FRSA

Unit 1
Overview of Accounting Practices
Unit 1 - Overview of Accounting Practices

Introduction
This unit is designed to help students in understanding the essential aspects of accounting practices followed since decades.

The unit throws light on the users of accounting information and the components a financial report. In the next section, the chapter
discusses the fundamental features of AS2, AS3, and AS6.

Which are often verified by bankers while conducting financial statement analysis of their clients.

In the final section, the chapter discusses the Implementation of Indian Accounting Standards (Ind AS) in Banking Industry.

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Unit 1 - Overview of Accounting Practices

Learning Objectives

At the completion of this unit, you will be able to:

• Explain the concept of accounting practice and financial statements.
• Identify the users of financial statements and their information requirements.
• Demonstrate an understanding of accounting standards.
• Analyse the information contained in financial statements and explain the components.

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Table of contents

S.No Details Page No.

1. Introduction to Accounting Practices 6
2 Users of Accounting Information 7
2.1- Internal Users 8
2.2 – External users 9
3 Financial Investments 10
3.1 – Balance Sheet 12
3.2 – Statement of Profit & Loss 22
3.3 – Statement of Changes in owner’s Equity 25
3.4 – Cashflow Statement 28
4 Accounting Standards 34
4.1 - Enactment of Indian Accounting Standards (Ind AS) in Banking Industry 35
4.2 Institute of Chartered Accountants of India (ICAI) 35
4.2.1 - Accounting Standard 2 (AS2) - Valuation of Inventory 36

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Table of contents

S.No Details Page No.

4.2.2 - Accounting Standard 3 (AS3) - Cash Flow Statement 37
4.2.3 - Accounting Standard 6 (AS6) - Depreciation Accounting 41
5 Summary 43
6 References 43
7 Web Sources 44

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1. Introduction to Accounting Practices

An accounting practice is a routine activity in which day to day financial activities of a business are collected, analysed and recorded in a
structured format. Typically, an accountant or an auditor or a team of dedicated professionals are accountable for the task.
It is the responsibility of an accountant to prepare the book of accounts according to the accounting policies specified by GAAP
(Generally Accepted Accounting Principles).
An enterprise needs to follow consistent accounting practices while reporting financial results of the business. Consistent accounting
practices help stakeholders to understand financial reports and draw meaningful conclusions.
The standard accounting practices enable business houses to compare with their competitive companies, as the other companies also
followed the same standards while preparing the financial reports.
The stakeholders are generally the users of accounting information.
A few instances of good accounting practices include:
• Releasing payments for suppliers only on the date when they are due.
• Following the identical method of depreciation for the similar class of assets.
• Generating the bills on the day the goods and services are shipped.

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2. Users of Accounting Information

The users of accounting information can be largely classified into two categories:

Internal External
Users Users

1. Creditors
1. Top Management
2. Shareholders
2. Managers
3. Government
3. Employees
4. Customers
4. Internal Auditors
5. Consumers
5. Suppliers
6. External Auditors
6. Sales Force
7. Tax Authorities

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2.1 - Internal Users

1. Top Management needs accounting information to monitor the performance of the business to compare against its previous
performance and competitor analysis.

2. Executives or Managers need accounting information to make strategy, monitor and take a business decision.

3. Employees of a company require accounting information to comprehend how well the company is performing in the industry and
how well the company can secure their employment in the market.

4. Internal Auditors need accounting information to find out the accounting practices and ethical conducts related to the company so
that they can submit audit reports and opinions to the regulatory authorities.

5. Suppliers are interested in financial information to gauge the creditworthiness of the company.

6. Salesforce use accounting information to build sales strategies aimed at increasing sales by contributing to the gross profit.

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2.2 - External Users

1. Creditors need accounting information to determine the creditworthiness of the business. The accounting information helps creditor
in analysing the sources and application of funds which in turn help them in understanding the level of risk exposure in potential
investment plans.

2. Shareholders need accounting information to understand how quickly they can earn returns by their investments in the company.

3. The government needs accounting information to investigate whether the company can meet the guidelines prescribed by the
respective authorities.

