Accounting Principles

PRINCIPLE  In financial accounting, records are kept and financial

statements are prepared for the organizational entity as distinct
#1. ENTITY from its owners.
  To deal with the problem, a Franciscan monk, Fra. Luca Pacioli,
devised the system of double-entry bookkeeping.
 Fra. Pacioli, a mathematician, reasoned that if, instead of making a
PRINCIPLE single entry to the accounts each time a transaction took place, a
#2. DUAL- merchant made two entries in two different places, there would be
a system of checks and balances.
ASPECT  Fundamental equality on a balance sheet: an entity’s assets must
equal the sum of its liabilities and its equity.
 Assets = Capital + Liabilities
PRINCIPLE  Items that appear on financial statements are expressed
#3. MONEY exclusively in monetary terms. Items that can be counted must
be translated into monetary terms, and anything that cannot be
MEASUREM measured in monetary terms is excluded from the financial
statements.
ENT
  According to this principle, an organization's financial
statements are prepared with the underlying assumption that
the entity will continue in existence indefinitely.

PRINCIPLE
 Company's assets are shown at their historical cost and not at
#4. GOING their market value (unless it is below cost).
CONCERN
 Similarly, a company's liabilities are shown at the amount due,
not at what the vendor, bank, or other creditor might receive if
the company were to go out of business.
  Financial accounting assumes that assets are purchased for operating
purposes, not so they can be liquidated (sold) to help meet current
obligations.
 Of course, certain assets, such as merchandise inventory, are purchased
with the idea that they will be resold.
 The cost principle states that, with only a few exceptions, assets are
recorded at their original (or historical) cost rather than their market
value.
 There are three reasons for this.
PRINCIPLE
 First, market value can be difficult to ascertain, whereas cost is not.
#5. COST  Second, even if market value were easy to ascertain, the organization
would need to spend considerable time and effort to determine it for
each asset each time it prepared a set of financial statements.
 Third, fixed assets (such as plant and equipment) will be used in the
course of an organization's operations. Thus, their market value is of
little relevance.
 Effectively, the going concern principle says that we will not resell our
assets, but will use them until they wear out or are replaced with new
ones
  The accounting period concept prescribes a timeframe within which
a business records and reports its financial performance for the
PRINCIPLE #6 purview of internal and external stakeholders.
 An accounting period of a company may coincide with the fiscal
Accounting year.
period  The management can determine a convenient accounting period for
internal reporting, but the reporting for investor, government and
tax purposes is typically for the period of one year.
  Financial accounting focuses on the operating activities that take place in an
organization, regardless of whether there were cash inflows or outflows
associated with them.
PRINCIPLE #7.  According to the realization principle, an entity recognizes revenue when it is
REALIZATION earned, and not when the associated cash is received.
 Earned ordinarily means that the goods and/or services have been delivered to
customers and there is reasonable certainty that the associated cash will be
collected at some point in the future.
  According to this principle, once revenue has been realized, the accountants
must attempt to determine the expenses the organization incurred in generating
PRINCIPLE #8. that revenue.

MATCHING  They must, that is, match against the revenue for a particular period the
expenses the organization incurred in generating it. These expenses need not
have been paid in cash.
  Accrual is a fundamental concept that guides how a business can record
cash or credit transactions.
PRINCIPLE #9  Under this concept, a business records a financial transaction in the
Accrual period it occurs. It does not consider whether the business pays or
receives cash at the time of the transaction, or if it pays cash after a
certain period.
  In applying the realization and matching principles, accountants are
PRINCIPLE #10. guided by the conservatism principle.

CONSERVATISM/  According to this principle, revenues are recognized only when there
is reasonable certainty that they will be collected, and expenses are
PRUDENCE considered to be incurred when there is a reasonable possibility that
they will exist.
  Although accountants generally focus on the proper recording of assets,
liabilities, and equity on the balance sheet, they also ignore some items.
Consider the following:
 An approach of this sort is permitted under what accountants call the
materiality principle. According to this principle, if an amount is not
PRINCIPLE significant (i.e., it is immaterial ) but entails a great deal of record keeping, a
#11. simplifying approach is taken in the name of practicality.
 By contrast, the accountant must make an effort to thoroughly disclose all
MATERIALITY aspects of an organization's financial statements that are of significance (i.e.,
that are material).
 In practice, the materiality principle can be difficult to apply since it
frequently requires considerable judgment. There are no unambiguous rules to
follow to determine which items are material and which are not
PRINCIPLE  The full disclosure concept requires a business entity to furnish
#12. Full necessary information for the benefit of those who read financial
statements and reports for investment, taxation or audit purposes.
disclosure
  Each year, accountants treat transactions and valuation methods the
same, making it easy to compare financial performances from one
PRINCIPLE period to the next.

#12
 Companies report when they change their accounting policies and
Consistency explain the effects of the change.