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Financial Accounting: Preparing Financial Statements > Accounting Concepts > Flashcards

Accounting Concepts Flashcards

1
Q

Provide a summary of the ‘flow of information’

A
  1. Transactions generate primary/source documents, i.e., credit sales create sales invoices.
  2. Primary documents are entered into BOPE, i.e., sales invoices entered into the sales day book.
  3. Totals from BOPE are entered into the general ledger using double entry, i.e., for sales day book — Dr Receivables and Cr Sales
  4. General ledger accounts closed off at end of accounting period.
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2
Q

What are the two main Financial Statements for sole traders?

A
  1. Statement of Profit and Loss (SPL)
  2. Statement of Financial Position (SFP)
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3
Q

Wha is the SPL also referred to as sometimes (2)?

A
  • Income statement
  • Profit and loss account
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4
Q

What is the SFP referred to as sometimes?

A

Balance sheet

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5
Q

Describe the difference between the SPL and SFP

A

The SPL shows all income and expenses of the business to identify whether they made a profit (if income exceeds expenditure) or a loss (if income is less than expenditure) whereas the SFP shows all assets and liabilities of the business and the net amount therefore owed to the owner.

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6
Q

Describe the difference between receivables and payables

A

Receivables refers to the amount owed to us by our credit customers (asset) whereas payables refer to amounts we owe to credit suppliers (liability).

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7
Q

Why is the SFP called a balance sheet?

A

The SFP is made up of two halves.
- Top shows the total of all assets and all liabilities of business.
- Bottoms shows what is owed to the owner of the business.
As the owner owns the whole business the figures should ‘balance’.

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8
Q

Define sales

A

Income generated by a business from providing goods or services

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9
Q

Define Purchases

A

This is the cost to the business of buying the item they are selling

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10
Q

Define gross profit

A

Sales income generated less the purchases costs of buying the items being sold

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11
Q

Define expenses

A

All of the other costs incurred in running a business on top of the purchases figure, e.g., rent, salaries, utilities, etc.

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12
Q

Define net profit

A

Gross profit (sales income - purchase cost) less all other costs (expenses) incurred by the business to

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13
Q

Define non-current assets

A

Items that will be owned by the business for more than one year, e.g., property and vehicles.

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14
Q

Define current assets

A

Items that will be owned by the business for less than one year, e.g., inventory.

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15
Q

Define current liabilities

A

Amounts owed by the business to other people, due to be paid within one year,, e.g., payables.

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16
Q

Define non-current liabilities

A

Amount owed by the business that will be paid in more than one year, e.g., bank loans can be arranged over 20/30 years.

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17
Q

Define net assets

A

The difference between the total assets owned by the business and the total liabilities owed by the business

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18
Q

What are the 7 accounting concepts?

A
  1. Accruals
  2. Going concern
  3. Business entity
  4. Materiality
  5. Consistency
  6. Prudence
  7. Money measurement
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19
Q

Define the accounting principle of accruals

A
  • Accruals (or matching) concept says that costs and revenues should be matched together and included in the period which they relate to, not when the cash is paid/received.
  • If we sell goods in 2024 we would include that sale in the accounts for the YE 2024 even if the customer doesn’t pay until 2025.
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20
Q

Define the accounting principle of going concern

A
  • The assumption that the business will continue trading for the foreseeable future.
  • In practice this is often assessed by considering the next 12 month period.
  • This is important because it affects the way we ‘value’ our assets and liabilities (e.g., value of inventory might be lower as it needs to be sold of quickly if the business is expected to stop trading).
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21
Q

Define the accounting principle of business entity concept

A
  • Though the business and owner and intertwined in many ways, for accounts purposes they are kept completely separate.
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22
Q

Define the accounting principle of materiality

A
  • Financial statements are required to show a true and fair view. This doesn’t mean they have to be 100% accurate but statement must be materially correct.
  • Information is material if omitting, misstating, or obscuring it could reasonably be expected to influence decisions that the primary users make on the basis of financial information about a specific reporting entity.
23
Q

Define the accounting principle of consistency

A
  • We treat similar items in the same way in the current accounting period, and from one period to the next.
  • If kitchen roll is included in ‘Cleaning expenses’ in one year it should be included there in the next.
  • This allows us to make fair comparisons year on year.
24
Q

Define the accounting principle of prudence.

A
  • Prudence means exercising caution when making judgements under conditions of uncertainty.
  • Take care not to overstate assets/income and understate liabilities/expenses.
  • Revenue/profit should only be recognised when they are certain to be made, and liabilities/expenses are to be recognised when they are probable (more likely than not).
    —> we may need to include our best estimate if we don’t know the exact amount
25
Q

Define the accounting principle of money measurement

A
  • For something to be recognised in the financial statements, it must be measured. If it cannot be measured in terms of money it cannot be recorded as an accounting transaction.
  • For example staff skills, morale, working conditions cannot be recorded because you cannot place a monetary value on them.
26
Q

What should financial information possess to be useful?

A
  • Fundamental decision-specific qualities of relevance and faithful representation.
27
Q

What makes financial information relevant?

A

If it is capable of making a difference to the decisions of a user.
It can make a difference to decisions if it has…
- Predictive value — it can be used to predict future outcomes, and/or;
- Confirmatory value — it provides feedback about previous evaluations (it confirms whether past predictions were reasonable.

28
Q

What is the relevance of information affected by (2)?

A

Its nature and materiality

29
Q

What do general purpose financial statements represent?

A

Economic performance and position in words and numbers.

30
Q

What does the quality of faithful representation seek to maximise (3)?

A

The underlying characteristics of completeness, neutrality, and freedom from error.

