Financial Accounting and Reporting Introduction to Accounting

ACCOUNTING CONCEPTS AND PRINCIPLES

Introduction

Accounting is defined by many ways, most basic of which is the process of

identifying, recording and communicating economic information that is useful in
making economic decisions. Accounting not only records financial transactions
and conveys the financial position of a business enterprise; it also analyses and
reports the information in documents called “financial statements.”

Accounting uses a formalized and regulated system that follows standardized

principles and procedures. Imagine if each business organization conveys its
information in its own way, we will have a babel of unusable financial data, and
financial statements would not be comparable. This is when accounting concepts
and principles (assumptions or postulates) comes in. These are sets of logical
ideas and procedures that guide the accountant in recording and communicating
economic information; the main purpose of which is to come-up with useful
financial information, for various users of financial statements.

Unit Learning Outcomes:

1. To identify and explain the different accounting concepts and principles
2. Apply the concepts in solving accounting problems

Topic 1: Basic Accounting Concepts

Time Allotment: 1 hour

Learning Objectives:
At the end of the module, you will be able to:
a. Define basic accounting concepts
b. Identify the most commonly used accounting concepts

Activating Prior Learning

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Multiple choice.
1. The principle that requires every business to be accounted for separately and
distinctly from its owner or owners is known as the:
a. Prudence or conservatism
b. Separate entity principle
c. Going-concern assumption
d. Full disclosure principle
e. Cost- benefit principle

2. The rule that requires financial statements to reflect the assumption that the
business will continue operating instead of being closed or sold, unless evidence
shows that it will not continue, is the:
a. Prudence or conservatism
b. Separate entity principle
c. Going-concern assumption
d. Time period
e. Cost- benefit principle

3. To include the personal assets and transactions of a business's owner in the

records and reports of the business would be in conflict with the:
a. Prudence or conservatism
b. Separate entity principle
c. Going-concern assumption
d. Time period
e. Cost- benefit principle

4. Which of the following accounting principles would require that all goods and
services purchased be recorded at cost?
a. Going-concern assumption
b. Cost-benefit principle
c. Cost principle
d. Business entity principle

5. In case of doubt, assets and income should not be overstated.

a. Prudence or conservatism
b. Association of cause and effect
c. Going-concern assumption
d. Time period
e. Cost- benefit principle

(Instructor will assess scores)

Congratulations! You did a great job.

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Presentation of Content
Instruction: Read the text and try to answer the following guide questions. Get
ready for sharing your answers to the class.
1. What are the basic accounting concepts?
2. Why are these principles and concepts important in accounting?

TOPIC 1. BASIC ACCOUNTING PRINCIPLES

• SEPARATE ENTITY CONCEPT/ BUSINESS ENTITY PRINCIPLE –
Under this concept, a business enterprise is separate and distinct from its owner or
investor.
Examples:
1. If the owner has a barber shop, the cash of the barber shop should be
reported separately from personal cash.
2. The owner had a business meeting with a prospective client. The expenses
that come with that meeting should be part of the company’s expenses. If
the owner paid for gas for his personal use, it should not be included as
part of the company’s expenses.

• HISTORICAL COST CONCEPT/ COST PRINCIPLE – accounts should be

recorded initially at cost.
Examples:
1. When Jollibee buys a cash register, it should record the cash register at its
price when they bought it.
2. When a company purchases a laptop, it should be recorded at the price it
was purchased.

• GOING CONCERN PRINCIPLE – business is expected to continue

indefinitely, otherwise it shall use the liquidating concern when the business
intends to end its oprations or if has no other choice but to do so.
Example:
1. When preparing financial statements, you should assume that the entity
will continue indefinitely.

• MATCHING PRINCIPLE/ ASSOCIATION OF CAUSE AND EFFECT –

cost should be matched with the revenue generated.
Example:
1. When you provide tutorial services to a customer and there is a
transportation cost incurred related to the tutorial services, it should be
recorded as an expense for that period.

