Year 12 Accounting Concepts Notes 15/10/2015 Accounting concepts Mr. Barry A-level Accounting Year 12 MR. BARRY

Year 12 Accounting Concepts Notes 15/10/2015 Learning objectives Describe the assumptions that are made when recording accounting data Explain what accounting standards are and why they exist Explain how the concepts of accounting affect the recording and adjustment of accounting data Mr. Barry A-level Accounting Year 12 MR. BARRY

Year 12 Accounting Concepts Notes 15/10/2015 So far… Recording has been based on certain assumptions which have deliberately not been discussed in detail. Mr. Barry A-level Accounting Year 12 MR. BARRY

Year 12 Accounting Concepts Notes 15/10/2015 Standards… What does it mean? Mr. Barry A-level Accounting Year 12 MR. BARRY

Year 12 Accounting Concepts Notes 15/10/2015 Standards… Businesses are often owned by more than just one person and the accounting statements produced are used by all. If the financial statements were solely for the use of the owner then there would be no need to adopt a common framework for the presentation of the information contained within them. Mr. Barry A-level Accounting Year 12 MR. BARRY

Year 12 Accounting Concepts Notes 15/10/2015 Mr. Barry A-level Accounting Year 12 MR. BARRY

One set of final accounts for all purposes Year 12 Accounting Concepts Notes 15/10/2015 One set of final accounts for all purposes Standardisation means that no matter which stakeholders want to see the financial statements they all see the same documents. What problems are there with this? What benefits are there which outweigh the problems? Mr. Barry A-level Accounting Year 12 MR. BARRY

Year 12 Accounting Concepts Notes 15/10/2015 A matter of trust Because everyone receives the same trading and profit and loss account and balance sheet, in order to be of any use, all the various stakeholders have to believe that the assumptions upon which the financial statements are founded are based are valid and appropriate. If they don’t they wont trust the financial statements. Mr. Barry A-level Accounting Year 12 MR. BARRY

Year 12 Accounting Concepts Notes 15/10/2015 Activity What would you value your text books at? How would you value them? How have you come to a consensus? Mr. Barry A-level Accounting Year 12 MR. BARRY

Objectivity and subjectivity Year 12 Accounting Concepts Notes 15/10/2015 Objectivity and subjectivity Valuing the books at what price you paid for them (based upon factual occurrence) is valuing assets objectively Valuing the books at what you perceive to be their value (usefulness for exams) is subjective. Subjective valuations seem right to the person who makes them but most other people would probably disagree with the value arrived at, because they may not see it as being objectively based. Mr. Barry A-level Accounting Year 12 MR. BARRY

Underlying accounting concepts Year 12 Accounting Concepts Notes 15/10/2015 Underlying accounting concepts The historical concept: Assets are normally shown at cost price, and that this is the basis for the valuation of the asset the business entity concept: The affairs of the business are to be treated as being quite separate from the non-business activities of the owners The items recorded in the books of the business are, therefore, restricted to the transactions of the business. Activities of the owners are completely disregarded Why? The dual aspect concept: There are two aspects of accounting, one represented by the assets of the business and the other by the claims against them. The concept states that these two aspects are always equal to each other Mr. Barry A-level Accounting Year 12 MR. BARRY

Underlying accounting concepts Year 12 Accounting Concepts Notes 15/10/2015 Underlying accounting concepts the time interval concept: Financial statements are prepared at regular intervals of the year. For internal management purposes they may be prepared far more frequently Why? Mr. Barry A-level Accounting Year 12 MR. BARRY

Fundamental accounting concepts Year 12 Accounting Concepts Notes 15/10/2015 Fundamental accounting concepts These comprise a set of concepts so important that they have been enforced through accounting standards/companies act Mr. Barry A-level Accounting Year 12 MR. BARRY

