Accounting Concepts
and Principles
Chapter 6
Accrual Accounting
• revenue should be recognized when earned regardless of
collection
• expenses should be recognized when incurred regardless of
payment
• On the other hand, the cash basis principle in which revenue is
recorded when collected and expenses should be recorded when
paid. Cash basis is not the generally accepted principle today
• Example
• 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.
Matching Principle
• cost should be matched with the revenue
generated
• Example
• 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.
Use of Judgements & Estimates
• Accounting Estimates
• an approximation of the amount of a business transaction for which there is
no precise means of measurement. Estimates are used in accrual basis
accounting to make the financial statements more complete, usually to
anticipate events that have not yet occurred, but which are considered to be
probable. These estimates may be subsequently revised as more information
becomes available.
Examples of accounting estimates are:
• A loss provision for an environmental damage claim
• A loss provision for a bad debt
• A loss provision for warranty claims
• The amount of an accounting estimate is based on historical costs and the
judgment of the accountant. The basis upon which an accounting estimate is
Prudence
• Also known as “Conservatism”
• In case of Doubt, record any loss and do not record any
gain
• Assets and income should not be overstated while liabilities
and expenses should not be understated
• Example
In case of doubt, expenses should be recorded at a higher
amount. Revenue should be recorded at a lower amount.
Substance over Form
• Information presented to the Financial Statement of a company
should truthfully and faithfully represent the financial condition and
performance of the company
• Substance prevails over legal form
Example:
Sales of Good (Substance) = Receipt (legal form) same
Lease (transfer after the contract sale of property) over Installment
payment as contract
Going Concern Assumptions
That the operations of business will continue indefinitely
into the future
Allows accountant to defer recognition of expenses in the
future
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) 1 5,000
• Utilities expense (at the store) 10,000
• Insurance expense 5,000
• Withdrawals 10,000
• TOTAL 60,000
Accounting Entity Assumptions
a business enterprise is separate and distinct from its owner or
investor.
Example:
o If the owner has a barber shop, the cash of the barber shop
should be reported separately from personal cash.
o 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.
Time Period Assumption
The indefinite life of a company can be divided into period
of equal length for the preparation of Financial Statement
• Calendar year
• Fiscal Year
GAAP
• GAAP is the acronym for generally accepted accounting
principles. In the U.S. that meansthe basic
accounting principles and guidelines such as the
cost principle, matching principle, full disclosure, etc.,
• the detailed standards and other rules issued by the
Financial Accounting Standards Board (FASB) and its
predecessor the Accounting Principles Board, and generally
accepted industry practices.