• ACCRUAL ACCOUNTING PRINCIPLE – revenue should be recognized

when earned regardless of collection and expenses should be recognized when
incurred regardless of payment. On the other hand, the cash basis principle in

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Financial Accounting and Reporting Introduction to Accounting

which revenue is recorded when collected and expenses should be recorded when
paid.
Example:
1. When a barber finishes performing his services he should record it as
revenue even if he has not yet received payment from the customer. When
the barber shop receives an electricity bill, it should record it as an
expense even if it is unpaid.

• PRUDENCE/CONSERVATISM PRINCIPLE –In case of doubt, assets and

income should not be overstated while liabilities and expenses should not be
understated.
Example:
1. In case of doubt, expenses should be recorded at a higher amount.
Revenue should be recorded at a lower amount.

• TIME PERIOD PRINCIPLE/ PERIODICITY, ACCOUNTING OR

REPORTING PERIOD CONCEPT – financial statements are to be divided
into specific time intervals.

Reporting period is usually 12 months, which may either be;

1. Calendar year period, which starts from January 1 and ends on December
31 of the same year
2. Fiscal year period, which also covers 12 months but starts on a date other
than January 1.

Accounting period that is shorter than 12 months is called interim period.

Example:
1. Philippine companies are required to report financial statements annually.
2. The salary expenses from January to December 2020 should only be
reported in 2020.

• STABLE MONETARY UNIT PRINCIPLE – amounts are stated into a single

monetary unit
Examples:
1. Jollibee should report financial statements in pesos even if they have a
store in the United States.
2. An American based company should report financial statements in dollars
even if they have a branch here in the Philippines.

 MATERIALITY PRINCIPLE – in case of assets that are immaterial to make

a difference in the financial statements, the company should instead record it as
an expense. An item is considered material if its omission or misstatement could
influence economic decisions. This is a matter of professional judgement and is
based on the size and nature of an item being judged.
Example:

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Financial Accounting and Reporting Introduction to Accounting

1. A school purchased an eraser with an estimated useful life of three years.

Since an eraser is immaterial relative to assets, it should be recorded as an
expense.

• COST-BENEFIT/ COST CONSTRAINT-states that the cost of providing the

information in the financial statements should not exceed the benefits that the
users get from reading those statements.
Example:
1. Company XYZ issues its financial reports in March for its previous
period. The statements highlight an error in the previous year’s statement
of around P200,000. The precious amount of error would cost P220,000 to
pin down exactly the error. This will mean a huge financial cost for the
company for which there is little or no benefit.

As per the cost benefit principle, the company should just disclose the
estimated amount in its reports as this would put them in a safe position;
since they are still admitting to the potential error without taking on a huge
cost to do so.

• FULL DISCLOSURE PRINCIPLE – all relevant and material information

should be reported. It ensures that the readers and users of a business’s financial
information are not mislead by any lack of information. 
Example:
1. The company should report all relevant information such as but not
limited to;

a. Accounting policies followed

b. Acknowledgement of any change in accounting system or principles,
and justification
c. All financial statements (including footnotes or any supplementary
notes)
d. Inventory losses (due to demand decrease, obsoleteness, or damage),
etc.

• CONSISTENCY PRINCIPLE – once you adopt an accounting principle or

method, continue to follow it consistently in future accounting periods. Only
change an accounting principle or method if the new version in some way
improves reported financial results. If such a change is made, fully document its
effects and include this documentation in the notes accompanying the financial
statements.

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Application
Congratulations! You have just completed Topic 1.
I prepared some activities for you to assess your learning. Please
answer/accomplish the following activity/ies
MATCH THE FOLLOWING WORDS WITH THEIR DEFINITION:
a. Going concern principle e. Time period principle h. Monetary unit principle
b. Consitency concept f. Cost principle i.Accrual accounting principle
c. Matching principle g. Disclosure principle j. Conservatism principle
d. Materiality principle

___________________ 1. All relevant information should be included in

the financial reports
___________________ 2. In case of doubt, assets and income should not
be overstated.
___________________ 3. Assume that the company will continue
indefinitely.
___________________ 4. Accounting policies used this year shall be the
same accounting policies used last year.