4. Customers are keen on accounting information on how far the company can provide superior services and any crisis which would
affect the product quality, design, quantity and customer services.

5. Consumers or the public requires accounting information to understand the health of the company. Further, it is valuable for
academicians, analysts, activists to make sure the conducts of the company are in line with regulations.

6. External Auditors need accounting information to find out the accounting practices and ethical conducts related to the company so
that they can submit audit reports and opinions to the regulatory authorities.

7. Tax Authorities require accounting information to understand whether the company is managing accounts systematically and paying
tax on time.
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Therefore, the company needs to prepare financial reports to meet the requirements of all the above stakeholders to the business. When
financial statements are prepared for internal purposes, then there is no need to stick to any structured format or accounting standard.

However, the financial reports must be prepared according to the accounting standards when they are meant for external users. The
accountant must adhere to the Generally Accepted Accounting Principles (GAAP) in the process of while preparing financial statements.

3. Financial Statements

The Financial statement is an account of financial data of a business organization, entity or a person.
The information must be presented in a manner that makes it easy for the user to analyse and interpret
information.
Financial statements are the collection and compilation reports of an organization and they are useful in
understanding the following aspects.
• The capability of a business to earn cash and the way the company uses the same.
• The firm’s ability to service its debts.
• The company's profitability.
• The company’s overall financial position.

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Financial statement or Financial reports can be discussed under the following headings:

Balance Sheet

Income Statement

Financial Statements

Cash Flow Statement

Statement of Changes in
Owner's Equity

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3.1 - Balance Sheet

The balance sheet or statement of financial position is a snapshot or a

quick summary of a company's financial position during a period.

A balance sheet is a mirror of an organization. It reflects the financial

position of the company at the end of a specified period.

The balance sheet explains the company’s assets, liabilities and

owner’s equity.

Readers of the balance sheet will understand what the company owns
(Example: Land, building, etc.)

And what the company owes (Example: Bank loan, Creditors etc.).

The balance sheet collects the information on assets, liabilities and

owner’s equity. Below is the balance sheet equation.

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Assets = Liabilities + Owner’s Equity
Assets
• Cash
• Temporary Investments
• Accounts Receivables
• Merchandise Inventory
• Office Supplies
• Buildings
• Property & Equipment
• Patents
• Goodwill
A=L+C
Liabilities Equity
• Accounts Payable • Owner’s Equity
• Rent Payable • Owner’s Withdrawals
• Salaries Payable • Common Shares
• Estimated Warranty Liability • Preferred Shares
• Dividends Payable • Retained Earnings
• Long-Term Liabilities • Dividends
• Discount on Bonds Payable
• Tax Payable
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Let us now look at some examples to understand the application of balance sheet equation in real life.
Case 1
Consider that Mr Ram is planning to buy a car worth of Rs. 10,00,000. He has multiple
options in hand.
He can buy the car using his life savings. If he doesn't have enough funds in his
accounts, then he has another option i.e. approach a bank for a loan.
Let us assume that he has about Rs. 5,00,000 in his bank account hence, he had
decided to borrow the remaining amount (Rs. 5,00,000) from the bank.
Under the above conditions, his personal balance sheet would appear like below:

Car (Rs 10,00,000) Asset

Bank Loan Rs 5,00,000 Liability
Personal Cash Rs 5,00,000 Equity
Net Result Rs 0

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Case 2

Let us take another hypothetical example of Mr Harsha who owns a small business and seeking a loan from his bank.

The loan officer asks him to submit the latest summary sheet of his business's financial position.

His business resources might include properties, merchandise, cash in the bank, investments and some equipment’s, which is of total
value Rs. 1,00,00,000.

These are resources that he either owns or controls. In financial terms, we call these resources as ‘Assets’.

Let us also assume that he owes money to his suppliers and have an outstanding short-term loan value of Rs. 60,00,000.

These are claims against the resources that he owns. The common accounting term for these claims is ‘Liabilities’.

The difference between his assets and liabilities, Rs. 40,00,000, is referred to as his ‘Equity’ and it reflects his current financial position.

