1. Accounting ConceptsAccounting Concepts
and Principlesand Principles
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2. Introduction
 In order to maintain uniformity and
consistency in preparing and maintaining
books of accounts, certain rules or
principles have been evolved. These
rules/principles are classified as concepts
and conventions.
These are foundations of preparing and
maintaining accounting records.
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3. 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
– 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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4. • 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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5. Limitations of conventional
financial statements
Companies may use different methods of
valuation, cost calculation and recognizing
profit
The balance sheet does not reflect the
true worth of the company
Financial statements can only show partial
information about the financial position of
an enterprise, instead of the whole picture
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6. Accounting ConceptsAccounting Concepts
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7. Accounting Concepts
• Business Entity Concept
• Money Measurement Concept
• Going Concern Concept
• Accounting Period Concept
• Accounting Cost Concept
• Dual Aspect Concept
• Concept of Objectivity
• Realization Concept
• Accrual Concept
• Matching Concept
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8. Accounting PrinciplesAccounting Principles
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9. • Full Disclosure
• Materiality
• Uniformity/ Consistency
• Prudence/ Conservatism
• Substance over form
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10. Business EntityBusiness Entity
ConceptConcept
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11. Meaning
This concept assumes that, for accounting
purposes, the business enterprise and its
owners are two separate independent
entities.
Thus, the business and personal
transactions of its owner are separate.
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12. • 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 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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13. Money MeasurementMoney Measurement
ConceptConcept
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14. Money Measurement
• Meaning
All transactions of the business are
recorded in terms of money
It provides a common unit of
measurement
• Examples
Market conditions, technological
changes and the efficiency of
management would not be disclosed in
the accounts
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15. Going ConcernGoing Concern
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16. Going Concern
• Meaning
This concept states that a business firm
will continue to carry on its activities
for an indefinite period of time.
Simply stated, it means that every
business entity has continuity of life.
Thus, it will not be dissolved in the near
future.
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17. Significance
This concept facilitates preparation of financial
statements.
 On the basis of this concept, depreciation is charged
on the fixed asset.
 It is of great help to the investors, because, it assures
them that they will continue to get income on their
investments.
 In the absence of this concept, the cost of a fixed
asset will be treated as an expense in the year of its
purchase.
 A business is judged for its capacity to earn profits in
future.
 Prepaid expenses shown an asset side of Balance
sheet on the assumption that the business will
continue for a long time.
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18. Limitations- Going Concern not
useful under following circumstances -
 When the business objectives is likely to
be achieved in near future. Eg: business
undertaken for a specific project work like
construction of a building.
 When a business is passing through
financial crisis
 When a liquidator is appointed for
liquidation of a company.
 When an industrial unit is declared sick.
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19. Accounting PeriodAccounting Period
ConceptConcept
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20. Meaning
 This concept assumes that, indefinite life of
business is divided into parts. These parts are
known as Accounting Period.
 It may be of one year, six months, three months,
one month, etc. But usually one year is taken as
one accounting period which may be a calendar
year or a financial year.
 This concept requires that a balance sheet and
profit and loss account should be prepared at
regular intervals.
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21. • Significance
It helps in predicting the future prospects
of the business.
It helps in calculating tax on business
income calculated for a particular time
period.
 It also helps banks, financial institutions,
creditors, etc to assess and analyse the
performance of business for a particular
period.
 It also helps the business firms to
distribute their income at regular intervals
as dividends.
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22. Accounting CostAccounting Cost
ConceptConcept
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23. Accounting 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. The
acquisition cost includes all expenditure
made to prepare the asset for its
intended use. It included the invoice
price of the assets, freight charges,
insurance or installation costs 23

24. Dual Aspect ConceptDual Aspect Concept
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25. • Every transaction has dual effects
• Assets of a business are always equal
to the claims of owners and outsiders
• Every transaction has an equal impact
on assets and liabilities in such a way
that total assets are always equal to
total liabilities.
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26. Fundamental Accounting
Equation
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27. Concept of ObjectivityConcept of Objectivity
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28. 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
vouchers.
 Eg: Any cash received should be
supported by a receipt.
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29.  For any transaction for which
vouchers are not available like
depreciation and bad debt reserve, a
note on policy decisions of
management should be accepted as an
evidence.
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30. Realization Cost/Realization Cost/
Revenue RecognitionRevenue Recognition
ConceptConcept
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31. Meaning
 This concept states that revenue from any business
transaction should be included in the accounting
records only when it is realised.
 The term realisation means creation of legal right to
receive money.
 Selling goods is realisation, receiving order is not.
 In other words, it can be said that revenue is said to
have been realised when cash has been received or
right to receive cash on the sale of goods or services
or both has been created.
 Sales are recognized when the goods are sold and
delivered to customers or services are rendered.
