The critics of accounting operation
In olden times in many countries the finances of the nation were treated as identical with the finances of the king. Now the finances of any nation are separate from the finances of the head of state.
A more modern illustration of this issue involves the owners of sole trader businesses. Here the same person is has both personal financial affairs and business affairs, but accounts are normally prepared only for the business activity.
• Periodicity – usually 12 months, but could vary. The period of one year has been considered from the agricultural custom of comparing what happened last year. The question here is whether an item in the accounts belongs in this year or a different year.
A business prepares its accounts to 13 April each year. It pays an annual insurance in advance starting on 18 April. The business receives a bill for next year’s insurance on 10 April 2003 and pays the bill on 15 April 2003. Should it account for this item in the year ended 13 April 2003 or the year ended 13 April 2004?
The date the bill is received is not relevant. Clearly this item should only be accounted for in the year ended 13 April 2004.
• Going Concern – one of the four fundamental concepts (see below), but broadly this assumes that the business will continue for at least 12 months. If not, then a different set of accounting rules will be used to measure the business
• Quantitative – that all must be converted to numbers in order to be accounted for. Non-financial measures cannot be accounted for.
The basic rules on measurement are
• Money – convert to a recognisable measure and common unit. It would not, for example, be meaningful if a farmer listed the income in his accounts as the sale of 5 sheep and 7 cows, or 2000 oranges and 1000 apples.
• Historic Cost - driven by the original cost and by the cash spent at the time of original purchase. Other rules have been tried instead of historic cost but with only limited acceptance.
• Realisation – requires that transactions relating to the sale of goods to be entered in the accounts for that period in which the legal title for them has transferred from one party to another. The idea here is that where a business has not yet achieved a sale (a transfer of economic benefit) it should not claim to have done so.
• Matching - one of the four fundamental concepts, the exact period in which the cash is paid or received may bear no relationship to the period in which the business was transacted. Accruals and prepayments are used to match. This is discussed further under fundamental concepts and cash and accruals basis.
• Dual Aspect – double entry bookkeeping because every transaction has two sides
• Materiality – permits the rules to be ignored if the effects are not considered to be significant.
• Prudence – one of the four fundamental concepts, provide for losses as soon as they are identified, do not take gains until they are received.
• Consistency - one of the four fundamental concepts, rules or accounting policies once adopted, should be applied to subsequent periods to obtain a level of comparability.
• Objectivity – with the minimum amount of bias
• Relevance – only wholly relevant material and information should be used and presented
Some practical examples of the ethical rules are
• Every transaction should be included in the accounting records
• Every transaction should be recorded completely and accurately
• Only transactions relating to the entity should be included in its accounts
• Transactions should be described and classified correctly
• You should not attempt to prepare misleading or false accounts for any purpose
• You should preserve a full “audit trail” for each accounting entry
• You should retain records of all transactions for at least the period required by local law
• You should not attempt to delete or conceal the record of any transaction
In many entities or businesses in many parts of the world these rules may not always be followed, for instance where a business attempts to prepare false records for tax purposes, or where it does not have the resources or understanding to prepare proper records at all.
However, for larger entities and especially bodies accountable to the public, it is not be acceptable to fail to follow the basic rules.
Student discussion – ask the students to discuss from their experience whether all businesses and organisations prepare proper accounts in Bangladesh. What problems prevent businesses from preparing proper accounts?
Students should have plenty of suggestions for this activity – relevant factors include literacy and numeracy, cultural factors, training, financial awareness, lack of resources, etc.