Solution 13.3

Accounting concepts are broad basic assumptions, which form the basis of the financial accounts of a business. They help ensure transactions are recognised and measured on a uniform basis.

The Accruals Concept requires that the effects of transactions should be accounted for when they occur and are included in the statements for the periods they relate to. The accruals concept requires two things

1. When calculating net profit, expenses should be matched against related revenues.

2. Net profit is the difference between revenues earned (not necessarily received) and expenses charged (not necessarily paid).

The Realisation Concept clarifies when a business accounts for a transaction and thus the related profit or loss on the transaction. It states that profits or losses on transactions can only be accounted for when realisation has occurred. Realisation occurs when goods or services have been provided to the buyer who accepts liability for them

Materiality Concept recognises that some transactions are not sufficiently important to waste time and effort in ensuring the correct accounting treatment. Information is considered material if its omission or misstatement could influence the economic decisions of the various user of account. The deciding factor is, if the cost of accounting for a transaction in the correct manner is greater than the value of the transaction, then the amount in question would not be considered material.

Going concern requires that in preparing the accounts we assume the business will continue into the foreseeable future. This ensures that the basis of measuring and valuing assets and liabilities will remain at either cost or current value. If the accounts were to be prepared on the basis that the business was to be sold or about to go into liquidation, then an alternative basis for valuing the assets would have to be considered including the break-up or liquidation values for assets. Thus unless the business entity is in liquidation or the directors have no alternative but to cease trading, then the going concern basis will apply and all assets and liabilities will be valued at historic cost or current value, whichever is appropriate.