MIT First Grade College

Manandavadi Road, Mysore-08

Affiliated to University of Mysore

VISION OF THE INSTITUTE

Empower the individuals and society at large through educational excellence; sensitize them for
a life dedicated to the service of fellow human beings and mother land.

MISSION OF THE INSTITUTE

To impact holistic education that enables the students to become socially responsive and useful,
with roots firm on traditional and cultural values; and to hone their skills to accept challenges
and respond to opportunities in a global scenario.

Lecture Notes on Subject Name (Subject Code): Business Research Methods-HC08

Prepared by : Asst Prof. S P Sunitha

Department : PG Department of Commerce
: MIT First Grade College, Mysore

CO No. Expected Course Outcomes Cognitive

Level
CO1 Provide Familiarity with the basics of Accounting concepts, Understand
postulates and principles.
CO2 Understand the Approaches to formulation of accounting theory Understand
CO3 Recognition, measurement and disclosure of elements of financial Application
statements and analyze the financial statements for better decision
making.
CO4 Understand the Institutional frame work in formulating and Understand
implementing accounting regulations in India.
CO5 Awareness on evolution and role eXtensive Business Reporting Application
Language and its applications.

1
Syllabus:-

Module 1: An Introduction to Accounting Theory: Postulates, Principles and Concepts of

accounting theory. Approaches to formulate Accounting theory. Syntactical, semantical and
behavioural accounting theories. Proprietary, entity and fund theories. Ind.AS Framework for the
Preparation and Presentation of Financial Statements.

Module 2: Recognition, Measurement and Disclosure of Elements of Financial Statements:

Recognition and measurement principles and methods of incomes, expenses, assets and liabilities
and their disclosure. Problems and Analysis of annual reports.

Module 3: Accounting Regulations and Policies: Institutional framework for formulating and
implementing accounting regulations in India- Ministry of Corporate Affairs, National Financial
Regulatory Authority, Institute of Chartered Accountants of India, Reserve Bank of India, and
Securities Exchange Board of India. Government, For Profit and Non Profit Organisation‘s
accounting policies and practices. Analysis of regulations and annual reports.

Module 4: eXtensible Business Reporting Language: Role of XBRL in Business Reporting.

Fundamentals of XBRL. Features of XBRL software. Commercial & Industrial Taxonomy of
MCA. Instance Document. Analysis of XBRL financial statements.

References:
1. Anthony R.N., D.F. Hawkins and K.A. Merchant, Accounting: Text and Cases, McGraw Hill,
1999.
2. Richard G. Schroeder, Myrtle W. Clark and Jack M. Cathey, Financial Accounting Theory and
Analysis: Text Readings and Cases, John Wiley and Sons, 2005.
3. Ahmed Riahi Belkaoui, Accounting Theory, Quorm Books, 2000.
4. Jawahar Lal, Accounting Theory and Practice, Himalaya Publishing House, 2008.
5. L.S. Porwal, Accounting Theory, TMH, 2000.
6. Thomas R.Dyckman, Charles J Davis, Roland E.Dukes, Intermidate Accounting, Irwin
McGraw-Hill.
7. Eldon S. Hendriksen, Accounting Theory.
8. Charles Hoffman and Liv Apneseth Watson, XBRL for Dummies, Wiley Publishing Inc.
9. www.iasb.org.
10. www.icai.org.
11. www.mca.gov.in

MIT FGC Course Name: Accounting Theory 2

 Table of Contents

Sl. No. Topic Page No.

Module 1 - An Introduction to Accounting Theory
1. Accounting as language of Business 4-8
2. Concepts & conventions, Postulates, 8-11
3. Approaches to formulate Accounting theory. 11-13
4. Syntactical, semantical and behavioural accounting theories. 13-14
5. Proprietary, entity and fund theories. 14-15
6. Ind.AS Framework for the Preparation and Presentation of Financial 15-18
Statements.
7. Case study analysis Annexure
Module 2: Recognition, Measurement and Disclosure of Elements of Financial Statements
8. Financial Statements 21-25
9. Elements of Financial Statements 25-27
10. Recognition of Elements of Financial Statements 28 (35-40)
11. Measurement principles of elements of financial statements 28-30
12. Disclosure of elements of financial statements 30-35
13. Problems and Analysis of annual reports. Annexure
14. Case study analysis Annexure
Module 3: Accounting Regulations and Policies: -
15 Institutional framework for formulating and implementing accounting 41-44
regulations in India
16 Ministry of Corporate Affairs 44-45
17 National Financial Regulatory Authority 45-48
18 Institute of Chartered Accountants of India 48-49
19 Reserve Bank of India 49-53
20 Securities Exchange Board of India 53-55
21 Government, For Profit and Non Profit Organization’s accounting 55-56
policies and practices
22 Analysis of regulations and annual reports Annexure
Module 4: eXtensible Business Reporting Language:-
23 eXtensible Business Reporting Language 57-58
24 Role of XBRL in Business Reporting 58-59
25 Fundamentals of XBRL. 59-60
26 Features of XBRL software 60-61
27 Instance Document 61-62
28 Commercial & Industrial Taxonomy of MCA 62-63
29 Regulators of XBRL in India 63-64
30 Analysis of XBRL financial statements. 64-69
31 Case study analysis Annexure

MIT FGC Course Name: Accounting Theory 3

Unit -1 Introduction to Accounting & Accounting theory

“Accounting is the art of recording, classifying and summarizing in a significant manner and in
terms of money, transactions and events which are, in part at least, of financial character and
interpreting the results thereof. (AICPA) ”

Accounting is generally termed as the language of business throughout the world. The language is
the means of communication of ideas or feelings by the use of conventionalized signs, gestures,
marks and articulated vocal sound. In the same way, the accounting language serves as a means to
communicate matters relating to various aspects of business operations.

It is necessary to have a good knowledge of accounting-grammar (in the shape of construction of

accounts, conventions, concepts, postulates, principles, standards etc.) to interpret accounting
information for purposes of communication, reporting, decision making or appraisal.

1. Accounting as a recordkeeping device: “Accounting is the art of recording, classifying and

summarizing in a significant manner and in terms of money, transactions and events which are, in
part at least, of a financial character, and interpreting the results thereof.”

2. Accounting as an information system: The definition of the American Accounting Association

highlights communication aspect of accounting for decision-making by a wide variety of users.
This user-oriented definition of accounting “refers to the process of identifying, measuring and
communicating economic information to permit informed judgments and decisions by users of the
information”. Accounting stands for a measurement communication process. Accountants ought
to measure something and then communicate the measurement to the people who will make the
decisions.

3. Accounting as a service activity: Its function is to provide quantitative information, primarily

financial in nature, about economic entities that is intended to be useful in making reasoned choices
about the alternative course of action. Accounting is a synthesis of concepts, rules and techniques
designed to facilitate understanding and control of economic activity.

4. Accounting as a dynamic social science: According to Glautier and Underdown, accounting

is a social science. They observe that “The history of accounting reflects the evolutionary pattern
of social developments and in this respect, illustrates how much accounting is a product of its
environment and at the same time a force for changing it. There is, therefore, an evolutionary
pattern which reflects changing socio-economic conditions and changing purpose to which
accounting is applied”.

Nature of Accounting:

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According in its essence is a function that aims to accumulate the communicate information
essential to the understanding of the activities of an entity. It is an obstraction of the real world
economic events. The distinctive nature that makes accounting a unique system is as follows:

(i) Accounting as a process: Accounting is a process which involves gathering, compacting,

interpreting and disseminating economic information in a systematic way.

(ii) Stewardship function: Accounting is a stewardship function. Its basic goal is to report on the
resources and obligation of the entity to the owners. Through the medium of financial statements
it communicates to the interested parties of the contributions and relative rights of the economy
segments– the shareholders/owners, creditors and others.

(iii) Concepts and conventions: Since accounting is a process that aims at communicating
economic information, it must rely on a set of previously agreed concepts, conventions and rules.
These rules and conventions are not discovered but they are contrived and mutually agreed upon.

(iv)Accounting as a means to an end: Although accounting system is characterised by a host of

rules, procedures and conventions, they are not the end by themselves. The ultimate end of
accounting is to provide external information-communication system by gathering, compacting,
interpreting and disseminating economic data which gives a financial representation of the relative
economic rights and interests of the economy segments, in order to facilitate judgement
formulation and action taking by its users.

(v) Accounting as an art: Accounting is more of an art than a science, its logical foundation is not
deeply embedded in scientific or natural law. It is essentially and fundamentally utilitarian in
nature, therefore, its methodologies are primarily based on expediency and upon actual day to day
needs of the business community.

Objectives of Accounting: - The general objectives of accounting are :

(i) To provide quantitative financial information about a business enterprise that s useful to the
users, particularly the owners and creditors, in making economic decisions.

(ii) To provide reliable financial information about economic resources and obligations of a
business enterprise.

(iii) To provide reliable information about changes is not resources of an enterprise that result from
its profit directed activities.

(iv) To provide other needed information that assists in estimating the earning potential of the
enterprise.

(v) To provide other needed information about changes in economic resources and obligation.

MIT FGC Course Name: Accounting Theory 5

(vi) To disclose, to the extent possible, other information related to the financial statements that is
relevant to the user’s needs.

The qualitative objectives of accounting, according to the APB are:

(i) Relevance,
(ii) Understandability,
(iii) Verifiability,
(iv) Neutrality,
(v) Timeliness,
(vi) Comparability, and
(vii) Completeness.

Limitations of Accounting:-

1. Monetary postulate: Its principal limitations is that it ignores everything from the accountant’s
purview which cannot be measured in terms of money. Thus, certain important matters which are
amiss from the accountant’s measurements are, human resources of the enterprise, social costs of
production and certain qualitative aspects like managerial efficiency in utilization of enterprise
resources, employee relations etc.

2. Information for decision-making: It is claimed that the principal goal of accounting is to

supply relevant information that leads to judgment formulation and current decision-making. But
this objective is somewhat frustrated due to the Accounting- historical cost convention which
totally ignores price level changes.

3. Lack of consistency in the basic premises of accounting : One of the most important and
interesting limitations of accounting is that even after 500 years of its development, accountants
have failed to evolve a unified or general theory for accounting

4. Imprecise measurements: Accounting purports to measure economic events for the purpose of
communication to the interested parties. But accounting as a measurement discipline is less than
perfect, most of its measurements are imprecise, therefore, full credence on them can not be placed.
For example, inventory valuation, depreciation measurements etc. are less than perfect. Therefore
the resultant income measurement and the picture of its financial conditions are only tentative.

Definition of Theory:-
Kerlinger defines theory as “a set of interrelated constructs (concepts), definitions and propositions
that present a systematic view of phenomena by specifying relations among variables, with the
purpose of explaining and predicting the phenomena”
Theory is

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 – parsimonious explanation of complex reality
– simple explanation of a real phenomenon

The Process of Theory Construction:-

 Observation
 Defining the problem
 Formulation of hypothesis
 Experimentation or testing the hypothesis
 Verification

The history of accounting practice consists of a problem, procedure evolution, the development
of new, or modification of old, procedures as different problems occurred.

Accounting Theory: systematic statement of rules / principles

– explains and predicts economic events
– coherent set of hypothetical, conceptual and pragmatic principles
– provides a logical framework for accounting practice
The roots of accounting theory: The development in accounting theory has been influenced by
the technological changes and advances in knowledge in many other related disciplines. The major
disciplines which have influenced such development are:

1. Decision Theory
2. Measurement Theory, and
3. Information Theory.
These three disciplines are perceived to be the roots of accounting theory.

1. Decision theory: The essence of this theory is that decision-making is not an intuitive process
but a conscious evaluation of the possible alternatives that leads to best result or optimizes the
goal. It is a logical sequence that involves the following stages:

(i) Recognition of a problem that needs decision,

(ii) Defining all the possible alternative solutions.

(iii) Compiling all the information relevant to these solutions,

(iv) Assessing and ranking the merits of the alternative solution,

(v) Assessing the best alternative solution by selecting that one which is most highly ranked and,

(vi) Valuing the decision by means of information feedback.

MIT FGC Course Name: Accounting Theory 7

Decision theory is both descriptive and normative. As a descriptive process it attempts to explain
how decisions are made, while as a normative process it suggests which decision is to be made

2. Measurement theory: the term measurement has been typically defined as the assignment of
numerals to objects or events according to rules in relation to accounting measurement implies
financial attributes of economic events that we call accounting valuation. Measurement theory is
normative in character. Therefore, accounting as a measurement discipline requires specification
as to the following:

(i) The events or objects to be measured

(ii) The standard or scale to be used

3. Information theory: The dominant nature of accounting lies in an information communication

system. More precisely, accounting is an application of the general theory of information to the
efficient economic operations. The significance of information theory to accounting lies in the fact
that it is a part of the decision-making process that reduces uncertainty and thereby provides a
means to improve the quality of decision.

Objectives of financial statements

 P&L Account - Profitability
 Balance Sheet - Solvency
 SCF Position - Sources & uses of Funds
2. Postulates:
 Entity Postulate
 Going Concern Postulate
 Monetary Unit Postulate
 Accounting Period Postulate
3. Theoretical concepts
 Proprietary Theory
 Entity Theory
 Residual Equity Theory
 Enterprise Theory
 Fund Theory
4. Principles & techniques
 Revenue Principle
 Cost Principle
 Matching Principle
 Objectivity Principle
 Full Disclosure Principle
 Modifying Principle

Accounting principles is subdivided into accounting conventions and concepts

MIT FGC Course Name: Accounting Theory 8

Accounting Conventions: Conventions in accounting have been evolved and developed to bring
about uniformity in the maintenance of accounts. Conventions denote customs or traditions or
usages which are in use since long. To be clear, these are nothing but unwritten laws. The
accountants have to adopt the usage or customs, which are used as a guide in the preparation of
accounting reports and statements. These conventions are also known as doctrine.
Following are the important accounting conventions in use:

1. Convention of Disclosure: This convention requires that accounting statements should be

honestly prepared and all significant information should be disclosed therein. That is, while
making accountancy records, care should be taken to disclose all material information. Here the
emphasis is only on material information and not on immaterial information.
The purpose of this convention is to communicate all material and relevant facts of financial
position and the results of operations, which have material interests to proprietor, creditors and
investors.

2. Convention of Consistency: Rules and practices of accounting should be continuously

observed and applied. In order to enable the management to draw conclusions about the operation
of a company over a number of years, it is essential that the practices and methods of accounting
remain unchanged from one period to another. Comparisons are possible only if a consistent policy
of accounting is followed. If there are frequent changes in the treatment of accounts there is little
or no scope for reliability. Comparison of accounting period with that in the past is possible only
when the convention of consistency is adhered to.

According to Anthony, “the consistency requires that once a company had decided on one method,
it will treat all subsequent events of the same character in the same fashion unless it has a sound
“reason to do otherwise.”

This convention increases accuracy and comparability of accounting information for prediction or
decision making. This convention does not prohibit changes. If there is any change, its effect
should be clearly stated in the financial statements.

3. Convention of Conservatism: “Anticipate no profit and provide for all possible losses” is the
essence of this convention. Future is uncertain. Fluctuations and uncertainties are not uncommon.
Conservatism refers to the policy of choosing the procedure that leads to understatement as against
overstatement of resources and income.

Following are the examples:

(a) The value of an asset should not be overestimated.

(b) The value of a liability should not be underestimated.

(c) The profit should not be overestimated.

(d) The loss should not be underestimated.

MIT FGC Course Name: Accounting Theory 9

Such conservatism is generally accepted to present a true and fair value of business in the financial
statements.

