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Module 1: Introduction to Accounting Standards and Principles

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Namaste.In our last module, we had discussed corporate governance.Today we are going to discuss about very important concept of Accounting Principles, AccountingStandards, IAS, GAAP and so on.Now you have learnt already learnt what are the financial statements.Now we are going to look into the assumptions which go into preparation of these statements.So, this will be discussed in the current session: Accounting Principles, Concepts,Standards, IAS and GAAP.First the accounting principles: now we know that accounting seeks to disseminate information.We record transactions, prepare statements and they are provided to the users.It is very much necessary that such communication is based on certain uniform and scientificallylaid down principles; so that it is understood by everybody in the same sense.Now, accounting principle means those rules of conduct or procedures which are adoptedby accountants universally for both recording as well as for disseminating.Now, these are the important accounting concepts.Now these are the basic assumptions or conditions upon which the accounting is based.The first one is business entity concept.Now many times for a proprietary concern, the owner and the business look together forthe outsider they appear as one thing, but in accounting we always keep in mind thatowner is separate from the entity and the accounts are being prepared for a particularentity.Next is dual aspect.We know that for every transaction there are two effects.Sometimes those are called as debit or credit because of two effects the balance sheet alwaystally.We have already seen the balance sheet equation that equities plus liabilities is equal toassets.The next one is known as cost concept.Now assets are normally to be recorded that historical cost that is at the acquisitioncost.We ignore market value unless there is some specific condition for taking it into accountotherwise both the asset valuation as well as recording of expenses happen on actualcost.Going concern: this is a very important assumption that it is anticipated that business willcontinue for long foreseeable future and is not likely to be liquidated in a short period.The accounting is always done with the assumption of continuity of the business concern.Next one is accounting period concept.We all know that the business is a continuous process.It keeps on happening transactions keep on coming, but as far as the accounting is concerned,the whole of business life is divided into certain periods which are known as accountingperiods.Normally there is a 1 year accounting period.Within 1 year, you can have a quarter or a month, but we cannot have some system whereaccounts are not closed at any point of time.Normally in India the, are you aware of the accounting period in India?Normally it is from first April to thirty first March.So, at the end of every thirty first March, profit and loss and balance sheet and cashflow and all other statements are prepared books are considered to be closed and thenthe new books are opened from first April or from the first day of the next financialyear that is as per accounting period concept.Next one is money measurement concept.Now, all transactions which are expressed in money terms alone are recorded.There could be some other transactions like good will or like good contacts or relationswhich or emotions which cannot be measured in money and such things cannot be recordedin accounting.Next is realisation concept.Now revenue is recognized only when, a particular agreement is reached.So, only in case of realization of a transaction, the transaction is recorded.Constant Value Concept: so, there is an assumption of constant value of currency; for example,rupee.We do not assume that the value of rupee though is changing vis-a-vis the foreign currencywe do not record the changes in the value of currency.The value of currency also changes because of inflation, but those are not the businesstransactions.We record the transaction only when some transactions happens with third party, otherwise the valueof currency is considered to be constant.Next is Accrual Concept.This is one very important concept because transactions may happen, but payment may notcome.So, receipt of cash or payment of cash could be delayed or it could be advanced, but thetransaction date is a date when the agreement or a particular contract is reached.This is called as a accrual Concept.So, transactions are recorded as and when they accrue or as and when they occur; notas and when the cash is received or paid.The next one is Consistency.Now the accounting policies or assumptions are the base for making the entries or forpreparation of statements.Now once you decided to use a particular assumption or use a particular accounting concept thatshould not be changed from period to period because accounting statements should be comparablefrom different period.Now, in order to achieve the comparability, it is necessary that the accounting principlesand policies are followed from one period to another in a consistent manner.If for some special reason, the change in the accounting policy is necessary; it needsto be separately disclosed and the effect of such changes also required to be disclosed.Now, here the accounting