This document discusses key accounting concepts and principles: - The business entity concept treats the business and its owners as separate entities. - The historical cost principle records assets at their original cost rather than current value. - The matching principle recognizes revenues when earned and expenses when incurred to match revenues with related expenses over the same period. - The materiality concept means that only significant items are disclosed separately in financial statements.

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Accounting ConceptsAccounting Concepts
and Principlesand Principles
By; Prof. Snawer GillBy; Prof. Snawer Gill
MS-FinanceMS-Finance

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Introduction
• Actually there are a number of accounting
concepts and principles based on which we
prepare our accounts
• These generally accepted accounting
principles (GAAP) lay down accepted
assumptions and guidelines and are
commonly referred to as accounting
concepts

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Users of Financial Statements
• Investors
– Need information about the profitability, dividend yield
and price earnings ratio in order to assess the quality
and the price of shares of a company
• Lenders (Banks etc)
– Need information about the profitability and solvency of
the business in order to determine the risk and interest
rate of loans
• Management
– Need information for planning, policy making and
evaluation
• Suppliers and trade creditors
– Need information about the liquidity of business in
order to access the ability to repay the amounts owed to
them

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• Government
– Need information about various businesses for statistics
and formulation of economic plan
• Customers
– Interested in long-tem stability of the business and
continuance of the supply of particular products
• Employees
– Interested in the stability of the business to provide
employment, fringe benefits and promotion opportunities
• Public
– Need information about the trends and recent
development

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Accounting ConceptsAccounting Concepts

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Business EntityBusiness Entity

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Business Entity
• Meaning
– The business and its owner(s) are two
separate existence entities (bodies)
– Any private and personal incomes and
expenses of the owner(s) should not be
treated as the incomes and expenses of
the business

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• Examples
– Insurance premiums for the owner’s
house should be excluded from the
expense of the business
– The owner’s property should not be
included in the premises account
(Assets) of the business
– Any payments for the owner’s personal
expenses by the business will be treated
as drawings and reduced the owner’s
capital contribution in the business

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Money MeasurementMoney Measurement

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Money Measurement
• Meaning
– All transactions of the business are
recorded in terms of money
– In accounting, the record of that
transaction is made that is measurable
into money.
• Examples
• Value of assets and goods will be
recorded,
• Wining of a price will not be
recorded

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Going ConcernGoing Concern

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Going Concern
• Meaning
– The business will continue in operational
existence for the foreseeable future
– Financial statements should be prepared
on a going concern basis unless
management either wants to dissolve
the business.

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• Example
– Owner of the business must provide
finance as needed to keep the business
alive.
– Proverb
“Sale a House for Shop”

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Historical CostHistorical Cost

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Historical Cost
• Meaning
– Assets should be shown on the balance sheet
at the cost of purchase instead of current
value.
• Example
– The cost of fixed assets is recorded at the date of acquisition cost.
– if business purchases a building for Rs.500,000, it will be
recorded in books at Rs. 500,000 even its market value at that
time may be Rs. 600,000/-

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Prudence/ConservatismPrudence/Conservatism

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Prudence/Conservatism
• Meaning
– The prudence concept mean to prevent to be overstated. If
profit is overstated, a trader may believe that his income is
more than it really is, and he may withdraw too much money
from business. That will decrease the capital injected in
business.

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• Example
– Stock valuation sticks to rule of the
lower of cost and net realizable value
– The provision for doubtful debts should
be made
– Fixed assets must be depreciated over
their useful economic lives

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MaterialityMateriality

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Materiality
• Meaning
– Immaterial amounts may be aggregated
with the amounts of a similar nature or
function and need not be presented
separately
– Materiality depends on the size and
nature of the item

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• Example
– Small payments such as postage, stationery
and cleaning expenses should not be disclosed
separately. They should be grouped together
as sundry expenses

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ObjectivityObjectivity

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Objectivity
• Meaning
– The accounting information should be
free from bias and capable of
independent verification
– The information should be based upon
verifiable evidence such as invoices or
contracts

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• Example
– The recognition of revenue should be
based on verifiable evidence such as the
delivery of goods or the issue of
invoices

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ConsistencyConsistency
(uniformity)(uniformity)

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Consistency
• Meaning
– Companies should choose the most suitable
accounting methods and treatments, and
consistently apply them in every period
– Transactions of similar nature should be recorded
in the same accounting and in all future accounting
periods.

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• Examples
– If a company adopts straight line
method and should not be changed to
adopt reducing balance method in other
period
• the cost of recording building should
always be debited to expense
account.

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Accruals/MatchingAccruals/Matching

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Accruals/Matching
• Meaning
– Revenues are recognized when they are earned, but not
when cash is received
– Expenses are recognized as they are incurred, but not
when cash is paid

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• Example
– Expenses incurred but not yet paid in current period should
be treated as accrual/accrued expenses under current
liabilities
– Mr. A pays rent of Rs. 2000 per month. In November, he has
paid Rs. 3,000, So, he will record rent expense as Rs. 2000.
November:
Rent paid = 3,000
Less prepaid = 1,000
2,000

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RealizationRealization

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Realization
• Meaning
• Revenues should be recognized when
the major economic activities have
been completed
• Sales are recognized when the goods
are sold and delivered to customers.

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Example;
• Mr. Rana places an order to Mr. Gill for
supply of goods. But, goods are delivered
by Mr. Gill in the next month. So, sales will
be recorded at that time when goods are
delivered and payment is made.

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DualityDuality
(Dual Aspect Concept)(Dual Aspect Concept)

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Relevance
• Meaning
– This concept tell us that there are two
aspects for each transaction represented
by Dr and Cr, This concept is the basis of
accounting equation;
assets = liabilities + capital

37. Example
• Mr. Rana started business with cash
Rs. 30, 000;
Cash (assets) 30,000
to Capital (liability) 30,000
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Substance over FormSubstance over Form

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Substance over Form
• Meaning
 Substance over form is the treatment
according to the transaction. So that
the real effect of the transaction on
the business is recorded.

40. Example
• A machine is purchased on hire
purchase (installment basis) remains
the property of the seller until the
final installment has been paid. If
the purchaser fails to pay the
installments, the seller may claim the
machine.
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