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Case 2
Let us take another hypothetical example of Mr Harsha who owns a small business and seeking a loan from his bank.
The loan officer asks him to submit the latest summary sheet of his business's financial position.
His business resources might include properties, merchandise, cash in the bank, investments and some equipment’s, which is of total
value Rs. 1,00,00,000.
These are resources that he either owns or controls. In financial terms, we call these resources as ‘Assets’.
Let us also assume that he owes money to his suppliers and have an outstanding short-term
loan value of Rs. 60,00,000.

These are claims against the resources that he owns.

The common accounting term for these claims is ‘Liabilities’.

The difference between his assets and liabilities, Rs. 40,00,000, is referred to as his ‘Equity’
and it reflects his current financial position.

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Real-life Example
Below is the Consolidated Balance Sheet of Maruti Suzuki as of March 31st, 2018

Particulars Notes No. As at 31.03.2018 As at 31.03.2017

ASSETS
Non-current assets
Property, plant and equipment 4 130,473 129,197
Capital work-in progress 4 21,259 12,523
Intangible assets 5 3,117 3,730
Financial assets
Investment 6 340,729 263,022
Loans 7 2 3
Other financial assets 9 324 238
Other non-current assets 12 18,583 16,031
Total non-current assets 514,487 424,744
Current assets
Inventories 10 31,608 32,622

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Real-life Example
Below is the Consolidated Balance Sheet of Maruti Suzuki as of March 31st, 2018

Particulars Notes No. As at 31.03.2018 As at 31.03.2017

Financial assets
Investments 6 12,173 21,788
Trade receivables 8 14,618 11,992
Cash and bank balances 11 711 138
Loans 7 30 25
Other financial assets 9 2,846 950
Current tax assets (Net) 21 4,109 4,854
Other current assets 12 13,119 15,393
Total current assets 79,214 87,762
Total assets 593,701 512,506

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Particulars Notes No. As at 31.03.2018 As at 31.03.2017

Particulars Notes No. As at 31.03.2018 As at 31.03.2017
EQUITY AND LIABILITIES
Equity
Equity share capital 13 1,510 129,197
Other equity 14 416,063 12,523
Total equity 417,573 424,744
Liabilities
Non-current liabilities
Provisions 17 265 219
Deferred tax liabilities (Net) 18 5,589 4,662
Other non-current liabilities 19 15,853 11,050

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Particulars Notes No. As at 31.03.2018 As at 31.03.2017

Current liabilities 21,707 15,931
Financial liabilities
Borrowings 15 1,108 4,836
Trade payables
Total outstanding dues of micro, 20 711 832
small and medium enterprises
Total outstanding dues of creditors 20 104,259 82,841
other than micro, small and medium
enterprises
Other financial liabilities 16 13,338 13,027
Provisions 17 5,600 4,490
Current tax liabilities (Net) 21 8,541 7,987
Other current liabilities 19 20,864 18,251
Total current liabilities 15,421 132,264
Total liabilities 176,128 148,195
Total equity and liabilities 593,701 512,506
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In the above balance sheet, Maruti Suzuki’s total assets as of 31st March 2018 has amounted to Rs. 5,93,701 million and its total
liabilities were Rs. 1,76,128 million. The net shareholder’s equity was Rs. 4,17,573 million.

Assets = Liabilities + Equity

Rs. 5,93,701 million = Rs. 1,76,128 million + Rs. 4,17,573 million

Typically, reported assets on the balance sheet comprise of current assets and non-current assets and liabilities comprising-term liabilities
(non-current liabilities) and current liabilities.
A closer look at the above balance sheet gives us a foretaste of the following aspects.
• No change in share capital compared to the previous period. This means that the owners have not added to the equity capital.
Nevertheless, other capital has been added.
• Non-current liabilities have increased substantially while current assets are declining (For example, short-term borrowings and short-
term provisions). This is a good sign for a business.
• The overall value of non-current assets for the period has increased.
• The value of current assets has declined to Rs. 79,214 million compared to Rs. 87,762 million in the previous period (2017). This is
not a good sign for the business. However, there is no danger for the business because the bank balance for the period has increased
from Rs. 138 million to Rs. 711 million.