conventions are given in short.One of the convention, we have already seen that is known as consistency.That method or a principle once adopted should be followed for a longer period of time.Disclosure – all relevant information and fact concerning the financial position mustbe made available to the users, it should be communicated, it should be disclosed properly.Materiality – many times some transactions are too small, they are insignificant.It is necessary that significant information is shared, it is recorded that is why materialityof transaction is also taken into account.Objectivity- now, whenever a particular choice is to be made or whenever a particular assumptionis to be chosen, unbiased and objective view is to be taken.Next is Stable Monetary Unit.We have already seen it like the way we have Indian rupee or whatever currency we are recordingit is considered to be of a stable value.The last one is very important Conservatism or Prudence.We have discussed it earlier also that if there are two choices either you can use valuationmethod a or b, use that method which shows lower value because accountants avoid anyoverstatement of income or overstatement of asset, we go for a more conservative approachor a prudent approach where the value recorded is as low as possible and not on a higherside.As per AS1, AS1 refers to Accounting Standard 1.There are three assumptions which are considered as fundamental accounting assumptions whichis going concern, consistency and accrual.Now it is always assumed that any accounting statements which are prepared are on the basisof these three assumptions.That is why they are called as Fundamental Accounting Assumption.If these any of this assumption is not true it is required to be disclosed, but thereis no need to disclose these three because it is assumed that they are always followed.Now, a very small exercise; now consider the following data pertaining to L limited.The cost of land purchased on first April 2020 is 125 lakhs and registration chargesare 15 lakhs.Now, there are three possible market values as on thirty first March, 2021 that is theyear ending on March thirty first 2021.Rs.150 Lakhs is a value possibility A or B 120 Lakhs or C 130 Lakhs.Now what company did was while finalizing the annual accounts, it has considered thevalue of land as 125 Lakhs.Now is it correct?What will be the value in your opinion in each of the scenario A, B and C and whichof the accounting assumption is violated by company L?Just think over.Now, if you take scenario A where the market value is 150, how much is a cost of land?Will we consider 125 or we will add registration charges also?We are not going for cost of purchase, we call it cost of acquisition which includescost of purchase plus any incidental expense one time expenses like registration fee.So, 125 plus 15, the cost of land to the company is 140.In scenario A, the market value is 150.So, what should we consider as a cost as a value in the balance sheet?We take lower of the 2, 140 or 150.So, in scenario A, the valuation will be made at 140 Lakhs.Now company has made it at 125.So, they have violated a principle called as cost principle or cost concept becausethe cost of acquisition of land is 140, they have wrongly calculated it as 125.Got it?Now in scenario B; in scenario b, the cost remains same which is 140, the market valuehas gone down it is only 120.So, what should we consider it as?Should they value at 140 or they should value at 120?This is not stock.If it is a stock or inventory, we take cost or market value whichever is less that is140 or 120 we would have taken 120, but this is a land.So, it is a long term asset.So, we will not go by the market value, we will still value it at 140.In case of B or in case of C any of the cases, we will value it at 140 and the concept whichthe company has violated is Cost Concept.They are not violated conservatism concept.Are you getting?If they happen to value it at 150, they would violate Conservatism Concept because landis a fixed asset it should always be recorded at cost when we say cost at the acquisitioncosts.Are you getting?Ok.Now, go to let us go to accounting standards.Now accounting policies and principles are used for a very long period of time perhapsfor hundreds of years and different countries and different areas have different accountingstandard policies.Although most of the policies are common, there are different conventions in differentareas.Now to standardize these policies accounting standards were introduced.So, these are written policy documents which are issued by some expert accounting bodyor by regulatory body or by government.And they give certain guidelines about recognition, treatment, measurement, presentation, disclosureand so on.And they are standardized that is why they are called standard and they should be uniformlyfollowed within that territory maybe that country or that region or so on.Now accounting standards provide framework and standard policies so that if you comparethe financial statements of different entities, they are very much comparable.Now, Accounting Standards seek to ensure that financial statements of an enterprise givea true and fair view of it is financial position and working results.Now, Accounting Standards not only prescribe appropriate treatment, but they faster greatertransparency and market discipline.In general, Accounting Standards promote