Basics of Accounting - Meaning and Scope of Accounting

Chapter A.1

Meaning and Scope of Accounting

CHAPTER OVERVIEW

(1)

(2)

(3)

Preliminaries

Accounting Assumptions and Concepts

Other Related Matters

Glossary of Significant Terms

Definition of Accounting
Transactions & Events
Accounting Process
Objectives of Accounting
Functions of Accounting
BookKeeping vs Accounting
Subfields of Accounting
Users of Financial Information
Accounting & other Disciplines
Services of Chartered Accountant

Concepts, Principles and Conventions

Fundamental A/cing Assumptions
Accounting Principles & Concepts

Qualitative Features of
Financial Statements
Limitations of Accounting
Measurement Discipline
Measurement Bases in
A/cing Historical Cost,
Current Cost, Realisable
Value & Present Value
Accounting Policies
Meaning, Factors and
Disclosure Requirements
Accounting Estimates
Accounting Standards
an overview
POSSIBLE QN. TYPES

GLOSSARY OF SIGNIFICANT TERMS USED

Term

Business

Meaning
It represents the set of activities which are regularly carried on by a person or an organisation for the
purpose of earning profits from such activities.
For Example
(i) A Tea shop owner regularly prepares tea and sells it in glasses to his customers.
(ii) Reliance Communications regularly sells mobile phones to the customers.
Profit Motive is involved in Business. (Note: The business may actually lead to losses. But motive is to earn

profits)

Finished
Goods

Business may be
(i) Manufacturing Purchasing Raw Materials, Converting them into Finished Goods and selling the
goods.
(ii) Trading Buying Finished Goods and selling them as such without any conversion.
(iii) Service Rendering services to clients Eg. Doctors, Chartered Accountants etc. (Note: No Goods)

Items / Products / Articles which are regularly traded by the businessman are called Goods.

Eg. For a Mobile Shop owner, mobile phones are goods, as he regularly purchases and sells them.

However, for the same mobile shop owner, if he purchases one motor bike for carrying the mobile
phones, then the motor bike is not considered as goods for him.

It represents the amount actually spent or the liability actually incurred.

For eg. Assume that a land is purchased for `100 Lakhs, but its market value is ` 150 Lakhs. In this
case, the Historical Cost is ` 100 Lakhs only.
(From Buyers angle) It refers to Buying of Finished Goods / Raw Materials by one person from
another person for consideration. [Note: Sale by one party is the purchase for another party.]
It refers to the products manufactured by the manufacturer. For a trader, the goods purchased and sold
by him are called finished goods.

Sales
(from

Goods
Cost
/
Historical
Cost
Purchases

the

Sales refers to Transfer of ownership in goods from one person to another for a consideration
Hence, 3 Conditions for sale are (a) Transfer of Ownership (refer below) (b) Ownership must be in goods
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Term
angle
of
seller)

Raw
Materials

(Applicable only for manufacturing business) It refers to the base materials from which finished goods are
manufactured. [For Eg Water Bottles are made from Plastics. In this case, water bottles are finished goods
whereas plastics are raw materials.]. For a trader, there is no raw material as he does not produce anything.

Stock

Meaning
(refer above) (c) Consideration Some money or moneys worth must be given by one person to another.
Transfer of Ownership: Ownership in goods is transferred when the risks of loss and rewards relating
to such goods are transferred.
Example:
(i) Mr.X buys one Mobile phone from Mr.Y. When Mr.X comes out of Ys shop, somebody stole the
mobile phone. In this case, the loss of mobile phone due to theft is to be borne by Mr.X and
NOT by Mr.Y.
(ii) However, if the same mobile phone is stolen when it is kept in the display of Mr.Ys shop, then Mr.Y
shall bear the loss of mobile phone.
(iii) Thus in the above case, there is a transfer of risk of loss from Mr.Y to Mr.X after the purchase of
mobile phone. When there is transfer of risk, it is considered as transfer of ownership and hence sale.
Sale of properties other than goods: If items other than goods are sold (For eg. Motor Car), then
it is not considered as Sales for Accounting purposes. It is referred by the name of the respective item.
Hence, if mobile phone dealer sells motor car, it is NOT referred by the general name of Sales,
but is referred as Motor Car Sold.