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3.2 - Statement of Profit and Loss

The Profit and Loss account is also known as Income Statement, which explains the company’s financial power in terms of net results
during a specified period.
A profit and loss statement describe the cost, expenses, revenues and losses during a period. The Profit and Loss statement shows the
capacity of a company to generate profit and reduce cost.
The entry in Profit and loss account begins with revenue which is considered as the ‘Top-line’. The profit can be obtained by deducting
the cost of doing business (For Example, Operating cost, Depreciation) from the total revenue which is also known as ‘Sales’.
The profit is also termed as ‘Bottom-line’.
Below is the Profit and Loss statement of Maruti Suzuki for the year ended on 31st March 2018.

For the year For the year

Particulars Notes No.
ended 31.03.2018 ended 31.03.2017
I. Revenue from operations 22 819,944 772,662
II. Other income 23 20,455 23,001
III. Total Income (I + II) Top line 840,399 795,663
IV. Expenses

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For the year For the year

Particulars Notes No.
ended 31.03.2018 ended 31.03.2017
Costs of materials consumed 24.1 449,413 426,296
Purchases of stock-in-trade 99,930 44,821
Changes in inventories of finished 24.2 407 (3,801)
goods, work-in-progress and stock-in-
trade
Excise duty 39 22,317 92,314
Employee benefits expense 25 28,338 23,310
Finance costs 26 3,457 894
Depreciation and amortisation expense 27 27,579 26,021
Other expenses 28 99,915 87,241
Vehicles/ dies for own use 15 (991) (1,036)
Total expenses (IV) 730,365 696,060
V. Profit before tax (III – IV) 110,034 99,603

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For the year For the year

Particulars Notes No.
ended 31.03.2018 ended 31.03.2017
VI. Tax Expense
Current tax 29 33,495 23,356
Deferred tax 29 (679) 2,745
VII. Profit for the period (V - VI) 32,816 26,101
VIII. Other Comprehensive Income Bottom line 77,218 73,502

In the above table, it is evident that the top-line and bottom-line of the profit and loss statement of Maruti Suzuki for the period of 2017-
18, both top-line and bottom-line are in an uptrend.
The total income for 2018 was at Rs. 8,40,399 slightly higher than the value of the previous year (Rs. 7,95,663).
Though it is not a significant change, the numbers remain hopeful during the period. Further, the bottom line (profit for the year) is also in
an uptrend

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3.3 - Statement of Changes in Owner’s Equity

The Profit and Loss account, Balance sheet and Statement of cash flow are compulsory under the companies act, 2013. The Institute of
Chartered Accountants of India (ICAI) is a governing body set-up under the Chartered Accountants Act, 1949.
ICAI has laid down guidelines and has set standards for the preparation of financial statement.
Owner’s equity consists of two important sources.
• Capital invested by the proprietors
• Profit generated and retained in the business
Following is Maruti Suzuki’s statement of changes in owner’s equity.
Statement of Changes in Equity for the year ended on March 31st, 2018
a. Equity Share Capital
Amount
Balance at April 01, 2016 1,510
Changes in equity share capital during the year -
Balance at March 31, 2017 1,510
Changes in equity share capital during the year -
Balance at March 31,2018 1,510

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b. Other Equity
Reserves and Surplus Items of other comprehensive Income
Equity
The
instrument
Reserves Securities effective
General Retained through
created on premium portion of Total
reserve earnings other
amalgamation reserve cash flow
comprehens
hedge
ive income
Balance at April 01,2016 9,153 4,241 29,309 250,037 4,545 47 297,332
Profit of the year - - - 73,502 - - 73,502
Addition on Amalgamation
- - - 2,475 - - 2,475
(Refer note 40)
Other comprehensive income
- - - (100) 2,364 (47) 2,217
of the year, net of income tax
Other comprehensive income
- - - (100) 2,364 (47) 2,217
of the year, net of income tax
Total comprehensive income
- - - 75,877 2,364 (47) 78,194
for the year