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32. Recognition of revenue
 Revenue is said to have been realized when cash
has been received or right to receive cash on sale
of goods or services or both has been created
 The concept provides that revenues are
recognized when it is earned, and not when money
is received
 A receipt in advance for the supply of goods
should be treated as prepaid income under
current liabilities
 Since revenue is a principal component in the
measurement of profit, the timing of its
recognition has a direct effect on the profit
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33. • Example
– Goods sent to our customers on sale or
return basis
– This means the customer do not pay for
the goods until they confirm to buy. If
they do not buy, those goods will return
to us
– Goods on the ‘sale or return’ basis will
not be treated as normal sales and
should be included in the closing stock
unless the sales have been confirmed by
customers
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34. Exceptions to rule of sales
recognition
1. Long-term contracts
Owning to the long duration of long-term
contracts, part of the total profit estimated to
have been arisen from the accounting period
should be included in the profit and loss account
1. Hire Purchase Sale
Hire purchase sales have long collection period.
Revenue should be recognized when cash
received rather than when the sale (transfer of
ownership) is made
–The interest charged on a hire purchase sale
constitutes the profit of transaction
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35. 3. Gold
• Revenue from gold is said to be
recognized during the period when
its production is completed and not
when it is sold, as sale is certain.
4. Accounts maintained on cash basis
• Professionals like doctors,
advocates, etc recognize revenue
only when the amount of fee is
received in cash.
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36. Accrual ConceptAccrual Concept
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37. Meaning
 The meaning of accrual is something that
becomes due especially an amount of
money that is yet to be paid or received at
the end of the accounting period.
 The accrual concept makes a distinction
between the actual receipt of cash and the
right to receive cash as regards revenue
and actual payment of cash and obligation
to pay cash as regards expenses.
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38. All the expenses should be
recognized when they become
payable and not when actual cash is
paid
All the incomes should be recognized
when they become receivable and not
when actual cash is received.
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39. Matching ConceptMatching Concept
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40. Meaning
 The matching concept states that the
revenue and the expenses incurred to earn
the revenues must belong to the same
accounting period.
For determining income of a year only that
expenses which have been incurred to earn
that revenue should be taken into account.
The net income for the period is determined
by subtracting expenses incurred from
revenues earned.
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41. • Example
– Expenses incurred but not yet paid in
current period should be treated as
accrual/accrued expenses under current
liabilities
– Expenses incurred in the following
period but paid for in advance should be
treated as prepayment expenses under
current asset
– Depreciation should be charged as part
of the cost of a fixed asset consumed
during the period of use
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42. Recognition criteria for
expenses
• Association between cause and effect
– Expenses are recognized on the basis of a
direct association between the expenses
incurred on the basis of a direct association
between the expenses incurred and revenues
earned
– For example, the sales commissions should be
accounted for in the period when the products
are sold, not when they are paid
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43. • Systematic allocation of costs
– When the cost benefit several accounting
periods, they should be recognized on the basis
of a systematic and rational allocation method
– For example, a provision for depreciation
should be made over the estimated useful life
of a fixed asset
• Immediate recognition
– If the expenses are expected to have no
certain future benefit or are even without
future benefit, they should be written off in
the current accounting period, for example,
stock losses, advertising expenses and
research costs
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44. Accounting PrinciplesAccounting Principles
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45. Full DisclosureFull Disclosure
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46. Meaning
Financial statements should be prepared
to reflect a true and fair view of the
financial position and performance of
the enterprise
All material and relevant information
must be disclosed in the financial
statements
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47. MaterialityMateriality
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48. 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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49. • Example
Small payments such as postage,
stationery and cleaning expenses should
not be disclosed separately. They should
be grouped together as sundry expenses
The cost of small-valued assets such as
pencil sharpeners and paper clips should
be written off to the profit and loss
account as revenue expenditures,
although they can last for more than one
accounting period
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50. ConsistencyConsistency
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51. Consistency
• Meaning
– Companies should choose the most
suitable accounting methods and
treatments, and consistently apply them
in every period
– Changes are permitted only when the
new method is considered better and
can reflect the true and fair view of the
financial position of the company
– The change and its effect on profits
should be disclosed in the financial
statements 51

52. • Examples
– If a company adopts straight line
method and should not be changed to
adopt reducing balance method in other
period
– If a company adopts weight-average
method as stock valuation and should not
be changed to other method e.g. first-
in-first-out method
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53. Prudence/ConservatismPrudence/Conservatism
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54. • Meaning
Provision should be made for all likely
losses but no credit must be taken for
probable income
Revenues and profits are not anticipated.
Only realized profits with reasonable
certainty are recognized in the profit and
loss account
However, provision is made for all known
expenses and losses whether the amount is
known for certain or just an estimation
This treatment minimizes the reported
profits and the valuation of assets
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55. • Example
– Closing stock should be valued at lower
of cost or market value.
– The provision for doubtful debts should
be made.
– Fixed assets must be depreciated over
their useful economic lives .
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56. RelevanceRelevance
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57. Meaning
Financial statements should be prepared
to meet the objectives of the users
Relevant information which can satisfy
the needs of most users is selected and
recorded in the financial statement
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58. Substance Over FormSubstance Over Form
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59. Meaning
 Meaningful presentation should be
given more importance than form.
 Additional information should be
provided where required by going
beyond mere form prescribed by law.
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