Events, Transactions and Adjustments

Events: Internal and external - action for change in value (promise/ idea / object)

External Events - involves a change between the business and its external environment.  Examples inflation/deflation, increase in price of raw materials, natural disasters such as a flood and landslides.

Internal Events - involves a change within the business, e.g. use of machinery in production process, fire catches a production unit.

Business events: accounting event vs non accounting events

Non accounting events: Events which does not impact in financial position of an entity. E.g. unofficial meeting of employees

Accounting events: An accounting event usually involves a transaction that is measurable, relevant and reliable. Results change in value of assets, equity, liabilities, income and expenses

Event within balance sheet date

Transactions: Every transaction is event which involves the exchange of value (promise / idea / object) between two entities.  For example, when an entity purchases raw materials from a vendor it pays the price for materials it purchases.

Non-cash transaction: Payment for value is not in the form of cash - issue of equity to vender as payment for material purchased, conversion of debt to equity

Cash transaction: up-front cash payment at the point of purchase for the value of materials

Credit transaction: delayed payment for the value of purchase

Adjustments are result of an event

Adjustment as a result of event within balance sheet date E.g. Depreciation is an adjusting entry which reflects the consumption of assets in the production during the period.

Events after balance sheet date - Adjustable event vs non-adjustable events (Check IAS 10)  - favorable or unfavorable, which have occurred between the balance sheet date and the date of preparation or approval of the financial statements for its disclosure.

Adjustable event – Those that show the conditions that existed at the balance sheet date

Non-adjustable event – Those that are indicative of conditions that have emerged after the balance sheet date (requires disclosure for material events)

Ledger

General (nominal) ledger is principal book for recording and totaling monetary transactions by account required to prepare trial balance. Each ledger account summarises transactions and events which affect it within particular period and shows net position of that account by the end of the period. The book consists of ledger accounts for each asset, liability, equity, expense and revenue items.  Financial statement is prepared by transferring respective ledgers account items and their balance at the end of reporting period.

Ledger can be prepared in two formats:

T Ledger:

Debit				Credit
Date	Particulars	Jrnl ref.	Amount	Date	Particulars	Jrnl ref.	Amount

Columnar Ledger:

Date	Particulars	Jrnl ref.	Debit Amount	Credit Amount	Balance

Balancing off a ledger account: Once the transactions for a period have been recorded, it will be necessary to find the balance on the ledger account

Ø  Total both sides of the T account and find the larger total.

Ø  Put the larger total in the total box on the debit and credit side.

Ø  Insert a balancing figure to the side of the T account which does not currently add up to the amount in the total box. Call this balancing figure ‘balance c/f’ (carried forward) or ‘balance c/d’ (carried down).

Ø  Carry the balance down diagonally and call it ‘balance b/f’ (brought forward) or ‘balance b/d’ (brought down).

Closing and Opening Ledger account: At the period end ledger account should be closed off. Financial position ledger account opens up for recording of transaction in the next accounting period. Income statement ledger accounts are closed by transferring to income statement. Therefore, there is no carried forward or brought forward balance for revenue and expenses items.
Statement of financial position ledger accounts: Assets and liabilities ledger account are key in construction of cash flow form indirect method. Assets/liabilities at the end of a period = Assets/liabilities at start of the next period.

Double entry and accounting system

Data Source: Source documents provide documentary evidence of existence of an accounting event. Every journal should provide reference to source documents. Different types of business documentation includes quotation, sales order, purchase order, goods received note, goods dispatch note, invoice statement, credit note, debit note, remittance advice, receipt. Source documents content relevant information for which they are produced. E.g. A purchase order contains supplier information, quantity, product quality, price, method of payment and delivery which is send to supplier as a request for supply of required product. Source document used by different organisation may vary in layout and contents.

The duality concept – Each transaction affects financial statement in two ways. OR Each Transaction affects two ledger accounts.

Dr (left or debit  side/+used in spreadsheet)= Cr (right or credit side/ - used in spreadsheet)

Increase	Debit	Credit	Credit	Credit	Debit
Account	Assets =	Liabilities +	Capital +	Revenue -	Expenses
Decrease	Credit	Debit	Debit	Debit	Credit

Understand and apply the accounting equation: The effect is equal and opposite such that the accounting equation (Assets = Liabilities + Capital) always holds true.

Assets = Liabilities + Capital

i.e. Assets – Liabilities = Capital

Books of Prime Entry – Record transactions

Sales Journal – Record credit sales

Sales Return Journal – Record sales return

Purchase Journal – Record credit purchase

Purchase Return Journal – Record purchase return

Cash Receipt Journal – Record cash sales

Cash Payment Journal – Record cash purchase

General Journal – Other than mentioned above

Matching Principle: requires that expenses incurred by an organization must be charged to the income statement in the accounting period in which the revenue, to which those expenses relate, is earned. Example where inventories purchased for sales are not sold by the end of accounting period, the cost is carried forward to match the purchase with sales in other accounting period. Other examples of matching principle include depreciation, deferred tax liability/assets and government grants.

Qualitative characteristics of financial reporting

The qualitative characteristics of financial information

Ø  Define, understand and apply qualitative characteristics.

o   Fundamental qualitative characteristics:

o   Relevance - for user in making economic decision where information provided by financial statements has predictive value and confirmatory value or both.

o   Faithful representation – to be faithfully representation financial statements should be complete, neutral (without bias) and free from error (omissions). Perfection is seldom, if ever, achievable.

o   Enhancing qualitative characteristics:

o   Comparability – user identifies similarities and differences between time/competitors and use information in deciding whether to invest/divest.

o   Verifiability – means that different knowledgeable and independent observers could reach consensus, although not necessarily complete agreement, that a particular depiction is a faithful representation. Quantified information need not be a single point estimate to be verifiable. A range of possible amount and the related probabilities can also be verified.

o   Timeliness – information is available in time to be capable of influencing decision making. Generally, information is less useful with the passage of time. However, some information may continue to be timely for a long time in order to study trends.

o   Understandability – information presented clearly and concisely keeping in mind the financial statement is available to user who have reasonable knowledge

Ø  Define, understand and apply accounting concepts:

o   Materiality – where omitting or misstating single or combined information influence decision of users. Materiality is an entity-specific aspect of relevance based on the nature or magnitude, or both, of the items to which the information relates in the context of an individual entity’s financial report.

o   Substance over form – Financial information should represent an economic phenomenon rather than merely representing its legal form. Representing legal form that differs from the economic substance of underlying economic phenomenon could not result in faithful representation.

o   Going concern – The financial statements are normally prepared on the assumption that an entity is a going concern and will continue in operation for the foreseeable future. Where, the entity discloses its intention to liquidate or faces difficulty so it cannot perform as a going concern, financial statements are prepared on break up basis.

o   Business entity concept  - Reporting entity

o   Accruals -  Cash Vs Accruals

o   Fair presentation – Financial statements should adopt a framework for reporting its financial position (i.e. IAS or national standards).

o   Consistency – implement consistent policies and estimates. Sufficient disclosures should be provided where there are changes in accounting policies and estimates so it does not affect the need of users of financial report.

Reference                                                                              

Conceptual Framework 2010 (IFAC)