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Reserves and Surplus Items of other comprehensive Income

Equity
The
instrument
Reserves Securities effective
General Retained through
created on premium portion of Total
reserve earnings other
amalgamation reserve cash flow
comprehens
hedge
ive income
Payment of dividend (Rs. 35
- - - (10,573) - - (10,573)
per share)
Tax on Dividend - - - (2,152) - - (2,152)
Balance at March 31,2017 9,153 4,241 29,309 313,189 6,909 - 362,801
Profit of the year - - - 77,218 - - 77,218
Other comprehensive income
- - - (131) 3,444 (1) 3,312
of the year, net of income tax
Total comprehensive income
- - - 77,087 3,444 (1) 80,530
for the year
Payment of dividend (Rs. 75
- - - (22,656) - - (22,656)
per share)
Tax on Dividend - - - (4,612) - - (4,612)
Balance at March 31,2018 9,153 4,241 29,309 363,008 10,353 (1) 416,063
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3.4 - Cash Flow Statement

Cash plays a prominent role in any organization. A business needs cash to make payments for all its service providers, to take care of
day to day expenses, to pay salaries, wages, interest, and taxes.

It is essential for a business to keep enough cash to pay the compulsions on time and it is also perilous for a business to keep track of
how much of the money is spent on obligations.

For example, if a company is under profit and the company is not able to keep reserves to pay off its obligations, then the image of the
company will be spoiled, and that will have a direct impact on the future business.

Hence, preparing a cash flow statement is critical for business entities.

The statement of cash flow (Accounting Standard 3 of ICAI) shows three main categories of cash inflows and cash outflows.

a. Operating activities are the important revenue-generating activities of the business.

b. Investing activities comprise the purchase and sale of long-term possessions and other investments not included in cash equivalents.

c. Financing activities are events or transactions that result in a change in the size and arrangement of the owner’s capital.

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Below is the illustrative Cash flow statement of Maruti Suzuki for the period of 31st March 2018. Companies spend and earn
cash in three major ways.

a. Cash Flow from Operating Activities:

Cash Flow Statement for the year ended on March 31st, 2018
Notes For the year ended For the year ended
Particulars
No. 31.03.2018 31.03.2017
A. Cash flow from Operating Activities:
Profit before tax
Adjustments for: 110,034 99,603
Depreciation and amortisation expense
Finance costs 27 27,579 26,021
Interest income 26 3,457 894
Dividend income 23 (679) (372)
Net loss on sale/ discarding of property, plant and equipment 23 (200) (129)
Net gain on sale of investments in debt in associates 28 545 632
Net gain on sale of investments in debt mutual funds 23 - (209)
Fair valuation gain on investment in debt mutual funds 23 (964) (615)
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Notes For the year ended For the year ended

Particulars
No. 31.03.2018 31.03.2017
Liabilities no longer required written back 23 (18,612) (21,403)
Unrealised foreign exchange (gain)/loss 22 (852) (35)
Operating Profit before Working Capital changes 34 (320)
Adjustments for changes in Working Capital: 120,342 104,067
- (Increase)/decrease in loans (non-current)
- (Increase)/decrease in other financial assets (non-current) 7 1 1
- (Increase)/decrease in other non-current assets 9 (86) (7)
- (Increase)/decrease in inventories 12 (22) (320)
- (Increase)/decrease in trade receivables 10 1,014 (1,301)
- (Increase)/decrease in loans (current) 8 (2,617) 1,237
- (Increase)/decrease in loans (current) 7 (5) 6
- (Increase)/decrease in other financial assets (current) 9 (1,788) 635
- (Increase)/decrease in other current assets 12 2,078 1,049
- (Increase)/decrease in non-current provisions 17 46 71
- (Increase)/decrease in other non-current liabilities 19 4,803 2,975
- (Increase)/decrease in trade payables 20 21,276 9,785

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Notes For the year ended For the year ended

Particulars
No. 31.03.2018 31.03.2017
- (Increase)/decrease in other financial liabilities (current) 16 (1,261) 686
- (Increase)/decrease in current provisions 17 1,110 501
- (Increase)/decrease in other current liabilities 19 3,509 6,622
Cash generated from Operating Activities 148,400 126,007
- Income taxes paid (net) (30,550) (23,214)
Net Cash from/ (used in) Operating Activities 117,850 102,793

In this section, we can understand the amount of cash coming from the sales and sales related activities and the amount of money
spent by the company for sales and sales related activities.
Certainly, it is a good sign since the net cash flow has been increased for March 2018.