uniformity, rationalization, comparability and transparency.Sometimes these accounting standards are also called as Financial Reporting Standards.They have the same meaning.Now, different countries have different accounting standards.As far as India is concerned, what standards we use, we will discuss about it.I think you all would have heard about Institute of Chartered Accountants of India or ICAI.This is apex accounting body in India which constituted ASB or Accounting Standard Boardin 1977 in order to harmonize various accounting policies and principles.While harmonizing or while coming out with the standards, they do give considerationto law, customs, usage and business environment in the country.Now, ASB gives due consideration to International Standards also.There are 2 sets of International Standards.One is International Financial Reporting Standard or IFRS as they are known as or the otherone are International Accounting Standards or IAS.Now an effort has been made right from 1977 to harmonize Indian Standards with the globalstandards.Now, we will come to IND AS.Now the earlier set of standards which were being used in India were called as AS.So, we had a series of standards like AS1, AS2, AS3, AS4 and so on.Now in accordance with the policy of convergence, here by convergence we mean the convergenceof global standards.Different countries have different standards.An effort has been made all over the globe to harmonize to bring these standards together.Now because of this policy, Ministry of Corporate Affairs has issued a press release on 21 February2011 and they have notified a new series of standards which are called as IND AS thatis a new series of Indian Accounting Standards.Now, several requirements of Ind AS are considerably dissimilar from policies and practices followedby Indian companies because many of the Indian companies for years were following Ind ASthat is the old state of standards.Now, International Standard which is IFRS has been examined an effort has been madeto bring down the differences and as far as possible harmonize the same.Now, this is the new set of standards which have been notified.So, Ind AS 101 is First- time Adoption of Indian Accounting Standards.Ind AS 2 is about Share based Payment.Ind AS 3 is Business Combination then Insurance Contracts, Non current Assets Held for Sale,Exploration of Minerals, type of items.So, then AS 107 is Financial Instruments and 108 is Operating Segments.So, these are special standards from 107 to 108.And then again a series starts from Ind AS 1 which is the presentation of AccountingStandards.Then we have got Ind AS 2, 7, 8, 10, 11, 12.I am not reading out all the standards, but all these are available for downloading.I will request you to download these standards.If you are interested you can go through them in detail and if you do not want to go inso much of details, you at least try to understand various terminologies.So, that whenever a reference is made to a standard; you should be able to at least referto it and read about it.So, this is the list of all the standards.Now, it is not within the purview of the course to really go through every standard, it isnot necessary.We have already seen how financial statements are prepared.They are already prepared based on various standards.Now let us look at what are the International Standards.Now, there is a body known as IASC International Accounting Standards Committee which was formedin 1973.Now most of the countries started adopting those standards except Canada, Japan and US.Now, to give proper direction and interpretations Standard Interpretation Committee was madein 1997.Now a new board known as IASB was created in 2001 to prescribe the non for norms fortreatment of various items on preparation and presentation of Financial Standards.Now, IASB has adopted 41 standards of IASC.Now as I told you the American Standard sorry US Standards are not in harmony.In US, there is a body called as FASB, Financial Accounting Standard Board.FASB and IASB are in the process of eliminating the differences and bring those standardsnearer.Now, IASB purchases or publishes its standards in a series of pronouncements which are calledas IFRS, International Financial Reporting Standard.It has also adopted the body of standards issued by Board of International AccountingStandard, IASC and these pronouncements are called as International Accounting Standardsor IAS.Now, I have given here, a list of IAS.Again I would request you to download these IAS if you have interest and then go throughthem in detail.So, for example, IAS 1 is about Preparation of Financial Statements, IAS 2 is on Inventory,IAS 7 is on Cash Flow Statements, IAS 8 is on Accounting Policy Changes in the FinancialEstimates and Errors.If you observe carefully the news in different countries there are different gaps and theytogether are called as GAAP.Now GAAP is a backbone of accounting information system, without which system cannot even standcorrectly.Now GAAPs and Accounting Standards as considered as a theory base for all the accounting.So, are you getting me?So, here we have discussed today various information about various types of standards.In future, these standards are these standards are applicable in all the statements whichwe made.We are not going into too much details of it, but I will request you to download themand go through in as for your own interest.Namaste.