CHAPTER 1

THEORETICAL FRAMEWORK
 UNIT 1
MEANING AND SCOPE OF ACCOUNTING
LUCA PACIOLI
ACCOUNTING PROCESS
 Recording

Classifying

Summarising

Analysing

Interpreting

Communicating
FINANCIAL STATEMENTS
COMPONENTS

Balance Sheet Disclosures

P & L Account

Represents As per the

Financial Position Legal Requirements

Represents
Financial Performance
OBJECTIVES OF ACCOUNTING

Systematic recording of transactions;

Ascertainment of Financial Position of the business;

Ascertainment of Financial Performance of the business;

Communication of Financial Information to the users.

 USERS OF FINANCIAL
INFORMATION
Management

Owners

Employees

Lenders / Banks

Customers

Government
SUB-FIELDS OF ACCOUNTING

Financial Accounting

Cost Accounting

Management Accounting

Human Resource Accounting

Social Responsibility Accounting

FUNCTIONS OF ACCOUNTING
INFORMATION
Measurement;

Forecasting;

Decision Making;

Comparison and Evaluation;

Government regulation and Taxation.

LIMITATIONS OF ACCOUNTING / FINANCIAL
STATEMENTS

Ignores qualitative aspects;

Estimation;

Ignores price level changes;

Window dressing.
TRANSACTION VS EVENT
TRANSACTION
EVENT
RELATIONSHIP WITH OTHER
DISCIPLINES
Accounting and Economics

Accounting and Mathematics

Accounting and Statistics

Accounting and Law

Accounting and Management

ROLE OF AN ACCOUNTANT
 ROLE OF AN ACCOUNTANT
Maintenance of books of accounts

Statutory Audit

Taxation

Management Accounting and Consultancy Services

Financial Advice

Other Work
END OF UNIT 1
 UNIT 2
ACCOUNTING PRINCIPLES, CONCEPTS AND CONVENTIONS
 ACCOUNTING CONCEPTS

• Separate Entity Concept

• Money Measurement Concept
• Going Concern Concept
• Periodicity Concept
• Cost Concept
• Realisation Concept
• Dual Aspect Concept
• Accrual Concept
• Matching Concept
• Objective Evidence Concept
Separate Entity Concept

According to this concept, a business is treated as a separate entity and

is distinct from its owner(s). In other words, the owner of the business is
always considered as distinct and separate from the business he owns.
Money Measurement Concept

According to this concept, only those transactions which are capable

of being expressed in terms of money are included in the accounting
records.
Going Concern Concept

Under this concept, it is assumed that the enterprise has neither the
intention nor the necessity to wind up the business in the foreseeable
future. It is also known as assumption of continuity.
 Periodicity Concept

According to going concern concept, the business is intended to

continue indefinitely for a long period, the true results of business
operations can be ascertained only when the business is wound up. As
per this concept, the economic life of an enterprise is artificially split
into periodical intervals which are termed as accounting periods.
 Cost Concept

According to this concept, the asset acquired by a business concern in

recorded in the books of accounts at cost or purchase price. The cost
price includes cost of acquisition, transportation, installation and any
other cost incurred in making the asset ready for use.
 Realisation Concept

Generally, revenue is earned from the sale of goods or by providing the

services to the customer. According to this concept, revenue is recognised
only when a sale is made. Sale is considered to be complete only when the
property of the goods passes to the buyer and he becomes legally liable to
pay for the same.
 Dual Aspect Concept

Assets = Equity + Liabilities

This is the basic concept of accounting according to which every business

transaction has a dual effect. As the name implies, the entry made for each
transaction is composed of two parts - one for the debit and the other for the
credit. Every debit has an equal amount of credit.
 Accrual Concept

According to accrual concept, all revenues and costs are recognised as

they are earned or incurred and not as money is received or paid.
 Matching Concept