31
Q

To faithfully represent the transactions and other events it represents financial information will be…

A
  • Complete
  • Neutral
  • Free from error
32
Q

Information that is relevant and faithfully represented can be enhanced by the 4 __ __ __

A

Enhancing qualitative characteristics

33
Q

What are the 4 enhancing qualitative characteristics?

A
  1. Comparability
  2. Verifiability
  3. Timeliness
  4. Understandability
34
Q

Describe the enhancing qualitative characteristic of comparability

A
  • Info about a reporting entity is more useful if it can be compared with similar info about other entities, and with similar info about the same entity for another period/date.
  • Comparability enables users to identify and understand similarities in, and differences among, items.
  • We therefore have set standard formats of presentation and rules when preparing financial statements.
35
Q

Describe the enhancing qualitative characteristic of verifiability

A
  • It helps to assure users that info represents faithfully the economic reality of the transaction.
  • Verifiability means that different knowledgeable and independent observers could reach agreement that a particular treatment of an item is a faithful representation.
36
Q

Describe the enhancing qualitative characteristic of timeliness

A
  • Timeliness means that info is available to decision-makers in time to be capable of influencing their decisions.
37
Q

Describe the enhancing qualitative characteristic of understandability

A
  • Classifying, characterising, and presenting information clearly and concisely will make it understandable.
  • While some transactions are complex and cannot be made easily to understand, to exclude such info would make financial records incomplete and potentially misleading.
  • Financial reports are prepared for users who have a reasonable knowledge of business and economic activities.
38
Q

Identify users of financial statements (5)

A
  • Investors
  • Employees
  • Lenders
  • Suppliers
  • Customers
39
Q

Why would customers be interested in in financial statements?

A
  • Interested in the business’s short and longer term financial stability and its potential to supply high quality goods and services as well as sound after sales service (where appropriate).
40
Q

Why would suppliers be interested in in financial statements?

A
  • Trade creditors are an important factor in the management of cash in a business.
  • They would be interested in the financial stability of the business in terms of cash flow and the ability of the business to meet its short-term liabilities.
41
Q

Why would lenders be interested in in financial statements?

A
  • This includes long, medium, and short term lenders of money.
  • The concerns of the existing and/or potential loan creditor is ‘will they get their money back’?
  • Interest in current and future profitability and growth prospects of the business, as well as the cash the business holds.
42
Q

Why would employees be interested in in financial statements?

A
  • Wage and salary negotiation
  • Assessment of opportunity in terms of employment
43
Q

Why would investors be interested in in financial statements?

A
  • Comprises both existing and potential shareholders.
  • They would consider whether to invest in the business or sell their investment,
  • Investors would be interested in profitability and how stable the business is (going concern).
44
Q

What are the 5 fundamental principles relating to ethics governing the accountancy profession?

A
  1. Integrity
  2. Objectivity
  3. Professional competence and due care
  4. Confidentiality
  5. Professional behaviour
45
Q

Describe the fundamental ethical principle of integrity

A
  • Members should be straightforward and honest in all professional and business relationships
46
Q

Describe the fundamental ethical principle of objectivity

A
  • Members should be fair in what they do.
  • Should not allow bias, conflict of interest, or undue influence of others to override professional or business judgements.
47
Q

Describe the fundamental ethical principle of professional competence and due care

A
  • Refrain from undertaking or continuing assignments which you are not competent to carry out.
  • Members have a duty to maintain their professional knowledge at a level to ensure their client receives a competent service.
  • Members have a duty to carry out assignments with due care and skill paying regards to professional and technical standards.
  • Keeping up to date with the rules and regulation sis known as continuing professional development (CPD).
48
Q

Describe the fundamental ethical principle of confidentiality

A
  • Respect all info given to them by clients/employers as confidential and don’t disclose any details of their work/findings without proper authorisation or legal obligation to do so (even after you no longer work for them)/
  • This way, clients know they call trust their accountant so will divulge the full information necessary for accountants to do their job.
49
Q

What are 3 situations in which confidential information can be disclosed?

A
  1. When given written authorisation by the client to disclose to someone else
  2. When there is a professional duty to do so, e.g., if there was an enquiry by the AAT you would need to make available to them info about a client.
  3. When there is a legal duty to do so, e.g., if a court order is issued against the accountant or a piece of statue makes it necessary to disclose any illegal activities such as money laundering.
50
Q

Describe the fundamental ethical principle of professional behaviour

A
  • Members should act in a manner which is consistent with the good reputation the profession has developed.
  • Members should not discredit the profession and should try to enhance the repuation.
  • Accountants who comply with the law, brings no disrepute on the profession, and is perceived as being ethical by other people would demonstrate professional behaviour.
  • This encompasses marketing and promotion. In any such advertising the member should be seen to be honest and truthful. They should not make exaggerated claims or disparaging references to others.
51
Q

Why is it essential for accountants to behave ethically when they prepare financial info for users?

A
  • Users of financial statements are reliant upon accountants to produce information for them upon which they make key decisions.
  • As accountants possess skills and experiences that the users themselves do not, they put trust in the information they are given.
52
Q

Accountants must prepare the accounts in a __ and __ way.

A
  • Fair - Ensures they have complied with all the accounting standards and relevant pieces of law to ensure everything is included.
  • Transparent - Info is clear and nothing is trying to be hidden from users.
53
Q

Accountants need to ensure only __ __ are included within the accounts as well.

A
  • Valid
  • Transactions

This means they are genuine business transactions that relate to that period of accounts.

54
Q

It is important accountants to they right things despite __ they may face.

A
  • Pressures

Financial Accounting: Preparing Financial Statements (17 decks)

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