4. Convention of Materiality: American Accounting Association defines the term materiality as

“An item should be regarded as material if there is reason to believe that knowledge of it would
influence the decision of informed investor.” It refers to the relative importance of an item or event.
Materiality of an item depends on its amount and its nature.

Theoretically, all items, large or small, should be treated alike. Materiality convention implies that
the economic significance of an item will to some extent affect its accounting treatment.

Materiality in its essence is of relative significance. In the sense that some of the unimportant items
are either left out or included with other items.

1. Entity Concept: For accounting purpose the “business” is treated as a separate entity from the
proprietor(s). One can sell goods to himself,, but all the transactions are recorded in the book of
the business. This concepts helps in keeping private affairs of the proprietor away from the
business affairs.

2. Dual Aspect Concept: As per this concept, every business transaction has a dual affect. For
example, if Ram starts business with cash Rs. 1, 00,000/- there are two aspects of the transaction:
“Asset Account” and “Capital Account”. The business gets asset (cash) of Rs. 1,00,000/- and on
the other hand the business owes Rs. 1,00,000/- to Ram.

3. Going concern Concept (Continuity of Activity): It is assumed that the business concern will
continue for a fairly long time, unless and until has entered into a state of liquidation. It is as per
this assumption, that the accountant does not take into account the forced sale values of assets
while valuing them.

4. Money measurement concept: in accounting everything is recorded in terms of money. Events

or transactions which cannot be expressed in terms of money are not recorded in the books of
accounts, even if they are very important or useful for the business. Purchase and sale of goods,
payment of expenses and receipt of income are monetary transactions which are recorded in the
accounting books however events like death of an executive, resignation of a manager are such
events which cannot be expressed in money.

5. Cost Concept (Objectivity Concept): This concept does not recognize the realizable value, the
replacement value or the real worth of an asset. Thus, as per the cost concept

a) As asset is ordinarily recorded at the price paid to acquire it i.e. at its cost, and

b) This cost is the basis for all subsequent accounting for the asset.

6. Cost-Attach Concept: This concept is also known as “cost-merge” concept. When a finished
good is produced from the raw material there are certain process and costs which are involved like

MIT FGC Course Name: Accounting Theory 10

labor cost, power and other overhead expenses. These costs have a capacity to “merge” or
“attach” when they are brought together.

7. Accounting Period Concept: An accounting period is the interval of time at the end of which
the income statement and financial position statement (balance sheet) are prepared to know the
results and resources of the business.

8. Accrual Concept: The accrual system is a method whereby revenue and expenses are identified
with specific periods of time like a month, half year or a year. It implies recording of revenues and
expenses of a particular accounting period, whether they are received/paid in cash or not.

9. Period Matching of Cost and Revenue Concept: This concept is based on the period concept.
Making profit is the most important objective that keeps the proprietor engaged in business
activities. That is why most of the accountant’s time is spent in evolving techniques for measuring
the profit/profitability of the concern. To ascertain the profit made during a period, it is necessary
to match “revenues” of the period with the “expenses” of that period. Income (profit) earned by
the business during a period is compared with the expenditure incurred to earn the revenue.

10. Realization Concept: According to this concept profit, should be accounted for only when it
is actually realized. Revenue is recognized only when sale is affected or the services are rendered.
However, in order to recognize revenue, receipt of cash us not essential. Even credit sale results in
realization as it creates a definite asset called “Account Receivable”. However there are certain
exception to the concept like in case of contract accounts, hire purchase etc. Similarly incomes
like commission interest rent etc. are shown in Profit and Loss A/c on accrual basis though they
may not be realized in cash on the date of preparing accounts.

11. Objective Evidence Concept: According to this concept all accounting transactions should be
evidenced and supported by objective documents. These documents include invoices, contract,
correspondence, vouchers, bills, passbooks, cheque etc.

Approaches to Accounting Theories:

Traditional Approaches: Most of these approaches are theoretical, except Pragmatic and an
Authorization approach are practical.

1. The Pragmatic Approach:. This approach consists of the formulation of a theory which
is in conformity with real (current) practices. Based upon the concept of utility or
usefulness – (utility approach). In this approach, accounting principles are chosen because
they are useful to the different categories of “users of accounting information and their
relevance to decision making. It is an attempt to find a practical solution .Most accounting
theory was developed using this approach.
2. The Authorization Approach: This approach is used by professional organization and the
governments. It consist of issuing pronouncements for the regulation of accounting
practices .in developing economies, where financial accounting and reporting practices
differ a lot . This approach has its own utility. It also attempts to provide practical solution.

MIT FGC Course Name: Accounting Theory 11

 In these (utility) approaches, the emphasis is on accounting practices, and the logical
conclusion is that accounting theory is to be derived from practices.
3. The Deductive Approach: In this approach we go from general to particular .In
accounting , this approach begins with basis accounting propositions (Assumptions) and
proceeds to derived by logical means the accounting principles.

Steps used to derive the deductive approach in accounting:

 Specifying the objectives of financial statements.

 Selecting the ‘Assumptions’-basic accounting propositions- of accounting.
 Deriving the ‘principles’ of accounting.
 Developing the "techniques of accounting”.

Thus, the sequence is {objectives – assumptions – principles – techniques

4. The Inductive Approach: In this approach we go from particular to general. On the basis
of particular observation and measurement, generalized conclusion are drawn.

The inductive approach in accounting “begins with observation of financial information of

business enterprise and proceeds to draw generalization and principles of accounting”.
Thus, accounting and financial information leads to the formulation of principles.

The inductive approach to a theory involves the following four stages:

 observations , and Recording of all observations

 Analysing and classifying these observations.
 Inductive derivation of generalisations and principles of accounting from
observations.
 Testing the generalisations

It will be noted that to develop accounting theory, there has been an application of both the
approaches. Principles are derived by deductive process, while the general proposition are
formulated through an inductive process .a combination of the two approaches has been used by
most authors.

5. The Ethical Approach: Opined that Accounting exists to serve society by recording,
interpreting, and otherwise effectively utilizing financial and other economic data.
Accounting, therefore, should be based on the following three criteria:

 The practice of accounting must provide equitable treatment of all interests

concerned,
 Accounting information must be truthful.
 Accounting must reflect an impartial and unbiased representation of the
economic facts.

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 6. The Sociological Approach: Sociological approach to the formulation of accounting
theory thus calls for an assessment of the accounting techniques and policies vis-a-vis their
impact on the society. Internalizing the social cost and assessment of social benefits arising
from the activities of the private firms, disclosure of socially oriented data to assess a firm’s
relative role and contribution to the society.
7. The Economic Approach: economic approach to the formulation of accounting theory
emphasizes the macro and micro economic welfare of the affected parties arising from the
proposed accounting technique. A formal economic approach, however, provided the major
theoretical arguments for certain accounting reforms like inflation accounting and
replacement cost.
8. The Eclectic approach: it is combination of all the above approaches. It expresses
viewpoints of professional institutions, government, industries and individuals in
establishment of concepts and principles of accounting..

Modern Approaches:

9. The events approach: An event is an occurrence, phenomenon or transaction that assumes

to be observable. The purpose of accounting according to this approach is provide relevant
economic events that might be useful for decision making.
10. Decision model approach: it acknowledges the various information needs by various user
of the financial statements to make better economic decision making. Appropriate decision
models are developed based on the hypothesized needs of the financial statement users.
11. Behavioural approach: Formulation of accounting theory is concerned with the human
behaviour as it relates to accounting information and problems. It emphasis on the
relevance to decision making of the information communicated. It is action oriented

Behavioural accounting is based on

 The adequacy of disclosure

 The usefulness of disclosure
 Attitudes about corporate reporting practices
 Materiality judgment
 Decision effects of alternative accounting practices.

12. Predictive approach: predictive value is an ingredient of relevance and primary quality
of financial reporting.

Four ways of prediction

 Direct prediction- forecasts

 Indirect prediction – based on past data
 Use of lead indicators- Debt equity ratio
 Corroborating information- specific accounting information and other available
information my more prediction.

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 Information – economic approach: All economic decision making should be based on the
cost-benefit analysis. Cost-benefit framework provides better economic decision making

Classification (levels) of accounting theory:

Hendrik Sen has classified accounting theories based on prediction levels:

1. Accounting structure or syntactical theories: Theory attempts to explain current

accounting practices and predict how accountants would react to certain situations or how
they would report specific events. These theories relate to the structure of the data
collection process and financial reporting.

 The accounting practice begins with observable occurrences (transactions)

 Translates them into symbolic form (money value)
 Makes them inputs (sales, costs)
 Into the formal accounting system where they are manipulated into output (financial
statements)

2. Interpretational or semantical theories: It attempts to give some meaning to accounting

practice the theory based on accounting structure only, although logically formulated, does
not require meaningful interpretation of accounting practices. This emphasizes on giving
interpretations and meaning as accounting practices. Different researchers attach different
meanings to the terms and concepts. It is concerned with designing financial reports that
communicate relevant information to users of accounting information.
3. Behavioural or decision usefulness theory: The focus is on the relevance of information
being communicated to decision makers and the behavior of different users as a results of
presenting of accounting information. Thus it attempts to measure and evaluate the
economic, psychological and sociological effects of alternative accounting procedures and
reporting media.

Ownership Theories:-

1. Proprietary Theory
– entity is the agent through which the proprietor operates
– owner centric
– objective – to determine and analyses proprietors net worth
– Proprietor’s Equity = Assets – Liabilities
– proprietor owns assets and liabilities
– asset centric and balance-sheet oriented
2. Entity Theory
– separate and distinct existence – entity and promoters
– entity centric
– entity owns resources
– entity is liable for claims of owners and creditors
– Assets = Liabilities + Equity

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 – assets are rights of the entity
– equities are sources of assets
– income statement oriented
– income increases share holders’ equity
– dividend = income to share holders
– undistributed profits are property of entity
3. Fund Theory
– group of assets with related obligations and restrictions is called as a fund
– emphasis is neither on proprietor nor on entity
– economic resources (funds) centric
– assets and uses on one side
– liabilities – legal restrictions on the other side
– Assets = Restrictions on assets
– primary focus is on use of assets
– statement of sources and application of funds is important

Ind AS Framework for Preparation & Presentation of Financial Statements:-

Indian Accounting Standard (abbreviated as Ind-AS) is the Accounting standard adopted by

companies in India and issued under the supervision of Accounting Standards Board (ASB) which
was constituted as a body in the year 1977. ASB is a committee under Institute of Chartered
Accountants of India (ICAI) which consists of representatives from government department,
academicians, other professional bodies viz. ICAI, representatives from ASSOCHAM, CII, FICCI,
etc.
 The Ind AS are named and numbered in the same way as the International Financial
Reporting Standards (IFRS).
 National Financial Reporting Authority (NFRA) recommend these standards to the
Ministry of Corporate Affairs (MCA).
 MCA has to spell out the accounting standards applicable for companies in India. As
on date MCA has notified 41 Ind AS. This shall be applied to the companies of financial
year 2015-16 voluntarily and from 2016-17 on a mandatory basis and it can't revert to
old method of Accounting.
 Mandatory Applicability (1 April 16)
 Every Company with Net worth of not less than 500 crores (5 billion).

 Mandatory Applicability from Accounting Period beginning on or after 1 April 2017

o Every Listed Company.
o Unlisted Companies with Net worth greater than or equal to Rs. 250 crore (2.5
billion) but less than Rs. 500 crore (5 billion)(for any of the below mentioned
periods).
o Net worth shall be checked for the previous four Financial Years (2013–14,
2014–15, 2015–16, and 2016–17)
 Ind-AS is in line with the International Financial Reporting Standards (IFRS).Ind-AS
107 deals with disclosures related to financial instruments and related risks and the
policies for managing such risks.

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  If IND AS become applicable to any company, then IND AS shall automatically be
made applicable to all the subsidiaries, holding companies, associated companies, and
joint ventures of that company, irrespective of individual qualification of such
companies.
 In case of foreign operations of an Indian Company, the preparation of stand-alone
financial statements may continue with its jurisdictional requirements and need not be
prepared as per the IND AS.However, these entities will still have to report their IND
AS adjusted numbers for their Indian parent company to prepare consolidated IND AS
accounts.
 The major standards are listed here below:
– Ind AS 101-First-time adoption of Ind AS
– Ind AS 102-Share Based payments
– Ind AS 103-Business Combination
– Ind AS 104-Insurance Contracts
– Ind AS 105-Non-Current Assets Held for Sale and Discontinued Operations
– Ind AS 106-Exploration for and Evaluation of Mineral Resources
– Ind AS 107-Financial Instruments: Disclosures
– Ind AS 108-Operating Segments
– Ind AS 109-Financial Instruments
– Ind AS 110-Consolidated Financial Statements
– Ind AS 111-Joint Arrangements
– Ind AS 112-Disclosure of Interests in Other Entities
– Ind AS 113-Fair Value Measurement
– Ind AS 114-Regulatory Deferral Accounts
– Ind AS 115-Revenue from Contracts with Customers
– Ind AS 1-Presentation of Financial Statements
– Ind AS 2-Inventories Accounting
– Ind AS 7-Statement of Cash Flows
– Ind AS 8-Accounting Policies, Changes in Accounting Estimates and Errors
– Ind AS 10-Events after Reporting Period
– Ind AS 11-Construction Contracts
– Ind AS 12-Income Taxes
– Ind AS 16-Property, Plant and Equipment
– Ind AS 17-Leases
– Ind AS 18-Revenue
– Ind AS 19-Employee Benefits
– Ind AS 20-Accounting for Government Grants and Disclosure of Government
Assistance
– Ind AS 21-The Effects of Changes in Foreign Exchange Rates
– Ind AS 23-Borrowing Costs
– Ind AS 24-Related Party Disclosures
– Ind AS 27-Separate Financial Statements
– Ind AS 28-Investments in Associates and Joint Ventures
– Ind AS 29-Financial Reporting in Hyperinflationary Economies
– Ind AS 32-Financial Instruments: Presentation
– Ind AS 33-Earnings per Share

MIT FGC Course Name: Accounting Theory 16

 – Ind AS 34-Interim Financial Reporting
– Ind AS 36-Impairment of Assets
– Ind AS 37-Provisions, Contingent Liabilities and Contingent Assets
– Ind AS 38-Intangible Assets
– Ind AS 40-Investment Property
– Ind AS 41-Agriculture

Abbreviation Full form Numbers Introduced by

IFRS International Financial 1-17 IASB
reporting Standards
IAS International Accounting 1-41 IASC
Standards
IND AS Indian Accounting Standards 1-41, 101-115 AS(Notified by CG)
Indian GAAPS Indian Generally Accepted 1-29 AS(Notified by CG)
Accounting Principles

IAS/IFRS IND AS Corresponding Indian GAAP

IAS-1 IND AS -1 ASS-1 Disclosure of Accounting policies
IAS-2 IND AS -2 AS 2 Inventories
IAS-3 IND AS -35 Deleted
IAS-4 IND AS -4 Deleted
IAS-5 IND AS -5 Deleted
IAS-6 IND AS -6 Deleted
IAS-7 IND AS -7 AS -3 Cash flow statements
IAS-8 IND AS -8 AS -1 & AS – 5 Net profit/ Extra ordinary items..
IAS-9 IND AS -9 Deleted
IAS-10 IND AS -10 AS-4 Events occurring after B/S dates
IAS-11 IND AS -11 AS-7 construction contracts
IAS-12 IND AS -12 AS -22 Income Tax
IAS-13 IND AS -13 Deleted
IAS-14 IND AS -14 Deleted
IAS-15 IND AS -15 Deleted
IAS-16 IND AS -16 AS-10, AS-6 Fixed assets & depreciation
IAS-17 IND AS -17 AS-19 Lease
IAS-18 IND AS -18 AS-9 Revenue Recognition
IAS-19 IND AS -19 AS-15 Employee Benefits
IAS-20 IND AS -20 AS-12 Government Grants
IAS-21 IND AS -21 AS-11 Effects from Exchange rates
IAS-22 IND AS -22 Deleted
IAS-23 IND AS -23 AS-16 Borrowing Cost
IAS-24 IND AS -24 AS-24 Related party

