Semester : Summer - 2010
Date Of Submission : 08 - 08 – 2010
Name : Saif Uddin Siddique
I D : 102 0610 0 3 0
Faculty : Mdm
Section : 03
Question No. 1 :
Explain using various examples,how the major accounting concepts are used in preparing financial statements.
There are several accounting concepts that are used by the accountants worldwide in preparing financial statements.Using these principles one can prepare a fair and accurate financial statement for a period that would reflect the true condition of the business.
Among all the accounting principles,there are some very important fundamental concepts.Those major accounting concepts are : 1 ) Historic Cost Principle
2 ) Accruals Concept
3 ) Prudence Concept
4 ) Consistency Concept
5 ) Materiality Concept
The use of these concepts in preparing financial reports are discussed below.
1 ) Historic Cost Principle :
According to historic cost principle,all the assets have to be valued on the basis of the historic costs,that is,their original purchasing prices.For example,if an asset is bought on 1st January 2010 with a price of $1000 and the very next day on 2nd January 2010 the price changes to $1200,the historic cost will still remain $1000,and it will never change.The valuation of the asset will always be made on the basis of it’s purchasing price,that is,$1000. According to this concept,we cannot modify or change the historic cost of an asset.While preparing financial statement of a business,We apply this principle by showing the original prices of fixed assets and current assets in the balance sheet.In case of fixed assets we show the historic costs and then deduct the accumulated depreciations to get the net book values other than showing the net book values directly without showing the historic costs.In case of current assets,for example,inventories,we show the original purchasing prices of the inventories in hand other than showing the current higher market value. Thus,we apply historic cost principle in preparing financial statements.
2 ) Accruals Concept :
Accruals concept says that net profit is the difference between revenues and the expenses incurred in generating those revenues,that is, Revenues – Expenditures = Net Profit According to this concept,we should show those revenues in the financial statement,that are earned during an accounting period,even if cash for the revenues is not received yet.Similarly,in case of expenses,all expenses that are incurred over a period,paid or not,should be shown as expenses of that period in the financial report.For example,in the income statement of a merchandising business,sales is shown as revenue,and that sales includes the total sales of the period along with the credit sales,although cash for those credit sales is not received yet.On the other hand,in the income statement,for a particular expense,like salary,we show the total salaries due for that period.We add the accrued salary for that period and deduct any prepaid salaries for future to show the total due figure as expense. In this way,accruals concept is applied in preparing financial statements.
3 ) Prudence Concept :
When dealing with uncertainity,accountants shoul always be very careful ensuring that the financial statement is neutral – that gains and losses,and.assets and liabilities are neither overstated nor understated – and this is known as prudence concept.According to this concept,accountants should be very...