Module I: Accounting Mechanics

Revisited & Financial Reporting –

Why? Issues & Challenges

Dr. Haritika Chhatwal

 Learn Accounting the Language of Business
“You have to understand accounting
and you have to understand the
nuances of accounting. It's the language
of business and it's an imperfect
language, but unless you are willing to
put in the effort to learn accounting -
how to read and interpret financial
statements - you really shouldn't select
stocks yourself. - Warren Buffett”
Syllabus
 Learning Objectives
• Explain the generally accepted accounting principles (GAAP)
which form the basis of financial accounting records
• Understand the broad contents of a balance sheet and the
reason why its two sides always tally
• Explain the basic accounting equation
• Understand the broad contents of profit and loss
account/income statement
• Why of Financial Reporting?
 TYPES OF FINANCIAL STATEMENTS
• Income and Expenditure Account- Profit – duration
for FY 2022-23
• Balance Sheet - As on date
• Cash Flow Statements – for the period
 What Financial Statements Tell
• Capacity to suffer
• Clean Balance Sheet and consistent cash generation
• High quality management with capital allocation skills
• Example We Work –Rentals
Example for the Management –Kalyan Jewellers Annual Report -2021
 To Keep Updated
• Artha Sankalp
• Research Reports
• The Morning Context
• Live Mint
• Thematic Reports
– Sector Reports or based on themes
– Ex EV ,AI , FMCG both Sector and theme ex rural India
INTRODUCTION
• The financial accounting profession, over the
years, has evolved accounting principles and
standards which are generally accepted and
universally practiced.
• Form the basis of accounting records, the
financial statements
• Indicate the financial health of a business
enterprise
GENERALLY ACCEPTED ACCOUNTING PRINCIPLES
• Money Measurement Concept
• Conservative Principle Concept
• Separate Entity Concept
pecimen/Poppins)
• Realisation Concept
• Duality Concept
Darker Grotesque
• Accrual Concept (https://fonts.google.
• Going Concern Concept
• Matching Concept com/specimen/Darke
• Cost Concept #ffacca #d9b695
r+Grotesque)
#1d2b95

• Consistency Concept
• Accounting Period Concept
• Materiality Conceptfonts:
 Money Measurement Concept
• Money measurement concept stipulates recording of
only those transactions which can be expressed in
monetary terms.
• It provides a homogeneous measuring yardstick for
heterogeneous items.
• Transactions should be recorded in monetary values at
the time they take place.
• Change in purchasing power of the rupee is not
recognised by financial accounting records.
 Separate Entity Concept
• Business firm should be considered a separate entity
from its owners. Accordingly, every business
transaction should be viewed from the perspective of
the firm and not form the viewpoint of owner(s) of
the business entity.
• Terms to be used : Liabilities, Equity ,Assets
 Accounting Treatment as per Separate Entity Concept

Assume that Sohan commences business with `20 lakh on 1st April, 2022. During the year
(ending 31st March 2023), he withdraws `25,000 per month to meet household expenses,
the aggregate sum being `3,00,000. Assume further that no record has been made of these
withdrawals/drawings during 2022–23, (by not taking cognizance of separate entity concept).
The firm’s accounts show capital balance (31.3.2023) of `19 lakh.

Computation of _______ (Reckoning Withdrawals)

1.Initial capital (1.4.2022) 20,00,000.0
2. Less withdrawals during the year (2022–23) (3,00,000.0)
3. Effective capital retained in business
4. Ending capital balance as on (31.3.2023) 19,00,000.0
5. Profit earned during the year (4 – 3)
 Separate Entity Concept
Assume that Sohan commences business with `20 lakh on 1st April, 2022. During the year
(ending 31st March 2023).He made additional capital contribution of `2 lakh made during
the year and it has closing balance of `21 lakh.
Computation of _______ (Additional Capital)
1.Initial capital (1.4.2022) 20,00,000.0
2. Additional capital introduced during the year (2022–23) 2,00,000.0
3. Effective capital retained in business
4. Ending capital balance as on (31.3.2023) 21,00,000.0
5. Profit earned during the year (4 – 3)