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 IAS-25 IND AS -25 Deleted
IAS-26 IND AS -26 Deleted
IAS-27 IND AS -27 AS-1 Separate Financial Statements
IAS-28 IND AS -28 AS-23 & AS 27 Investments in associates & JV
IAS-29 IND AS -29 No 1 GAAP Hyper Inflationary
IAS-30 IND AS -30 Deleted
IAS-31 IND AS -31 Deleted
IAS-32 IND AS -32 Financial Instruments presentations
IAS-33 IND AS -33 AS-20 EPS
IAS-34 IND AS -34 AS-24 Interim Financial Reporting
IAS-35 IND AS -35 Deleted
IAS-36 IND AS -36 AS-28 Impairment of Assets
IAS-37 IND AS -37 AS-29 Provisions/ liabilities/assets
IAS-38 IND AS -38 AS-26 Intangible assets
IAS-39 IND AS -39 Deleted
IAS-40 IND AS -40 No 1 GAAP Investment properties
IAS-41 IND AS -41 No 1 GAAP Agriculture
IFRS-1 IND AS -101 No.1 First time adoption of Ind AS
IFRS-2 IND AS -102 Guidance notes – share based payments
IFRS-3 IND AS -103 AS-14 Amalgamations/Business Combinations
IFRS-4 IND AS -104 No 1 GAAP Insurance Contracts
IFRS-5 IND AS -105 AS-24 Noncurrent Assets held for sale/discontinuing
operations
IFRS-6 IND AS -106 No 1 GAAP Exploration /Evaluation of mineral resources.
IFRS-7 IND AS -107 Financial instruments -disclosure
IFRS-8 IND AS -108 AS 18-operating segments
IFRS-9 IND AS -109 Financial instruments -Recognition
IFRS-10 IND AS -110 AS 21 & 27 Consolidation of FS
IFRS-11 IND AS -111 AS -27 Joint Arrangement
IFRS-12 IND AS -112 No 1 GAAP Disclosure of interest in another entity
IFRS-13 IND AS -113 No 1 GAAP Fair valuation
IFRS-14 IND AS -114 No 1 GAAP Regulatory deferral accounts
IFRS-15 IND AS -115 AS -9 & 7 Revenue from contracts & contractors
IFRS 16 IND AS -116 Leasing

Purpose of the Framework: The ‘Framework for the Preparation and Presentation of Financial
Statements’ issued by the Accounting Standards Board of the Institute of Chartered Accountants
of India.

The purpose of the Framework is to:

• Assist preparers of financial statements in applying Accounting Standards and in dealing

with topics that have yet to form the subject of an Accounting Standard;

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 • Assist the Accounting Standards Board in the development of future Accounting Standards

• Assist the Accounting Standards Board in promoting harmonization of regulations,

accounting standards and procedures relating to the preparation and presentation of
financial statements

• To reduce the number of alternative accounting treatments permitted by Accounting

Standards

• Assist auditors in forming an opinion as to whether financial statements conform with

Accounting Standards;

• Assist users of financial statements in interpreting the information contained in financial

statements prepared in conformity with Accounting Standards;

• To provide those who are interested in the work of the Accounting.

• It does not define standards for any particular measurement or disclosure issue.

• The Framework will be revised from time to time on the basis of the experience of the
Accounting Standards Board of working with it.

Scope of Conceptual Framework

The Framework deals with:

(a) The objective of financial statements;
(b) The qualitative characteristics that determine the usefulness of information provided in
financial statements;
(c) Definition, recognition and measurement of the elements from which financial statements
are constructed; and
(d) Concepts of capital and capital maintenance.
Conceptual framework of Accounting

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General and Specific Purpose of FS

The Framework is concerned with general purpose financial: are prepared and presented at least
annually and are directed toward the common information needs of a wide range of users. Financial
statements as their major source of financial information.

Special purpose financial reports, for example, Framework prospectuses and computations
prepared for taxation purposes, are outside the scope of this Framework.

Financial statements form part of the process of financial reporting.

A complete set of financial statements normally includes a balance sheet, a statement of profit and
loss (also known as ‘income statement’), a cash flow statement and those notes and other
statements and explanatory material that are an integral part of the financial statements.

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UNIT II

Users of Financial Information

(a) Investors: The providers of risk capital are concerned with the risk inherent in, and return
provided by, their investments. They need information to help them determine whether they
should buy, hold or sell. They are also interested in information which enables them to
assess the ability of the enterprise to pay dividends.

(b) Employees: Employees and their representative groups are interested in information about
the stability and profitability of their employers. They are also interested in information
which enables them to assess the ability of the enterprise to provide remuneration,
retirement benefits and employment opportunities.

(c) Lenders: Lenders are interested in information which enables them to determine whether
their loans, and the interest attaching to them, will be paid when due.

(d) Suppliers: and other trade creditors. Suppliers and other creditors are interested in
information which enables them to determine whether amounts owing to them will be paid
when due. Trade creditors are likely to be interested in an enterprise over a shorter period
than lenders unless they are dependent upon the continuance of the enterprise as a major
customer.

(e) Customers: Customers have an interest in information about the continuance of an

enterprise, especially when they have a long-term involvement with, or are dependent on, the
enterprise.

MIT FGC Course Name: Accounting Theory 21

 (f) Governments and their agencies: Governments and their agencies are interested in the
allocation of resources and, therefore, the activities of enterprises. They also require
information in order to regulate the activities of enterprises and determine taxation policies,
and to serve as the basis for determination of national income and similar statistics.

(g) Public. Enterprises affect members of the public in a variety of ways. For example,
enterprises may make a substantial contribution to the local economy in many ways including
the number of people they employ and their patronage of local suppliers. Financial statements
may assist the public by providing information about the trends and recent developments in
the prosperity of the enterprise and the range of its activities.

Objective of Financial Statements

The objective of financial statements is to provide information about the financial position,
performance and cash flows of an enterprise that is useful to a wide range of users in making
economic decisions.

(a) they largely portray the financial effects of past events, and do not necessarily provide non-
financial inform

(b) Financial statements also show the results of the stewardship of management, or the
accountability of management for the resources entrusted to it action.

Importance of Financial Statements

The economic decisions that are taken by users of financial statements require an evaluation
of the ability of an enterprise to generate cash and cash equivalents and of the timing and
certainty of their generation.

The financial position of an enterprise is affected by the economic resources it controls, its
financial structure, its liquidity and solvency, and its capacity to adapt to changes in the
environment in which it operates.

Information about financial structure is useful in predicting future borrowing needs and how
future profits and cash flows will be distributed.

Information about the performance of an enterprise, in particular its profitability, is required in

order to assess potential changes in the economic resources that it is likely to control in the
future.

Information concerning cash flows of an enterprise is useful in order to evaluate its investing,
financing and operating activities during the reporting period.

Underlying Assumptions

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 Accrual Basis: Under this basis, the effects of transactions and other events are recognised
when they occur (and not as cash or a cash equivalent is received or paid) and they are recorded
in the accounting records and reported in the financial statements of the periods to which they
relate.

Financial statements prepared on the accrual basis inform users not only of past events
involving the payment and receipt of cash but also of obligations to pay cash in the future and
of resources that represent cash to be received in the future.

Going Concern: The financial statements are normally prepared on the assumption that an
enterprise is a going concern and will continue in operation for the foreseeable future. No
intention of liquidating in the near future.

Consistency: In order to achieve comparability of the financial statements of an enterprise

through time, the accounting policies are followed consistently from one period to another; a
change in an accounting policy is made only in certain exceptional circumstances.

Hierarchy of Qualitative characteristics of financial information

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 Qualitative characteristics of FS

Qualitative characteristics are the attributes that make the information provided in financial
statements useful to users. The four principal qualitative characteristics are understandability,
relevance, reliability and comparability.

• Understanbility: Financial reporting should provide information that is understandable to

one who has a reasonable knowledge of accounting and business and who is willing to
study and analyze the information presented.

• Decision Usefulness: Financial reporting should provide information that is useful to

present and potential investors and creditors and other users in making rational investment,
credit, and similar decisions.

• Relevance: information must be relevant to the decision-making needs of users. Must help
to evaluate past, present or future events or confirming, or correcting, their past evaluations.

• Predictive and Confirmatory: roles of information are interrelated.

• Predictive: to predict the ability of the enterprise to take advantage of opportunities and its
ability to react to adverse situations. Predicting future financial position and performance
and other matters in which users are directly interested, such as dividend and wage
payments, share price movements and the ability of the enterprise.

• Conformity: confirmatory role in respect of past predictions

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 1. Predictive Value: Helps a decision maker predict future consequences based on information
about past transactions and events.

2. Feedback Value: Helps to confirm or change a decision maker’s beliefs based on

whether the information matches what was expected.

3. Timeliness: Quality of information that is provided on a timely basis.

• Reliability: Free from error and represents what it claims to represent.

1. Verifiability: Reported information should be based on objectively determined facts that

can be verified by other accountants using the same measurement methods.

2. Representational Faithfulness: The amounts and descriptions reported in the financial

statements should reflect the actual results of economic transactions and events.

3. Neutrality: The information should be presented in an unbiased manner; fairness.

• Comparability: requires that similar events be accounted for in the same manner on the
financial statements of (1) different companies and (2) for a particular company for
different periods (consistency).

• Substance over form: it is necessary that they are accounted for and presented in
accordance with their substance and economic reality and not merely their legal form.

• Materiality: The relevance of information is affected by its materiality. Information is

material if its misstatement (i.e., omission or erroneous statement) could influence the
economic decisions of users taken on the basis of the financial information. Materiality
depends on the size and nature of the item or error, judged in the particular circumstances
of its misstatement.

Constraints on FS

1. Timeliness:

If there is undue delay in the reporting of information it may lose its relevance. To provide
information on a timely basis it may often be necessary to report before all aspects of a
transaction or other event are known, thus impairing reliability.

2. Balance between benefit and cost:

The balance between benefit and cost is a pervasive constraint rather than a qualitative
characteristic. The benefits derived from information should exceed the cost of providing it.

3. Balance between qualitative characteristics:

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 Generally the aim is to achieve an appropriate balance among the characteristics in order to
meet the objective of financial statements. The relative importance of the characteristics in
different cases is a matter of professional judgment.

Elements of Financial Statements

• The elements directly related to the measurement of financial position in the balance sheet
are assets, liabilities and equity.

• The elements directly related to the measurement of financial performance in the

statement of profit and loss are income and expenses.

• The cash flow statement usually reflects elements of statement of profit and loss and
changes in balance sheet elements

Elements of Financial Position: The elements directly related to the measurement of financial
position are assets, liabilities and equity. These are defined as follows:

(a) An asset is a resource controlled by the enterprise as a result of past events from which
future economic benefits are expected to flow to the enterprise.

The future economic benefits embodied in an asset may flow to the enterprise in a number of
ways. For example, an asset may be:

i. Used singly or in combination with other assets in the production

ii. Goods or services to be sold by the enterprise;
iii. Exchanged for other assets;
iv. Used to settle a liability or
v. Distributed to the owners of the enterprise.

(b) A liability is a present obligation of the enterprise arising from past events, the settlement
of which is expected to result in an outflow from the enterprise of resources embodying
economic benefits.

• An essential characteristic of a liability is that the enterprise has a present obligation.

• Obligations may be legally enforceable as a consequence of a binding contract or statutory
requirement.
• Settlement of a present obligation may occur in a number of ways, for example, by:
(a) Payment of cash;
(b) Transfer of other assets;
(c) Provision of services;
(d) Replacement of that obligation with another obligation; or
(e) Conversion of the obligation to equity.

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 An obligation may also be extinguished by other means, such as a creditor waiving or forfeiting
its rights.

(c) Equity is the residual interest in the assets of the enterprise after deducting all its liabilities.
The amount at which equity is shown in the balance sheet is dependent on the measurement of
assets and liabilities.

Elements of Financial Performance: Profit is frequently used as a measure of performance

or as the basis for other measures, such as return on the elements directly related to the
measurement of profit are income and expenses investment or earnings per share.

Income and expenses are defined as follows:

(a) Income is increase in economic benefits during the accounting period in the form of inflows
or enhancements of assets or decreases of liabilities that result in increases in equity, other than
those relating to contributions from equity participants.

(b) Expenses are decreases in economic benefits during the accounting period in the form of
outflows or depletions of assets or incurrences of liabilities that result in decreases in equity,
other than those relating to distributions to equity participants.

Income & Gains

• The definition of income encompasses both revenue and gains.

• Revenue arises in the course of the ordinary activities of an enterprise and is referred to by
a variety of different names including sales, fees, interest, dividends, royalties and rent.

• Gains represent other items that meet the definition of income and may, or may not, arise
in the course of the ordinary activities of an enterprise.

• Gains represent increases in economic benefits and as such are no different in nature from
revenue. Hence, they are not regarded as a separate element in this Framework.

• Income includes unrealized gains. Gains also include, for example, those arising on the
disposal of fixed assets.

Expenses & Losses

• Expenses that arise in the course of the ordinary activities of the enterprise include, for
example, cost of goods sold, wages, and depreciation.

• They take the form of an outflow or depletion of assets or enhancement of liabilities.

• Losses represent other items that meet the definition of expenses and may, or may not, arise
in the course of the ordinary activities of the enterprise.

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 • Losses represent decreases in economic benefits and as such they are no different in nature
from other expenses.

• Losses include, for example, those resulting from disasters such as fire and flood, as well
as those arising on the disposal of fixed assets.

Recognition of Elements of FS

Recognition is the process of incorporating in the balance sheet or statement of profit and loss
an item that meets the definition of an element and satisfies the criteria for recognition. An
item that meets the definition of an element should be recognized if:

(a) Probability of future economic benefit: - it is probable that any future economic benefit
associated with the item will flow to or from the enterprise; and

(b) Reliability of measurement: the item has a cost or value that can be measured with
reliability.

Recognition of elements:

Recognition of Asset: An asset is recognized in the balance sheet when it is probable that the
future economic benefits associated with it will flow to the enterprise and the asset has a cost
or value that can be measured reliably.

Recognition of Liability: A liability is recognised in the balance sheet when it is probable that
an outflow of resources embodying economic benefits will result from the settlement of a
present obligation and the amount at which the settlement will take place can be measured
reliably.

Income is recognised in the statement of profit and loss when an increase in future economic
benefits related to an increase in an asset or a decrease of a liability has arisen that can be
measured reliably.

Expenses are recognised in the statement of profit and loss when a decrease in future
economic benefits related to a decrease in an asset or an increase of a liability has arisen that
can be measured reliably.

Measurement of Elements of FS: Measurement is the process of determining the monetary

amounts at which the elements of financial statements are to be recognised and carried in the
balance sheet and statement of profit and loss. This involves the selection of the particular basis
of measurement.

A number of different measurement bases are employed to different degrees and in varying
combinations in financial statements. They include the following:

MIT FGC Course Name: Accounting Theory 28

 (a) Historical cost: Assets are recorded at the amount of cash or cash equivalents paid or the
fair value of the other consideration given to acquire them at the time of their acquisition.
Liabilities are recorded at the amount of proceeds received in exchange for the obligation, or
in some circumstances (for example, income taxes), at the amounts of cash or cash equivalents
expected to be paid to satisfy the liability in the normal course of business.