Fundamental accounting concepts Year 12 Accounting Concepts Notes 15/10/2015 Fundamental accounting concepts Going concern concept Implies that the business will continue to operate for the foreseeable future. It means that it is considered sensible to keep to the use of the historical cost concept when arriving at the valuations of assets. What would happen if this concept was not used? Mr. Barry A-level Accounting Year 12 MR. BARRY

Year 12 Accounting Concepts Notes 15/10/2015 Going concern concept A business drawing up their accounts on 31st December 2008. normally using the historical cost concept, the assets would be valued at £100,000. But it is known that the business will be forced to close down on February 2009 and the assets are expected to be sold for £15,000 In this case it would not make sense to keep to the going concern concept and so have to reject the historical cost concept. In the balance sheet at 31st Dec 2008 the assets will be shown as £15,000 Mr. Barry A-level Accounting Year 12 MR. BARRY

Examples where the going concern assumption should be rejected are: Year 12 Accounting Concepts Notes 15/10/2015 Examples where the going concern assumption should be rejected are: If the business is going to close down in the near future Where shortage of cash makes it almost certain that the business will have to cease trading Where a large part of the business will almost certainly have to be closed down because of a shortage of cash Mr. Barry A-level Accounting Year 12 MR. BARRY

Fundamental accounting concepts Year 12 Accounting Concepts Notes 15/10/2015 Fundamental accounting concepts Consistency: When a business has fixed a method for the accounting treatment of an item, it will enter all similar items that follow in exactly the same way (some concepts open to interpretation Each business should try to choose the method that gives the most reliable picture of the business. This cannot be achieved if one method is used one year and another the following year Mr. Barry A-level Accounting Year 12 MR. BARRY

Fundamental accounting concepts Year 12 Accounting Concepts Notes 15/10/2015 Fundamental accounting concepts Prudence: It is the accountants duty to see that people get the proper facts about a business. They should make certain that assets are not valued too highly and liabilities to low. Otherwise someone may unadvisedly lend money to the business The accountant should always show caution when dealing with uncertainty and make sure that financial statements are neutral. That gains and losses are not overstated and understated. This is known as prudence Mr. Barry A-level Accounting Year 12 MR. BARRY

Year 12 Accounting Concepts Notes 15/10/2015 Activity 10.2 Do you agree with the view that the prudence concept results in accountants producing financial statements that understate profits and gains and therefore present a value for capital that is lower than it should be? Justify your answer Mr. Barry A-level Accounting Year 12 MR. BARRY

Fundamental accounting concepts Year 12 Accounting Concepts Notes 15/10/2015 Fundamental accounting concepts Realisation: Profit and gains can only be taken into account when realisation has occurred and that realisation occurs when the ultimate cash realised is capable of being assessed with reasonable certainty. Recognising profit and gains now that will be 100% known in future periods is unlikely to mean that the correct amount has been recognised. Misjudgements can arise when for example, profit is recognised in one period, only to discover later that this was incorrect because the goods involved have been returned in a later period because of defieciency Mr. Barry A-level Accounting Year 12 MR. BARRY

Fundamental accounting concepts Year 12 Accounting Concepts Notes 15/10/2015 Fundamental accounting concepts Accruals concept: Determining the expenses used up to obtain the revenues is referred to as matching expenses against revenues. The key to the application of the concept is that all income and charges relating to the financial period should be taken into account without regard to the date of the receipt of payment Mr. Barry A-level Accounting Year 12 MR. BARRY

Fundamental accounting concepts Year 12 Accounting Concepts Notes 15/10/2015 Fundamental accounting concepts Materiality: Do not waste your time in the elaborate recording of trivial items If a box of paperclips was bought it would be used up over a period of time, and this cost is used up every time someone used a paper-clip. It is possible to record this as an expense every time a paper-clip is used but obviously, the price of a paper-clip is so small that it is not worth recording in this fashion, nor is the entire box of paperclips. The paper-clips are not a material item and therefore the box would be charged as an expense in the period it was bought, irrespective of the fact that it could last for more than one accounting period Mr. Barry A-level Accounting Year 12 MR. BARRY