Q.1 Explain the Various accounting Concepts and Principles?

2.3 Types of Accounting Concepts

As said earlier, concepts are the basic assumptions or conditions upon which the science oI
accounting is based. There are Iive basic concepts oI accounting, namely business entity
concept, which is also termed as separate entity concept, going concern concept, money
measurement concept, periodicity concept and accrual concept. Each concept is discussed below.

2.3.1 Business Separate Entity Concept
The essence oI this concept is that business is a separate entity and it is diIIerent Irom the owner
or the proprietor. It is an economic unit which owns its assets and has its own obligations. This
enables the business to segregate the transactions oI the company Irom the private transactions oI
the proprietor(s).

This legal separation between business and ownership is kept in mind while recording the
transactions in the books oI business.
2.3.2 Going concern concept
The Iundamental assumption is that the business entity will continue Iairly Ior a long time to
come. There is no reason why an enterprise should be promoted Ior a short period only to
liquidate the business in the Ioreseeable Iuture. This assumption is called 'going concern
concept.
This concept Iorms the basis Ior the distinction between expenditure that will yield beneIit over a
long period oI time (Fixed Assets) and expenditure whose beneIit will be exhausted in the short
term (Current Asset). Similarly liabilities are classiIied as short term liabilities and long term
liabilities.
According to AS 1 issued by ICAI, iI this concept is Iollowed, this Iact need not be disclosed in
the Iinancial statement since its acceptance and uses are assumed. In case this concept is not
Iollowed, the Iact should be disclosed in the Iinancial statement along with the reasons.

2.3.3 Money Measurement Concept
All transactions oI a business are recorded in terms oI money. An event or a transaction that
cannot be expressed in money terms, cannot be accounted in the books oI accounts.


2.3.4 Periodicity Concept
The time interval Ior which accounts are prepared is an important Iactor even though we assume
long liIe Ior a business.

The accounting period could be halI year or even a quarter. The Iinancial statements should be
prepared at the end oI each accounting period so that income statement shows proIit or loss Ior
that accounting period. So also a balance sheet is prepared to depict the Iinancial position oI the
business.
2.3.5 Accrual Concept
ProIit earned or loss suIIered Ior an accounting period is the result oI both cash and credit
transactions. It is possible that certain incomes are earned but not received and similarly certain
expenses incurred but not yet paid during an accounting period. But it is relevant to consider
them while computing the Iinancial results just because they are related to the speciIic
accounting period.

Similarly the expenses that are incurred Ior the accounting period could be paid aIter the
accounting period. Such accrued expenses are deducted while calculating the proIit Ior the
accounting period. This is the accrual concept.
2.4 Accounting Principles
Accounting Principles are the rules basing on which accounting takes place and these rules are
universally accepted.

There are ten such basic principles, namely principle oI income recognition, principle oI
expense, principle oI matching cost and revenue, historical cost principle, principle oI Iull
disclosure, double aspect principle, modiIying principle, principle oI materiality, principle oI
consistency and principle oI conservatism. A brieI description is in the Iollowing paragraphs.
2.4.1 Principle of Income Recognition
According to this concept, revenue is considered as being earned on the date on which it is
realized, i.e., the date on which goods and services are transIerred to customers Ior cash or Ior
promise. It should Iurther be noted that it is the amount which the customers are expected to pay
which shall be recorded. In eIIect, only revenue which is actually realized should be taken to
proIit and loss account. Unrealized revenue should not be taken into consideration Ior
determining the proIit. Example:

2.4.2 Principle of Expense
Expenses are diIIerent Irom payments. A payment becomes expenditure or an expense only
when such payment is revenue in nature and made Ior consideration.

ThereIore all revenue expenses are transIerred to proIit and loss account to ascertain proIit or
loss oI the business undertaking. In other words, there are revenue expenses and capital
expenses. While revenue expenses are charged against proIit, capital expenses are shown in the
balance sheet as assets.
2.4.3 Principle of Matching Cost and Revenue
Revenue earned during a period is compared with the expenditure incurred to earn that income,
whether the expenditure is paid during that period or not. This is matching cost and revenue
principle, which is important to Iind out the proIit earned Ior that period. Here costs are reported
as expenses in the accounting period in which the revenue associated with those costs is reported.

While preparing the Iinal accounts adjustments are made Ior outstanding expenses, prepaid
expenses, outstanding income and income received in advance.
2.4.4 Principle of Historical Costs
This is called cost` principle. All assets are recorded at the cost oI acquisition and this cost is the
basis Ior all subsequent accounting Ior the assets. The expenses and the goods purchased are
shown at the value at which they are incurred. The value oI the assets is constantly reduced by
charging depreciation against their cost to present their book value in the balance sheet.