(b) Current cost: Assets are carried at the amount of cash or cash equivalents that would have
to be paid if the same or an equivalent asset were acquired currently. Liabilities are carried at
the undiscounted amount of cash or cash equivalents that would be required to settle the
obligation currently.

(c) Realisable (settlement) value: Assets are carried at the amount of cash or cash equivalents
that could currently be obtained by selling the asset in an orderly disposal. Liabilities are
carried at their settlement values, that is, the undiscounted amounts of cash or cash equivalents
expected to be required to settle the liabilities in the normal course of business.

(d) Present value: Assets are carried at the present value of the future net cash inflows that
the item is expected to generate in the normal course of business. Liabilities are carried at the
present value of the future net cash outflows that are expected to be required to settle the
liabilities in the normal course of business.

Concepts of Capital & Capital Maintenance:

Financial concept of capital, such as invested money or invested purchasing power, capital is
synonymous with the net assets or equity of the enterprise.

Physical concept of capital, such as operating capability, capital is regarded as the productive
capacity of the enterprise based on, for example, units of output per day.

(a) Financial capital maintenance: Under this concept, a profit is earned only if the financial
(or money) amount of the net assets at the end of the period exceeds the financial (or money)
amount of net assets at the beginning of the period, after excluding any distributions to, and
contributions from, owners during the period. Financial capital maintenance can be measured
in either nominal monetary units or units of constant purchasing power.

(b) Physical capital maintenance: Under this concept, a profit is earned only if the physical
productive capacity (or operating capability) of the enterprise at the end of the period exceeds
the physical productive capacity at the beginning of the period, after excluding any
distributions to, and contributions from, owners during the period.

Financial statement analysis

Business Survival: There are two key factors for business survival:

MIT FGC Course Name: Accounting Theory 29

• Profitability: Profitability is important if the business is to generate revenue (income) in excess
of the expenses incurred in operating that business.

• Solvency: The solvency of a business is important because it looks at the ability of the business
in meeting its financial obligations.

Financial Statement Analysis: The process of critical evaluation of financial information

contained in the fs in order to understand and make decisions regarding the operations of the firm
is called as financial statement analysis.

Financial Statement Analysis will help business owners and other interested people to analyse the
data in financial statements to provide them with better information about such key factors for
decision making and ultimate business survival.

 Understanding and analysing & interpretation of various information of FS to gin an insight

into the profitability & operational efficiency to assess its financial health and future
prospectus.
 It is the process of identifying the financial strengths & weaknesses of the firm by properly
establishing relationship between the items of B/S & P&L a/c.
 Financial Statement Analysis is the collective name for the tools and techniques that are
intended to provide relevant information to the decision makers. The purpose of the FSA
is to assess the financial health and performance of the company
 FSA consist of the comparisons for the same company over the period of time and
comparisons of different companies either in the same industry or in different industries.
Purpose of Financial Statement Analysis:

1. To use financial statements to evaluate an organization’s

– Financial performance
– Financial position
– Prediction of future performance

2. To have a means of comparative analysis across time in terms of:

– Intra company basis (within the company itself)

– Intercompany basis (between companies)
– Industry Averages (against that particular industry’s averages)
3. To apply analytical tools and techniques to financial statements to obtain useful information to
aid decision making. It involves analysing the information provided in the financial statements to:

–Provide information about the organizations:

• Past performance
• Present condition

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 • Future performance
– Assess the organizations:

• Earnings in terms of power, persistence, quality and growth

• Solvency
Financial Statements are

1. The Income Statement

2. The Balance Sheet

3. The Statement of Retained Earnings

4. The Statement of Changes in Financial Position

 Changes in Working Capital Position

 Changes in Cash Position
 Changes in Overall Financial Position
Effective Financial Statement Analysis can be performed by understanding the organisation’s:
– Business strategy
– Objectives
– Annual report and other documents like articles about the organisation in
newspapers and business reviews. These are called individual organisational
factors.
– Understand the nature of the industry in which the organisation works. This is an
industry factor.
– Understand that the overall state of the economy may also have an impact on the
performance of the organisation.
– Financial statement analysis is more than just “crunching numbers”; it involves
obtaining a broader picture of the organisation in order to evaluate appropriately
how that organisation is performing
Standards of Comparison of Financial statements

1. Rule-of-thumb Indicators Financial analyst and Bankers use rule-of thumb or benchmark
financial ratios.

2. Past performance of the Company

3. Industry Standards…with the help different Sources of Information..

– Company Reports
– Directors Report
– Financial Statements
– Schedules and notes to the Financial Statements

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 – Auditors Report
2. Stock Exchanges

3. Business Periodicals

4. Information Services • CRISIL • ICRA • CMIE

Tools of Financial Statement Analysis: The commonly used tools for financial statement analysis
are:

1. Financial Ratio Analysis

2. Comparative financial statements analysis:

– Horizontal analysis/ Trend analysis

– Vertical analysis/Common size analysis/ Component Percentages

1. Financial Ratio Analysis: Financial ratio analysis involves calculating and analysing ratios
that use data from one, two or more financial statements.

• Ratio analysis also expresses relationships between different financial statements.

• Financial Ratios can be classified into 5 main categories:

1. Profitability Ratios
2. Liquidity or Short-Term Solvency ratios
3. Asset Management or Activity Ratios
4. Financial Structure or Capitalization Ratios
5. Market Test Ratios
Profitability Ratios:

Profitability Ratios 3 elements of the profitability analysis:

– Analyzing on sales and trading margin – focus on gross profit

– Analyzing on the control of expenses – focus on net profit
– Assessing the return on assets and return on equity
• Gross Profit % = Gross Profit * 100 Net Sales

• Net Profit % = Net Profit after tax * 100 Net Sales Or in some cases, firms use the net profit
before tax figure. Firms have no control over tax expense as they would have over other expenses.
⇒ Net Profit % = Net Profit before tax *100 Net Sales

• Return on Assets = Net Profit * 100 Average Total Assets

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• Return on Equity = Net Profit *100 Average Total Equity

Liquidity or Short-Term Solvency ratios Short-term funds management:

• Working capital management is important as it signals the firm’s ability to meet short term debt
obligations For example: Current ratio• The ideal benchmark for the current ratio is $2:$1 where
there are two dollars of current assets (CA) to cover $1 of current liabilities (CL). The acceptable
benchmark is $1: $1 but a ratio below $1CA:$1CL represents liquidity riskiness as there is
insufficient current assets to cover $1 of current liabilities.

Liquidity or Short-Term Solvency ratios:

• Working Capital = Current assets – Current Liabilities

• Current Ratio = Current Assets Current Liabilities

• Quick Ratio = Current Assets – Inventory – Prepayments Current Liabilities – Bank Overdraft
Asset Management or Activity Ratios

• Efficiency of asset usage – How well assets are used to generate revenues (income) will impact
on the overall profitability of the business .For example: Asset Turnover

• This ratio represents the efficiency of asset usage to generate sales revenue © Mary L

Asset Management or Activity Ratios:

• Asset Turnover = Net Sales Average Total Assets

• Inventory Turnover = Cost of Goods Sold Average Ending Inventory

• Average Collection Period = Average accounts Receivable Average daily net credit sales* *
Average daily net credit sales = net credit sales / 365

. Financial Structure or Capitalisation Ratios Long term funds management

• Measures the riskiness of business in terms of debt gearing. For example: Debt/Equity

• This ratio measures the relationship between debt and equity. A ratio of 1 indicates that debt and
equity funding are equal (i.e. there is $1 of debt to $1 of equity) whereas a ratio of 1.5 indicates
that there is higher debt gearing in the business (i.e. there is $1.5 of debt to $1 of equity). This
higher debt gearing is usually interpreted as bringing in more financial risk for the business
particularly if the business has profitability or cash flow problems.

Financial Structure or Capitalization Ratios:

• Debt/Equity ratio = Debt / Equity

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• Debt/Total Assets ratio = Debt *100 Total Assets

• Equity ratio = Equity *100 Total Assets

• Times Interest Earned = Earnings before Interest and Tax Interest

Market Test Ratios

• Based on the share markets perception of the company. For example: Price/Earnings ratio

• The higher the ratio, the higher the perceived quality of the earnings by the share market.

Market Test Ratios:

• Earnings per share = Net Profit after tax Number of issued ordinary shares

• Dividends per share = Dividends Number of issued ordinary shares

• Dividend pay-out ratio = Dividends per share *100 Earnings per share

• Price Earnings ratio = Market price per share Earnings per share

2. Classification on the basis of modus operandi

2. a. Horizontal analysis: When the FS are analysed for two or more period then it is called
horizontal analysis.

Comparative financial statements analysis: are statement of financial position of different points
of time. The comparative figures would indicate the trend and direction of financial position and
operating result. The financial data can be compared only when same accounting principles are
used.

Types of comparative statements are of two types:

I. comparative Income Statement (Income statement): gives an idea of the progress of a business
concern over a period of time. It indicates the direction of changes in the performance of an
organisation.

II. Comparative Balance sheet (position statement): Balance sheet reflect the conduct of the
business.

2. b. Vertical analysis: when the analysis of FS of an enterprise for only one accounting period is
made it is called vertical analysis.

Common size statements or analysis: are those statements in which the data or figures reported
in the fs are converted into percentages of a common base amount. The net sales figure is taken as
100 % in income statement and the total assets or total liabilities including equity is taken as 100

MIT FGC Course Name: Accounting Theory 34

 % in the balance sheet. All items are expressed as a percentage of a common base item within a
financial statement.

It is of two types

• Financial Performance – sales is the base called Common size income statement

• Financial Position – total assets is the base called Common size balance sheet

2. c.Trend analysis/trend ratios/trend percentages: This is a time series analysis. The FS are
analysed by comparing trend of series of information. It determines the direction upwards or
downwards and involves computation of percentage relationship that each statement items bear to
the same item in the base year.

Limitations of Financial Statement Analysis: Strong financial statement analysis does not
necessarily mean that the organisation has a strong financial future.

– Financial statement analysis might look good but there may be other factors that can cause an
organisation to collapse. They are

1. Financial Analysis is only a Means

2. Fulfilment of statutory requirement only
3. Based on historical data
4. Ignores the Price Level Changes
5. Financial Statements are essentially Interim lag Reports
6. GAAP-Accounting Concepts and Conventions
7. Influence of Personal Judgments
8. Emphasis on Quantitative information: Disclose only Monetary Facts & quantitative items
ignores subject things such as attitude of employees,
9. Not useful for comparison
10. Opportunities for manipulation(window dressing)
Recognition of elements of financial statements: GAAP frameworks and IFRS standards define
recognition and measurement of elements of financial statements. To be recognized, an item must
meet the definition of an element provided in the conceptual framework, and satisfy the following
criteria:
 It is probable that any future economic benefit associated with the item will flow to or from the
entity; and
 The item’s cost or value can be measured with reliability.
The general criteria for recognizing elements in financial statements is provided below.
Assets:
Definition of Assets: Asset is a resource controlled by the entity as a result of past events and from
which future economic benefits are expected to flow to the entity (IASB Framework). An asset is

MIT FGC Course Name: Accounting Theory 35

recognized in the balance sheet when it is probable that the future economic benefits will flow to
the entity and the asset has a cost or value that can be measured reliably.

The framework defines asset in terms of control rather than ownership. Therefore, an asset may be
recognized in the financial statement of the entity even if ownership of the asset belongs to
someone else. For instance, if a machine is leased to a company for the entire duration of its useful
life, the machine may be recognized in its Statement of Financial Position (Balance Sheet) since
the entity has control over the economic benefits that would be derived from the use of the asset.
This illustrates the use of Substance over Form whereby the economic substance of the transaction
takes precedence over the legal aspects of a transaction in order to present a true and fair view.

The economic benefits contribute, directly or indirectly, in the form of cash or cash equivalents.
Even though many assets are in physical form, such as machinery, the physical form is not
essentials. For example, patents and intellectual property are assets controlled by the entity and
have future economic benefits.

The Framework has advised the following recognition criteria that ought to be met before an asset
is recognized in the financial statements.
 The inflow of economic benefits to entity is probable.
 The cost/value can be measured reliably.
Liabilities:
Definition of Liabilities: A liability is a present obligation of the enterprise arising from past
events, the settlement of which is expected to result in an outflow from the enterprise of resources
embodying economic benefits (IASB Framework).

Recognition of liabilities: A liability is recognized in the balance sheet when it is probable that an
outflow of resources embodying economic benefits will result from the settlement of a present
obligation and the amount at which the settlement will take place can be measured reliably. For
example, accounts payables are present obligations, which will result in an outflow of resources
embodying economic benefits.

Recognition Criteria: Apart from satisfying the definition of liability, the framework has also
advised the following recognition criteria to be met before a liability could be shown on the face
of a financial statement:
 The outflow of resources embodying economic benefits (such as cash) from the entity is
probable.
 The cost / value of the obligation can be measured reliably.
With regard to the first test, it is logical to recognize a liability only if it is likely that the entity will
be required to settle it. The second test ensures that only liabilities that can be objectively measured
are recognized in the financial statements.

MIT FGC Course Name: Accounting Theory 36

If an obligation meets the definition of a liability but fails to meet the recognition criteria, it is
classified as a contingent liability. Contingent liability is not presented as a liability in the statement
of financial position but is instead disclosed in the notes to the financial statements.

Equity:
Definition of Equity: Equity is the residual interest in the assets of the entity after deducting all
the liabilities (IASB Framework).
Explanation: Equity is what the owners of an entity have invested in an enterprise. It represents
what the business owes to its owners. It is also a reflection of the capital left in the business after
assets of the entity are used to pay off any outstanding liabilities.

Equity therefore includes share capital contributed by the shareholders along with any profits or
surpluses retained in the entity. This is what the owners take home in the event of liquidation of
the entity. The Accounting Equation may further explain the meaning of equity:

Assets - Liabilities = Equity (This illustrates that equity is the owner's interest in the Net Assets of
an entity.)
Assets = Equity + Liabilities (Assets of an entity have to be financed either by debt (Liability) or
by share capital and retained profits (Equity).
Examples of Equity recognized in the financial statements include the following:
 Ordinary Share Capital
 Preference Share Capital (irredeemable)
 Retained Earnings
 Revaluation Surpluses
Income:
Definition of Income: Income is increases in economic benefits during the accounting period in
the form of inflows or enhancements of assets or decreases of liabilities that result in increases in
equity, other than those relating to contributions from equity participants (IASB Framework).
Income is recognized in the income statement when an increase in future economic benefits related
to an increase in an asset or a decrease of a liability has arisen that can be measured reliably.
In effect, the recognition of income occurs simultaneously with the recognition of increases in
assets or decreases in liabilities. For example, when a sale is made, it results in a net increase in
assets (cash). Income includes both revenues and gains, such as from sale of assets that are not a
part of the normal business activity.
There are two types of income:
 Income or Sale Revenue: Income earned in the ordinary course of business activities of
the entity;
 Gains: Income that does not arise from the core operations of the entity.
Following are common sources of incomes recognized in the financial statements:
 Sale revenue generated from the sale of a commodity.
 Interest received on a bank deposit.

MIT FGC Course Name: Accounting Theory 37

  Dividend earned on entity's investments.
 Rentals received on property leased by the entity.
 Gain on re-valuation of company assets.
Expenses
Definition of Expenses: Expenses are the decreases in economic benefits during the accounting
period in the form of outflows or depletions of assets or incurrences of liabilities that result in
decreases in equity, other than those relating to distributions to equity participants (IASB
Framework).