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b. Cash Flow from Investing Activities

Notes For the year ended For the year ended

Particulars
No. 31.03.2018 31.03.2017
B. Cash flow from Investing Activities:
Payments for purchase of property, plant and equipment and
4 (39,918) (32,498)
capital work in progress
Payments for purchase of intangible assets 5 - (1,388)
Proceeds from the sale of property, plant and equipment 4 265 163
Proceeds from the sale of investment in an associate company 6 - 219
Proceeds from sale of debt mutual funds 6 425,643 118,395
Proceeds from purchase of debt mutual funds 6 (470,689) (177,155)
Interest received 23 678 356
Dividend received 23 200 129
Net Cash from /(used in) Investing Activities (82,821) (91,779)

This section explains the capital expenditure. For example, the purchase of physical assets, the sale of physical assets, etc.
This section also covers acquisition, joint venture, etc.

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c. Cash Flow from Financing Activities

This section includes the details on sales proceeds from borrowings, repayment of borrowings, and the dividend paid etc.
Notes For the year ended For the year ended
Particulars
No. 31.03.2018 31.03.2017
c. Cash flow from Financing Activities:
Proceeds from short term borrowings 15 1,108 4,836
Repayment of short term borrowings 15 (4,836) (774)
Repayment of long term borrowings 15 - (1,535)
Finance cost paid 26 (3,464) (1,095)
Payment of dividend on equity shares 14.4 (22,656) (10,573)
Related income tax 14.4 (4,612) (2,152)
Net Cash from /(used in) Financing Activities (34,460) (11,293)
Net Increase/Decrease in cash and cash equivalents 569 (279)
Cash and cash equivalents at the beginning of the year 130 384
Cash and cash equivalents at the beginning of the year - 25
(Acquired pursuant to a scheme of amalgamation (refer note
40)
Cash and cash equivalents at the end of the year 699 130
Cash and cash equivalents comprise:
Cash and cheques in hand 11 38 6
Balance with banks 11 661 124
699 130
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4. Accounting Standards

Reliable, consistent financial reporting are two important parts of good corporate governance practice adopted worldwide to enhance the
credibility of the businesses in the eyes of stakeholders.
An accounting standard is a principle that guides and standardizes the accounting practices.
The Generally Accepted Accounting Principles (GAAP) are groups of accounting standards widely accepted in the field of Financial
Reporting.
Accounting standards explain as to how economic events of the business must be identified, recorded and interpreted. The primary
objective of an accounting standard is to standardize the diverse accounting procedures.
This is done in the view of eliminating abnormality in the procedures of preparing financial reports, thereby ensuring the financial reports
are readable, verifiable and comparable.
In the absence of accounting standards comparison of financial reports of companies will be harder and financial reports will become less
credible.
The first accounting standard was developed in the 1930s. The American Institute of Certified Public Accountants (AICPA) drafted,
debated and published the primary set of accounting standards.

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4.1 - Enactment of Indian Accounting Standards (Ind AS) in Banking Industry

The Ministry of Corporate Affairs (MCA), Government of India has notified the Companies (Indian Accounting Standards) Rules, 2015 on
16th Feb 2016.
MCA has drafted a roadmap to converge the existing Accounting standards and IFRS. The new version of accounting standards is
referred to as Indian Accounting Standards (popularly called Ind AS).
The implementation of Ind AS will have a significant impact on the financial position of banks including capital adequacy.
Every bank should set up a steering committee controlled by an executive director including the members of cross-functional areas of the
bank to directly initiate the implementation procedure.
Banks should obey the Indian Accounting Standards (Ind AS) for the preparation of financial reports for accounting periods starting from
1st April 2018 onwards, with comparatives for periods ending on 31st March 2018 or thereafter.
Ind AS shall be applicable to both standalone financial statements and consolidated financial statements.