___________________ 5. Expenses should be recorded in the period

when the revenue is generated.
___________________ 6. Minimal costs incurred should be recorded as
an expense.
___________________ 7. A Philippine company should report financial
statements in pesos.
___________________ 8. A barber who performs services for a client
should record revenue.
___________________ 9. Statement of Financial position for 2020 should
be recorded as of December 31, 2020.
___________________ 10. A company that purchases furniture should
record it at its acquisition price.

INDICATE WHICH PRINCIPLES ARE VIOLATED

1. The owner-manager bought a computer for personal use. The invoice was given
to the accountant who recorded it as an asset of the business.

2. The statement of financial position of a company included an equipment

purchased from Japan for 350,000 yen. It was reported at that amount in the

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Financial Accounting and Reporting Introduction to Accounting

statement of financial position while all the other assets were reported in
Philippine pesos.

3. No financial statements were prepared by Bong Go for his business. He

explained that he will prepare the statements when he closes the business, which
he predicts to take place after 20 years.

4. Aside from owning a shoe store, Mat operates a canteen. The assets of the
canteen are reported in the statement of financial position of the shoe store.

5. Purchased a hammer at a cost of PHP500. This was recorded as an asset and

expense to decrease its value by PHP50 per year for 10 years.

Topic 2: Accounting Standards

Time Allotment: 30 minutes

Learning Objectives:
At the end of this topic, you will be able to:
a. Determine the difference between accounting concepts and
standards
b. What are the relevant regulatory bodies that affect the accounting
policies used by businesses in financial reporting

Presentation of Content
The Philippine Financial Reporting Standards (PFRS)/Philippine Accounting
Standards (PAS) are the new set of Generally Accepted Accounting Principles
(GAAP) issued by the Financial Reporting Standards Council (FRSC) to govern
the preparation of financial statements. These standards are patterned after the
revised International Financial Reporting Standards (IFRS) and International
Accounting Standards (IAS) issued by the International Accounting Standards
Board (IASB).

Philippine Financial Reporting Standards (PFRSs) are Standards and

Interpretations adopted by the Financial Reporting Standards Council
(FRSC). They comprise:
1. Philippine Financial Reporting Standards (PFRSs);
2. Philippine Accounting Standards (PASs); and

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Financial Accounting and Reporting Introduction to Accounting

3. Interpretations
The need for reporting standards
• Entities should follow a uniform set of generally acceptable
reporting standards when preparing and presenting financial
statements; otherwise, financial statements would be misleading.
• The term “generally acceptable” means that either:
a. the standard has been established by an authoritative
accounting rule-making body; or
b. the principle has gained general acceptance due to practice
over time and has been proven to be most useful.
• The process of establishing financial accounting standards is a
democratic process in that a majority of practicing accountants
must agree with a standard before it becomes implemented.
Relevant Regulatory Bodies
1. The Bangko Sentral ng Pilipinas (BSP) pronounced its adoption of
the PFRS/PAS effective the annual financial statements beginning
1 January 2005 in its Memorandum to All Banks and Other BSP
Supervised Financial Institutions (BSFIs) dated 11 January 2005.
The adoption of the new set of standards is aimed at promoting
fairness, transparency and accuracy in financial reporting

2. The Securities and Exchange Commission (SEC) is tasked in

regulating both partnerships and corporations, through requiring
audited financial statements.

3. The Bureau of Internal Revenue (BIR), likewise looks at the audited

financial statements in the Philippines in determining compliance
with tax laws, rules and regulations.

4. The cooperative Development Authority (CDA) is tasked in

regulating cooperatives. It influences the selection and application
of accounting policies by cooperatives.