Recognition of Expenses: Expenses are recognized when a decrease in future economic benefits
related to a decrease in an asset or an increase of a liability has arisen that can be measured reliably.
In effect, the recognition of expenses occurs simultaneously with the recognition of an increase in
liabilities or a decrease in assets. For example, the depreciation of an asset decreases the asset and
the expense is recognized. Expenses include both expenses and losses.

Expense is simply a decrease in the net assets of the entity over an accounting period except for
such decreases caused by the distributions to the owners. The first aspect of the definition is quite
easy to grasp as the incurring of an expense must reduce the net assets of the company. For
instance, payment of a company's utility bills reduces cash. However, net assets of an entity may
also decrease as a result of payment of dividends to shareholders or drawings by owners of a
business, both of which are distributions of profits rather than expense. This is the significance of
the latter part of the definition of expense.
Following is a list of common types of expenses recognized in the financial statements:
 Salaries and wages
 Utility expenses
 Cost of goods sold
 Administration expenses
 Finance costs
 Depreciation
 Impairment losses
When economic benefits are expected to arise over several accounting periods and the association
with income can only be broadly or indirectly determined, expenses are recognized in the income
statement on the basis of systematic and rational allocation procedures. This is often necessary in
recognizing the expenses associated with the using up of assets such as property, plant, equipment,
goodwill, patents and trademarks; in such cases the expense is referred to as depreciation or
amortization.
Expense is accounted for under the accruals principal whereby it is recognized for the whole
accounting period in full, irrespective of whether payments have been made or not.
 The outflow of resources embodying economic benefits (such as cash) from the entity is
probable.
 The cost / value of the obligation can be measured reliably.

MIT FGC Course Name: Accounting Theory 38

Statement of Comprehensive Income refers to the statement which contains the details of the
revenue, income, expenses, or loss of the company that is not realized when a company prepares
the financial statements of the accounting period and the same is presented after net income on the
company’s income statement.

Comprehensive Income Statement

Sales/Revenue XXX XXXXX
Less:- Cost of Goods Sold
Gross Profit XXXXX
Less: Operating Expenses(salaries, rent, etc) XXX
Income from continuing operations before tax(EBIT) XXXXX
Less Income Tax XXX
Income from continuing operations XXXXX
Add: Income from Discontinued operations XXX
Profit/loss on discontinued operations XXX
Less: Income tax on gain on discontinued operations XXX
Gain from discontinued operations XXXXX
Add: Extra ordinary items
Gain on sale of extraordinary items XXX
Less income tax XXX
Extra ordinary gain XXX
Net income /earnings XXXXX

Comprehensive Income Statement

Net Sales/Revenue XXX XXXXX
Less:- Cost of Goods Sold
Gross Profit XXXXX
Less: Operating Expenses(selling, administrative & general XXX
expenses)
Income from continuing operations before tax(EBIT)operating XXXXX
profit
Less: Interest XXX
Income before Income Tax(EBT) XXXXX
Less Income Tax XXX
Less Provision for income Tax XXX
Income from continuing operations-Net Income XXXXX
Add: Income from Discontinued operations XXX
Profit/loss on discontinued operations XXX
Less: Income tax on gain on discontinued operations XXX
Gain from discontinued operations XXX

MIT FGC Course Name: Accounting Theory 39

Net income including discontinued operations XXXXX
Add: Extra ordinary items
Gain on sale of extraordinary items XXX
Less income tax XXX
Extra ordinary gain XXX
Net income /earnings XXXXX

Working format for presenting information in the Financial Statement

Statement of Financial positions Statement of Comprehensive Statement of Cash flow
income
Business: Business: Business:
Operating assets & liabilities Operating income & Operating cash flows
expenses
Investing assets & liabilities Investing income & Investing cash flows
expenses

Financing
Financing assets Financing assets income Financing assets cash flows
Financing liabilities Financing liabilities Financing liabilities cash
expenses flows
Income Taxes Income Taxes(related to Income Taxes
business & financing)

Discontinued operations Discontinued operations, Discontinued operations

Net taxes

Equity Other comprehensive Equity

income, Net of tax

MIT FGC Course Name: Accounting Theory 40

Unit -3

Need for Accounting Environment:

 Designed to enhance public company governance, responsibility and disclosure.

 To state the responsibility of management for establishing and maintaining an adequate
internal control structure and procedures for financial reporting
 Full, fair, accurate, timely, and understandable disclosure in the periodic reports required
to be filed by the issuer;
 To Compliance with applicable governmental rules and regulations
The creation of national accounting standards can be influenced by a variety of influential factors
such as

 Cultural factors,
 Political factors,
 Economic factors,
 Tax system,
 Professional bodies
 Educational /training factors, and
 Capital market factors.

MIT FGC Course Name: Accounting Theory 41

  State of economic development
 Business complexity
 Political persuasion,
 Legal/particular system of law
 Objectives of financial reporting, clients, and /licensing.
Legal and political factors provide a much more substantial influence on standard development
and implementation than cultural values provide. Throughout the accounting literature exists a
variety of standard setting models grouping countries based on legal/political similarities. The
political environment naturally segues from the legal environment. Accounting literature is in
agreement that the political environment specifically stability and extent of Journal of Finance and
Accountancy The Changing Accounting Environment, Page 4 freedom can and does influence
accounting doctrine.

Economic factors along with the availability and variety of capital markets also impact the
national accounting profession. Obviously nations differ in their economic systems, some are
categorized as capitalist, or capitalist-statists, while others are capitalist-socialist or socialist.
Economic development includes growth as well as the social and structural changes that
accompany it. A more developed economic system requires an accounting structure that captures
the necessary relevant information about the productivity and performance of various sectors. This
is clearly evident as the most comprehensive accounting systems are present in countries with the
greatest extent of economic development.

Capital formation be it through public financing, private investment or foreign private investment
are necessary ingredients for economic development. All the relevant financial information to
motivate private investment or validate public financing relies on accounting data

As the idea of global corporations and markets without borders began to become a reality, members
of the accounting profession realized the need for international standards. In 1971, the International
Accounting Standards Committee (IASC) was formed. It was a loosely formed committee at the
behest of accounting boards from Australia, Canada, France, Germany, Japan, Mexico,
Netherlands, and U.K. It had a similar framework to that of the US Financial Accounting Standards
Board (FASB) as well as the British and Australian frameworks. At about the same time the
international professional activities of accountancy bodies from different countries organized
under the International Federation of Accountants (IFAC). The IASC and IFAC operated tangent
to each other. However IFAC members were automatically members of IASC. With this structure,
IASC would have autonomy in setting international accounting standards and publishing
discussion documents relating to international accounting issues.

In India, there are currently two sets of accounting standards to be applied; Indian Accounting
Standards (Ind AS) and local Accounting Standards (AS). Ind AS are outlined in the Companies

MIT FGC Course Name: Accounting Theory 42

(Indian Accounting Standards) Rules of 2015 issued by the Ministry of Corporate Affairs (MCA),
and the AS are outlined in the Companies (Accounting Standards) Rules of 2006.

Ind AS are to be applied by all listed companies, commercial banks, and non-bank finance
companies. All other companies in India, primarily unlisted companies can apply Ind AS, but
continue to use AS. Insurance companies currently apply AS and are required to comply with Ind
AS in 2020. Ind AS are based on and substantially converged with IFRS as issued by the IASB;
however, differences remain. The AS were developed utilizing an older version of IFRS, and the
Institute of Chartered Accountants of India (ICAI) has plans to update the AS to be in line with
current international standards.

In accordance with the Companies Act, the Accounting Standards Board operating under ICAI is
responsible for developing the accounting standards. The standards are approved and granted
legislative backing by the MCA upon the recommendation of the National Advisory Committee
on Accounting Standards (NACAS). Approved accounting standards are then published in the
Gazette of India and are authoritative under law. In 2013, upon the revision of the Companies Act,
the National Financial Reporting Authority (NFRA) was established to replace the NACAS.
However, as the NFRA is yet to be operational, the NACAS was reconstituted by the MCA in 2014
to continue its. As of July 2018, ICAI reports that regulation and the structure regarding the
appointment of members of the NFRA including a Chairperson has been issued; however, a
timeline and steps for further operationalization is unclear.

The accountancy profession in India is self-regulated. Until 2013, both the Institute of Chartered
Accountants of India (ICAI) and the Institute of Cost Accountants of India (ICAI-CMA) were
responsible for regulating Chartered Accountants (CA) and Cost and Management Accountants,
respectively. However, as the Companies Act of 1956 was revised in 2013, the Act provided for
the establishment of the National Financial Reporting Authority (NFRA), which is envisioned as
the entity responsible for the overall regulation of the accountancy profession. The NFRA is
expected to

(i) Monitor and enforce compliance with accounting and auditing standards;

(ii) Oversee the quality of the services provided by members of the profession;

(iii) Make recommendations to the government on the establishment of accounting and auditing
policies and standards; and

(iv)Investigate and sanction professional misconduct by auditors and audit firms. As of July 2018,
the NFRA has not yet become operational.

Professional Accountancy Organisations:

MIT FGC Course Name: Accounting Theory 43

The Institute of Chartered Accountants of India (ICAI):

Under the Chartered Accountants Act of 1949 (revised in 2013), the ICAI was established with
the authority to regulate the accountancy profession and powers to establish regulations as
necessary to fulfill its duties. ICAI’s membership is comprised of Chartered Accountants, a
designation protected under the Act.

The Act grants ICAI authority to

(i) establish initial professional development and continuing professional development (CPD)
requirements;
(ii) Maintain a register of its members;
(iii) Ensure members’ adherence to laws and professional standards; and
(iv) Investigate and discipline members for professional misconduct. In 2002, ICAI developed the
Peer Review Mechanism that covers all audit work conducted by its members. The Peer Review
Mechanism’s objectives are to ensure that Chartered Accountants who are authorized to conduct
audits are complying with applicable standards set by the institute. In accordance with the
Companies Act of 1956 (revised in 2013), all auditors must have a practicing certificate issued by
ICAI in order to conduct statutory financial statement audits. In addition to being an IFAC
founding member, ICAI is a member of Confederation of Asian and Pacific Accountants (CAPA)
and the South Asian Federation of Accountants (SAFA).

The Institute of Cost Accountants of India (ICAI-CMA)

The Institute of Cost Accountants of India (ICAI-CMA), formerly the Institute of Cost and Works
Accountants of India, was established in 1944 as a registered company under the Companies Act,
and is the only recognized statutory professional organization and licensing body in India
specializing exclusively in Cost and Management Accountancy in accordance with the Cost and
Works Accountants Act of 1959. Membership is required for individuals who wish to perform cost
accountancy work in India. ICAI-CMA is required to (i) maintain and publish a register of persons
qualified to practice as Cost and Management Accountants; (ii) issue certificates of practice; (iii)
prescribe IPD and CPD requirements for its members; (iv) establish ethical, professional and
technical standards; (v) monitor the performance of its members; and (vi) investigate and discipline
members for misconduct. Members of the ICAI-CMA are not allowed to conduct financial
statement audits unless they are members of ICAI and possess a certificate of practice issued by
ICAI. In addition to being an IFAC member, ICAI-CMA is also a member of CAPA and SAFA.

Different Accounting bodies framing and regulation Accounting activities in the India:

1. Ministry of Corporate Affairs:-

MCA regulates corporate affairs in India through the Companies Act, 1956, 2013 and other allied
Acts, Bills and Rules. MCA also protects investors and offers many important services to
stakeholders.

MIT FGC Course Name: Accounting Theory 44

 The Ministry is also responsible for administering the Competition Act, 2002 to prevent practices
having adverse effect on competition, to promote and sustain competition in markets, to protect
the interests of consumers through the commission set up under the Act.

Besides, it exercises supervision over the three professional bodies, namely, Institute of Chartered
Accountants of India (ICAI), Institute of Company Secretaries of India (ICSI) and the Institute of
Cost Accountants of India (ICAI) which are constituted under three separate Acts of the Parliament
for proper and orderly growth of the professions concerned.

The Ministry is primarily concerned with administration of the Companies Act 2013, the
Companies Act 1956, the Limited Liability Partnership Act, 2008 & other allied Acts and rules &
regulations framed there-under mainly for regulating the functioning of the corporate sector in
accordance with law.

The Ministry also has the responsibility of carrying out the functions of the Central Government
relating to administration of Partnership Act, 1932, the Companies (Donations to National Funds)
Act, 1951 and Societies Registration Act, 1980 and other Acts such as

 Companies Act
 Limited Liability Partnership Act
 Insolvency and Bankruptcy Code, 2016
 Competition Act, 2002
 Partnership Act, 1932
 Chartered Accountants Act,1949
 Cost and Works Accountants Act, 1959
 Company Secretaries Act, 1980
 Societies Registration Act, 1860
 Companies (Donation to National Fund) Act,1951
 Accounting Standards
 Other Circulars

2. National Financial Reporting Authority:-

The concept and composition of the National Financial Reporting Authority (NFRA) was
originally introduced by the Companies Act, 2013. The Union Cabinet has now approved the
proposal for establishing the National Financial Reporting Authority (NFRA). Section 132 of the
companies Act 2013, provides for the constitution of NFRA, Section 132(3) and sec 132(11) came
into effect from 21-03-2018.

MIT FGC Course Name: Accounting Theory 45

Composition of NFRA:

Members of Authority Section 132(2): Provides that the authority shall consists of :-

 A Chair person, who shall be a person of eminence and expertise in accountancy, auditing,
finance or law to be appointed by the central government.
 Such other members not exceeding 15 as part time and full time members as prescribed or
3 Full time members & 9 Part time members

 The Chairperson and members of the NFRA are required to make a declaration to the
Central Government regarding no conflict of interest or lack of independence in respect of
his or their appointment. Further, the Chairperson and members of the NFRA cannot
be associated with any audit firm (including related consultancy firms) during the course
of their appointment and two years after ceasing to hold such appointment.

Functions of NFRA:

Section 132(2) provides that the authority has to perform the following functions:
a) To make recommendations to the central government on the formulation and laying down of
accounting and auditing policies and standards for adoption by the companies or class of
companies or their auditors as the case may be.

b) To monitor and enforce the compliance with accounting standards and auditing standards in
such a manner as may be prescribed.
c) To oversee the quality of services of the professions associated with ensuring compliance with
such standards, and suggest measures required for improvement for quality of services and such
related matters as may be prescribed.
d) Perform such other functions relating to the above criteria as well

Powers of the National Financial Reporting Authority (NFRA)

The National Financial Reporting Authority has the following powers to execute its roles and
responsibilities:

 Power to investigate, either suo motu or on a reference made to it by the Central

Government, for such class of bodies corporate or persons, in such manner as may be
prescribed into the matters of professional or other misconduct committed by any member
or firm of Chartered Accountants, registered under the Chartered Accountants Act, 1949.
 Provided that no other institute or body shall initiate or continue any proceedings in such
matters of misconduct where the National Financial Reporting Authority has initiated an
investigation under this section.
 Have the same powers as are vested in a civil court under the Code of Civil Procedure,
1908, while trying a suit, in respect of the following matters, namely:

MIT FGC Course Name: Accounting Theory 46

  Discovery and production of books of account and other documents, at such place and at
such time as may be specified by the National Financial Reporting Authority;
 Summoning and enforcing the attendance of persons and examining them on oath;
 Inspection of any books, registers and other documents of any person referred to at any
place;
 Issuing commissions for the examination of witnesses or documents;

Where professional or other misconduct is proved, the National Financial Reporting Authority
(NFRA) has the power to make an order for:

 Imposing penalty of not less than one lakh rupees, but which may extend to five times of
the fees received, in case of individuals. Imposing penalty of not less than ten lakh rupees,
but which may extend to ten times of the fees received, in case of firms.
 Debarring the member or the firm from engaging himself or itself from practice as member
of the Institute of Chartered Accountant of India for a minimum period of six months or
for such higher period not exceeding ten years as may be decided by the National Financial
Reporting Authority.

