?

A REVIEW OF FINANCIAL ACCOUNTING

GOING CONCERN• EXAMPLES:1. DECISIONS IN BOD MEETING TO WIND UP

MAJOR PROJEST OR PRODUCT LINE2. EMPLOYEE WHO KNOW THE BUSINESS AND

WHO HAVE DEVELOPED STRONG BUSINESS RELATIONSHIPS WITH CUSTOMERS AND VENDORS

A REVIEW OF FINANCIAL ACCOUNTING

GOING CONCERN• EXAMPLES:

1. FIXED ASSETS – ON COST USUALLY

2. BUT IF PUT ON MARKET VALUE, THEN IT’S THE SIGN OF SELLING OR WINDING UP THE BUSINESS

A REVIEW OF FINANCIAL ACCOUNTING

GOING CONCERN

• FINANCIAL STATEMENTS ARE PREPARED ASSUMING THAT THE COMPANY IS A GOING CONCERN WHICH MEANS THAT THE COMPANY INTENDS TO CONTINUE ITS BUSINESS AND IS ABLE TO DO SO

• THE AUDITORS OF THE COMPANY DETERMINE WHETHER THE COMPANY IS A GOING CONCERN OR NOT AT THE DATE OF THE FINANCIAL STATEMENT

A REVIEW OF FINANCIAL ACCOUNTING

CONSISTENCY

• THE CONCEPT CONSISTENCY MEANS THAT ACCOUNTING METHODS ONCE ADOPTED MUST BE APPLIED CONSISTENTLY IN FUTURE.

• ALSO SAME METHODS AND TECHNIQUES MUST BE USED FOR SIMILAR SITUATIONS

A REVIEW OF FINANCIAL ACCOUNTING

CONSISTENCY

• IT IMPLIES THAT A BUSINESS MUST REFRAIN FROM CHANGING ITS ACCOUNTING POLICY UNLESS ON REASONABLE GROUNDS.

• IF FOR ANY VALID REASONS THE ACCOUNTING POLICY IS CHANGED, A BUSINESS MUST DISCLOSE THE NATURE OF CHANGE, THE REASON FOR THE CHANGE AND ITS EFFECTS ON THE ITEMS OF FINANCIAL STATEMENTS

A REVIEW OF FINANCIAL ACCOUNTING

CONSISTENCY

• CONSISTENCY CONCEPT IS IMPORTANT BECAUSE OF THE NEED FOR COMPARAABILITY THAT IS, IT ENABLES INVESTORS AND OTHER USERS OF FS TO EASILY AND CORRECTLY COMPARE THE FS OF A COMPANY

A REVIEW OF FINANCIAL ACCOUNTING

CONSISTENCY• EXAMPLES:1. DEPRECIATION2. BUILDINGS – REDUCING BALANCE METHOD/

STRAIGHT LINE METHOD3. VALUATION OF STOCK – DIFFERENT PRODUCTS4. FIFO METHOD, LIFO METHOD, WEIGHTED

AVERAGE METHOD

A REVIEW OF FINANCIAL ACCOUNTING

MATERIALITY

• INFORMATION IS MATERIAL IF ITS OMISSION OR MISSTATEMENT COULD INFLUENCE THE ECONOMIC DECISIONS OF USERS TAKEN ON THE BASIS OF THE FINANCIAL STATEMENT

A REVIEW OF FINANCIAL ACCOUNTING

MATERIALITY• INFORMATION CONTAINED IN THE FS MUST

THEREFORE BE COMPLETE IN ALL MATERIAL ASPECTS IN ORDER FOR THEM TO PRESENT A TRUE AND FAIR VIEW OF THE AFFAIRS OF THE ENTITY

• MATERIALTY IS RELATIVE TO THE SIZE AND PARTICULAR CIRCUMSTANCES OF INDIVIDUAL COMPANIES

A REVIEW OF FINANCIAL ACCOUNTING

MATERIALITY• EXAMPLE

• A DEFAULT BY A CUSTOMER WHO OWES ONLY RS 1000 TO A COMPANY HAVING NET ASSETS OF WORTH RS 10 MILLIONS IS IMMATERIAL TO THE FS OF THE COMPANY.

• HOWEVER IF THE AMOUNT OF DEFAULT WAS 2 MILLION, THE INFORMATION WOULD HAVE BEEN MATERIAL TO THE FS, OMISSION OF WHICH COULD CAUSE USERS TO MAKE INCORRECT BUSINESS DECISIONS

A REVIEW OF FINANCIAL ACCOUNTING

MATERIALITY• EXAMPLE

• IF A COMPANY IS PLANNING TO CURTAIL ITS OPERATIONS IN A GEOGRAPHIC SEGMENT WHICH HAS TRADIONALLY BEEN A MAJOR SOURCE OF REVENUE FOR THE COMPANY IN THE PAST, THEN THIS INFORMATION SHOULD BE DISCLOSED IN THE FS AS IT IS BY ITS NATURE MATERIAL TO UNDERSTANDING THE ENTITY’S SCOPE OF OPERATION IN THE FUTURE

A REVIEW OF FINANCIAL ACCOUNTING

PRUDENCE

• MEANS THAT NORMALLY ACCOUNTANT WILL TAKE THE FIGURE WHICH WILL UNDERSTATE RATHER THAN OVERSTATE THE PROFITS

• VERY OFTEN AN ACCOUNTANT HAS TO MAKE A CHOICE AS TO WHICH FIGURE HE WILL TAKE FOR A GIVEN ITEM.

A REVIEW OF FINANCIAL ACCOUNTING

PRUDENCE

• THE PRUDENCE CONCEPT MEANS THAT NORMALLY HE WILL TAKE THE FIGURE WHICH WILL UNDERSTATE RATHER THAN OVERSTATE THE PROFIT.

• ACCOUNT FOR ALL FUTURE LOSSES AND• DO NOT ACCOUNT FUTURE GAINS

A REVIEW OF FINANCIAL ACCOUNTING

PRUDENCE• EXAMPLES• LAW CASE IN A COURT, LEGAL ADVISOR VIEW

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