Topic 3. Qualitative Characteristics of useful financial information

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Financial Accounting and Reporting Introduction to Accounting

Time Allotment: 30 minutes

Learning Objectives:
At the end of this topic, you will be able to:
1. Identify the different qualitative characteristics of useful financial
information
2. Its importance in financial accounting

Presentation of Content

Qualitative Characteristics of useful financial information

The demand for accounting information by investors, lenders, creditors, etc.,

creates fundamental qualitative characteristics that are desirable in accounting
information. There are six qualitative characteristics of accounting information.
Two of the six qualitative characteristics are fundamental (must have), while the
remaining four qualitative characteristics are enhancing (nice to have).

Fundamental:

1. Relevance - the capacity of the information to influence a decision.

Ingredients:

a. Predictive Value - financial information can be used as an input to

processes employed by users to predict future outcome.

b. Confirmatory Value - financial information can provide feedback

about previous evaluations.

c. Materiality - a quantity threshold linked very closely to the

qualitative characteristic of relevance. It dictates that strict
adherence to GAAP is not required when the items are not
significant enough to affect the evaluation, decision and fairness of
the financial statements. Also known as the doctrine of
convenience.

2. Faithful Representation- financial reports represent economic phenomena

or transactions in words and numbers.

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Ingredients

a. Completeness - requires that relevant information should be

presented in a way that facilitates understanding and avoids
erroneous implication. Adequate/full disclosures.

b. Neutrality - without bias in the preparation and presentation

of financial information.

c. Free from error- no errors or omissions in the description of

the phenomenon or transaction and the process used to
produce the reported information has been selected and
applied with no errors in the process.

Enhancing:

1. Comparability - the ability to bring together for the purpose of noting

points of likeness and difference. Implicit in comparability is consistency,
which requires that the accounting methods and practices should be
applied on a uniform basis from period to period.

2. Understandability - requires that financial information must be

comprehensible or intelligible if it is to be most useful.

3. Verifiability - means that different knowledgeable and independent

observers could reach consensus, although not necessarily complete
agreement, that a particular depiction is a faithful representation.

4. Timeliness - means that financial information must be available or

communicated early enough when a decision is to be made.

Implicit:

Substance over form - transactions should be accounted for in accordance with

their substance and reality and not merely their legal form.

Conservatism/Prudence - when alternatives exist, the alternative which has the

least effect on equity should be chosen.

Cost Constraint - the benefit derived from the information should exceed the cost
incurred in obtaining the information.

Application
Congratulations! You have just completed Topic 3.

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Financial Accounting and Reporting Introduction to Accounting

I prepared some activities for you to assess your learning. Please

answer/accomplish the following activity/ies.
1. These are guidelines that accountants follow when recording and
communicating accounting information.
a. Accounting concepts and principles
b. Accounting laws and regulations
c. Accounting memos and guidelines
d. Accounting walkthrough, guides and cheats

2.Treating a business and its owner as one and the same violate which of the
following principles?
a. Verifiability
b. Separate entity
c. Materiality
d. Going concern

3. This concept requires the preparation of financial statem at least annually.

a. Reporting period
b. Accrual basis
c. Materiality
d. Separate entity

4. What concept justifies the use of the accrual basis historical cost concepts?
a. Going concern
b. Materiality
c. Monetary unit
d. Full disclosure

5. Under the accrual basis of accounting, a business records a sale

a. when the sale occurs.
b. when the sale price is collected.
c. at the point in time when (a) and (b) above are satisfied
d. a or b, as an accounting policy choice

6. Providing and using information entail cost. Accordingly, there should be a

balance between the cost of providing and using information and the information's
usefulness, such that the information's usefulness justifies its cost. This relates to
which of the following concepts?
a. Reporting period

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Financial Accounting and Reporting Introduction to Accounting

b. Cost-benefit
c. Stable monetary unit
d. Prudence

7. Under this concept, amounts in the financial statements are stated in Philippine
pesos and changes in the purchasing power of the Philippine peso due to inflation
are generally ignored.
a. Prudence
b. Materiality
c. Stable monetary unit
d. Ignoring concept Accounting Standards
8. Which of the following statements is incorrect regarding the accounting
standards used in the Philippines?
a. The accounting standards used in the Philippines consist of the Philippine
Financial Reporting Standards (PFRS).
b. The PFRSs are derived from the International Financial Reporting Standards
(IFRS).
c. The accounting standards used in the Philippines are similar to those used in
other countries worldwide.
d. The accounting standards used in the Philippines are inferior compared to
international standards.