Accounts of NFRA
The accounts of the NFRA shall be audited by the Comptroller and Auditor-General of India at
such intervals as may be specified (Sub-section (14) of Section 132).
Head office – NFRA
The head office of the NFRA shall be at New Delhi and the National Financial Reporting Authority
may, meet at such other places in India as it deems fit (Sub-section (12) of Section 132).
Meetings of NFRA
The NFRA shall meet at such times and places and shall observe such rules of procedure in regard
to the transaction of business at its meetings in such manner as may be prescribed (Sub-section
(10) of Section 132).
Action against professional misconduct
The NFRA has been empowered to investigate, either suo motu or on a reference to it by the
Central Government into the matters of professional & other misconduct committed by any
member of ICAI.
NFRA is also empowered to impose specified penalty including debarring the professional from
the practice for a minimum period of six months or for such higher period not exceeding ten years
as may be decided by the NFRA.
Further, if NFRA initiates proceedings, no other institute or body can initiate or continue
proceedings in the same matter (Sub-section (4) of Section 132).
Action against Audit Firm
Earlier on account of professional or other misconduct, ICAI was empowered to suspend
individual partners of the audit firm but not an audit firm. For instance, in Satyam Accounting

MIT FGC Course Name: Accounting Theory 47

fraud, it was only the partners who signed the accounts & two employees were booked. The Audit
firms that prepared the company’s accounts were never booked. To plug this loophole NFRA has
been empowered to act against audit firm (Sub-section (4) of Section 132).
Appeal to the Appellate Authority
Any person aggrieved by any order of the NFRA for taking action against professional or other
misconduct may prefer an appeal before the Appellate Authority.
The Central Government may, by notification, constitute an Appellate Authority consisting of a
Chairperson and not more than two other members, to be appointed by the Central Government,
for hearing the appeals (Sub-section (5) of Section 132).

3. National Advisory Committee on Accounting Standards:-

 (NACAS) is a body set up under section 210A of the Companies Act, 1956 by
the Government of India.
 It advises the Central Government on the formulation and laying down of accounting policy
and accounting standards for adoption by companies.
 The advisory committee shall consist of the following members, namely:
1. A chairperson who shall be a person of eminence well versed in accountancy, finance, business
administration, business law, economics or similar Discipline;
2. One member each nominated by The Institute of Chartered Accountants of India constituted
under the Chartered Accountants Act, 1949, The Institute of Cost and Work Accountants Act, 1959
and The Institute of Company Secretaries of India constituted under the Company secretaries Act
1980.
3. One representative each of the Central government, Reserve Bank of India, Comptroller &
Auditor General of India to be nominated by it.
4. A person who holds or has held the office of professor in Accountancy, Finance or Business
Management in any University or deemed university;
5. The Chairman of the Central Board of Direct Tax (India) constituted under the Central Board of
Revenue Act, 1963 (India) or his nominee;
6. Two members to represent the chambers of commerce and industry to be nominated by The
Central Government of India; and 7. One representative of the Security and Exchange Board of
India to be nominated by it.
Further, Institute of Chartered Accountants of India (ICAI) has the responsibility of preparing
the accounting standards and recommend them to NACAS
C A .Amarjit Chopra is the current chairman of NACAS.

4. Institute of Charted Accountants of India:-

MIT FGC Course Name: Accounting Theory 48

The Institute of Chartered Accountants of India (ICAI) is a statutory body established by an Act
of Parliament, viz. The Chartered Accountants Act, 1949 (Act No.XXXVIII of 1949) for regulating
the profession of Chartered Accountancy in the country.
 The Institute, functions under the administrative control of the Ministry of Corporate
Affairs, Government of India.
 The ICAI is the second largest professional body of Chartered Accountants in the world,
with a strong tradition of service to the Indian economy in public interest.
 The affairs of the ICAI are managed by a Council in accordance with the provisions of the
Chartered Accountants Act, 1949 and the Chartered Accountants Regulations, 1988.
 The Council constitutes of 40 members of whom 32 are elected by the Chartered
Accountants and remaining 8 are nominated by the Central Government generally
representing the Comptroller and Auditor General of India, Securities and Exchange Board
of India, Ministry of Corporate Affairs, Ministry of Finance and other stakeholders.
 Over a period of time the ICAI has achieved recognition as a premier accounting body not
only in the country but also globally, for maintaining highest standards in technical, ethical
areas and for sustaining stringent examination and education standards.
 Regulate the profession of Accountancy
 Education and Examination of Chartered Accountancy Course
 Continuing Professional Education of Members
 Conducting Post Qualification Courses
 Formulation of Accounting Standards
 Prescription of Standard Auditing Procedures
 Laying down Ethical Standards
 Monitoring Quality through Peer Review
 Ensuring Standards of performance of Members
 Exercise Disciplinary Jurisdiction
 Financial Reporting Review
 Input on Policy matters to Government
 The present president of ICAI is CA. Prafulla P. Chhajed, 2019-20.
Official website: https://www.icai.org

5. Reserve Bank Of India:-

 It is the Central Bank of India Established on April 1, 1935 in accordance with the
provisions of the Reserve Bank of India Act, 1934.
 Its head quarter is in Mumbai (Maharashtra). Its present governor is “Shakikanta Das.
 It has “27 regional offices, most of them in state capitals and 04 Sub-offices

 Brief History
 It was set up on the recommendations of the “Hilton Young Commission”.
 It was started as Share-Holders Bank with a paid up capital of 5 crores.

MIT FGC Course Name: Accounting Theory 49

  Initially it was located in Kolkata. Later it moved to Mumbai in 1937.Initially it was
Privately Owned.
 Since Nationalization in 1949, the Reserve Bank is fully owned by the Government of
India.
 Its First governor was Sir Osborne A.Smith(1st April 1935 to 30th June 1937) The First
Indian Governor was “Sir Chintaman D.Deshmukh”(11th August 1943 to 30th June 1949)
PREAMBLE The Preamble of the Reserve Bank of India describes the basic functions of the
Reserve Bank as:- “…To regulate the issue of Bank Notes and keeping of reserves with a view to
securing monetary stability in India and generally to operate the currency and credit system of the
country to its advantage."

 The key roles of the RBI are:-

 Regulator and supervisor of the financial system
 Manager of Exchange control
 Issuer of currency
 Banker to the Government
 Bank to banks: maintains banking accounts of the scheduled banks
 Monetary Authority Formulates, implements and monitors the monetary policy
Objective of RBI

 Maintaining price stability and ensuring adequate flow of credit to productive sectors.
 Regulator and supervisor of the financial system.
 Prescribes broad parameters of banking operations within which the country’s banking and
financial system functions.
 Maintain public confidence in the system, protect depositors’ interest and provide cost-
effective banking services to the public Manager of Foreign Exchange.
Functions/Role of RBI

 Issue of currency
 Development role
 Banker to government
 Banker to bank
 Role of RBI in inflation control
 Formulate monetary policy
 Manager of foreign reserve
 Clearing house functions
 Regulations of banking system
 Regulator and supervisor of the financial system
 Manager of Exchange control
 Manages the Foreign Exchange Management Act, 1999.
 Objective: to facilitate external trade and payment and promote orderly development and
maintenance of foreign exchange market in India

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Issue of Currency

 To ensure adequate quantity of supplies of currency notes and coins of good quality.
 Issues new currency and destroys currency and coins not fit for circulation.
 it has to keep in forms of gold and foreign securities as per statutory rules against notes &
coins issued. Developmental Role
 To develop the quality of banking system in India.
 Performs a wide range of promotional functions to support national objectives.
 To establish financial institutions of national importance, for e.g: NABARD, IDBI etc.
Banker to the Government: Performs all banking function for the central and the state
governments and also acts as their banker excepting that of Jammu and Kashmir. It makes loans
and advances to the States and local authorities. It acts as adviser to the Government on all
monetary and banking matters.

Banker to banks:

 Maintains banking accounts of all scheduled banks.

 RBI also regulates the opening /installation of ATM Fresh currency notes for ATMs are
supplied by RBI.
 RBI regulates the opening of branches by banks.
 It ensures that all the N.B.F.S follow the Know Your Customer guidelines.
The Reserve Bank of India also regulates the trade of gold. Currently 17 Indian banks are involved
in the trade of gold in India. RBI has invited applications from more banks for direct import of
gold to curb illegal trade in gold and increase competition in the market.Collection and
publication of data.It issues guidelines and directives for the commercial banks.

Role of RBI in inflation control

Inflation arises when the demand increases and there is a shortage of supply there are two policies
in the hands of the RBI.

Monetary Policy: It includes the interest rates. When the bank increases the interest rates than
there is reduction in the borrowers and people try to save more as the rate of interest has increased.

Fiscal Policy: It is related to direct taxes and government spending. When direct taxes increased
and government spending increased than the disposable Income of the people reduces and hence
the demand reduces.

Formulate monetary policy Maintain price stability and ensuring adequate flow of credit in the
economy.It formulates implements and monitors the monetary policy.Instruments: qualitative
& quantitative.

Instruments of Credit Control

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Quantitative or General Methods credit control:-

 Bank Rate: “BANK RATE” also called “Discount Rate”.It also includes “Repo Rate”.
It’s the interest rate that is charged by a country’s central bank on loans and advances to
control money supply in the economy and the banking sector.This is typically done on a
quarterly basis to control inflation and stabilize the country’s exchange rates.A
fluctuation in bank rates Triggers a Ripple-Effect as it impacts every sector of a country’s
economy.A change in bank rates affects customers as it influences Prime Interest Rates
for personal loans.The present bank rate is 9%.
 Open Market Operation (OMO): buying and selling of government securities. Refers to
the purchase or sale of Govt. securities.• The RBI seeks to influence the excess reserves
position of the banks by purchasing and selling of government securities, commercial
papers, etc.• When the central bank purchases securities from the banks – it increases their
cash reserve position and hence their credit creation capacity.
 Variable Reserve Ratio: It includes C.R.R and S.L.R
Cash reserve Ratio: Cash Reserve Ratio (CRR) is the amount of Cash (liquid cash like
gold) that the banks have to keep with RBI. This Ratio is basically to secure solvency of
the bank and to drain out the excessive money from the banks. The present CRR rate is
4.75%. It is the amount a commercial bank needs to maintain in the form of cash, or gold
or govt. approved securities (Bonds) before providing credit to its customers.
 Statutory Liquidity Ratio (SLR): SLR rate is determined and maintained by the RBI
(Reserve Bank of India) in order to control the expansion of bank credit. The present SLR
rate is 23%. Every bank is required to maintain at the close of business every day, a
minimum proportion of their Net Demand and Time Liabilities as liquid assets in the form
of cash, gold and un-encumbered approved securities. The ratio of liquid assets to demand
and time liabilities is known as Statutory Liquidity Ratio (SLR). RBI is empowered to
increase this ratio up to 40%. An increase in SLR also restrict the bank’s leverage position
to pump more money into the economy.
Repo Rate and Reverse Repo Ratio

 Repo Rate: The RBI introduced repurchase auctions (Repos) since December, 1992 with
regards to dated Central Government securities. When banking systems experiences
liquidity shortages and the rate of interest is increasing
– The RBI will purchase Government securities from Banks
– Payment is made to banks
– improves liquidity and expands credit.
Since November, 1996 RBI introduced Reverse Repos to sell Govt. securities through
auction at fixed cut-off rates of interest. It will provide short term avenues to banks to park
their surplus funds, where there is considerable liquidity and call rate has a tendency to
decline.
 Reverse Rate: Since November, 1996 RBI introduced Reverse Repos to sell Govt.
securities through auction at fixed cut-off rates of interest. It will provide short term

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 avenues to banks to park their surplus funds, where there is considerable liquidity and call
rate has a tendency to decline
Qualitative or Selective Methods credit control:-

 Selective Credit Control: Selective methods of credit control regulate the use of credit by
discriminating between essential and non-essential purposes. The central bank may
prohibit or caution banks against particular type of securities. May prescribe margins
against secured advances.
 Rationing of Credit
 Moral Persuasion: When commercial banks pursue an unsound credit policy or borrow
excessively, the RBI may refuse to grant loans or rediscount bills. The RBI may charge
penal rate of interests
 Direct Action: Moral persuasion involves persuading the banks not to ask for further loans.
Objective and Reasons for Establishment of RBI

The main objectives for establishment of RBI as the central bank of India were as follows:

 To manage the Monetary and credit system of the country

 To stabilize internal and external value of rupee
 For balanced and systematic development of banking in the country
 For the development of organized money market in the country
 For proper arrangement of agriculture finance
 For proper arrangement of industrial finance
 For proper management of public debt
 To establish monetary relations with other countries of the world and international financial
institutions
 For centralization of cash reserves of commercial banks
 To maintain balance between demand and supply of currency

6. Securities Exchange Board of India:-

 In 1988 the securities and exchange board of India was established by government of India
through an executive resolution and was subsequently upgraded as a fully autonomous
body (a statutory body) in the year 1992 with the passing of securities and exchange board
of India act (SEBI act) on 30th January 1992.
 SEBI head quartered in popular business district of bandra-kurla complex in Mumbai.
 Official Web site: www.sebi.gov.in
Salient features of SEBI act 1992
 Shall be a body corporate with perpetual succession and common seal with power to
acquire hold and dispose of property.
 Head Quarter will be in Mumbai and may establish offices at other places in India

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  Chairman and members of board will be appointed by the central government.
 Government can prescribe terms of offices and other conditions of service of the board and
chairman.
 Primary duties of the board is to protect the interest of the investors.
Objectives of SEBI
 The primary objective of SEBI is to promote healthy and orderly growth of the securities
market and secure investor protection.
 To protect the interest of investors, so that, there is a steady flow of savings into to the
capital market.
 To regulate the securities market and ensure fair practices.
 To promote efficient services by brokers, merchant bankers and financial intermediaries,
so that, they become competitive and professional.
 Its main function is to stop fraudulent activities of stock market.
Functions of SEBI: The SEBI act 1992 has entrusted with two functions they are
1. Regulatory functions:
 Regulation of stock exchanges and self-regulatory organizations.
 Registration and regulation of stock brokers, sub-brokers, registrars of all issues, merchant
bankers, underwriters, portfolio managers..etc
 Registration and regulation of the working of collective investment schemes including
mutual funds.
 Prohibition of fraudulent and unfair trade practices relating to securities market.
 Prohibiting of insider trading.
 Regulating substantial acquisition of shares and takeovers of the company
2. Developmental functions:
 Promoting investors education.
 Training of intermediaries.
 Conducting research and publishing information useful to all market participants.
 Promoting of fair practices.
 Promotion of self-regulatory organizations.
Powers of SEBI
 Power to call periodical returns from recognized stock exchanges.
 Power to compel listing of securities by public companies.
 Power to levy fees or other changes for carrying out the purposes of regulation.
 Power to call information or explanation from recognized stock exchanges or their
members.
 Power to grant approval to bye-laws of recognized stock exchanges.
 Power to control and regulate stock exchanges. Power to direct enquiries to be made in
relation to affairs of stock exchanges or their members.
 Power to make or amend bye-laws of recognized stock exchanges.
 Power to grant registration to market intermediaries

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  Power to declare applicability of section 17 of the securities contract (regulation) act
1956 in any state or area to grant licenses to dealers
 Can undertake inspection of any books.
 Issue commission for the examinations of witness of documents.
 Power to regulate or prohibit issue of prospectus.
 Power to prohibit manipulative and deceptive devices.
 Penalties levied under the act have been enhanced.