The view-point of the firm only to determine true profit and loss from business unit. It is for
this reason that the transactions between the owner and the firm are not omitted but
recorded (keeping in mind their impact on the firm). For the purpose of accounting records,
the owner is assumed as an outside entity dealing with the firm(Kalyan Jewelers aircraft )
 Assets
An asset is a resource that gives benefits to its owner.
(a) it controls the resource, and
(b) the resource is expected to give benefits.
Some assets, such as plant and machinery and inventories, have
physical form- tangible assets.
Assets such as patents and trademarks confer exclusive legal rights
but have no physical form- intangible assets.
Others such as home mortgage loans and investments in bonds are
legally enforceable claims on others. These are financial assets.
ASSIGNMENT FOR TEAMS
 Liabilities
• A liability is an obligation.
• Usually, it requires payment of cash. Bonds payable , trade payables, income tax payable and
pensions payable, should be estimated.
• Most liabilities result from contracts, e.g. amount payable for using electricity, or statutory
requirements, ex-employer’s contribution to provident fund.
• A liability may also arise from a constructive obligation that an enterprise regards as payable
even without a legally enforceable claim. For instance, a store may allow full refund for goods
returned even after the contractual period; this may give rise to a liability. In sum, a liability is
what an enterprise ‘owes’.

ASSIGNMENT FOR THE TEAMS

 Equity
• Equity is net assets, i.e. the difference between an enterprise’s assets and its liabilities.
• It increases through investments by owners (Capex) and profits from operations . It is the
residual and called shareholders’ equity.
• Its components include share capital, securities premium, and retained earnings.
• Share capital is the amount contributed by the shareholders towards a company’s capital.

• Net profit is the excess of revenues over expenses; net loss is the excess of expenses over
revenues.
• Dividends are distributions to shareholders.
• Profits increase equity; losses, dividends and share buybacks decrease equity
• Retained earnings represent the profit kept in the business.
 Duality Concept
Accounting records should be based on the double entry system/duality concept in that there
are two aspects/impacts of each accounting transaction. Transactions are the economic
events of an enterprise that are recorded. The dual aspect concept is the building block for
double-entry bookkeeping. Double-entry is based on the principle that an organization’s
assets are equal to its liabilities and owner’s equity. Owner’s equity is the capital sources for
funding the business lending by the business’s owner. It requires every transaction to be
debited and credited so that the balance sheet calculations reflect the accounting equation
below –
Assets = liabilities + Owner’s equity
Double-entry is required for all publicly traded companies. It is because annual reports of
publicly traded companies must contain audited financial statements formed using double-
entry booking.
 Examples
Transaction (1) Investment by Shareholders: Let us assume that a group of 5 friends form the
Attractive Toy Company Private Limited (ATCPL) to market toys (each contributing `2 lakh in
cash) on 1st January , 2013.
Balance Sheet of ATCPL as on January 1, 2023
Liabilities Amount (`lakh) Assets Amount (`lakh)
Capital Cash

The equal and simultaneous effect on the sides of balance sheet is referred to
as the _____________concept.
Transaction (2)Create
Deposit in with
your Story Bank: Let usconcepts.
our illustrated assume further
Choose that
the style you likeout of edit
the most, `10itslakh, `7 the
colors, pick lakh is deposited
background and layers you want to show and bring them to life with the animator panel! It will boost your
in a bank on January 2 by ATCPL. presentation.

Balance Sheet of ATCPL as on January 1, 2023

Liabilities Amount (`lakh) Assets Amount (`lakh)
Capital Cash
Bank
Transaction (3)Create
Purchase
your Storyof Toys
with for Cash:
our illustrated Assume
concepts. Choose thefurther that
style you like ATPCL
the most, edit itspurchases
colors, pick the toys/goods for
background and layers you want to show and bring them to life with the animator panel! It will boost your
`2 lakh against cash payment on January 4. presentation.

Balance Sheet of ATCPL as on January 1, 2023

Liabilities Amount (`lakh) Assets Amount (`lakh)
Capital Cash
Bank
Inventory of finished goods
Transaction (4) Sales of Toys for Cash: Assume further that ATCPL sells the toys for `1.25 lakh
(on cash basis) during 5–10 January.

