Theory Base of Accounting Test - 3

Consistency concept states that accounting policies and practices followed by an enterprise should be uniform and consistent over a period of time.

For example, if an enterprise follows a straight line method of depreciation in an accounting year, then the same method should be followed over the useful life of the assets so as to maintain consistency in the accounting policies and practices followed.

According to the cost concept, all the assets are recorded in the books of accounts at the purchase price. The purchase price includes cost of acquisition, transportation expenses, installation charges and other expenses incurred to make the asset ready to use.

Therefore,

Cost of Machinery= Rs. 15,70,000 + Rs. 2,81,000 + Rs. 5,94,000

 = Rs. 24,45,000

Whereas, market price is given as Rs. 25,00,000

But, under conservatism concept, it takes into consideration all prospective losses but leaves all prospective profits.The principle of conservatism is “anticipate no profit and provide for all possible losses”. Hence, closing stock of machinery will be valued at cost or market price, whichever is less. Therefore, machinery will be recorded in the books of account at Rs. 24,45,000.

Going concern concept assumes that the business will run its operation for a longer period of time and would not be liquidated in the foreseeable future. The transactions are recorded in the books of account in such a manner that the purchase cost is spread for useful life of the assets for ascertaining the profit or loss of each year.

Therefore, according to going concern concept, full cost of asset is not charged as an expense in the year of purchase.

Business entity concept assumes that business has a distinct entity from its owners. It implies that all the business transactions are recorded from the business point of view and not from owner’s point of view.

Therefore, it is assumed that for the purpose of accounting, business and its owners are two separate units.

According to accrual basis of accounting, credit sale is recognised as sale irrespective of the fact whether amount has been received or not because income is recorded as income when it is earned or accrued.

Proprietor is a person who owns a business and contributes capital to the business to earn profit. At the time of winding up, the business has to pay the capital, bought in by the proprietor, because it is a liability for the business, and therefore the proprietor is treated as the creditor.

According to conservatism concept, it takes into consideration all prospective losses but leaves all prospective profits. The principle of conservatism is “anticipate no profit and provide for all possible losses”.

Hence, closing stock of machinery will be valued at cost or market price, whichever is less.

According to matching concept, expenses incurred in an accounting period are matched with the revenues earned during that period. It refers to the revenue earned with respect to revenue and expense incurred during the same particular accounting year.

Hence, the cost of unsold goods should be deducted from the cost of goods produced or purchased. This is done so that the revenue earned for that period does not get affected by the cost of unsold goods (i.e. closing stock).

According to business entity concept, personal expenses of the owner are not related to the business entity, and hence it should not be recorded in the books of account of the firm. Therefore, proprietor of the firm, recording his personal expenses in the firm’s income statements is fallacious.

Revenue is realised when a legal right to receive arises i.e. realised on a particular date when goods are sold or services rendered. Here, revenue will be recognised in the month of April, 2016.