Structure of SEBI
The board shall consists of following members:-
1. Chairman
2. Two members, one from amongst the officials of the central government dealing with finance
and another from the administration of companies act of 1956.
3. One members from amongst the officials of the reserve bank of India.
4. Five other members of whom at least three shall be the whole-time members to be appointed by
the central government.
Code of conduct
 The code of conduct has to be strictly observed and those employees, officers, or directors
of the company who violate the code of conduct will be subject to disciplinary action by
SEBI or by the company.
 Duty of officers: - every listed company has to employ a compliance officer who as to
report to MD or CEO of the company.
 Security; - confidential files should be protected and kept secure. These pertain to all files
but especially computer files and passwords, which are likely to have sensitive price
information.
 Closed trading window: - every company should have a closed trading window period
when no trade take places. It should be closed period when the annual P&L and b/s have
been declared, when dividends have to be declared and amalgamations have to make.
 Open trading window: - SEBI has also provided that trading windows would open only
after 24 hours of making sensitive price available to the public.
 Information; - to avoid insider trading practices each listed company has to provide
sensitive information on a continuous basis to the stock exchange.
Problems: - SEBI deals with the problems faced by the investors. These are dealt with the
investor grievance cell.
Investor Grievance: are usually due to delays in dispatch of allotment letters, refund orders,
misleading statements in advertisements or in the prospectus, delay in transfer of securities, non-
payment of interest or dividend.
These grievance are dealt with either SEBI or department of company affairs.
Ombudsman

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SEBI issued ombudsman regulation in 2003 to provide fair and transparent system of redressal of
grievance. These regulation empower an investor to get redressal against both the company and
the intermediaries.
Complaints dealt by ombudsman act are
1. Delays in receiving refund orders, allotment letters, dividend or interest.
2. Non-receipt of dividend, certificates, bonus shares, annual reports, refunds in allotment or
redemption of mutual fund unit.
3. Non-receipt of letter of offers in respect of buy back of shares or in case of delisting.
4. Complaints against grievance against intermediaries or listed companies.

Rights of investor
 To participate and to vote in annual general meetings and right to receive a notice for them
or their proxy to attend the meeting.
 To receive dividend, right shares, bonus offers, from the company, after their approval of
the board.
 To receive and inspect minutes of the meeting.
 To receive balance sheet, P&L account, auditors report, and director’s report.
 To receive allotment letters and share certificates.
 To requisition an extra ordinary general meeting.
 To apply for winding up of the company.
 To proceed in civil or criminal proceedings against the company.

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Unit- 4 - XBRL- eXtensible Business Reporting Language

• XBRL is language for the electronic exchange and distribution of business and financial
information which is revolutionizing business reporting in the World.
• XBRL- is a standardized International business language formulated by a non-profit
consortium AICPA (American Institute of Certified Public Accountants) developed in
1998 with version 1.0.
• XBRL is a software standard that was developed to improve the way in which financial
data is communicated, making it easier to compile and share this data.
• XBRL is a world-wide standard, developed by an international, non-profit-making
consortium, XBRL International Inc. (XII). XII is made up of many hundred members,
including government agencies, accounting firms, software companies, large and small
corporations, academics and business reporting experts. XII has agreed the basic
specifications which define how XBRL works.
• XBRL versus XML: XML stands for extensible markup language. XBRL stands for
extensible business reporting language. XBRL is an XML language. But it goes way
further than most XML languages in meeting the needs of its user domain. Extensibility is
the ability for users to make adjustments.

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 • XBRL is XML; XBRL uses the XML syntax. XBRL uses XML Schema, XLink,
Namespaces in XML, and other global standards from the XML family of specifications
• XBRL expresses meaning: business reporting interpretations.
• XML articulates only syntax. XBRL Schema contains syntax, but does not express
semantics. XBRL’s fundamental goal is to express business meaning, called semantics. To
do so, XBRL had to use the XML syntax to and family of specifications to build additional
features.

What is XBRL?

• A freely available, market-driven, open, global standard for better exchanging business
information
• An XML language
• A global consortium of more than 600 members
• A mandate from regulators from around the world
• A revolution for small investors, the most important shareholder initiative in a decade, and
a leveler of the investment playing field
• A global agreement on business information concepts, relationships, and business rules.
• A new way for companies to distribute their financial and other relevant business
information by computer applications.

Essential objectives of XBRL:

• To improve the business reporting over the long term.

• To balance the needs of all categories of users participating in the process of business
reporting.
• Business information exchange in general must be facilitated, without a focus on financial
information exchange or accounting.
• Extensibility is important because business information exchange can be dynamic; it may
not be a static form.
• The ability to drill down from summary information to detailed information is important.
• More focus on preparing, exchanging, extracting and comparing information. Presenting
information is not the main focus of XBRL.
• To leverage existing technologies and approaches such as XML, XML Schema, XLink,
and Namespaces.

Features of XBRL:

 XBRl is freely available, market driven, open global standard.

 XBRL is a Markup Language: to express information by using tags-in XBRL’s case, the
XML syntax.
 XBRL is a Specification: A specification is a set of documents plus additional
infrastructure, such as a conformance suite, which allows software vendors to test their
software.
 XBRL provides business information.

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  XBRL provides meaning i.e. semantics: In computer science, semantics refers to
encoding meaning of information so that humans, as well as computers, can understand the
significance of the information.
 XBRL is a Computer Application: XBRL is a computer or software applications or is a
business system.
 XBRL’s Information is Exchangeable: Exchange means is that information in one place
is moved or transported to another place effectively.
 XBRL is people centric: Information that is usable for human beings is not necessarily
usable by computers.

Reasons to consider XBRL:

• Making business information exchange better, faster, and cheaper

• Making financial reporting more transparent and discoverable
• Availability of broadband high speed technology
• Explicitly articulating business meaning and thus enabling the exchange of that meaning
between humans or between business systems
• Improving data integrity
• Integrating business systems
• Saving government agencies money and making them more efficient

Why do you need XBRL? An effective exchange of business information requires a number of
components.

 Analysis, Interpretation, and Decision-making

 Distributing and Transmitting Reports
 Verifying, Reconciling, and Correcting Information
 Rekeying and Report Generation
 Discovery and gathering information.

ADVANTAGES OF XBRL

1. Streamlined processes for collecting, comparing and reporting financial information

2. Reduced costs
3. Improved financial communication and transparency
4. Increased data accuracy
5. Direct comparability
6. Multi languages and accounting standards support
7. Improved risk management and control
8. Ease of maintenance
9. Faster, more reliable and extended scope of analysis capabilities for better decision-making.

Other Benefits of using XBRL:

• Greater timeliness of information

• Higher quality of information

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 • Greater reusability of information
• Greater flexibility of information collection
• Allows for the creation of intelligent & interactive data(Descriptive & contextual
information)
• Enhances greater comparability
• Decreased total cost of ownership
• Timely assurance on systems security, reliability, and effectiveness
• Creates interactive and intelligent data.
Disadvantages of XBRL

 XBRL facilitates near real-time disclosure

 XBRL increases the potential for error.
 XBRL may increase information abuse
 XBRL taxonomies are extensible: Taxonomies are extensible. In other words, they
can be expanded to meet a variety of purposes.

The factors that influence the efficient implementation of XBRL are:

 Political decisions need to be made
 Identify the available Taxonomies and software solutions including ERPs at affordable
costs.
 Bring awareness about benefits of XBRL

Father of XBRL: Charlie Hoffman: Hoffman is a certified public accountant with an MBA and
virtually no training in software. But he is the guy behind XBRL – eXtensible Business Reporting
Language – a new computer language that is being adopted around the world because it makes
financial reporting easier, cheaper, and faster and a lot more accurate.

XBRL Frame work: XBRL documents contains two sections:

1. XBRL Instance Document

Instance document is a file that contains business reporting information and represents a
collection of financial facts and report – specific information using tags from one or more XBRL
taxonomies. The instance document is a computer file that contains entity’s data and other entity
specific information and is generally not intended to be read by the human eye.
Thus, an XBRL instance document is a business report in an electronic format created according
to the rules of the XBRL. It contains the facts that are defined by the elements in the taxonomy it
refers to, together with their values and an explanation of the context in which they are placed.
Presents the business reporting “facts” in tagged form with additional information to describe the
“facts” in their full context.

Instance Document consists of several Parts:

MIT FGC Course Name: Accounting Theory 60

 • The root element and namespace declaration
• The schemaRef element
• The context element
• The unit element
• The xbrl items

 XBRL Taxonomies: Taxonomy word is derived from:

 tassein–classification
 nomos–law/science

Taxonomy means “Science of Classification”. In XBRL, Taxonomy is “systematic classification

of business and financial terms”

• XML Schema File (Concept definitions, .xsd)

• Relationship Files (Definition, .xml)
• Calculation (.xml)
• Label (.xml)
• Reference (.xml)
• Presentation (.xml)
• Footnote

Taxonomies are dictionaries that contain the terms used in the financial statements and their
corresponding XBRL tags (i.e., electronically readable codes for each item of financial
statements). Thus, taxonomies define the elements and their relationships based on the regulatory
requirements and the basic XBRL properties. It includes terms such as net income, earnings per
share, cash, etc. Each term has specific attributes that help define it, including label and definition
and potential references.
Taxonomies may represent a number of individual business reporting concepts, mathematical and
definitional relationships among them, along with text labels in multiple languages, references to
authoritative literature, and information about how to display each concept to a use.

Role of Taxonomies:

• Standardisation
• Facilitates the understanding off the data system
• Enables the reuse, data exchange and comparison.

XBRL Taxonomy is made up of –

 XBRL Taxonomies
 Extension Taxonomy
 The Taxonomy Schemas
 The schemaRef element
 The context element

MIT FGC Course Name: Accounting Theory 61

  The unit element
 The xbrl item
 Instance Document

a. Schema: Dictionary of business and financial terms, along with their XBRL properties
• Similar to XML schema
• File with .xsd extension
• Contains attributes describing the whole document
• Contains the definition of financial terms and their attributes
• Refers to the Linkbases

b. Linkbases: Interrelationships amongst the terms defined in the schema

c. XBRL Tags: XBRL describes this information using ‘tags’ that work like bar codes, and it
defines each of these using a number of dictionaries called ‘taxonomies’. Any organisation or
individual that wants to apply, read and process these tags requires software that has been specially
designed or modified for this purpose; but with the right software, XBRL can make it easier to
handle different items of financial information, in the same way as bar codes make it easier to
handle assets or manage the supply chain.

1. Fact
2. Entity name- profit & loss account belongs to which entity.
3. Period- what period the fact pertains to.
4. Meaning of the concept- meaning of the concepts or items eg. Profit, expenses or losses
etc.
5. Accounting references- companies Act 1956 or 2013, SEBI listing agreements etc.
6. Scale factor-value reported as actuals in thousands, lakhs or other scales.
7. Unit- Whether a fact is monetary- INR, USD, GBP, Euro etc as number / shares /ratios etc.

Regulators of XBRL in India:

The XBRL wave started in India in late 2007. ICAI established a group for promotion &
development of XBRL in India. ICAI initiated the idea of using XBRL in collaboration with
the different regulators in India.

The 4 major regulators:

 Ministry of Corporate Affairs

 Reserve Bank of India
 Securities Exchange Board of India & NSE & BSE
 Insurance Regulatory and Development Authority

 Registered companies, Banks, Insurance undertakings and Listed companies have to adopt
XBRL.
 In 2008, ICAI established XBRL India (under Indian jurisdiction) of XBRL international
XII to adopt XBRL as standard for electronic business reporting in India.

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Commercial & Industrial Taxonomy of MCA: In India, the taxonomy has been developed by
the Ministry of Corporate Affairs (MCA), based on the requirements of:
 Schedule VI of Companies Act;
 The Accounting Standards; and
 SEBI Listing requirements.
 Taxonomies for manufacturing and services sector (referred as Commercial and Industrial,
or C&I) and Banking sector, is acknowledged by the XBRL International.
 XBRL Financial Statements – Requirements in India. The Ministry of Corporate Affairs,
Government of India, vide its General Circular No. 37/2011, dated June 07, 2011 has
required the following class of companies (except banking companies, insurance
companies, power companies and the Non-Banking Financial Companies) to file the
financial statements in XBRL form only from the year 2010 – 2011:
(i) All companies listed in India and their Indian subsidiaries;
(ii) All companies having a paid up capital of Rs 5 crore and above; and
(iii) All companies having a turnover of Rs 100 crore and above.
It is the responsibility of the management to ensure that the financial statements generated in the
XBRL format are in accordance with the taxonomy defined by MCA.

Purpose of XBRL in India: The commercial and Industrial taxonomy(C&I taxonomy) is general
purpose taxonomy to enable the companies to prepare FS to meet the varied needs of the users of
financial information in the standard form. This is the base taxonomy of MCA framed by the ICAI.
It is hosted in the MCA web site to meet the reporting requirements of the companies. Banking
taxonomy is in its development process.

• To facilitate education & marketing of XBRL.

• To develop and manage XBRL taxonomies.
• To promote and encourage the adoption of XBRL by all the companies.
• To update the existing taxonomies according to the new requirements.
• To represent Indian interest in XBRl International.
• To contribute to the international development of XBRL.

Future prospects of XBRL:

• India being Emerging Economy- XBRL Need of the hour – External stakeholders
• Implementation of XBRL in internal Reporting System – Budgeting, Production System
& performance evaluation
• Data integrity & analysis
• Filing with regulators through XBRL is more transparent & Accountable
• Development of Taxonomy & Flexibility is expected.

Accounting is the art of recording transactions in the best manner possible, so as to enable the
reader to arrive at judgments/come to conclusions, and in this regard, it is utmost necessary that
there are set guidelines. These guidelines are generally called accounting policies.

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The intricacies of accounting policies permitted Companies to alter their accounting principles
for their benefit. This made it impossible to make comparisons. In order to avoid the above and
to have a harmonized accounting principle, Standards needed to be set by recognized accounting
bodies. This paved the way for Accounting Standards to come into existence.

Accounting Standards in India are issued By the Institute of Chartered Accountants of India
(ICAI).

Objective of Accounting Standards

• The objective of Accounting Standards is to standardize the diverse accounting policies

and practices with a view to eliminate to the extent possible the non-comparability of
financial statements and the reliability to the financial statements.
• The Institute of Chartered Accountants of India, recognizing the need to harmonize the
diverse accounting policies and practices, constituted at Accounting Standard Board
(ASB) on 21st April 1977.
• Compliance with Accounting Standards issued by ICAI
• Sub Section (3A) to section 211 of Companies Act, 1956 requires that every Profit/Loss
Account and Balance Sheet shall comply with the Accounting Standards. ‘Accounting
Standards’ means the standard of accounting recommended by the ICAI and prescribed
by the Central Government in consultation with the National Advisory Committee on
Accounting Standards(NACAs) constituted under section 210(1) of Companies Act,
1956.

List of Mandatory Accounting Standards of ICAI (as on 1 July 2017 and onwards), is as
under:

1. AS 1 Disclosure of Accounting Policies: This Standard deals with the disclosure of significant
accounting policies which are followed in preparing and presenting financial statements.

2. AS 2 Valuation of Inventories: This Standard deals with the determination of value at which
inventories are carried in the financial statements, including the ascertainment of cost of
inventories and any write-down thereof to net realisable value.

3. AS 3 Cash Flow Statements: This Standard deals with the provision of information about the
historical changes in cash and cash equivalents of an enterprise by means of a Cash Flow Statement
which classifies cash flows during the period from operating, investing and financing activities.

