Concepts for Financial Accounting

1. Concepts for Financial Accounting By Jessica Huff

2. Useful Information

3. Relevance • Material needs to relevant • Financial statements and accounting information are relevant • Something like gossip to coworkers is not relevant • Timely • Would want to record things and turn in reports soon after they happen, not several years down the road

4. Reliability • Information must able to be depended on • It must be verifiable • Basically that there are no errors • The information cannot be biased • Something like only reporting good things that happened during a year instead of the bad

5. Comparability • This idea isn’t so much a requirement, but a statement • Companies have certain formats they follow in order to report their information • This concept is just saying that statements are generally comparable because of these similar formats

6. Consistency • This is a very important concept • Information needs to be consistent from year to year • This will help certain governmental bodies know that a company is not trying to play the system • If a company switches methods every year, this does not make the statements comparable, and it negates relevancy and reliability

7. Assumptions and Principles

8. Monetary Unit Assumption • This assumption just states that only money numbers will be reported in the accounting records • So, something like cash and land is reported but not something like disagreements in the office or customer satisfaction

9. Economic Assumption • This assumption just states that every transaction can be identified and separated from other transactions • This would be like separating the Petty Cash and Cash Equivalents from the Cash account or being able to separate different divisions of a company instead of as a whole

10. Time Period Assumption • This just states that the life of a business can be separated into periods • Income Statement, Retained Earnings, and the Cash Flow Statement all are for that year • Balance Sheet is for a specific point in time • Many companies report statements quarterly, but all are required to report statements annually

11. Going Concern Assumption • This assumption just assumes that a business will be in operation for a whole year whether or not it actually is • Many business fail within the first couple of years, so it this assumption is important to establish • If accountants assume that a business will not remain operating, then there is less incentive to be productive • If it is assumed that the business will be in operation, accountants will do their best

12. Cost Principle • This is an important principle because it is used in accounting a lot • It just means that assets are going to be reported at cost • So, if a company buys a building, it will be for the cost of the building not the fair value (also called market value) if different • ASSETS WILL NEVER BE WRITTEN UP IF THE FAIR VALUE INCREASES- ONLY IF THE FAIR VALUE GOES DOWN

13. Full Disclosure Principle • This requirement is for companies to fully disclose anything that happens within the reporting period even if it’s bad • This reflects in materiality (discussed in three slides) • So, if something is considered to be important to the statements, it must be reported in full

14. Accounting Constraints

15. Materiality • Materiality has to do with affecting the financial statements significantly • Amounts are reported separately if they are material and bunched in another category if not material • If someone steals $10 dollars when a company makes $10 billion a year, this amount is not considered material and will not be reported • However, if the same company loses $5 million in a natural disaster, this is considered material • This will affect the financial statements significantly, so it is reported

16. Conservatism • This constraint helps accountants more accurately represent the information being presented • So, accountants should choose the methods that are least likely to overstate assets or income • Methods for something like Inventory or Allowances for Doubtful Accounts • Overstating is used because it is considered worse to make a company look better than it is rather than making the company look worse than it is by understating

17. Timing Issues

18. Revenue Recognition • This principle requires that companies recognize revenue in the period that it is earned • So, you wouldn’t reported something that happened March 31, 2010 on December 31, 2009 statements

19. The Matching Principle • Expenses are recognized with Revenues • This could be salaries being paid in the year they occur or otherwise written as a payable • This could also be rent expense being recorded at the time rent is being used

20. Conclusion • Concepts are important because they provide guidelines in accounting • Other than when they are mentioned, most of these concepts are not introduced again, but they are still important to learn • It provides a base of learning in accounting • Many of them are assumptions to provide boundaries, but some like the cost principle, materiality, and revenue recognition are those that will be used constantly