Fundamentals of

Accountancy, Business
and Management 1
First Quarter
Module 4:
Accounting Concepts
and Principles

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 What I Need to Know

Accounting Concepts and Principles are a set of broad

conventions that have been devised to provide a basic framework for
financial reporting. Accountants must therefore actively consider
whether the accounting treatments adopted are consistent with the
accounting concepts and principles. Remember, you are to work on
this module independently. It is expected that you will make the most
of this module and perform the activities/tasks given wholeheartedly .

At the end of this lesson, I will be able to:

 explain the varied accounting concepts and principles
(ABM_FABM11-IIIb-c-15)
 solve exercises on accounting principles as applied in
various cases (ABM_FABM11-IIIb-c-16)

What I Know
To find out what you already know about the topic to be
discussed in this module, answer the Pre-test first before you proceed
with the module. Write your answers in your notebook.

A. Multiple Choice. Choose the letter of the best answer.

1. “GAAP” refers to __________________.
a. General Accounting and Auditing
b. Generally Accepted Accounting Principles
c. General Association of Accounting Practitioners
d. Guidelines for Accountants, Accounting Procedures 2. The requirement
that only transaction data capable of being expressed in terms of money
be included in the accounting records related to the________.
a. cost principle
b. both b and c
c. monetary unit assumption
d. economic entity assumption
3. Financial statements combining the operations of Juan Cruz and J.
Cruz Plumbing Services would violate the __________.
a. economic entity assumption
b. monetary unit assumption
c. ownership assumption

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d. cost principle
4. The assumed continuation of a business entity in the absence of
evidence to the contrary is an example of the accounting concept of
____________.
a. accrual c. consistency
b. comparability d. going concern
5. Recording the purchase price of a pencil sharpener (with an
estimated useful life of ten years) as an expense of the current
period is justified by the _____________.
a. comparability principle c. matching principle
b. going concern assumption d. materiality concept
6. Conservatism is best described as selecting an accounting
alternative that _____________.
a. is least likely to mislead users of financial information
b. has the least favourable impact on owner‟s equity
c. overstates, as opposed to understates, liabilities
d. understated assets and/or net income
7. The financial statements prepared for the business are separate
and distinct from the owners. This is in accordance with the
___________.
a. economic entity assumption c. going concern principle
b. full disclosure principle d. matching principle 8. The
accrual basis of accounting is based primarily on _______________.
a. conservatism and revenue realization and matching
b. revenue realization and matching
c. conservatism and matching
d. consistency and matching

B. True or False. Write TRUE if the statement is correct and FALSE if

the statement is incorrect.
1. GAAP is a widely accepted set of rules, concepts and principles
that govern the application of the accounting procedures.
2. The owner of Linis Bango Laundry Shop bought a residential
dwelling for his parents. The cost of the house is recorded as property
of the business.
3. Financial Statements are prepared at the end of the 12-month
period because of the going concern assumption.
4. Accountants must use their judgement to record transactions
that requires estimation.

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 What‟s In
Directions: Read the accounting scenario below and answer the
questions that follow:

The transactions that JM Photocopying Center entered into are

as follows: The owner, Jose Mercado, invested P10, 000 and borrowed
P 50, 000 to start his business. He purchased photocopying machine
for P30, 000 and supplies for P10, 000. He paid two months ‟ rent for
P10, 000, salary for P4, 000, and business permit for P2, 000. The
business consumed electricity for P2, 500 payable the following
month. During the first month of business operations, the
photocopying service generated P10, 000 revenue.

Write your answers of the given questions in the notebook:

1. Which of the amounts cited above do you think will be included in
the business‟ financial reports?
2. What is your reason for including said amounts?

What‟s New

The activity is an application of the Business Entity Principle

which is one of the most important principles in accounting. Other
principles of accounting will be discussed in the next section.

Directions: Read the text below and answer the question that follows.
Do it in your notebook.

Petness First Petshop

Juan dela Cruz opened his pet shop business called Petness
First Petshop. He opened a bank account for his business and
deposited PHP500,000. The business earned PHP50,000 but he had
doubts with the recorded expense of PHP60,000. He is not sure if he
should include the following items as expenses:
Salary expense 20,000
Rent expense 10,000
Utilities expense (at home) 15,000
Utilities expense (at the store)10,000
Insurance expense 5,000
Withdrawals 10,000

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 TOTAL 60,000

Question:
What do you think should not be included as an expense? Then
explain why.

Rubrics for rating your explanation/answers:

*Respond to the question in a well-organized paragraph with a clear
topic sentence, sufficient relevant evidence, and an explanation.

Acceptable Good (80 Excellent

(60 pts) pts) (100 pts)
Topic Unclear or Basic topic Clear topic
Sentence lacking topic sentence, sentence
sentences doesn‟t fully introducing
introduce
response
Evidence Minimal or One to two Three or more
irrelevant relevant relevant
evidence supporting supporting
details details
Explanation No explanation Minimal Complete
explanation explanation

What Is It

DISCUSSION: Read the discussion that follows in order to

understand and gain more knowledge about the lesson.
Accounting Concepts and Principles
Actually there are a number of accounting concepts and
principles based on which we prepare our accounts. These generally
accepted accounting principles lay down accepted assumptions and
guidelines and are commonly referred to as accounting concepts.