It refers to the balance Finished Goods / Raw Materials existing at the beginning or end of a
specified period.
Closing Stock Stock at the end of a specified period.
Opening Stock Stock at the beginning of the period.
Example Mr.A purchased 10,000 kgs of sugar in 2011. He sold 8,000 kgs throughout 2011.
In this case, the stock on 31.12.2011 is 2,000 kgs of Sugar. This is closing stock on 31.12.2011.
On 01.01.2012, the above stock of 2,000 kgs is carried forward from 2011. This is Opening Stock on
01.01.2012.

(i)
Assets

Technical Definition: An Asset is a resource controlled by the enterprise as a result of past events and
from which future economic benefits are expected to flow to the enterprise.
(ii) General Definition: Properties of the business / Amounts receivable from others by the business Eg.
Stock, Land, Building, Debtors etc. (Detailed Meaning in the next chapter)

Debtors

Persons from whom the business has to receive money, due to credit sales made to them.

Liabilities

Amounts payable by the business to outsiders and includes capital. For eg. Bank Loans, Expenses not yet paid

Creditors

Persons to whom the business has to pay money due to credit purchases made from them.

Capital

Amount invested by the owner into the business

Drawings

Cash / Goods drawn by the owner for his personal purposes. It decreases the capital.

Profits

Incomes Expenses

Income/
Revenue

Amount receivable due to Sales / any other amount receivable arising out of the regular operations of the business.
For Eg. Interest, Commission etc. (Note: This excludes loan amounts received / amounts received from debtors)

Expenses

Amount spent to derive benefit for an accounting period. For Eg. Rent paid for the benefit of occupying a
building for 12 Months.

Losses

Amount spent but no benefit is derived / Amount not recoverable from debtors. For eg. Stocks lost due to fire

Bank
Overdraft

It is Bank Account. However, in this account, the account holder is allowed to withdraw over and above the
existing balance. For Eg. Assume that Mr.A has a balance of ` 10,000 in his Bank Account. If he draws a
cheque for ` 15,000, normally it will be rejected by the bank. However, if the account has Overdraft facility,
then the bank will pay ` 15,000 on the cheque, despite the insufficient balance.
It is in the nature of Current Liability

Equity

Capital is otherwise called as equity.

Working
Capital

Current Assets Less Current Liabilities. Also called as Net Working Capital

Current
Assets

It refers to the assets which are easily convertible into cash or cash equivalents within a single accounting
period. For Eg. Bank, Debtors etc. (Refer Chapter A.2)

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Basics of Accounting - Meaning and Scope of Accounting

Term

Meaning

Current
Liabilities

It refers to the liabilities which are payable within the single accounting period. For eg. Creditors, Bank
Overdraft etc. (Refer Chapter A.2)

Fixed
Assets

Represents Long Term Assets which are expected to be used in the business for a longer period of time.
They are meant for usage in the business for production / rendering of services etc. Eg. Machinery, Building
(Refer Chapter A.2)

Disclosure

The term Disclosure means that a statement describing the event / transaction (included the
amount involved) should be added to the financial statements as a note therein. (Disclosure is not same as

accounting. Accounting means Accounting Entries will be passed, whereas in disclosure, a mere statement is
given; Journal Entry not passed.)

Incurred

It refers to the creation / existence of liability for expenses. For rent paid ` 12,000 for 12 months is
otherwise called as rent incurred. Mere payment of advances is not considered as incurred.

Inventory

Technical term for Stock. It includes Raw Material Stock, Work in Progress and Finished Goods Stock

Depreciation

Gradual Decrease in the value of Fixed Assets due to wear and tear, use, passage of time, obsolescence
and other relater factors.

Hire
Purchase

It refers to the transaction wherein the goods are delivered by the seller to the buyer on condition that the
settlement has to be made in specified installments. On payment of the last installment, the goods shall be
treated as owned by the buyer. Till the last installment, the goods are owned by the seller. In case of default
of any installment, the seller can get back the goods delivered.

