- Accounting Basics Tutorial
- Accounting - Home
- Accounting - Overview
- Accounting - Process
- Accounting - Basic Concepts
- Accounting - Conventions
- Accounting - Accounts' Classification
- Accounting - Systems
- Financial Accounting
- Financial Accounting - Journal
- Financial Accounting - Ledger
- Financial Accounting - Books
- Financial Accounting - Depreciation
- Cost Accounting
- Cost Accounting - Introduction
- Cost Accounting - Advantages
- Cost Accounting - vs. Financial A/c
- Cost Accounting - Cost Classification
- Cost Accounting - Elements of Cost
- Cost Accounting - Cost Sheet
- Cost Accounting - Cost Control
- Cost Accounting - Cost Reduction
- Cost Accounting - Budgeting
- Cost Accounting Techniques
- Cost Accounting - Marginal Costing
- Cost Accounting - Standard Costing
- Cost Accounting - Variance Analysis
- Cost Accounting - CVP Analysis
- Management Accounting
- Management A/c - Introduction
- Management A/c - vs. Cost A/c
- Management A/c - vs. Financial A/c
- Management A/c - Cash Flow
- Management A/c - Ratio Analysis
- Management A/c - Useful Ratios
- Management A/c - Working Capital
- Accounting Useful Resources
- Accounting Basics - Quick Guide
- Accounting Basics - Useful Resources
- Accounting Basics - Discussion
- Selected Reading
- UPSC IAS Exams Notes
- Developer's Best Practices
- Questions and Answers
- Effective Resume Writing
- HR Interview Questions
- Computer Glossary
- Who is Who
Accounting - Conventions
We will discuss the accounting conventions in this section.
Convention of Consistency
To compare the results of different years, it is necessary that accounting rules, principles, conventions and accounting concepts for similar transactions are followed consistently and continuously. Reliability of financial statements may be lost, if frequent changes are observed in accounting treatment. For example, if a firm chooses cost or market price whichever is lower method for stock valuation and written down value method for depreciation to fixed assets, it should be followed consistently and continuously.
Consistency also states that if a change becomes necessary, the change and its effects on profit or loss and on the financial position of the company should be clearly mentioned.
Convention of Disclosure
The Companies Act, 1956, prescribed a format in which financial statements must be prepared. Every company that fall under this category has to follow this practice. Various provisions are made by the Companies Act to prepare these financial statements. The purpose of these provisions is to disclose all essential information so that the view of financial statements should be true and fair. However, the term ‘disclosure’ does not mean all information. It means disclosure of information that is significance to the users of these financial statements, such as investors, owner, and creditors.
Convention of Materiality
If the disclosure or non-disclosure of an information might influence the decision of the users of financial statements, then that information should be disclosed.
For better understanding, please refer to General Instruction for preparation of Statement of Profit and Loss in revised scheduled VI to the Companies Act, 1956:
A company shall disclose by way of notes additional information regarding any item of income or expenditure which exceeds 1% of the revenue from operations or Rs 1,00,000 whichever is higher.
A Company shall disclose in Notes to Accounts, share in the company held by each shareholder holding more than 5% share specifying the number of share held.
Conservation or Prudence
It is a policy of playing safe. For future events, profits are not anticipated, but provisions for losses are provided as a policy of conservatism. Under this policy, provisions are made for doubtful debts as well as contingent liability; but we do not consider any anticipatory gain.
For example, If A purchases 1000 items @ Rs 80 per item and sells 900 items out of them @ Rs 100 per item when the market value of stock is (i) Rs 90 and in condition (ii) Rs 70 per item, then the profit from the above transactions can be calculated as follows:
|Sale Value (A) (900x100)||90,000.00||90,000.00|
|Less - Cost of Goods Sold|
|Less - Closing Stock||8,000.00||7,000.00|
|Cost of Goods Sold (B)||72,000.00||73,000.00|
In the above example, the method for valuation of stock is ‘Cost or market price whichever is lower’.
The prudence however does not permit creation of hidden reserve by understating the profits or by overstating the losses.