However, on account oI inIlationary situations, this cost concept does not portray correct picture
oI the business and so inIlation accounting has emerged.
2.4.5 Principle of Full Disclosure
The business enterprise should disclose relevant inIormation to all the parties concerned with the
organization. It means that any inIormation oI substance or oI interest to the average investors
will have to be disclosed in the Iinancial statements.

The Companies Act, 1956 requires that income statement and balance sheet oI a company must
give a Iair and true view oI the state oI aIIairs oI the company.
2.4.6 Double Aspect Principle
This concept is the most Iundamental one Ior accounting. A business entity is an independent
unit and it receives beneIits Irom some and gives beneIits to some other. BeneIit received and
beneIit given should always match and balance.

The total liabilities are equal to the total oI assets. This is dual aspect oI accounting. The
established principle oI accounting is that Ior every debit there is an equivalent credit and this is
called double entry principle oI accounting.
2.4.7 Modifying Principle
The modiIying principle states that the cost oI applying a principle should not be more than the
beneIit derived Irom. II the cost is more than the beneIit, then that principle should be modiIied.
This is called cost-beneIit principle. There should be Ilexibility in adopting a principle and the
advantage out oI the principle should over weigh the cost oI implementing the principle.
2.4.8 Principle of Materiality
While important details oI Iinancial status must be inIormed to all relevant parties, insigniIicant
Iacts which do not inIluence any decisions oI the investors or any interested group, need not be
communicated. Such less signiIicant Iacts are not regarded as material Iacts. What is material
and what is not material depends upon the nature oI inIormation and the party to whom the
inIormation is provided. While income has to be shown Ior income tax purposes, the amount can
be rounded oII to the nearest ten and Iraction does not matter. The statement oI account sent to a
debtor contains all the details regarding invoices raised, amount outstanding during a particular
period. The inIormation on debtors Iurnished to Registrar oI Companies need not be in detail.
2.4.9 Principle of Consistency
Consistency is required to help comparison oI Iinancial data Irom one period to another. Once a
method oI accounting is adopted, it should not be changed. For instance iI stock is valued under
FIFO method in Iirst year it should be valued under the same method in the subsequent years
also. Likewise iI the Iirm chooses to depreciate assets under diminishing balance method, it
should continue to do so year aIter year, unless the management takes a policy decision to
change the depreciation method. Any change in the accounting methods should be inIormed to
the concerned authorities with justiIication.
2.4.10 Principle of Conservatism or Prudence
Accountants Iollow the rule 'anticipate no proIits but provide Ior all anticipated losses '.
Whenever risk is anticipated suIIicient provision should be made. The value oI investments is
normally taken at cost, even iI the market value is higher than the cost. II the market value
expected is lower than the cost, then provision should be made by charging proIit and creating
investment Iluctuation Iund. This is the principle oI conservatism and it does not mean that the
income or the value oI assets should be intentionally under stated.

Q.2 Pass journal entries for the following transactions [10 Marks]
1. Madan commenced business with cash Rs. 70000
2. Purchased goods on credit 14000
3. Withdrew for private use 3000
4. Goods purchased for cash 12000
3 ald wages 3000
Ans
Transaction
No
Accounts affected
in the books of the
business
Account to be debited and account
to be credited
01 Capital account and
cash account
Cash account being real account is
debited and Capital account being
personal account is credited
02 Goods account and
creditors account
Goods account being real account is
debited and creditor`s account being
personal account is credited
03 Personal drawings
account and cash
account
Drawings account being personal
account is debited and cash account
being real account is credited
04 Goods account and
cash account
Goods account being real account is
debited and cash account being real
account is credited
05 Wages account and
cash account
Wages account being nominal account
is debited and cash account being real
account is credited




C3 Lxplaln Lhe varlous Lypes of errors dlsclosed by 1rlal 8alance?
5.8 Errors disclosed by Trial Balance
Those errors that can be disclosed by trial balance can easily be located. As soon as the trial
balance does not tally, the accountant can proceed to Iind out the spots where the errors might
have been committed. The total amount oI diIIerence in the trial balance is temporarily
transIerred to a Suspense Account` so that it can be mitigated as and when the errors get
rectiIied. ThereIore the suspense account gets debited or credited as the case may be on
rectiIication oI these types oI errors. The Iollowing are the errors which are disclosed by trial
balance:
a) Posting a wrong amount: This mistake may occur while posting an entry Irom subsidiary
book to ledger.

b) Posting to the wrong side of an account: This error is committed while posting entries Irom
subsidiary books to ledger.

c) Wrong Totaling: Both under casting and over casting are detected by trial balance. II any
account is wrongly totaled, it gets reIlected in the trial balance.

d) Omitting to post an entry from subsidiary book to ledger: II an entry made in the
subsidiary book does not get posted to ledger, the trial balance does not tally.

e) Omission of an account altogether from being shown in trial balance:

I) Posting an amount to a correct account more than once: This result in imbalance in the
trial balance.

g) Posting an item to the same side of two different ledger accounts: II two accounts are
debited /credited Ior the same transaction, this type oI error occurs.



