LC Brienne T.

Ilagan
BSA 1C

CHAPTER 5

Definition of terms:

1. Recognition . The process of capturing for inclusion in the statement of financial

position or the statement(s) of financial performance an item that meets the
definition of one of the elements of financial statements—an asset, a liability,
equity, income or expenses. Recognition involves depicting the item in one of
those statements—either alone or in aggregation with other items—in words and
by a monetary amount, and including that amount in one or more totals in that
statement. Recognition links the elements, the statement of financial position and
the statement(s) of financial performance.
2. Carrying amount. It is the amount at which an asset, a liability or equity is
recognized in the statement of financial position. To get the carrying amount, an
asset must be decreased with its contra- asset, same with the liability and its
contra-liability. Also called “book value” or “carrying value”
3. Relevance. It is the concept that the information generated by
an accounting system should impact the decision-making of someone perusing
the information. The concept can involve the content of the information and/or its
timeliness, both of which can impact decision making.
4. Existence uncertainty. The uncertainty about whether an asset or liability
exists. Connected with relevance.
5. Faithful representation. It is the concept that financial statements be produced
that accurately reflect the condition of a business. Presents what it supposed to
presents and represents economic phenomena or transactions in words and
numbers.
 6. Measurement uncertainty. The uncertainty that arises when monetary amounts
in financial reports cannot be observed directly and must instead be estimated.
Connected with faithful representaion.
7. Derecognition. The removal of all or part of a recognized asset or liability from
an entity's statement of financial position.
8. Retained component. Continuously recognizing the retained assets or liabilities.

Discuss the following:

1. Importance of the recognition process in the preparation of financial statements

It is important when making decisions about recognition to consider the
information that would be given if an asset or liability were not recognized. if no
asset is recognized when expenditure is incurred, an expense is recognized. Over
time, recognizing the expense may, in some cases, provide useful information, for
example, information that enables users of financial statements to identify trends. It
is important to consider how to make such information sufficiently visible to
compensate for the item's absence from the structured summary provided by the
statement of financial position and, if applicable, the statement(s) of financial
performance.
2. Recognition of income and expenses
The initial recognition of assets or liabilities arising from transactions or other
events may result in the simultaneous recognition of both income and related
expenses. Recognized changes in equity during the reporting period comprise
income - an increase in assets, or decrease in liabilities, that results in equity, other
than those relating to contributions from equity claims minus expenses - a decrease
in assets, or increases in liabilities, that results in decrease in equity, other than
those relating to distributions of holder’s equity recognized in the statement(s) of
financial performance and contributions from holders of equity claims, minus
distributions to holders of equity claims.
3. Diagram 5.1

Diagram 5.1 shows the relation of the elements of financial statements

through linking and recognition. Statement of financial position at the beginning of
the reporting period includes the initial recognition of assets or liabilities and their
total amounts in connection with various transactions or events such as sale of
goods, salaries,utilities expenses and more that is linked to the statement of financial
performance, wherein these transactions may result from both recognition of income
and expenses. At the end of the period, those transactions and items that meets the
definition of asset, liability and equity are only to be recognized. Furthermore, these
process of recognition can help us from having statement of financial position at the
end of the period, relevant.
4. Matching of costs with income
The simultaneous recognition of income and related expenses is sometimes
referred to as the matching of costs with income. Matching principle requires that
income and any related expenses be recognized together in the same
period. Recording items under the matching principle typically requires the use of
an accrualentry. All expenses must be matched in the same accounting period as
the revenues they helped to earn. In practice,matching is a combination of accrual
accounting and the revenue recognition principle.
5. Recognition and definition criteria
Only items that meet the definition of an asset, a liability or equity are
recognized in the statement of financial position. Similarly, only items that meet the
definition of income or expenses are recognized in the statement(s) of financial
performance. However, any items that are not recognized but are relevant goes to
the de recognition process. An asset or liability is recognized only if recognition of
that asset or liability and of any resulting income, expenses or changes in equity
provides users of financial statements with information that is useful
6. Cost constraint relative to recognition of elements of financial statements
Cost constraint is important in the recognition of the elements of financial
statements in keeping  businesses from incurring excessive costs as part of their
financial reporting obligations, especially in comparison to the benefit obtained by
readers of the financial statements.
7. Concept of relevance in relation to recognition of elements of financial
statements
Information about assets, liabilities, equity, income and expenses is relevant
to users of financial statements. Thus, not all this information are relevant due to
several factors affecting the assets, liabilities and equity. Relevance in recognition
of this elements are important to provide useful and reliable information for decision
makers in an entity.
8. Low probability of an inflow or outflow of economic benefits
Low probability of an inflow or outflow of economic benefits doesn’t hinder the
existence of any asset or liability. Though there may be a disclosure with some
information, still, the most relevant information about the asset or liability may be
information about the magnitude of the possible inflows or outflows, their possible
timing and the factors affecting the probability of their occurrence.
9. Circumstance when derecognition of an asset/liability is not appropriate
Derecognition normally occurs when that item no longer meets the definition
of an asset or of a liability. Sometimes, an entity has apparently transferred an asset
but retains exposure to significant positive or negative variations in the amount of
economic benefits that may be produced by the asset or an entity has transferred an
asset to another party that holds the asset as an agent for the entity, the transferor
still controls the asset, makes the derecognition inappropriate because, it doesn’t
meet the requirements to faithfully represent any assets and liabilities retained after
the transaction or other event that led to the derecognition and the change in the
entity's assets and liabilities as a result of that transaction or other event.
10. Effect of contract modifications in derecognition
If there is contract modification, the most useful information about the assets
and liabilities must be retained. The effects of these contract modifications change
the entity’s assets and liabilities by eliminating existing rights and obligations, add
new rights or obligation and both eliminates existing rights or obligations and adds
new rights or obligations. In such cases, the entity need to recognized the new asset
or liability after derecognizing the original information about the said asset or liability.