concepts

• Consistency

  Businesses should use the same accounting treatment for similar transactions.  They should not change unless there is a valid reason to do so. 

  Example – they should apply the same method and rates of depreciation to all items within a similar category of NCA (e.g. vehicles, machinery etc.) 
• Realisation

  Revenue and profits should not be realised until they are certain.  Credit Sales are certain once an invoice has been issued (not when an order is placed)

  The treatment of goods sold on a Sale or Return basis is an example of the application of this concept.  The inclusion of Credit Sales and Credit Purchases in the Income Statement is also an example of the application of this concept. 
• Materiality

  Some items are not worth recording separately due to their low value.  Low cost NCA are treated as an expense in the Income Statement (e.g. small tools), rather than recorded as a NCA in the SFP.  

  Small expenses are grouped together as ‘general expenses’ or ‘sundry expenses’.
• (Business) Entity

  The financial statements should only include transactions relating to the business and not the people who run or own it.

  When transactions are recorded as ‘drawing’ or ‘capital’ this concept is being applied.
• Cost (involves being Objective)

  Assets and Liabilities are recorded at their historical cost as this is an objective value (not subjective).

  NCA are listed at cost before the provision for depreciation is subtracted on the SFP.

  Assets and Liabilities are not adjusted for inflation.
• Prudence

  Where there is doubt over the value of assets or profits, the lower (conservative) figure should be used.

  Inventory is valued at the lower of cost and net realisable value; provisions for depreciation and doubtful debts; bad deb written off are all examples of this concept being applied.
• Going Concern

  The business will continue to operate in the foreseeable future – thus NCA are recorded at NBV (i.e. Cost less Accumulated depreciation) rather than resale value as it is assumed when the accounts are prepared that the NCA will continue to be used for several years
• Money Measurement

  Only transactions and events that can be expressed in monetary terms are recognised in the financial statements. Thus, employee motivation, the quality of the goods sold etc. are not included.
• Accruals (matching)

  Costs and revenues are matched to the time period in which they arose

  Examples- income and expenses are adjusted for prepayments and accruals; Cost of Sales is adjusted for opening and closing inventory and NCA are depreciated (via an annual charge) over the life of the asset.
• Duality

  Every Financial Transaction has two effects (Dr and Cr) – any double entry example can be used to illustrate this concept.