1. ACC402- Foundation Accounting 1
Week 2 – Lecture
Topic 1: The Accounting Environment- introduction of accounting elements and concepts

2. Lecture Objective
After the completion of this lecture, student should be able to:
Evaluate the applications of various concepts, conventions, principles and assumptions commonly adopted in accounting.
Determine the characteristics of financial reports of business organization
Explain the criteria use for identifying and recognition of assets, equities, revenues and expenses as stated in the conceptual framework.

3. Accounting Assumptions (Convention)
Is something which is generally accepted or taken for granted without a proof.
It serve as a boundary lines within which all accounting concepts are defined and within which profit and financial position are determined.
The accounting assumptions commonly accepted are:

4. Assumptions/Concepts/conventions
Going concern
Monetary
Accrual basis
Economic Substance
Disclosure
Accounting Period
Historical cost
Accounting
Equation
Matching
Double entry
Consistency
Legal entity
Accounting
Entity
Realization
Materiality
Objectivity
Conservatism/Prudence

5. Accounting Entity Assumption
It regards the business as being an entity or body separate from owners. As Accountants, we record the transactions from the viewpoint of the business and treat the owners as outsiders.Thus the business is the accounting entity.We keep the book of the business, not of the owners.The accounting entity may not always be the same as the legal entity, i.e the body which the law recognises as being responsible for debts and action of business

6. Monetary Assumption
It assumes that all transactions are recorded in the common monetary unit in use, i.e in dollars and cents. Thus transactions that cannot be quantified in financial terms are not recorded in the main records. Such items may simply be disclosed by way of a footnote to the financial reports.

7. Historical Assumption
Assumes that the business transactions are recorded in terms of their cost at the time the transaction occurred. It means that asset purchased a year ago are still recorded at their original cost even though their value is considerably higher now. This assumes that the dollar value remains unchanged over time. It is not true of course. It is now common practice to revalue assets regularly in order to overcome the deficiencies of historical cost.

8. Continuity (going concern)Assumption
It assumes that the business is going to continue its operations indefinitely and is not likely to be liquidated in the foreseeable future.

9. Accounting Period Assumption
It assumes that the life of the business is divided into arbitrary time periods.

10. Characteristics of Financial Reports
Relevance
It means applying the matter in hand. Therefore to be relevant an item must be meaningful, significant and / or substantial. For information to be relevant it must be assist users in decision making and evaluating decision. Also information is relevant if it confirms past information through feedback or helps to predict future information.

11. Reliability
To be reliable, financial information must be credible, trustworthy and dependable. It must faithfully represent events, and be free from bias and error. Accounting data is neutral or free from bias when it is not altered, influenced or designed to suit the needs of a particular individual or group of users. Information which is reliable is supported by adequate documentation such as source documents.

12. Materiality
It refers to the importance of an item to the particular entity. Information may be reliable and relevant, but for reporting purposes immaterial to the entity because of the relative size of the event, and so would not be reported. Materiality is a relative concept and so it needs to be determined with a particular organization in mind. What is material for one entity may be immaterial for another entity.

13. Comparability
It is desirable to compare aspects of an entity over a period of time. It is also desirable to compare one entity with others and/ or with industry averages at a point in time or over a period of time. Consistent measurement and display is important if proper comparability is to be achieved.

14. Understandability
Accountants should present information so that it is clear as possible without sacrificing relevance or reliability. Accounting is complex, and preparers should not misstate information by trying to over simplify its presentation. Given that preparers work under this assumption, users must exercise some diligence and proficiency in reviewing reports and seek advice where necessary

15. Basic Financial Elements of CF
The financial elements are fundamental to the preparation of the statement of financial position and the statement of financial performance. The five elements are:
Assets
Liabilities
Owners equity
Expenses
Revenues

16. Assets
Are service potential or future economic benefits controlled by the entity as a result of a past transaction. This definition has three elements.
To be an asset there must be some benefit that will accrue to the business in the future. For eg Motor vehicles will provide transport, and debtors will eventually turn into cash.
The benefit must come about as a result of a past transaction

17. Assets cont’…………
These benefit must be under the control of the business. This means the business must either be own or lease the asset so that the business has the right to decide how the asset will be used.