Liquidity

Ability of the business to meet its ShortTerm Liabilities. Current Assets > Current Liabilities

Solvency

Ability of the business to meet its Total Liabilities. i.e. Assets > Liabilities

Window
Dressing

It means manipulating the financial statements to make them attractive viz. inflating the incomes,
suppressing the expenses, treating revenue expenditure as capital expenditure etc.
It refers to the notional gains arising due to increase in prices of stocks held in the business.

Gains

For Eg. A has 10,000 Kgs of Steel in Stock. They are bought at ` 100/Kg. They are not sold for one month.
At the end of one month, their market price is ` 180/Kg. In this case, if the stocks are sold at the end of one
month, then A can earn a profit of ` 80/Kg. This is not realized as sale is not actually made and they are just
kept in stock.

Notional

It is not realized and may be earned if some event happens. In the above case, if sale happened then ` 80 is
earned. Till the actual sale, it is only a notional profit.

Holding

1. INTRODUCTION TO ACCOUNTING PRELIMINARIES

Students Notes: This area covers the Meaning of Accounting and an overview of the Accounting Process
and related fields.

1.1 Definition of Accounting

1.

As per the American Institute of Certified Public Accountants (AICPA) Accounting is an art of recording,
classifying and summarizing transactions and events which are in part atleast of financial character, in a
significant manner and in terms of money, and interpreting the results thereof.

2.

Accounting also involves analyzing and interpreting the financial transactions and communicating the results to
the persons interested in such information.

3.

Accounting is considered as an Information System, as the function of Accounting is to provide quantitative

information, primarily financial in nature about the business organisation.

1.2 Transactions Vs Events, Financial Vs NonFinancial

1.

Transactions and Events: In a business or economic scenario

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Padhukas Complete Guide for CA CPT Theory

Business Activities

Transactions Performance of
business Activity

Events Result of Transactions.

Thumb rule: Human Effort is

involved

Thumb rule: Human Effort not

involved. It represents results

Thumb rule: Both Human

Effort & results from such effort
are involved in a single activity

For Eg.: Purchases, Sales,

Expenses paid

Eg.: Profits / Closing Stock are

results of purchases & sales

Eg.: Purchase of Fixed Assets

on last day of accounting year

Both Transaction and Event

(Refer Note)

Note: Both Transaction and Event: Purchase of Fixed Assets on the last day of the financial year is a transaction,
since it is a business activity. It is also an event as a fixed asset exists as a result of such purchase.
Example: Vignesh Traders buys and sells books. During January, the Firm purchased goods for ` 1,00,000 and sold the
entire stock for ` 1,40,000. During the month, it paid salary to its Shop Manager ` 10,000 and Rent ` 6,000.
Particulars

Sales
Less:

1,40,000

Cost of Goods purchased and sold

1,00,000
16,000

Expenses paid (Salary ` 10,000 + Rent ` 6,000)

Surplus Profit

(1,16,000)
24,000

Purchase and Sale of goods, and Payment of Salary and Rent Expenses are Transactions.
Earning Surplus / Profit is an Event.

2.

Types of Transactions 2 Types:

Types

Financial Transaction

NonFinancial Transaction

Meaning

When a business transaction involves a transfer of money

or moneys worth, then the transaction is called
Financial Transaction. (Refer Point 3 below)

Purchase and Sale of goods, Payment

of Expenses, Purchase of Assets, Goods
lost by fire etc.

Example

When a business transaction does not involve money or

moneys worth

Quarrel between 2 Managers, Death of

an employee etc.

Types

Cash and Credit Transaction (Refer Point 4)

No such classification

3.

Financial Transactions Meaning of Money or Moneys worth:

Money

Cash Rupee Notes / Coins ;

Moneys
Worth

Cheque/ Obligation to pay, but actual payment to be made later (credit transactions)/ Bill of Exchange /
Promissory Note / Setting off one liability against another receivable / Exchange of assets / Debit Note / Credit Note

Notes:
Hence, a transaction can be regarded as financial transaction even if money is not involved. It is sufficient that it involves moneys
worth. Further note that Accounting is concerned with only financial transactions. NonFinancial transactions are not considered.
Barter It refers to exchange of goods among persons. For eg. A sells pen to B. B sells pencil to A.