Balance Sheet of ATCPL as on January 1, 2023

Liabilities Amount (`lakh) Assets Amount (`lakh)
Capital Cash
P& L Account Bank
Inventory of finished goods

Since the company is a custodian of the promoters/owners funds, profit earned belongs
to them. In other words, profit are payable to owners as per separate entity concept and,
therefore, shown on the liabilities side of the balance sheet
Transaction (5) Raising Loan: Gradually, the ATCPL establishes itself and decides to
venture into manufacturing of toys. Its credibility helps in raising a 5-year loan of `8
lakh from State Industrial Development Corporation (SIDC) at 12 per cent rate of
interest (payable annually) on January, 15.

Balance Sheet of ATCPL as on January 1, 2023

Liabilities Amount (`lakh) Assets Amount (`lakh)
Capital Cash
P& L Account Bank
12% Loan Inventory of finished goods
Transactions (6 and 7) Purchase of Small Industrial Shed and Machinery: For expansion, the
company buys a small industrial shed for `5 lakh and machinery for `7 lakh on January 21.
Balance Sheet of ATCPL as on January 1, 2023
Liabilities Amount (`lakh) Assets Amount (`lakh)
Capital Cash
P& L Account Bank
12% Loan Inventory of finished goods
Shed
Machine
Transaction (8) Purchase of Raw-materials on Credit: By now the ATCPL is fairly well known
and the suppliers are willing to transact business on credit basis. It acquires raw material
worth `1 lakh from Supreme Plastics Limited on credit on January 22.

Liabilities Amount (`lakh) Assets Amount (`lakh)

Capital Cash
P& L Account Bank
12% Loan Inventory of Raw Material
Creditors Inventory of finished goods
Shed
• Transaction (9) Sale of Toys on Credit: Assume the ATCPL sells the whole stock of finished
goods on credit to Reliable Sound Buyers Company for `1.27 lakh (on January 24).

Balance Sheet of ATCPL as on January 1, 2023

Liabilities Amount (`lakh) Assets Amount (`lakh)
Capital Cash
P& L Account Bank
12% Loan Inventory of Raw Material
Creditors Debtors
Shed
Machine
• Transaction (10) Payment of Expenses in Cash: During 28–31st January 2023, the
company incurred total operating expenses of `32,000 (on salaries, rent of the
shop, electricity, telephone, refreshments, cartage, courier, postage, stationery,
etc) and paid in cash.