Profit / (Loss) = Income - Expenses

As per this concept, the expenses incurred in an accounting period should be

matched with revenues during that period.
Objective Evidence Concept

This concept states that no accounting record should be made unless it is

supported by independently verifiable (i.e., objective) evidence.
 Accounting Conventions

• Convention of Conservatism

• Convention of Consistency

• Convention of Materiality

• Convention of Full Disclosure

 Convention of Conservatism

The convention of conservatism means that the convention of caution,

or the policy of playing safe. The principle of “provide for all expected
losses but never for anticipated profits” applies here.
Convention of Consistency

According to this principle, the accounting policies adopted by the

enterprise should be followed consistently from one period to
another.
 Convention of Materiality

According to the convention of materiality, all relevant items, the

knowledge of which might influence the decision of the users of the
financial statements, should be disclosed in the financial statement.
Convention of Full Disclosure

According to this principle, the financial statements should disclose all

reliable and relevant information which are necessary for the users.
Fundamental Accounting Assumptions

•Going Concern Concept

•Convention of Consistency
•Accrual Concept
END OF UNIT 2
 UNIT 3
CAPITAL AND REVENUE EXPENDITURE AND RECEIPTS
FACTORS TO BE CONSIDERED IN DETERMINING
THE NATURE OF THE EXPENDITURE

Nature of business;

Recurring nature of the expense;

Materiality;

Effect on revenue generating capacity of the Asset.

Second-hand Assets
CLASSIFICATION OF EXPENDITURE

Capital Expenditure Deferred Revenue Expenditure

Revenue Expenditure
CLASSIFICATION OF RECEIPTS

Capital Receipt Revenue Receipt

 Illustration
Classify the following into Capital and Revenue Expenditure and Receipts

Transaction Capital Revenue

Overhaul expenses of second-hand

Expense
machinery purchased
Money spent to reduce working
Expense
expenses

Legal fees to acquire property Expense

Amount spent for replacement of worn

Expense
out part of machine
 Illustration (Continued - 2)
Classify the following into Capital and Revenue Expenditure and Receipts

Transaction Capital Revenue

Expense incurred on the repairs and
white washing for the first time on Expense
purchase of an old building

Expenses in connection with obtaining a

Expense
license for running the cinema
Amount spent for the construction of
temporary huts, which were necessary
for construction of the Cinema House Expense
and were demolished when the cinema
house was ready
 Illustration (Continued - 1)
Classify the following into Capital and Revenue Expenditure and Receipts

Transaction Capital Revenue

Amount received from Trade receivables
during the year Receipt

Amount spent on demolition of building

to construct a bigger building on the Expense
same site

Insurance claim received on account of a

machinery damaged by fire Receipt
END OF UNIT 3
UNIT 4
CONTINGENT ASSETS AND CONTINGENT LIABILITIES
MEANING OF CONTINGENCY

Contingency is a situation, the ultimate outcome of

which, gain or loss, will be known or determined only on
happening or non-happening of one or more uncertain
future events.
CONTINGENT ASSETS

Meaning - Possibility of economic benefit that could arise from past events, which is not
within the control of the enterprise, is known as contingent asset. The actual benefit
arising will be confirmed only on the happening or non-happening of some uncertain
future event/events.

Disclosure - Contingent assets should not be disclosed in the financial statements but
may be disclosed in the report of the Board of Directors.
CONTINGENT LIABILITIES

Meaning - Possibility of obligation arising from past events, which is not

within the control of the enterprise, is known as contingent liabilities. The
actual obligation arising which might arise will be confirmed only on the
happening or non-happening of some future uncertain event\events.

Disclosure - As required by AS-29, a contingent liability should be disclosed

in foot note of financial statement, unless the possibility of an outflow of
resources is remote.
DISTINCTION BETWEEN LIABILITY AND
CONTINGENT LIABILITY
Basis Liability Contingent Liability
A contingent liability is a future
A liability is a present obligation which
Definition obligation which may arise from past
arises from past events.
events.