18. Liabilities
Are the future sacrifices of service potential or of future economic benefits that the entity is presently obliged to make to other entities as a result of a past transaction or other past events.
The definition has three elements:
The obligation must have come about as a result of a past transaction.
The obligation to make the sacrifice must exist at the date the liability is put on the statement of financial position.

19. Liabilities ………cont’
To be liability there must be a need to sacrifice economic benefits or service potential in the future. This means the business will be required to give up something in the future, usually cash. An eg repay mortgage in the future using cash generated by the business.

20. Owners equity
It consists of the residual interests in the assets of the entity after the deduction of its liabilities.

21. Expenses
Are consumptions or losses of service potential or future economic benefits in the form of reductions in assets or increases in liabilities of the entity other than those relating of reductions in assets or increases in liabilities of the entity other than those relating to the distributions to owners that result in a decrease in equity during the reporting period.

22. Revenues
Are inflows or other enhancements or savings in outflow of service potential or future economic benefits in the form of increases in assets or reductions in liabilities of the entity other than those relating to contributions by owners that result in an increase in equity during the reporting period.

23. ACCOUNTING SYSTEMS Two Basis Commonly Used:
Cash Basis Accounting System
Recording only cash transactions
No credits involved
‘cash’, ‘by cheque’, ‘paid’, ‘full settlement’, etc.
Accrual Basis System
Involves cash & credit transaction both
“debtor’s& creditors’ names’, ‘on Account”, ‘ credit’,etc.

24. Basic Financial Statements
Financial Position
Economic condition
Financial Performance
Operating efficiency
Cash flows
Operating activities
Investing activities
Financing activiti

25. BASIC FINANCIAL REPORTS
STATEMENT OF FINANCIAL POSITION
STATEMENT Of FINANCIAL PERFORMANCE
STATEMENT CHANGES IN
OWNERS EQUITY
STATEMENT Of CASH FLOW
STATEMENT of DISCLOSURE NOTES

26. The Elements in Balance Sheet
Assets
Resources controlled by the entity as a result of past transactions or events from which future economic benefits are expected to flow to the entity
Liabilities
Present obligations of an entity arising from past transactions or events, the settlement of which is expected to result in an outflow of resources from the entity

27. The Elements in Balance Sheet (cont’d)
Equity
The residual interest of the owner/s in the assets (less liabilities) of the entity
Assets - Liabilities = Equity or
Net Assets = Equity

28. Assets = Liabilities + Equity
STATEMENT OF FINANCIAL POSITION - The Balance Sheet Presentation (T-Account Format)
DON’S AUTO REPAIRS
Balance Sheet
as at 30 June 2007
ASSETS LIABILITIES
Cash at Bank $ Accounts payable $
Accounts receivable Mortgage payable
Repair supplies
Repair equipment
Land EQUITY
Building Don Brady, Capital
$ $
Assets = Liabilities + Equity

29. Assets – Liabilities = Equity
Balance Sheet - Vertical Format
ASSETS
Cash at Bank $
Accounts receivable
Repair supplies
Repair equipment
Land
Building
TOTAL ASSETS
LIABILITIES
Accounts payable
Mortgage payable
TOTAL LIABILITIES
NET ASSETS $
EQUITY
Don Brady, Capital
TOTAL EQUITY $
Assets – Liabilities = Equity

30. The Elements in Income Statement
Inflows of or savings in outflows of economic benefits that result in an increase in equity during the reporting period
Expenses
Decreases in equity representing the consumption or loss of economic benefits in the form of reductions in assets or increases in liabilities other than distributions to owners

31. Statement of Financial Performance - The Income Statement
DON’S AUTO REPAIRS
Income Statement
for the year ended 30 June 2007
INCOME
Repair revenue $
EXPENSES
Advertising expense $
Repair supplies expense
Salaries and wages expense
Rent expense
Telephone expense
Light and Power expense
PROFIT $

32. Statement of Changes in Equity
DON’S AUTO REPAIRS
Statement of Changes in Equity
for the year ended 30 June 2007
Don Brady, Capital - 1 July $
Net profit for the year
Less: Drawings
Don Brady, Capital - 30 June $

33. Thank you 