Balance Sheet of ATCPL as on January 1, 2023

Liabilities Amount (`lakh) Assets Amount (`lakh)
Capital Cash
P& L Account Bank
12% Loan Inventory of Raw Material
Creditors Debtors
Shed
Machine
• ATCPL owns assets worth `19.20 lakh. These assets are financed from two major sources, namely, owners [`10.2
lakh (i.e., `10 lakh capital + `0.2 lakh net profit)] and outsiders [(`9 lakh (i.e., lenders money, `8 lakh and creditors
`1 lakh)].
• This equality Liabilities = Assets
• Increase in asset followed by increase in liability (e.g. purchase of raw
materials on credit) (ii)
• Decrease in asset followed by decrease in liability (e.g. payment to
creditors)
• Increase in one asset followed by decrease in another asset (e.g. deposit
in bank).
• Increase in one liability followed by decrease in another liability (e.g.
payment to creditors by taking bank overdraft)
Revenues increase equity; expenses and drawings (or dividends) decrease equity. Therefore,
we can rewrite the accounting equation, Assets = Liabilities + Equity, as follows:
Assets = Liabilities + Capital + Revenues – Expenses – Drawings (or Dividends)
 Going Concern Concept
• Entity is a going concern, that is, it will continue to operate for an indefinitely long period in future .
• The operational significance of this assumption is that the assets are not shown in the balance sheet
at the value at which they can be sold in the market. Instead, these assets are valued considering
their likely contribution to the value of goods produced/services rendered by their use in future
years.
Example
ATCPL purchases machine for `50 lakh on April 1, 2013 with expected economic useful life of 5 years, with
no salvage value. Assume further that the machine’s efficiency/productivity is likely to be the same for all
its 5-year useful life. Accordingly, `10 lakh would be charged as depreciation as an expense for its use in
year 2013–14. On 31st March 2014, it would be shown at `40 lakh (`50 lakh – `10 lakh) as asset in balance
sheet. Obviously, `40 lakh does not represent sale/market value of the assets. Since the assumption is
going concern, the current resale value of the machine is irrelevant.
“the going concern value is an antithesis of the liquidation value”
 Cost Concept
• According to this concept, assets/resources owned by the firm should be
ordinarily/normally shown at their acquisition cost.
Merits.
• First, it provides a relatively objective basis for accounting records;
estimating current market value of assets is not only difficult but also is
subjective.
• Secondly, the market value/current value concept is difficult to apply.
compelled to keep a track of the changes in the market price; Market
valuation is not required, in particular, for the long-term assets (say, plant
and machinery, office equipments etc.) as they are acquired to be used in
business and not for sale.
 Accounting Period Concept
• Notional or artificial pause for the going concern concept with the intent to prepare
income statement for a specific period of time.
• Conventionally, it is normal to have a one year period as accounting period for
reporting to shareholders/stakeholders and determining taxes payable to the
government.
• In the majority of business firms, the accounting period chosen is April 1–March 31 so
that it matches with the fiscal year of the government.
• Mandatory under Clause 41 of listing agreement for listed companies in India to
publish financial results (i.e. income statement) on quarterly basis. Its preparation
requires computation of revenues earned and expenses incurred during the period
under reference. This exercise is based on concepts such as conservatism, realization,
accrual, matching and consistency.
 Conservatism Principle
• Be conservative in determining profits/income of a business firms
• “Anticipate no profit and provide for all possible losses”.
• Prudent/ safe/sound policy which recognises profits/income only when actually realised
• But account is/must to be taken of all expenses—actual as well as anticipated.
• Concept has a preference/bias for the understatement of the firm’s net income
(revenues-expenses) as well as for net assets in doubtful situations.
• If two estimates of some future amount are about equally likely, the preference should
be for smaller amount/number while measuring assets or revenues and the larger for
liabilities or expenses.
• Example: Inventories are valued at cost or market price, whichever is lower, provide for
provision for bad and doubtful debts.
• In sum, the conservative concept safeguards the business firm against over-estimating of
profits and its consequences
 Accrual Concept
The accounting period concept requires the preparation of income statement for a specific
accounting period (say, a year w.e.f. 1st April 2023 to 31st March 2024).
The accrual concept requires that expenses incurred for a particular accounting period should be
considered as expenses of the same period whether they have been paid in cash or are in arrears
(not paid/payable) in that year.
Similarly, revenues earned in a specific accounting period should be considered as revenues of the
same period, irrespective of whether realised in cash or not.
 Accrual Concept
ABC Diagnostic Limited has the practice of paying the monthly salary on the 7th of next month.
Accordingly, salary for the month of March 2018 was paid on 7th April 2018. If the company follows cash
basis of accounting, when would the expenses be recognized? What if the company follows accrual basis
of accounting?
• In cash basis of accounting, expenses are recorded upon payment only. Accordingly, the salary paid
will be recorded as an expense on 7th April 2018 and will appear as an expense for the year 2018–19.
• If ABC Diagnostic Limited follows accrual basis of accounting, expenses will be recorded when
incurred, i.e., when a legally binding obligation to pay has occurred. As the company has used the
services of its employees, it has an obligation to pay. As such, salary for the month of March has
already accrued by 31st March 2018. Accordingly, it will be recorded as an expense for the year 2017–
18, though paid in 2018–19.
 Realisation Concept
Revenue should be considered as being earned/realized on the date when goods are
sold or services are rendered to the customers in consideration for cash or claims to
cash (i.e., debtors).
Thus, the realization concept prevents the firm from registering/posting profits on
‘pending’ sales.
In Measuring the revenues for the period, the realization concept (as per the
requirement of conservatism concept) requires the provision for likely loss in terms
of bad debts to be created on credit sales/ debtors outstanding.
Conceptually, it is desirable that the revenue should be shown net of the estimated
amount of bad debts. In practice, however, the amount is often considered as an
expense.
• Kwality Milk Sales shown as debtors
• APL Apollo Tubes structural change of reducing
debtor days
 Revenue Recognition
The realization principle, or the revenue recognition principle, requires that revenue
be recognized when the revenue-earning process is complete or virtually complete.
Earning revenue from sales or services is a continuous process. A manufacturing
firm buys materials, processes them, selling the products, and collects cash from
customers. The firm earns revenue as it performs each of these activities
The revenue earning process would be regarded as virtually complete when the firm
sells the product or provides a service with assurance of payment by the customer.
Uncertainty may persist even after a sale. For example, if the buyer has a right of
return and wants to return the product, the seller will be obliged to take back the
product and refund the amount to the buyer
 Real Life Scenario for Revenue Recognition
• Managers have incentives to take an optimistic, rather than a
realistic, view of their firm’s revenue.
• Reporting revenue sooner would result in higher sales and profit.
Good growth in sales and profit will give managers a higher
remuneration, advance their career prospects in the firm, and
enhance their professional reputation in the job market.
• Understandably, managers may wish to recognize revenue
prematurely.
• By insisting on completion of the earning process and exchange of
goods and services, the realization principle keeps in check
managers’ tendency to be aggressive in recognizing revenue.
Conditions for recognizing revenue from providing goods
and services
 Matching Concept
Matching concept requires that expenses recognized in an accounting period are
matched with the revenue recognized in that period.
Suppose : Sales Revenue =2,52,000, COGS =2,00,000,Other expenses= 32000