C4 lrom Lhe followlng balances exLracLed from 1rlal balance prepare 1radlng AccounL
1he closlng sLock aL Lhe end of Lhe perlod ls 8s 36000


Particulars Amount in Rs.
Stock on 1-1-2004 70700
Returns inwards 3000
Returns outwards 3000
Purchases 102000
Debtors 56000
Creditors 45000
Carriage inwards 5000
Carriage outwards 4000
mport duty on materials
received from abroad
6000
Clearing charges 7000
Rent of business shop 12000
Royalty paid to extract
materials
10000
Fire insurance on stock 2000
Wages paid to workers 8000
Office salaries 10000
Cash discount 1000
Gas, electricity and water 4000
Sales 250000
Ans,
Illustration 3: From the Iollowing balances extracted Irom Trial balance, prepare Trading
Account. The closing stock at the end oI the period is
Rs. 56000
Particulars Amount in Rs.
Stock on 1-1-2004 70700
Returns inwards 3000
Returns outwards 3000
Purchases 102000
Debtors 56000
Creditors 45000
Carriage inwards 5000
Carriage outwards 4000
Import duty on materials received Irom abroad 6000
Clearing charges 7000
Rent oI business shop 12000
Royalty paid to extract materials 10000
Fire insurance on stock 2000
Wages paid to workers 8000
OIIice salaries 10000
Cash discount 1000
Gas, electricity and water 4000
Sales 250000

Q.5 DiIIerentiate Financial Accounting and Management accounting?
7.12 Distinction between Management Accounting and Financial Accounting
Financial accounting is the preparation and communication oI Iinancial inIormation to outsiders
such as creditors, bankers, government, customers and so on. Another objective oI Iinancial
accounting is to give complete picture oI the enterprise to shareholders. Management accounting
on the other hand aims at preparing and reporting the Iinancial data to the management on
regular basis. Management is entrusted with the responsibility oI taking appropriate decisions,
planning, perIormance evaluation, control, management oI costs, cost determination etc., For
both Iinancial accounting and management accounting the Iinancial data is the same and the
reports prepared in Iinancial accounting are also used in management accounting But the
Iollowing are major diIIerences between Financial accounting and Management accounting.
Financial accounting Management accounting
The primary users oI Iinancial
accounting inIormation are
shareholders, creditors, government
authorities, employees etc.,
Top, middle and lower level
managers use the inIormation Ior
planning and decision making
Accounting inIormation is always
expressed in terms oI money
Management accounting may adopt
any measurement unit like labour
hours, machine hours or product units
Ior the purpose oI analysis
Financial data is presented Ior a
deIinite period, say one year or a
quarter
Reports are prepared on continuous
basis, monthly or weekly or even
daily
Financial accounting Iocuses on
historical data
Management accounting is oriented
towards Iuture
Financial accounting is a discipline
by itselI and has its own principles,
policies and conventions
Management accounting makes use
oI other disciplines like economics,
management, inIormation system,
operation research etc.,
Q.6 Following is the Balance Sheet oI M/s Srinivas Ltd. You are required to prepare a Fund Flow
Statement
Particulars 2006 2007 Particulars 2006 2007
Equity
Share
capital
50,000 65,000 Cash
balances
10,000 13,000
Profit &
Loss
14,750 17,000 Debtors 25,000 27,000
Trade
Creditors
29,000 31,000 nvestmen
t
5,000 nil
Mortgage 10,000 15,000 Fixed
Assets
50,000 80,000
Short term
loans
15,000 16,500 Less:
Depreciati
on
(5,250) (7000)
Accrued
expenses
8,000 7,500 Goodwill 5,000 nil
Stock 37,000 39,000
Total 1, 26,750 1, 52,000 Total 1, 26,750 1, 52,000

Additional nformation:
1. Depreciation provided is Rs.1750.
2. Write off goodwill.
3. Dividend paid Rs.3500.