2.11 Concepts of capital and capital maintenance

Question 1

According to the concept of capital maintenance, when may profit be recognised?

Answer 1

Only where the net value of assets increases over the duration of the accounting period.

Question 2

What are the two main concepts of capital maintenance identified by the Conceptual Framework?

Answer 2

Financial Capital Maintenance

Physical Capital Maintenance

Question 3

Which concept of capital maintenance (physical of financial) is preferred by the Conceptual Framework?

Answer 3

Neither, both are accepted.

Question 4

What is the “financial” concept of capital maintenance?

Answer 4

Profit is only earned where the monetary value of the net assets at the end of the accounting period exceeds the monetary value of net assets at the beginning of the accounting period.

Question 5

What is the equation for calculation of financial capital maintenance?

Answer 5

Opening equity + Profit - distributions = closing equity

Question 6

What is the difference between “money financial” and “real financial” capital maintenance?

Answer 6

“Real financial” capital maintenance accounts for the time value of money or inflation, whereas these are ignored by “money financial”.

Question 7

What is the “physical concept of capital maintenance”?

Answer 7

Measurement of capital calculated as production capacity. i.e. profit is earned only where production capacity has increased.

Question 8

When is the “physical concept of capital maintenance” useful?

Answer 8

When the users of financial statements are mostly concerned with the operating capacity of the entity.

Question 9

Which of the two concepts of capital maintenance is used most commonly?

Answer 9

Financial concept (as it is easier to apply).