A liability can be measured with A contingent liability cannot be measured

Measurement
sufficient reliability. with sufficient reliability.

A liability is disclosed on the Liability A contingent liability is not a part of the

Presentation in the
side of the Balance Sheet and hence, it Balance Sheet. It is disclosed by way of
Balance Sheet
is a part of the Balance Sheet. a fo o t n o t e in the Balance Sheet.
 DISTINCTION BETWEEN CONTINGENT
LIABILITY AND PROVISION
Basis Contingent Liability Provision
A contingent liability is a future Provision refers to amount set aside to
Definition obligation which may arise from past cover a probable future loss.
events.

A contingent liability cannot be A provision is a liability which can be

Measurement
measured with sufficient reliability. measured with some estimation.
A provision is recognised in books of
A contingent liability has no recognition
Recognition accounts.
in the books of accounts.

A contingent liability is not a part of

Presentation in the the Balance Sheet. It is disclosed by Provision is to be disclosed in the
Balance Sheet way of a fo o t n o t e in the Balance liabilities side of the Balance Sheet.
Sheet.
END OF UNIT 4
 UNIT 5
ACCOUNTING POLICIES
 MEANING OF ACCOUNTING POLICIES

Accounting policies refer to specific accounting principles and methods of applying

these principles adopted by the enterprise in the preparation and presentation of
financial statements.

The areas in which different accounting policies are frequently encountered are:

• Methods of depreciation, depletion, amortisation;

• Valuation of inventories;

• Treatment of goodwill;

• Valuation of investments.
FACTORS TO BE CONSIDERED WHILE SELECTING AN ACCOUNTING POLICY

• Prudence

• Substance over Form

• Materiality
 SUBSTANCE OVER FORM

Bank Loan Hire Purchase

 CHANGE IN ACCOUNTING POLICY

Change in the accounting policy should be made under the following conditions:

• If it is required by the Law (statute).

• If required for compliance with an Accounting Standard

• If the change would result in a Better presentation of financial statements.

END OF UNIT 5
 UNIT 6

ACCOUNTING AS A MEASUREMENT
DISCIPLINE – VALUATION PRINCIPLES,
ACCOUNTING ESTIMATES
 VALUATION PRINCIPLES

Historical Cost

Current Cost

Realisable Value

Present Value
 PRESENT VALUE

Net Cash PVF Present

Year
Inflow (r = 10%) Value
1 10,000 0.909 9,090
2 10,000 0.826 8,260
3 10,000 0.751 7,510
4 10,000 0.683 6,830
5 10,000 0.621 6,210
Total 50,000 37,900
 ACCOUNTING ESTIMATES

Valuation principles help is evaluation of those transactions or events

which has occurred. Items, which have not occurred, cannot be
measured using valuation principles. However, it is necessary to
record them too. Like for provision for doubtful debts on debtors.
Accounting estimates are usually made in respect of doubtful debts,
residual value etc. If changes occur in the circumstances on which the
estimates were based, accounting estimate may require revision.
END OF UNIT 6
ACCOUNTING STANDARDS AND IND AS

UNIT 7
“Accounting Standards is a code of conduct imposed on
accountants by custom, law or professional body.”

– Kohler
 Meaning of Accounting Standards

Accounting Standards are written policy documents issued by an expert accounting

body or by the government or any other regulatory body. It covers the aspects of
recognition, treatment, measurement, presentation and disclosure of accounting
transactions and events in the financial statements.
 Benefits of Accounting Standards

• Standardisation of alternative accounting treatments;

• Comparability of Financial Statements;

• Disclosure requirements in addition to the the statutory requirements.

 Limitations of Accounting Standards

• Difficulties in making choice between different treatments;

• Accounting standards cannot override the statute.

Process of setting Accounting Standards
INTRODUCTION TO IND AS
 Benefits of Ind AS

• Beneficial to the Economy;

• Beneficial to Investor;

• Beneficial to the Industry.

END OF UNIT 7
END OF CHAPTER 1