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Accounting concepts
In drawing
up accounting statements, whether or not they are external "financial
accounts" or internally-focused "management accounts", a clear
objective has to be that the accounts fairly reflect the true
"substance" of the business and the results of its operation.
The theory of accounting has, therefore, developed the concept of a
"true and fair view". The true and fair view is applied in ensuring
and assessing whether accounts do indeed portray accurately the
business' activities.
To support the application of the "true and fair view", accounting
has adopted certain concepts and conventions which help to ensure
that accounting information is presented accurately and
consistently.
Accounting Conventions
The most commonly encountered convention is the "historical cost
convention". This requires transactions to be recorded at the price
ruling at the time, and for assets to be valued at their original
cost.
Under the "historical cost convention", therefore, no account is
taken of changing prices in the economy.
The other conventions you will encounter in a set of accounts can be
summarised as follows:
Monetary measurement Accountants do not account for items unless
they can be quantified in monetary terms. Items that are not
accounted for (unless someone is prepared to pay something for them)
include things like workforce skill, morale, market leadership,
brand recognition, quality of management etc.
Separate Entity This convention seeks to ensure that private
transactions and matters relating to the owners of a business are
segregated from transactions that relate to the business.
Realisation With this convention, accounts recognise transactions
(and any profits arising from them) at the point of sale or transfer
of legal ownership - rather than just when cash actually changes
hands. For example, a company that makes a sale to a customer can
recognise that sale when the transaction is legal - at the point of
contract. The actual payment due from the customer may not arise
until several weeks (or months) later - if the customer has been
granted some credit terms.
Materiality An important convention. As we can see from the
application of accounting standards and accounting policies, the
preparation of accounts involves a high degree of judgement. Where
decisions are required about the appropriateness of a particular
accounting judgement, the "materiality" convention suggests that
this should only be an issue if the judgement is "significant" or
"material" to a user of the accounts. The concept of "materiality"
is an important issue for auditors of financial accounts.
Source: Wikipedia
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