9. Entity A, an established business, purchases two staplers costing P300 each.

Entity A charges the cost of one of the staplers as expense but recognizes the cost
of the other stapler as asset. Whhich ot the following concepts is violated?
a. Materiality
b. Historical cost
c. Consistency
d. Stapler concept

10. These are the qualitative characteristics that only increase the usefulness of
information that is already useful, but cannot make information that is not useful
to be useful.
a. Fundamental qualitative characteristics
b. Enhancing qualitative characteristics
c. Materiality
d. Vsefulness traits

Feedback

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Financial Accounting and Reporting Introduction to Accounting

Name: _________________________ Section: ____________ Score:_______

TRUE/FALSE
1. All significant post-balance sheet events are reported is an example of
completeness.
2. All payments less than P25 are expensed as incurred is an example of
prudence.
3. A switch from accelerated depreciation to straight-line depreciation is a
violation of consistency.
4. A machine, that cost P140,000, is reported at its current market value of
P165,000 is a violation of relevance.
5. Publishing yearly financial reports is a sample of the periodicity
assumption.
6. Business enterprise assumed to have a long life is a violation of
conservatism.
7. Information that helps users confirm or correct prior expectations has
feedback value.
8. In establishing financial accounting standards the FRSC should be
responsive to the needs and viewpoints of the entire economic community,
not just the accounting profession.
9. The information contained in the financial statements is faithfully
represented when the information is free from bias or error.
10. Comparability state that it is appropriate for an enterprise to leave its
accounting policies unchanged when more relevant and reliable alternative
exist.
11. Information has the quality of relevance when it influences the economic
decision of users by serving them evaluate past, present, and future events.
12. Information about economic resources controlled by the enterprise and its
capacity to modify these resources is useful in predicting the ability of the
enterprise to generate cash in the future.
13. Financial statements are prepared and presented at least annually and are
directed toward the specific information needs of a wide range of users.
14. Relevance and faithful representation are qualitative characteristics pertain
to the content rather than the presentation of the financial information.
15. If there is undue delay in the reporting of information, it may lose its
relevance and faithful representation.
16. Underlying assumptions embrace the conventions, rules, and procedures
necessary to define what are accepted accounting practice.

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Financial Accounting and Reporting Introduction to Accounting

17. Going concern serves as the basis for preparing financial statements at
regular intervals.
18. An item is material if its inclusion or omission would influence or change
the judgment of a reasonable person.
19. Relevance is the capacity of information to make a difference in a decision
by helping users form predictions about the outcome of past, present, and
future events.
20. Accounting information must be both relevant and faithfully represented
to be useful to decision makers.
21. The going-concern assumption justifies the valuation of assets on a
liquidation basis.
22. The economic entity assumption states that economic activity can be
identified with a particular unit of accountability.
23. The periodicity assumption implies that the economic activities of an
enterprise can be divided into segments.
24. Revenue is generally recognized at point of collection.
25. Financial statements prepared on a cost basis provide business enterprise
information having a common, accepted basis from which each reader can
make inferences, comparisons, and analyses.
26. An officer of SEIKO Corp. purchased a new home computer for personal
use with company money, charging miscellaneous expense, is a violation
of materiality concept.
27. Notes as part of necessary information to a fair presentation applies the
principle of full disclosure.
28. Some costs which give rise to future benefits cannot be directly associated
with the revenues they generate. Such costs are allocated in a rational and
systematic manner to the periods expected to benefit from the cost.
29. Expenses are recognized when the goods or services (efforts) make their
contribution to revenue.
30. When no association with revenue is evident and no future benefits are
expected, expenses are recognized immediately.

