- 20 Marks
Question
a. Explain the term ‘accounting concepts’. (2 Marks)
b. With particular reference to the accounting treatments, explain the following accounting concepts:
i. Entity (2 Marks)
ii. Going concern (2 Marks)
iii. Accrual (2 Marks)
iv. Materiality and aggregation (2 Marks)
v. Consistency (2 Marks)
c. In accordance with IAS 1 – Presentation of Financial Statements, highlight six qualitative characteristics of general-purpose financial statements. (4 Marks)
d. Financial statements provide information to users, and each user’s information requirement is not always the same.
Required:
Using the table below and the example provided, list four users of financial statements and their information needs.
| S/N | Users | Information Needs |
|---|---|---|
| 1 | Employees | Wage negotiation and determination of job security |
| 2 | ||
| 3 | ||
| 4 |
(Total: 20 Marks)
Answer
a. Accounting concepts
(i) Accounting concepts are the fundamental assumptions that underpin the preparation of general-purpose financial statements.
(ii) They are the fundamental principles to be followed by preparers of financial statements.
(iii) Accounting concepts help to enhance the faithful presentation of information.
b. Explanation of accounting concepts
i. Entity concept
This indicates that every business entity is quite different from the owner(s), irrespective of the legal form.
The application of the entity concept simply means that separate accounts should be kept for both the business and the owner. Additionally, business resources should only be used in carrying out the affairs of the entity and not those of the owner(s).
ii. Going concern
This accounting concept indicates that a business entity will be in operational existence over a foreseeable time and that it has no intention to scale down its operations significantly.
With the application of going concern, non-current assets are measured and recognized at cost, fair value, or revalued amount, less accumulated depreciation. Where the going concern is no longer applicable, assets are measured and recognized at their breakup or realizable amount.
iii. Accrual concept
This concept implies that income is recognized when earned, and expenses are recognized when incurred, not necessarily when cash is received or paid. It gives rise to receivables and payables. It is the application of this concept that gives rise to prepayments and accruals.
iv. Materiality and aggregation
Materiality is the process of classifying financial transactions in accordance with their relative importance to the reporting entity and the users of financial statements. An item is considered material if its inclusion, exclusion, or misstatement affects the economic decision of the user(s). The rule is that material items or transactions should be given separate accounting treatment, while immaterial ones should be summarized and given a single accounting treatment.
v. Consistency
This concept indicates that once an entity adopts an accounting policy or method of reporting an element of financial statements, the method must be followed over a reasonable period of time. While changes are permissible, frequent changes can mislead users of financial statements, affecting comparability.
c. Six qualitative characteristics of financial statements
- Relevance
- Faithful representation
- Comparability
- Verifiability
- Timeliness
- Understandability
d. Financial statement users and their information needs
| S/N | Users | Information Needs |
|---|---|---|
| 1 | Management | To evaluate their performance against benchmarks and determine future prospects. |
| 2 | Auditors | To express independent opinions on the financial statements. |
| 3 | Tax authorities | Determination of the tax payable. |
| 4 | Lenders | Determination of the entity’s liquidity position and ability to repay loans. |
(Total: 20 Marks)
- Topic: Accounting Concepts
- Series: NOV 2020
- Uploader: Dotse