Accounting Concepts
The going concern concept
A business is presumed to be healthy and
likely to continue in business for the
foreseeable future unless the opposite is
known to be true. Otherwise we would
have to value stock at what we could sell it
for now rather than at cost.
The cost (or historical cost)
concept
What is the value of an asset? The
amount paid for it or the amount it would
sell for? Different people would say
different things , depending on their
interest. The only valuation which is
acceptable to everybody is the cost price.
There are exceptions to this: for instance,
buildings can be revalued.
The money measurement
concept
Things which cannot have a specific value
assigned to them cannot be taken into
account in the books. Consequently we
cannot record in the books the value of the
skills of the workforce, or of low morale.
The business/Separate entity
concept
A business is separate and distinct from its
owners and the accounts only show the
affairs of the business, not he owner. N.B.
whilst this is true in accounting, it is not
always so in law.
The realization concept
Profit is realized (earned) at the moment
that possession of the goods passes from
the seller to the buyer.
The dual aspect concept
There are two aspects to every transaction.
For example, if I pay my friend the $10 I
owe her, the two effects are:
I have $10 less in cash
I owe $10 less in debts.
Both of these aspects need recording;
hence we have the double-entry system
The accruals concept
This is the one that tells us that when we
calculate profit, we should deduct the
value of expenses incurred (used up)
rather than simply the payments made.
Also applies to items of revenue.
The materiality concept
If I buy a box of staples then the cost of this will
be deducted from this year’s gross profit,
regardless of whether or not I use up all the
individual staples before the end of the year. An
individual staple would be regarded as
immaterial (or not worth worrying about).
Whether an item is material or immaterial
depends on the size of the firm, e.g $50 worth of
petrol might be immaterial to a large plc, but very
material to a small business.
The prudence (or conservatism)
concept
This states that profits should never be
anticipated but provision should be made
for an anticipated loss in asset values. If
there is an alternative choice of values for
an asset, the lower should be used.
The consistency concept
Once a firm has chosen a particular
method in accounting, it should adhere to
that method in the future, so as to allow for
the most meaningful comparisons on a
year-by-year basis. Only when there are
compelling reasons should a change be
adopted, and that change should be
reported.