4.2 - Institute of Chartered Accountants of India (ICAI)

In India, accounting standards are issued by the ICAI established on 22nd April 1977. At present, there are 29 mandatory and 3 not
mandatory accounting standards issued by ICAI.
Let us look at a few standards especially AS 2 dealing with Inventory, AS 3 dealing with cash flow statement and AS 6 dealing with
depreciation accounting.

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4.2.1 - Accounting Standard 2 (AS2) - Valuation of Inventory

Inventory is a stock of materials and goods that an enterprise is held for resale. Inventory can be broadly classified into three categories:
• Raw materials
• Work in progress
• Finished goods
The inventory management is one of the critical jobs to be performed by the managers due to its direct impact on the business. If the
level of inventory is too low, the company may delay the shipment and will not be able to meet customer’s requirement on time.
On the other hand, if the level of inventory is too high, then the business may have to incur an opportunity cost. Hence, the trade-off
between excess and lower inventory is a challenging task in the current phase of the business world.
• Cost of Inventories:
The cost of inventories should necessarily include costs of purchase, costs of conversion and other costs incurred in shipping the
inventories to their present location.
• Costs of Purchase:
The costs of purchase include duties and taxes, inwards and other expenses rightly extractable to the acquisition. Trade discounts,
rebates, duty drawbacks, and other resembling items are deducted while deciding the costs of purchase.
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• Costs of Conversion:
The costs of conversion of inventories should include the costs directly connected to the units of production, such as direct labour. Fixed
overheads are indirect costs which remain unchanged irrespective of the volume of production (Example: Depreciation, Maintenance of
factory building and location).

4.2.2 - Accounting Standard 3 (AS3) - Cash Flow Statement

The balance sheet and income statement do not show the information about the flow of cash in the firm.
For example, the profit shown on the income statement does not necessarily indicate that cash is necessarily available to that extent. An
income statement indicates the profitability of the venture and not the extent of liquidity.
Cash and Cash Equivalents
Cash equivalents are possessed by the business for meeting short-term cash commitments. An investment normally considered a cash
equivalent when it has a short maturity of, assume, three months or less from the date of acquisition.
Investments in shares are excluded from the list of cash equivalents unless these are, in substance, cash equivalents; for example,
preference shares of a company acquired shortly before their specific redemption date.
As per the Accounting Standards 3(AS3), the cash flows can be broadly classified into three sections.

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Cash flows from Operating Activities

Cash flows from Investing Activities

Cash flows from Financing Activities

• Cash from Operating Activities:

Operating activities of a business are considered as a major revenue generating activity of a business. The important revenue generating
activities of a business are considered the operating activities of that business.
These are the main activities the organization deals with. Cash flows arising from these activities are called the “Cash flows from
Operating Activities”.
Cash flows from operating activities are an important source of revenue for a business concern.
The amount of cash flows generated from operating activities is a key indicator of the extent to which the operations of the business have
generated enough cash flows to maintain the operating efficiency of the business, pay dividends, repay loans and make new investments
without recourse to external sources of financing.
Information about the specific components of historical operating cash flows is important, in conjunction with other information, in
estimating the future operating cash flows.

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Cash flows from operating activities are basically derived from the principal revenue-generating activities of the business.

Therefore, they generally result from the events and other transactions that enter the determination of net profit or loss.

Few examples of cash flows from the operating activities are:

✓ Cash receipts from the sale of goods.

✓ Cash receipts from royalties, fees, commissions.

✓ Cash payments to suppliers for goods and services.

✓ Cash payments to and on behalf of employees, etc.

✓ Payment of expenses like wages, salaries, commission.

✓ Payment and refund of tax.

• Cash from Investing Activities:

The separate disclosure of cash flows from investing activities is important because the cash flows show the extent to which expenses
have been incurred for resources intended to generate future income and cash flows.