4. AS 4 Contingencies and Events Occurring After Balance Sheet Date: This Standard deals with
the treatment of contingencies and events occurring after the balance sheet date.

5. AS 5 Net profit or Loss for the period, Prior Period Items and Changes in Accounting
Policies: This Standard should be applied by an enterprise in presenting profit or loss from ordinary
activities, extraordinary items and prior period items in the Statement of Profit and Loss, in

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accounting for changes in accounting estimates, and in disclosure of changes in accounting
policies.

6. AS 7 Construction Contracts: This Standard prescribes the accounting for construction contracts
in the financial statements of contractors.

7. AS 9 Revenue Recognition: This Standard deals with the bases for recognition of revenue in the
Statement of Profit and Loss of an enterprise. The Standard is concerned with the recognition of
revenue arising in the course of the ordinary activities of the enterprise from: a) Sale of goods; b)
Rendering of services; and c) Interest, royalties and dividends.

8. AS 10 Property, Plant and Equipment: The objective of this Standard is to prescribe the
accounting treatment for property, plant and equipment (PPE).

9. AS 11 The Effects of Changes in Foreign Exchange Rates: AS 11 lays down principles of

accounting for foreign currency transactions and foreign operations, i.e., which exchange rate to
use and how to recognise in the financial statements the financial effect of changes in exchange
rates.

10. AS 12 Government Grants: This Standard deals with accounting for government grants.
Government grants are sometimes called by other names such as subsidies, cash incentives, duty
drawbacks, etc.

11. AS 13 Accounting for Investments: This Standard deals with accounting for investments in the
financial statements of enterprises and related disclosure requirements.

12. AS 14 Accounting for Amalgamations: This Standard deals with accounting for amalgamations
and the treatment of any resultant goodwill or reserves.

13. AS 15 Employee Benefits: The objective of this Standard is to prescribe the accounting
treatment and disclosure for employee benefits in the books of employer except employee share-
based payments. It does not deal with accounting and reporting by employee benefit plans.

14. AS 16 Borrowing Costs: This Standard should be applied in accounting for borrowing costs.
This Standard does not deal with the actual or imputed cost of owners’ equity, including preference
share capital not classified as a liability.

15. AS 17 Segment Reporting: The objective of this Standard is to establish principles for reporting
financial information, about the different types of segments/ products and services an enterprise
produces and the different geographical areas in which it operates.

16. AS 18 Related Party Disclosures: This Standard should be applied in reporting related party
relationships and transactions between a reporting enterprise and its related parties. The
requirements of this Standard apply to the financial statements of each reporting enterprise and
also to consolidated financial statements presented by a holding company.

MIT FGC Course Name: Accounting Theory 65

17. AS 19 Leases: The objective of this Standard is to prescribe, for lessees and lessors, the
appropriate accounting policies and disclosures in relation to finance leases and operating leases.

18. AS 20 Earnings Per Share: AS 20 prescribes principles for the determination and presentation
of earnings per share which will improve comparison of performance among different enterprises
for the same period and among different accounting periods for the same enterprise.

19. AS 21 Consolidated Financial Statements: The objective of this Standard is to lay down
principles and procedures for preparation and presentation of consolidated financial statements.
These statements are intended to present financial information about a parent and its
subsidiary(ies) as a single economic entity to show the economic resources controlled by the group,
obligations of the group and results the group achieves with its resources.

20. AS 22 Accounting for Taxes on Income: The objective of this Standard is to prescribe
accounting treatment of taxes on income since the taxable income may be significantly different
from the accounting income due to many reasons, posing problems in matching of taxes against
revenue for a period.

21. AS 23 Accounting for Investments in Associates: This Standard should be applied in

accounting for investments in associates in the preparation and presentation of consolidated
Financial Statements (CFS) by an investor.

22. AS 24 Discontinuing Operations: The objective of AS 24 is to establish principles for reporting

information about discontinuing operations, thereby enhancing the ability of users of financial
statements to make projections of an enterprise’s cash flows, earnings generating capacity, and
financial position by segregating information about discontinuing operations from information
about continuing operations. AS 24 applies to all discontinuing operations of an enterprise.

23. AS 25 Interim Financial Reporting: This Standard applies if an entity is required or elects to
publish an interim financial report. The objective of AS 25 is to prescribe the minimum content of
an interim financial report and to prescribe the principles for recognition and measurement in
complete or condensed financial statements for an interim period.

24. AS 26 Intangible Assets: AS 26 prescribes the accounting treatment for intangible assets (i.e.
identifiable non-monetary asset, without physical substance, held for use in the production or
supply of goods or services, for rental to others, or for administrative purposes).

25. AS 27 Financial Reporting of Interests in Joint Ventures: The objective of AS 27 is to set out
principles and procedures for accounting for interests in joint ventures and reporting of joint
venture assets, liabilities, income and expenses in the financial statements of venturers and
investors.

26. AS 28 Impairment of Assets: The objective of AS 28 is to prescribe the procedures that an

enterprise applies to ensure that its assets are carried at no more than their recoverable amount.

MIT FGC Course Name: Accounting Theory 66

The asset is described as impaired if its carrying amount exceeds the amount to be recovered
through use or sale of the asset and AS 28 requires the enterprise to recognise an impairment loss
in such cases. It should be noted that AS 28 deals with impairment of all assets unless specifically
excluded from the scope of the Standard.

27. AS 29 Provisions, Contingent Liabilities and Contingent Assets: The objective of AS

29 is to ensure that appropriate recognition criteria and measurement bases are applied to
provisions and contingent liabilities and that sufficient information is disclosed in the notes to the
financial statements to enable users to understand their nature, timing and amount. The objective
of this Standard is also to lay down appropriate accounting for contingent assets.

Indian Accounting Standards, (abbreviated as india AS) are a set of accounting standards
notified by the Ministry of Corporate Affairs which are converged with International Financial
Reporting Standards (IFRS). These accounting standards are formulated by Accounting Standards
Board of Institute of Chartered Accountants of India.
Now India will have two sets of accounting standards viz. existing accounting standards under
Companies (Accounting Standard) Rules, 2006 and IFRS converged Indian Accounting
Standards(Ind AS). The Ind AS are named and numbered in the same way as the corresponding
IFRS.
National Advisory Committee on Accounting Standard (NACAS) under section 210Aof the
companies act 1956, recommend these standards to the Ministry of Corporate Affairs. The
Ministry of Corporate Affairs has to spell out the accounting standards applicable for companies
in India. As on date the Ministry of Corporate Affairs notified 35 Indian Accounting Standards
(Ind AS). But it has not notified the date of implementation of the same.
Several of the requirements of Ind AS are considerably dissimilar from policies and practices
presently followed by Indian companies. Further, while finalising the Ind AS, the Indian standard
setters have examined individual IFRS and modified the requirements, wherever necessary, to suit
Indian requirements. This has resulted in differences between Ind AS and equivalent requirements
under IFRS (referred to as ‘carve outs’).

Ind AS 101: First-time Adoption of Indian Accounting Standards.

Ind AS 102: Share based Payment.
Ind AS 103: Business Combinations.
Ind AS 104: Insurance Contracts.
Ind AS 105: Non-current Assets Held for Sale and Discontinued Operations.
Ind AS 106: Exploration for and Evaluation of Mineral Resources.
Ind AS 107: Financial Instruments: Disclosures.
Ind AS 108: Operating Segments.

Reframed Ind AS:-

Ind AS 1: Presentation of Financial Statements.
Ind AS 2: Inventories.

MIT FGC Course Name: Accounting Theory 67

Ind AS 7: Statement of Cash Flows.
Ind AS 8: Accounting Policies, Changes in Accounting Estimates and Errors.
Ind AS 10: Events after the Reporting Period.
Ind AS 11: Construction Contracts.
Ind AS 12: Income Taxes.
Ind AS 16: Property, Plant and Equipment.
Ind AS 17: Leases.
Ind AS 18: Revenue.
Ind AS 19: Employee Benefits.
Ind AS 20: Accounting for Government Grants and Disclosure of Government Assistance.
Ind AS 21: The Effects of Changes in Foreign Exchange Rate.
Ind AS 23: Borrowing Costs.
Ind AS 24: Related Party Disclosures.
Ind AS 27: Consolidated and Separate Financial Statements.
Ind AS 28: Investments in Associates.
Ind AS 29: Financial Reporting in Hyperinflationary Economies.
Ind AS 31: Interests in Joint Ventures.
Ind AS 32: Financial Instruments: Presentation.
Ind AS 33: Earnings per Share.
Ind AS 34: Interim Financial Reporting.
Ind AS 36: Impairment of Assets.
Ind AS 37: Provisions, Contingent Liabilities and Contingent Assets.
Ind AS 38: Intangible Assets.
Ind AS 39: Financial Instruments: Recognition and Measurement.
Ind AS 40: Investment Property.

International Accounting Standards (IAS):- International Accounting Standards Committee

(IASC) was constituted in 1973 to formulate accounting standards. Barring Canada, Japan and US
all countries have accepted these standards.
To give proper direction and interpretations Standards Interpretations Committee was formed in
1997.
IASB was constituted in 2001 to prescribe norms for treatment of several items on preparation and
presentation of financial statements. ISAB adopted all 41 standards issued by IASC.
The US Financial Accounting Standards Board (FASB) and IASB are in process of eliminating
differing in some standards.
IASB publishes its Standards in a series of pronouncements called International Financial
Reporting Standards (IFRSs). It has also adopted the body of Standards issued by the Board of the
International Accounting Standards Committee (IASC). Those pronouncements are designated
"International Accounting Standards" (IASs).

The following are the IASs:

IAS 1 Presentation of Financial Statements.

IAS 2 Inventories.
IAS 7 Cash Flow Statements.
IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors.
IAS 10 Events After the Balance Sheet Date.

MIT FGC Course Name: Accounting Theory 68

IAS 11 Construction Contracts.
IAS 12 Income Taxes.
IAS 16 Property,Plant and Equipment.
IAS 17 Leases.
IAS 18 Revenue.
IAS 19 Employee Benefits.
IAS 20 Accounting for Government Grants and Disclosure of Government Assistance.
IAS 21 The Effects of Changes in Foreign Exchange Rates.
IAS 23 Borrowing Costs.
IAS 24 Related Party Disclosures.
IAS 26 Accounting and Reporting by Retirement Benefit Plans.
IAS 27 Consolidated and Separate Financial Statements.
IAS 28 Investments in Associates.
IAS 29 Financial Reporting in Hyperinflationary Economies.
IAS 31 Interests in Joint Ventures.
IAS 32 Financial Instruments: Presentation.
IAS 33 Earnings per Share.
IAS 34 Interim Financial Reporting.
IAS 36 Impairment of Assets.
IAS 37 Provisions, Contingent Liabilities and Contingent Assets.
IAS 38 Intangible Assets.
IAS 39 Financial Instruments: Recognition and Measurement.
IAS 40 Investment Property.
IAS 41 Agriculture.

IFRS –1 IND AS -101 No I GAAP-First time adoption of Ind AS.

IFRS –2 IND AS -102 Guidance Notes – Share Based Payments
IFRS –3 IND AS -103 AS-14: Amalgamation / Business Combinations
IFRS –4 IND AS -104 No I GAAP- Insurance Contracts*
IFRS –5 IND AS -105 AS-24: Non - Current Assets Held for sale / Discontinuing Operations
IFRS –6 IND AS -106 No I GAAP- Exploration / Evaluation of mineral resources
IFRS –7 IND AS -107 Financial Instruments – disclosure*
IFRS –8 IND AS -108 AS – 17: Operating Segments
IFRS –9 IND AS -109 Financial Instruments – Recognition
IFRS –10 IND AS -110 AS- 21 + 27 Consolidation of FS
IFRS –11 IND AS -111 AS – 27: Joint Arrangement
IFRS –12 IND AS -112 No I GAAP – Disclosure of interest in another entity
IFRS –13 IND AS -113 No I GAAP – Fair Valuation
IFRS –14 IND AS -114 No I GAAP – Regulatory deferral Accounts.
IFRS –15 IND AS -115 AS - 9+ AS – 7: Revenue from Contracts with Contractors
IFRS –16 IND AS -116 Lease
IFRS –17 IND AS -117 Insurance Contracts

MIT FGC Course Name: Accounting Theory 69

Case Studies:-

 Changes in method of depreciation :

Q.1) On 1st April 2013 Mahendra ltd purchase 2 machines costing Rs. 50000 and provided
depreciation at 10% per annum under straight line method. At the end of 2017 the
company decides to change the method of depreciation from straight line method to
written down value method retrospectively and the rate of depreciation remaining the
same. Prepare Machinery A/C up to 2017.

Solution:
Step 1:
Purchase of machinery = 50000
Rate of depreciation =10%
On the balance (Straight line method) =50000*10 = 5000
5000*3 = 15000
Step 2:

Year Dep % Amount Dep Amt Residual Amt

2013-14 10% 50,000 5000 45,000
2014-15 10% 45,000 4500 40,500
2015-16 10% 40,500 4050 36450
2016-17 10% 36450 3645 32805
2017-18 32805
Step 3: Machinery A/C

Date Particulars Amount Date Particulars Amount

1-4-13 To Machinery A/C 50,000 31-3-14 By Dep A/c 5000

By bal B/D 45,000
50,000 50000

1/4/14 To bal B/D 45,000 31-3-15 By Dep A/c 5000

By bal B/D 40,000
45000 45000

1/4/15 To bal B/D 40,000 31-3-16 By Dep A/c 5000

By bal B/D 35,000
40,000 40,000

1/4/16 To bal B/D 35,000 31-3-157 By Dep A/c 3645

To dep exempted 1450 By bal B/D 32805
36450 36450
Working notes:

 5000 + 4050 +4050 = 13550

 15000 – 13550 = 1450

Case Studies-2

Q.1) ‘X’ ltd has a machine that cost Rs.10000 with a 10 year estimated useful life and no
residual value. It was purchased on 1-1-2008. The cost of machine was wrongly debited to
expenses A/C in 2008. An error is discovered on 31-12-2011. Depreciation is charged under
straight line method.

Solution:

Step 1: Analyzing the case study: An error done with related to the accounting rules –
instead of debiting machinery A/C, expenses A/C has been debited.
 Machinery is a real A/C
 Expenses is a nominal A/C

Step 2: Rectification of the error.

Machinery A/C-----------------Dr 10000

To Cash A/C 10000

Step 3: Identification of prior period items and its adjustments.

Machinery A/C------Dr 10000

Depreciation expenses A/C-----Dr 1000

To Accumulated dep A/C 4000

To Prior period adjustment A/C 7000

Step 4: Analysis of the entry.

Under statement of net income (2008) (10000 – 1000) 9000

Over statement of net income (2009 & 2010)-(1000*2) 2000

Prior period adjustments 7000

Case Studies-3
If the retained earnings as on 1-1-15 are 200000 and the net income for the year 31-3-2016 is
100000 and dividend declared and paid is 200000. How could they appear in the financial
statement for the year 2015? The company usually pays corporate tax at 30%. Assume that
there is a prior period errors discovered income tax returns of Rs.7000.

Solution:

Step 1:

Prior period adjustment = 7000

Corporate tax is 30%

Returns = 7000*30% = 2100 & 7000 – 2100 = 4900

Step 2:

Particulars Amount
Retained earnings 200000
(-) Prior period adjustment 4900
After prior period adjustment 195100
(+) Earnings 100000
Total earnings 295100
(-) Dividend declared paid 200000
Retained earnings 95100

Step 3:

Prior period adjustment A/C -------Dr 2100

To Income tax returns A/C 2100

They have omitted to pay the tax on the income tax returns amounted to Rs. 2100
(7000*30%)