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

Accounting Concepts:
Business entity
Periodicity
Money Measurement/stable monetary unit

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 Going Concern
Historical Cost
Prudence/conservatism
Materiality
Objectivity
Consistency
Accruals/matching
Realization
Uniformity
Disclosure
Relevance

Business Entity

The business and its owner(s) are two separate existence entity.
Any private and personal incomes and expenses of the owner(s) should
not be treated as the incomes and expenses of the business.
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.

Periodicity/Time Period Assumption

It is the concept behind providing financial accounting
information about the economic activities of an enterprise for specified
time periods.
An accounting period may be classified as either of the ff:
- Calendar year
- Fiscal year

Money Measurement
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.

Going Concern
The business will continue in operational existence for the
foreseeable future. Financial statements should be prepared on a
going concern basis unless management either intends to liquidate the
enterprise or to cease trading, or has no realistic alternative but to do
so
Example: Possible losses form the closure of business will not be
anticipated in the accounts. Prepayments, depreciation provisions
may be carried forward in the expectation of proper matching against

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the revenues of future periods. Fixed assets are recorded at historical
cost.
Historical Cost
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

Prudence/Conservatism
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 estimation.
This treatment minimizes the reported profits and the valuation of
assets.
Example: Stock valuation sticks to rule of the lower of cost and
net realizable value. The provision for doubtful debts should be made.
Fixed assets must be depreciated over their useful economic lives.

Materiality
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.
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.

Objectivity
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 contracts.
Example: The recognition of revenue should be based on
verifiable evidence such as the delivery of goods or the issue of
invoices.

Consistency
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.
Examples: If a company adopts straight line method and should
not be changed to adopt reducing balance method in other period. If a

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company adopts weight-average method as stock valuation and should
not be changed to other method e.g. first-in-first-out method.
Accruals/Matching
Revenues are recognized when they are earned, but not when
cash is received. Expenses are recognized as they are incurred, but
not when cash is paid. The net income for the period is determined by
subtracting expenses incurred from revenues earned.
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.

Problems in the recognition of expenses:

Normally, expenses represent resources consumed during the
current period. Some costs may benefit several accounting periods, for
example, development expenditures, depreciation on fixed assets.

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.
Systematic allocation of costs:
When the cost benefits 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.

Realization
Revenues should be recognized when the major economic
activities have been completed. Sales are recognized when the goods
are sold and delivered to customers or services are rendered.
Recognition of revenue:
The realization concept develops rules for the recognition of
revenue. 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

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liabilities. Since revenue is a principal component in the measurement
of profit, the timing of its recognition has a direct effect on the profit.
Recognition criteria for revenues:
The uncertain profits should not be estimated, whereas reported
profits must be verifiable. Revenue is recognized when the major
earning process has substantially been completed. Further cost for the
completion of the earning process are very slight or can be accurately
ascertained, and the buyer has admitted his liability to pay for the
goods or services provided and the ultimate collection is relatively
certain.
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.
Problems in the recognition of revenue:
Normally, revenue is recognized when there is a sale. The point
of sales in the earning process is selected as the most appropriated
time to record revenues. However, if revenue is earned in a long and
continuous process, it is difficult to determine the portion of revenue
which is earned at each stage. Therefore, revenue is permitted to be
recorded other than at the point of sales.

Exceptions to rule of sales recognition:

 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.
 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.
Receipts from subscriptions:
A publisher receives subscriptions before it sends newspapers
or magazines to its customers. It is proper to defer revenue recognition
until the service is rendered. However, part of subscription income can
be recognized as it is received in order to match against the
advertising expenses incurred.

Disclosure
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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Uniformity
Different companies within the same industry should adopt the
same accounting methods and treatments for like transactions. The
practice enables inter-company comparisons of their financial
positions.

Relevance
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.

What`s More
 Independent Activity 1

Task: Read and analyze each sentence and decide what

accounting principle is being illustrated. Write your answers on
your notebook.
1. If the owner has a barber shop, the cash of the barber shop
should be reported separately from personal cash.
2. The owner had a business meeting with a prospective client.
The expenses that come with that meeting should be part of
the company‟s expenses. If the owner paid for gas for his
personal use, it should not be included as part of the
company‟s expenses.
3. Jollibee should report financial statements in pesos even if
they have a store in the United States.
4. When the customer paid Jollibee for their order, Jollibee
should have a copy of the receipt to represent as evidence.
5. When Jollibee buys a cash register, it should record the
cash register at its price when they bought it.
6. When a barber finishes performing his services he should
record it as revenue. When the barber shop receives an
electricity bill, it should record it as an expense even if it is
unpaid.
7. When you provide tutorial services to a customer and there
is a transportation cost incurred related to the tutorial
services, it should be recorded as an expense for that period.
8. A school purchased an eraser with an estimated useful life
of three years. Since an eraser is immaterial relative to
assets, it should be recorded as an expense.
9. In case of doubt, expenses should be recorded at a higher
amount. Revenue should be recorded at a lower amount.