Income Statement of ATCPL for the period (1.1.2013 to 31.1.2013)

Particulars Amount
Sales revenue (Cash sales, `1,25,000 + Credit sales, of `1,27,000) `2,52,000
Less cost of goods sold (Finished goods/toys purchased and sold) 2,00,000
Gross profit 52,000
Less other expenses* (salaries, rent, electricity, etc.) 32,000
Net profit 20,000
 Capital expenditures
• Capital expenditures are
expenses whose benefit
accrue beyond one
accounting year.
• Capex
 Revenue expenses
• Such as wages, insurance, property taxes, telephone bills,
electricity and power, repairs etc. occur in one accounting year and
are expensed/written off against the revenues of the same year.
• Note :
As-26 describer the Accounting treatment of R&D expenses as
expenses incurred on research phase should be expenses as when
incurred and expenses incurred on development phase should be
capitalized by satisfying given conditions,and if it is not possible to
classify the same then all expenditure incurred should be treated as
on RESEARCH phase and charged to P&L a/c
 Apollo Tyres
APOLLOTYRE.NS 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022
INCOME STATEMENT (in mln.)
Revenue 19,197 22,255 26,255 42,992 46,912 49,841 85,098 88,940 1,21,533 1,27,946 1,33,103 1,27,257 1,17,078 1,30,630 1,46,741 1,72,734 1,60,965 1,69,546 2,09,476
COGS 11,930 14,254 18,442 27,192 28,193 34,117 69,459 (1,299) 85,591 81,088 78,954 71,784 60,753 70,185 85,338 1,02,661 92,011 95,103 1,23,855
Gross Profit 7,267 8,001 7,814 15,800 18,720 15,724 15,640 90,239 35,942 46,859 54,149 55,473 56,325 60,445 61,403 70,073 68,954 74,443 85,621
Gross Profit ratio 37.85% 35.95% 29.76% 36.75% 39.90% 31.55% 18.38% 101.46% 29.57% 36.62% 40.68% 43.59% 48.11% 46.27% 41.84% 40.57% 42.84% 43.91% 40.87%
Research and Development Exp. -- -- -- -- -- -- -- 411 867 935 1,381 1,714 2,240 2,709 - - -- -- -- --
General and Administrative Exp. 3,510 3,767 3,738 6,320 7,291 5,695 - - -- 3,447 869 1,178 1,204 1,598 1,306 1,390 1,469 1,564 1,464 - -
Selling and Marketing Exp. 1,022 1,187 906 1,544 1,802 1,822 - - 1,978 4,800 5,773 6,853 7,211 7,858 9,307 9,090 11,726 12,033 11,703 - -

