Hello everyone, welcome back to our channel. In our first video, we will talk about the basic concepts in studying accounting. In this episode, we will learn about the different accounting concepts and principles. In the study of accounting, Concepts or assumptions are very important in the preparation of financial statements. They are the foundation of generally accepted accounting principle.
Without them, there will be no uniformity in the practice of accounting. of accounting and financial statements will be meaningless. So are you ready for another exciting episode?
If you are, ladies and gentlemen, please fasten your seat belts and make sure that you are mentally prepared for this episode. Let's start by discussing the accounting assumptions. There are a number of assumptions you need to learn in the study of accounting.
They are considered to be the guides in the preparation of financial statements. These are These are Accounting Entity, Going Concern, Type Period, Unit of Measure, and Accrual Basis of Accounting. Let's start with the Accounting Entity Concept.
It is also known as the Separate Entity Concept or the Business Entity Concept. The essence of Accounting Entity is the separation of the business from the owner or the management. It simply means that everything the owner or the management do is distinct and similar. separate from the transactions of the business this is the reason why it is a separate entity since there are a lot of transactions that the business and the management incur daily it is important to understand that those transactions need to be separated properly and that only business transactions are recorded in the books of business to make it short just remember this business is business personal is personal Take for instance Mr. Oyoung Kabodok, the owner of O.K.
Sweetotao in Wakanda. When he started the business, he invested in a lot of things. He invested in land, building, and of course a lot of money.
Accounting entity tells us that all the investments of Mr. Oyoung Kabodok is no longer his but now belongs to the business. With accounting entity assumption, the business is therefore separate from the owner. owner, so personal and family expenses of the owner should be separate from the expenses of the business. Let's move on to our next accounting assumption which is the going concern concept or also called the continuity concept.
This assumption simply tells us that the businesses are assumed to continue operating over an indefinite period of time. However, if there is a concrete evidence that the business can no longer continue operating continue, the continuity concept should be abandoned. Let's take a look at the application of the continuity concept. The car that Mr. Ouyang Kabado purchased for 10 million should not be recorded as an outright expense. Rather, we should allocate its cost by 10 years the life of the car.
Why? Because like I said a while ago, with the continuity concept, we are assuming that the business will continue to operate for an extended period of time. indefinite period of time. Therefore, it is right to allocate the cost of the vehicle over the period of its useful life.
The third accounting assumption is Time Period. This simply means that the life of the business is divided into equal reporting periods wherein at the end of each period, financial statements are prepared. This time, periods can either be monthly, quarterly, semi-annually, or quarterly. annually or annually but we should always remember that financial statements should be prepared at least annually meaning at least once a year in time period concept we also need to understand the difference between calendar year and fiscal year when we say calendar year it is the accounting period that starts from january 1 and ends on december 31. on the other hand fiscal period is a reporting period that starts with any month other than January 1. It may start on February 1, March 1, April 1, May 1, June 1, July 1, August 1, so on and so forth, but not January 1. Therefore, if it doesn't start on January 1, the accounting period will not also end on December 31. Our fourth accounting assumption is the stable monetary unit, or otherwise known as the unit of measure. The purchasing power of Peso is steady, regardless of inflation rates.
This also means that the function of accounting is to account for the peso only and not for the change in its purchasing power. For example, Mr. Ayong Kabadok purchased a land worth 5 million a year ago. Even if the value of the land has already been 8 million, it will still be recorded in the statement of financial position at 5 million. It will not be affected by inflation.
Our next accounting concept is accrual basis. This means that income is recognized when earned, not when received. Meaning, the company can already record an income once it delivers the product or performs the service. even if it hasn't received any cash yet.
Expenses on the other hand are recognized when inferred, not when paid, meaning the company has to record an expense once they are able to use up something or revoke it. receive a service even if they haven't paid for it yet we also need to remember that accrual basis is the opposite of cash basis under cash basis companies only recognize income when money was already received and recognized expense when money was already paid to better understand this part let's meet mr joshua smith gandala a big-time customer of okay sweet hotel who stayed at wakanda for two months months to study the place's cutting-edge technology. He promised to pay his hotel rent amounting to $6 million before he went back to the US. The $6 million can now be recorded by OK Suite Hotel as an income, even though they haven't collected anything yet. On the other hand, Mr. Candela also has to recognize an expense even if he has not paid OK Suite yet because he already availed the company's services.
Now let's talk about the Generally Accepted Accounting Principles or GAAP for short. By definition, GAAP talks about the uniform set of accounting rules, procedures, practices, and standards that are followed in preparing financial statements. They serve as ground rules that guide accounting practitioners in recording, measuring, and reporting financial information of the business entity.
So, when do we say that a principle is generally acceptable? The principle simply needs to follow these criteria. First, the principle needs to be relevant, meaning it should be useful in making a decision. Second, the principle needs to be objective, meaning it is not influenced by personal bias. Third, the principle needs to be feasible, meaning it can be implemented without an issue The following are some of the generally accepted accounting principles that are followed and used today.
First, Cost Principle. This requires that assets should be recorded at original or acquisition cost. So if a company purchased a property for 5 million today, and three years after, the cost of the property is already at 10 million, it will still be recorded at a cost of 5 million.
Next, Cost Principle. Second, Objectivity Principle. This simply requires that accounting records should be based on reliable and verifiable data as evidence of transactions. To attain reliability and verifiability, every transaction needs to be with evidence.
For example, purchases should be evidenced by official receipt. Third, Materiality Principle. This means that determining the valuation of a transaction is a very important part of the evaluation process. of an item should be practicable.
For example, if you were to lease assets, you will not be reporting staplers separately the same with land, building, and equipment because of their materiality of the amount. Land, building, and equipment would cost millions while staplers would only cost a hundred. Fourth, matching principle.
This requires that revenue and expense should be recognized in the same period. This means that the amount of money that is that if you are going to recognize a revenue for that period you should also recognize the corresponding expense associated with it so when you recognize sales revenue you should also recognize the corresponding cost of sales fifth consistency principle this means that accounting methods and procedures should be applied on a uniform basis from period to period so if you are applying straight line depreciation last year for your fixed assets you should also use the same method this year last but not the least is the adequate disclosure principle this means that financial statements should be free from material misstatement therefore reports to be prepared should be complete before i end this episode please don't forget to like and subscribe to this channel also if you have friends who need to know about this topic don't forget to share and hit the bell bell button so you will be notified when we upload new videos. See you in our next video.
God bless.