Financial Accounting II

Week 1
 Accounting

• Stewardship Accounting
–stewards were employed by wealthy individuals to keep ‘a
count’ of items they owned (assets) and items they owed
(liabilities).
Financial Accounting
–preparation of reports for external stakeholders
Management accounting
–preparation of reports for internal management purposes
A/C Function 1
–collecting, measuring and recording an enterprise’s
transactions.
A/C Function 2
–summarizing and communicating the results of these
transactions to users to facilitate making financial/economic
decisions
 Financial Statements
Statement of Financial Position Statement of profit or loss
• The amount of cash and • Revenue from operating
money at the bank activities
• Other assets that the business • Expenses from operating
owns, such as goods for resale activities
(inventory), vehicles or • Profit or loss in the period
machinery
from operating activities
• Trade receivables and trade
• Other income or expenses
payables
• The amount of capital invested • Total comprehensive income
in the business by its owner(s)
• Any money that has been
borrowed by the business
 Terminologies
• Income is defined in the Conceptual Framework (IASB, 2018) as ‘increases
in assets or decreases in liabilities that result in increases in equity, other
than those relating to contributions from holders of equity claims. Revenue is
income.
• Revenue is the gross inflow of economic benefits arising from ordinary
operating activities of an entity such as the sale of goods if a retailer, the sale
of motor vehicles if a car dealership, or interest and fee income if a bank
• Other income
• When an entity has income from activities that are not its core business, such
as a retailer receiving interest on its deposit account,
• Expenses are yearly running costs. Expenses are defined by the Conceptual
Framework (IASB, 2018) as ‘decreases in assets or increases in liabilities
that result in decreases in equity, other than those relating to distributions to
holders of equity claims’
 Assets
• An asset is ‘a present economic resource controlled by the entity as a
result of past events’ (IASB, 2018).
• An economic resource is ‘a right that has the potential to produce
economic benefits’ (IASB, 2018).
• Tangible assets can be seen and touched and are referred to as
property, plant and equipment.
• Intangible assets cannot be seen or touched but have value, e.g., new
software, employee skill built up etc.
• Available-for-sale assets are investments that are denominated in
money, or in paper, e.g., shares and bonds.
• Investments in associates are investments in paper shares. The
intention is to retain this investment as part of the entity’s normal
activities.
 Assets
• Current assets
• Cash and cash equivalents or other assets that are expected to be turned into
cash within 12 months
• Non-current assets
• Assets that are held for periods that extend beyond one year and include
tangible, intangible and long-term financial assets
• Inventory
• Goods that have been purchased as part of the operating activities for resale
but are not yet sold
• Trade receivable (debtor)
• Money that is owed from a customer, where the goods were given to the
customer in advance
 Liabilities
• A liability is ‘a present obligation of the entity to transfer an
economic resource as a result of past events’ (IASB, 2018) e.g., loan.
• A trade payable (creditor) is the money that is owed to a supplier
who provides trade goods on credit (without up front payment).
• Current liabilities are ones that due to be settled within 12 months
or that are incurred as part of the firm’s normal operating (trading)
activities are called
• Non-current liabilities. Non-current liabilities are typically due in
periods that extend beyond one year, but not always.
• Equity is the residual interest in the assets of the entity after
deducting all its liabilities. Equity shareholders are usually used in
reference to limited companies to refer to the shareholders who own
ordinary shares.
Conceptual Framework 1: Objective of Financial
Statements, Stakeholders and Other Reports

• The Conceptual Framework for Financial Reporting (IASB,

2018) sets out the concepts that underlie the preparation and
presentation of financial statements for external users. It provides
guidance on the fundamentals of accounting.
• The type of information required in financial statements depends
on the type of entity and the information needs of its stakeholders
(users).
• Stakeholders include the owners of the company, investors,
creditors, employees, customers, the government and the public.
 Types of Entities
• Sole trader business
• Business is not seen as legally separate from the individual
• Individual is responsible for the debts of the business.
• Creditors have a claim over the individual’s personal assets if the business cannot pay
• Partnership business
• Business is run and owned by two or more individuals.
• Can be unincorporated or incorporated (company) as separate legal entities
• (For Company) Partners have limited liability, i.e., creditors can get access to the funds the
partner has invested in the business, not their personal assets
• Member-governed bodies
• Businesses that are run by the members for the benefit of the members
• For unincorporated, members are responsible for debt. For incorporated, liability can be limited
to the amount invested by the member to obtain their owner’s share or liability can be limited by
guarantee
• When limited by guarantee, the company has no shares or shareholders but the members agree to
pay a fixed sum towards the debts of the company
• Tax exemption for member governed bodies e.g., sports clubs, life insurance etc.
 Types of Entities
• Companies
• Incorporated by law as separate legal entities.
• Public limited companies (PLCs) or private limited companies
(Ltds).
• Ownership is assigned by allocating shares
• Corporation tax.
• Equity shareholders have limited liability for the company’s
debts, the shareholders will only lose the value of their shares.
Hence their liability is limited to the amount invested in the
company when buying the shares.
 Regulatory framework of
accounting
• A general term used to describe the legislation and other rules that govern the
content and format of company financial statements
• Global financial reporting standards are prepared by the International
Accounting Standards Board (IASB). The IASB is a worldwide umbrella
accounting standards board which aims to issue one set of accounting
standards which are agreed upon and adopted in every country in the world.
• All publicly listed companies follow standards that are issued by the (IASB)
Board are known as International Financial Reporting Standards (IFRS)
• The financial statements of unincorporated entities (e.g. sole traders and
partnerships) are prepared using UK Financial Reporting Standards (FRSs)
• The mission of the IASB and the IFRS Foundation is ‘to develop IFRS
Standards that bring transparency, accountability and efficiency to financial
markets around the world
• The SME Implementation Group (SMEIG) was established on
1 January 2010. Its aim is to support the international adoption of
the IFRS for Small and Medium-sized Entities (IFRS for SMEs)
and to monitor its implementation
 Definition and purpose of
the Conceptual Framework
• Definition
• Describes the objective of, and concepts for, general purpose financial
statements.
• Purpose
• Practical tool to assist the IASB when developing IFRSs that are based on
consistent concepts (setting accounting standards that are not contradictory).
• To provide guidance to accountants in their day-to-day work of choosing
appropriate forms of accounting treatments for various transactions and
items.
• To help preparers to develop consistent accounting policies for areas that are
not covered by a Standard (judgement is required to develop and apply an
accounting policy that results in information that is relevant, reliable and is a
fair representation of the transaction)
• To assist all parties to understand and interpret the Standards.
 General purpose financial
statements
• GPFSs are Financial reports that provide information about the
reporting entity’s assets, liabilities, equity, income and expenses’
(IASB, 2018)
– Comply with the conceptual framework requirements and
accounting standards
– Meet the information needs of the primary users (existing and
potential investors, lenders, other creditors)
– Consist of statement of comprehensive income, statement of
changes in equity, a statement of financial position, a statement of
cash flows and notes to the financial statements
 Limitations of financial
statements
1. Adequacy of financial statements in meeting users’ information
needs, and a debate about general-purpose versus specific-
purpose financial reports (tailor-made financial reports).
2. Problems of classification (current liabilities or overdraft),
aggregation (trade receivables-negative or positive) and
allocation (costs of non-current tangible assets, a depreciation
process, variation in profit or loss)
3. Lack of non-financial information in financial statements
4. The use of largely historical information
5. Do not reflect the full impact of transactions or events on an
entity’s financial position or performance