Selling, General and Administrative Exp. 4,531 4,954 4,644 7,864 9,093 7,517 - - 1,978 8,247 6,642 8,032 8,416 9,456 10,613 10,481 13,195 13,597 13,167 - -
Other Expenses 1,474 2,044 1,614 4,999 4,787 5,092 2,329 80,527 18,409 28,570 29,931 29,801 29,040 33,095 40,191 45,243 47,372 46,249 73,876
Operating Expenses 6,006 6,999 6,259 12,863 13,879 12,609 2,329 82,916 27,524 36,147 39,343 39,930 40,735 46,416 50,672 58,438 60,969 59,417 73,876
COGS and Expenses 17,936 21,252 24,700 40,055 42,072 46,726 71,787 81,617 1,13,114 1,17,235 1,18,298 1,11,714 1,01,488 1,16,601 1,36,009 1,61,099 1,52,980 1,54,520 1,97,731
Interest Expenese 185 421 505 962 785 973 1,154 1,852 2,873 3,056 2,772 1,773 908 962 1,574 1,792 2,757 4,378 4,444
Depreciation and Amortization 439 566 730 1,172 1,299 1,285 2,542 2,719 3,256 3,966 4,109 3,883 4,239 4,618 5,926 8,127 11,381 13,150 13,997
EBITDA 1,711 1,818 2,457 4,098 6,136 4,391 12,836 10,043 11,694 15,596 19,200 18,964 20,853 19,936 17,623 18,800 19,572 23,139 26,918
EBITDA ratio 8.91% 8.17% 9.36% 9.53% 13.08% 8.81% 15.08% 11.29% 9.62% 12.19% 14.42% 14.90% 17.81% 15.26% 12.01% 10.88% 12.16% 13.65% 12.85%
Operating Income 1,261 1,003 1,555 2,937 4,841 3,115 13,311 7,323 8,418 10,712 14,806 15,543 15,590 14,029 10,731 11,635 7,985 15,026 11,744
Operating Income ratio 6.57% 4.51% 5.92% 6.83% 10.32% 6.25% 15.64% 8.23% 6.93% 8.37% 11.12% 12.21% 13.32% 10.74% 7.31% 6.74% 4.96% 8.86% 5.61%
Total Other Income Expenses Net (175) (171) (333) (973) (788) (981) (5,045) (1,852) (2,854) (2,125) (2,486) (2,235) 116 327 (608) (2,754) (2,550) (9,414) (3,268)
Income Before Tax 1,087 832 1,222 1,963 4,053 2,134 8,266 5,471 5,565 8,586 12,319 13,308 15,706 14,355 10,123 8,881 5,434 5,612 8,477
Income Before Tax ratio 5.66% 3.74% 4.65% 4.57% 8.64% 4.28% 9.71% 6.15% 4.58% 6.71% 9.26% 10.46% 13.42% 10.99% 6.90% 5.14% 3.38% 3.31% 4.05%
Income Tax expense 364 201 317 793 1,356 742 2,607 1,063 1,444 2,448 2,269 3,532 4,776 3,365 2,884 2,083 670 2,110 2,091
Net Income 723 631 905 1,171 2,697 1,391 6,534 4,408 4,121 6,126 10,051 9,776 10,930 10,990 7,239 6,798 4,764 3,502 6,386
Net Income ratio 3.77% 2.83% 3.45% 2.72% 5.75% 2.79% 7.68% 4.96% 3.39% 4.79% 7.55% 7.68% 9.34% 8.41% 4.93% 3.94% 2.96% 2.07% 3.05%
EPS 2.15 1.61 2.32 2.80 5.73 2.76 12.96 8.73 8.13 12.15 19.94 19.25 21.47 21.59 13.43 11.88 8.33 5.68 10.06
EPS Diluted 2.15 1.61 2.32 2.79 5.70 2.76 12.96 8.73 8.13 12.15 19.91 19.23 21.47 21.59 13.43 11.88 8.33 5.68 10.06

Weighted Average Shares Outstanding 334 383 383 418 471 503 504 504 504 504 504 508 509 509 539 572 572 617 635
Weighted Average Shares Outstanding
Diluted 334 383 383 419 473 503 504 504 504 504 505 508 509 509 539 572 572 617 635
EPS measures the amount of a company’s profit on
a per-share basis.