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 10. The company should report all relevant information.

 Independent Activity 2
Task: Indicate which Accounting principles are violated in each
item below. Write your answers in your notebook.
1. The owner-manager bought a computer for personal use.
The invoice was given to the accountant who recorded it as an
asset of the business.
2. The statement of financial position of a company included
equipment purchased from Japan for 350,000 yen. It was
reported at that amount in the statement of financial position
while all the other assets were reported in Philippine pesos.
3. No financial statements were prepared by Michael Go for
his business. He explained that he will prepare the statements
when he closes the business, which he predicts to take place
after 20 years.
4. Aside from owning a shoe store, Albert operates a
canteen. The assets of the canteen are reported in the statement
of financial position of the shoe store.
5. Purchased a hammer at a cost of PHP500. This was
recorded as an asset and expense to decrease its value by PHP50
per year for 10 years.
6. A food company ordered a machine needed in the
assembly line of its production department. Upon order, the
machine was immediately listed as one of its assets.

 Independent Activity 3
Task: Look at the activities in the pictures presented.
Identify the Accounting Principles and Concepts related to the
picture. (1-5)

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 What I Have Learned

I learned that:

 The Accounting Concepts and Principles are as follows:

Business Entity, Periodicity, Money Measurement, Going
Concern, Historical Cost, Prudence/Conservatism,
Materiality, Objectivity, Consistency, Accruals/Matching,
Realization, Uniformity, Disclosure and Relevance.

 Generally Accepted Accounting Principles (GAAP) - a set of

accounting principles, concepts, rules, and guidelines those
companies follow to enhance the consistency and
comparability of their financial statements.

What I Can Do
Directions: Write your answers on your notebook.

The owner of the business is questioning why the

electricity and water bill consumed by his family which was paid
from cash of the business was charged as his personal
withdrawal. He is claiming that since he is the owner of the
business, he has the discretion to the use of business cash.

How would you explain your accounting system for such

payment based on the accounting principles and concept?

Rubrics for rating your explanation/answers:

*Respond to the question in a well-organized paragraph with a clear
topic sentence, sufficient relevant evidence, and an explanation.

Acceptable Good Excellent (100

(60 pts) (80 pts) pts)
Topic Sentence Unclear or Basic topic Clear topic
lacking topic sentence, sentence

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 sentences doesn‟t fully introducing
introduce
response
Evidence Minimal or One to two Three or more
irrelevant relevant relevant
evidence supporting supporting
details details
Explanation No explanation Minimal Complete
explanation explanation

Assessment

A. Multiple Choice. Choose the letter of the best answer. Write your
answers in your notebook.
1. “GAAP” refers to __________________.
a. General Accounting and Auditing
b. Generally Accepted Accounting Principles
c. General Association of Accounting Practitioners
d. Guidelines for Accountants, Accounting Procedures 2. The
requirement that only transaction data capable of being expressed
in terms of money be included in the accounting records related to
the________.
a. cost principle
b. both b and c
c. monetary unit assumption
d. economic entity assumption
3. Financial statements combining the operations of Juan Cruz and J.
Cruz Plumbing Services would violate the __________.
a. economic entity assumption
b. monetary unit assumption
c. ownership assumption
d. cost principle
4. The assumed continuation of a business entity in the absence of
evidence to the contrary is an example of the accounting concept of
____________.
a. accrual c. consistency
b. comparability d. going concern

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5. Recording the purchase price of a pencil sharpener (with an
estimated useful life of ten years) as an expense of the current
period is justified by the _____________.
a. comparability principle c. matching principle
b. going concern assumption d. materiality concept
6. Conservatism is best described as selecting an accounting
alternative that _____________.
a. is least likely to mislead users of financial information
b. has the least favourable impact on owner‟s equity
c. overstates, as opposed to understates, liabilities
d. understated assets and/or net income
7. The financial statements prepared for the business are separate
and distinct from the owners. This is in accordance with the
___________.
a. economic entity assumption c. going concern principle
b. full disclosure principle d. matching principle
8. The accrual basis of accounting is based primarily on
_______________.
a. conservatism and revenue realization and matching
b. revenue realization and matching
c. conservatism and matching
d. consistency and matching

B. True or False. Write TRUE if the statement is correct and FALSE if

the statement is incorrect.

1. GAAP is a widely accepted set of rules, concepts and principles

that govern the application of the accounting procedures.
2. The owner of Linis Bango Laundry Shop bought a residential
dwelling for his parents. The cost of the house is recorded as property
of the business.
3. Financial Statements are prepared at the end of the 12-month
period because of the going concern assumption.
4. Accountants must use their judgement to record transactions
that requires estimation.

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