Accounting Principles

Measurement (ARMC).

There are four accounting principles that provide you guidance with regard to the measurement of financial transactions.

Accounting Period - accounting information is measured for a particular period

Revenue Recognition - We recognise revenue in the period in which it is earned

Matching - we match expenses to the same time period to the revenue they helped earn

Cost - we record items at their cost

The Income Statement will help you remember the first three Accounting Principles

Income statement

For the Period Ended 30th June 20xx (Accounting Period)

Revenue (Revenue Recognition)

Less Expenses (Matching)

Equals Profit

Then you should also be able to remember that expenses will be recorded at their cost.

Context (PEG)

There are three accounting principles that provide you with guidance of the context of the measurement

Prudence (also known as the doctrine of conservatism)

Entity - ensure you only record information relevant to the entity for which you are recording (e.g don't record the owners assets as though they were part of the assets of the business)

Going Concern - Recording of values is under the assumption that the business will continue to operate (i.e it is a going concern). If there is concern that the business may cease to operate we may need to value assets at different values.

This is a detailed example of the Prudence Principle. For example assets are valued at the lower of their cost or their Net Realisable Value.

Reporting Principles (aka Qualitative Characteristics of Accounting Information)

CRUM VFR

Comparable - they are easy to compare between one period and another. They are comparable between one entity and another

Relevant - the information reported is relevant for comparing understanding the financial performance of the organisation

Understandable - the reports can be understood by someone with accounting knowledge

Material - don't get hung up on the small stuff

AND the information in the reports is reliable. This means that the information is

Faithful Representation. We can rely that the information reported in the financial statements accurately reflects the financial performance and the financial position of the entity. So the information must be free from (material) errors, it must be complete (for example all transactions and events are included) and it must be neutral (there has been no bias in decisions regarding how transactions are treated)

Verifiable. This is a recently added principle and has come to cover the increasing complexity of business and measurement. Many items take some form of calculation to establish their value. For instance items are subject to estimation (Bad Debt Expense) and Allocation (Depreciation Expense). Would other suitably skilled people arrive at the same answers.

Constraints

There are constraints on reporting financial information that stop the information from being perfect and we must work out the appropriate balance between the perfection and these constraints. The constraints are

Time: Financial Reports need to come out in a timely manner and that means some items must be subject to estimation (e.g. Bad Debt expense).

Cost: We need to ensure that the cost of increased precision is outweighed by the increased benefit. The principle of materiality also comes into play here.