MULTIPLE CHOICE
1. Which of the following statements is not an objective of financial
reporting?
A. Provide information that is useful in investment and credit decisions.
B. Provide information about enterprise resources, claims to those
resources, and changes to them.
C. Provide information on the liquidation value of an enterprise.
D. Provide information that is useful in assessing cash flow prospects.

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Financial Accounting and Reporting Introduction to Accounting

2. The overall objective of financial reporting is to provide information

A. That is useful for decision making.
B. About an enterprise's assets, liabilities, and owners' equity.
C. About an enterprise's financial performance during a period.
D. That allows owners to assess management's performance.

3. Proper application of accounting principles is most dependent upon the

A. Existence of specific guidelines.
B. External audit function.
C. Oversight of regulatory bodies.
D. Professional judgment of the accountant.

4. Conservatism is best described as selecting an accounting alternative that

A. Understates assets and/or net income.
B. Has the least favorable impact on owners' equity.
C. Overstates, as opposed to understates, liabilities.
D. Is least likely to mislead users of financial information.

5. The financial statements that are prepared for the business are separate and
distinct from the owners according to the
A. Going concern principle. C. Matching principle.
B. Economic entity assumption. D. Full disclosure principle.

6. Recording the purchase price of a chalkboard eraser (with an estimated

useful life of 10 years) as an expense of the current period is justified by
the

A. Going concern assumption. C. Materiality constraint.

B. Matching principle. D. Comparability principle.

7. According to the conceptual framework, the process of reporting an item

in the financial statements of an entity is
A. Realization. C. Recognition.
B. Matching. D. Allocation.

8. An item would be considered material and therefore would be disclosed in

the financial statements if
A. The expected benefits of disclosure exceed the additional costs.
B. The impact on earnings is greater than 3 percent.
C. The IASB definition of materiality is met.
D. The amount is deemed large enough to make a difference to the users.

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Financial Accounting and Reporting Introduction to Accounting

9. What accounting concept justifies the use of accruals and deferrals?

A. Going concern assumption. C. Separate entity assumption
B. Timeliness assumption D. Relevance

10. Which of the following is not a purpose of the conceptual framework of

accounting?
A. To provide definitions of key terms and fundamental concepts.
B. To provide specific guidelines for resolving situations not covered by
existing accounting standards.
C. To assist accountants and others in selecting among alternative
accounting and reporting methods.
D. To assist the FRSC in the standard-setting process

Reflection

This part of the module will be a time for you to look back, and reflect on
what you have learned from this unit. Though, this will not be checked
and recorded, I would appreciate if you will do this wholeheartedly and
with all seriousness.

Your task!
Open your phone camcorder and imagine that you are a tutor of your other self. Record
yourself as you try to recall the different accounting concepts and principles. Identify
how these differ from each other, and how it affects the accounting information
communicated to users. During your free time, play the video oftentimes until you master
its content.

Unit Summary
 Accounting concepts and principles (assumptions or postulates)
are a set of logical ideas and procedures that guide the
accountant in recording and communicating economic
information.

 Examples of basic accounting concepts:

1. Separate entity concept
2. Historical cost concept

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Financial Accounting and Reporting Introduction to Accounting

3. Going concern assumption

4. Matching
5. Accrual basis of accounting
6. Prudence/ conservatism
7. Time period
8. Stable monetary unit
9. Materiality concept
10. Cost benefit
11. Full disclosure principle
12. Consistency concept

 The accounting standards in the Philippines are represented by the

Philippines Financial Reporting Standards (PFRs), patterned form the
International Financial Reporting Standards (IFRSs)

 Qualitative characteristics of useful financial information may either be:

A. Fundamental qualitative characteristics:
1.Relevance
i. Predictive value
ii. Confirmatory value
iii. Materiality
2.Faithful representation
i. Completeness
ii. Neutrality
iii. Free from error
B. Enhancing qualitative characteristics
1.Comparability
2.Verifiability
3.Timeliness
4.Understandability

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