Diluted EPS is a metric used in fundamental analysis to

gauge a company’s quality of EPS assuming all
convertible securities have been exercised. Convertible
securities include all outstanding convertible preferred
shares, convertible debt, equity options (mainly
employer-based options), and warrants.
Warrants are a contract that gives the right, but not
the duty, to buy or sell a security—most usually,
equity—before expiry at a certain amount. The price at
which the underlying security may be bought or sold is
called the exercise price or the strike price.
 Deferred revenue expenses
• Revenue expenses which benefit more than one
accounting year, e.g. research and development
expenditure.
 Consistency Concept/Principle
• Comparability (or consistency) requires the application of the same
accounting policies from one reporting period to the next.
• Consistency principle requires consistency in accounting treatment of
items such as depreciation and inventory valuation to ensure
comparability over the years.
Specific Identification FIFO LIFO WAC
Particulars Amount Amount Amount Amount
Sales revenue 3500 3500 3500 3500
COGS
Beginning Inventory 200 200 200 200
Purchases 1800 1800 1800 1800
Less Closing Inventory 560 850 350 600
Less cost of goods sold 1,440 1,150 1,650 1,400
Gross profit 2,060 2,350 1,850 2,100
 Materiality Concept
Materiality concept requires full disclosure of all material information/events
Example
• Issuance or forfeiture of securities, split or consolidation of shares, buyback of securities
• Change in directors, key managerial personnel (Managing Director, Chief Executive Officer, Chief
Financial Officer, Company Secretary etc.), Auditor and Compliance Officer.
• Capacity addition or product launch.
• Litigation(s) / dispute(s) / regulatory action(s) with impact.
• Fraud/defaults etc. by directors (other than key managerial personnel) or employees of listed
entity.
• Options to purchase securities including any ESOP/ESPS Scheme.
• Giving of guarantees or indemnity or becoming a surety for any third party.
• Granting, withdrawal, surrender, cancellation or suspension of key licenses or regulatory approvals.
 Substance Over Form
Accountants often face situations where the real intent of a transaction is totally different
from the form in which the transaction is entered into. As a principle, the substance of the
transaction takes precedence over its legal form. The real intent behind the transaction
should be explored and given effect to in accounting.
Example : On 1st May 2017, Moneywise Bank sold some securities to KM Bank for ₹ 100
million with an agreement to buy them back at ₹ 101 million after a month. The securities
were delivered to KM Bank on 1st May 2017. On 1st June, Moneywise Bank paid ₹ 101 million
and bought back the securities. How should the transactions be recorded in the books of
Moneywise Bank?
Prima facie the transaction appears as a sale and purchase of securities. In substance,
however, Moneywise Bank has borrowed ₹ 100 million from KM Bank against collateral of
securities in question. The loan has been repaid on 1st June 2017 with interest of ₹ 1 million.
Looking at the substance of the transaction, it will be recorded as a borrowing and ₹ 1 million
will be recorded as an interest expense in the books of Moneywise Bank.
 Contingent Assets
An asset the existence ownership value of which may be known or
determined only on the occurrence or non occurrence of one or
more future uncertain events. It usually arises from unexpected
events that give rise to possibility of inflow of economic benefits to
the business enterprise .
Treatment-
1. Not recognised in the books of accounts
2. Not required to be disclosed in financial statements
3. Once certain then may be recorded in the financial statements
 Contingent liability
• May be disclosed as a note in the financial statements
• These liabilities have to be continuously assessed to
see if the outflow of has become probable . The
provision to the extent of probable amount will be
have to be recognised and created
 Provision
• An amount written off or retained by way of providing
for the depreciation or for providing any known liability ,
the amount of which cannot be determined with
substantial accuracy. Ex-Prov for bad and doubtful debts
and provision for discount on debtors
• Difference between a provision, contingent liability and
liability – Example of a lawsuit
TAMO
TAMO PG 341 NOTES TO ACCOUNT 31