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Below are a few examples of cash flows from investing activities are:
✓ Cash payments to purchase fixed assets, including intangible assets.
✓ Cash receipts from disposal of fixed assets, including intangibles assets.
✓ Cash advances and loans made to third parties.
✓ Cash receipts from the repayment of advances and loans made to.
✓ Cash payments for options contracts, futures contract, forward contracts and swap contracts except when the contracts are held
for trading purposes, or the payments are classified as financing activities.
• Cash from Financing Activities:
It shows the cash inflow and outflow transactions which relate to the providers of finance to the business. For example, shareholders and
creditors of the business.
Financing activities that generate positive cash flows including – cash received by the sale of stock, receiving cash by issuing shares,
debenture loans, notes, bonds, and other short or long-term borrowings.
Financing activities that generate negative cash flows including – repurchase of shares, the redemption of bonds and debentures,
interest and dividend payments. Following are the important components of cash flows from financing activities.

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✓ Sale of shares
✓ Redemption of preference shares
✓ Buyback of shares
✓ Issue/Redemption of debentures
✓ Long-term loans
✓ Dividend and Interest payments

4.2.3 - Accounting Standard 6 (AS6) - Depreciation Accounting

Depreciation means a decline in the value of fixed assets because of the use or the effluxion of time. In other words, depreciation is a
gradual, continuous or permanent decrease in the economic value of an asset.
Depreciation is a measure of the wearing out, or loss of value of a depreciable asset arising from use, effluxion of time or obsolescence
through technology and market changes. It has been issued by ICAI in 1982 and revised multiple time to date.
AS 6 deals with depreciation accounting and applies to all depreciable assets, except the following items to which special considerations
apply. They are:
• Forests, plantations and similar regenerative natural resources.

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• Forests, plantations and similar regenerative natural resources.

• Wasting assets including expenditure on the exploration for and extraction of minerals, oils, natural gas, and similar non-regenerative
resources.
• Expenditure on research and development.
• Goodwill.
• Livestock.
This statement also does not apply to land unless it has a limited useful life for the enterprise.
Depreciation v/s Amortization:
The corporate sector has been widely using one terminology i.e. Depreciation.
Though, over decades, the concept of amortization gaining growing importance due to its uniqueness. depreciation means, decreasing
the value of the physical assets building, furniture and fixtures, plant and Machinery etc.
Whereas, Amortization is applied to intangible assets such as Goodwill, Trademarks, software and technical know-how etc. Accounting
standard directly deals with the depreciation of physical assets whereas AS 26 deals with amortization.

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5. Summary
Here is a quick recap of what we have learned so far:
• An accounting practice is a routine activity in which the day to day financial activities of a business are collected, analysed and
recorded in a systematic manner
• The main purpose of accounting practice is to enforce a company’s accounting guidelines and practices.
• The typical financial statements include The Balance Sheet, the Profit and Loss Statement, The Cash flow statement and Statement
of changes in owner’s equity.
• Accounting standards explain as to how economic events of the business must be identified, recorded and interpreted.

6. References
• Narayanaswamy, R. (2005). Financial accounting a managerial perspective. New Delhi: Prentice-Hall of India.
• S. Maheshwari - S. Maheshwari - D. Maheshwari – Vikas (2010) Financial Accounting. Publishing House Pvt. Ltd.
• Rawat, D. S. (2013). Students' guide to accounting standards. New Delhi: Taxmann Allied Services.
• Tulsian, P. C. (2010). Tulsian's financial accounting. S.l.: S Chand & Co.

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7. Web Sources

• ICAI - The Institute of Chartered Accountants of India. (n.d.). Retrieved November 01, 2018, from http://www.icai.org/

• Banks to follow new accounting standard "Ind AS" from ... (n.d.). Retrieved November 5, 2018, from
http://www.dnaindia.com/money/report-banks-to-follow-new-accounting-standard-ind-as-from-april-2018-rbi-2176754

• Maruti Suzuki. (2018, March/April). Retrieved November 1, 2018, from

https://marutistoragenew.blob.core.windows.net/msilintiwebpdf/MSIL_AR_2017-18_HR.pdf

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