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Basics of Accounting - Meaning and Scope of Accounting

4.

Cash & Credit Transaction: Financial Transaction can be classified into two types
Type

Meaning

Example

Cash
Transaction

If the Financial transaction involves Cash / Cheque / Other modes of

immediate settlement (Refer note below)

Cash
received
from
debtors / Cash Sales

Credit
Transaction

If the Financial Transaction does not involve immediate settlement, but there
is an obligation to pay in future, it is called as credit transaction. The
actual settlement in cash will be made later.

Sales made to Mr.A on

condition that A will pay
after 60 days, Debit
Note Credit Sales

Students Notes:
1. It is to be noted that if the financial transaction involves Money / Moneys worth (other than Obligation to pay),
then it is considered as Cash Transaction.
2. Cash transaction does not mean that cash must be involved.
3. Hence, if the transaction involves settlement by a Bill of Exchange / Promissory Note / Setting off one liability against
another receivable / Exchange of assets, it shall be considered as Cash Transaction only

1.3 Accounting Processes

The Accounting Process involves
Recording

Classifying

Accounting
Summarising

Analysing

Generating Financial Information

Interpreting

Communicating

Using the Financial Information

Processes of Generating Financial Information (3 processes)

1.

Recording:
All business transactions which are of financial nature (i.e. expressed in terms of money) are recorded
Meaning
in the books of accounts.
A businessman cannot keep in his memory all the business activities carried out by him. Hence, there is a
Purpose
need for keeping track of such activities in a separate record.
Basis
of All transactions must be evidenced by supporting documents like Sales Invoice, Purchase Bill, Receipts, Pay
Recording
Slip, etc. (These are called Vouchers)
Relevant
The Books in which primary entry is made is called Journal, which is further subdivided into several
A/cs Book
Subsidiary Books for Sales, Purchases, Cash & Bank, etc. according to the nature and size of the business.
It is to be noted that Accounts is concerned with only FINANCIAL Transactions. Accounting will not
Checkpoint
record nonfinancial transactions in its books.

Salary paid to Manager will be recorded in the books of accounts.

Example

But, good health of the Manager, even if it is of great use to the business, has no financial character
and no economic value, and therefore, will not be considered in Accounting.

2.

Classifying:
Classifying involves grouping transactions of a similar nature at one place, such that information will be
Meaning
compressed and presented in useable form.
While the process of recording ensures that all financial transactions are recorded, one cannot make any
Purpose
observations unless all the transactions are grouped together under different categories.
Basis
Classification is based on the transactions recorded in the Journal / Subsidiary Books.
The book containing the classified information of transactions is called Ledger. Each page in the Ledger is
Relevant
called as Folio. In each folio (Page No.), an individual Account Head and all transactions relating to that
A/cs Book
Account Head is recorded / posted.
Checkpoint Ledger can be prepared only after the preparation of Journal / Subsidiary Books

At recording stage, all transactions are normally recorded chronologically (i.e. datewise).

Assuming a businessman made 10 sale transactions (out of which 6 are on credit), paid telephone charges,
Example
rent etc., received payments from 3 debtors in a week, it is not possible to ascertain the exact position of
each item unless they are grouped as Sales A/c, Telephone Charges A/c, Rent A/c, Debtors A/c etc.

This will help in finding out Total Sales (Cash and Credit sales) / Expenditure / Amounts due from debtors etc.
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3.

Summarizing:
This involves presentation and preparation of the classified information in a manner useful to the internal and
Meaning
external users of Financial Statements.
It involves preparation of Trial Balance, and Financial Statements therefrom, viz. (i) Profit and Loss Account
Accounts
(used to find out profits / losses for the business), (ii) Balance Sheet (used to ascertain the financial position),
Books
and (iii) Cash Flow Statement (used to determine the factors for increase or decrease in cash & bank balances)
Basis
Summarizing is based on the classified transactions presented in Ledger
Processes of Usage of Financial Information (generated through above 3 processes)

4. Analysing:
Meaning
Analysis involves methodical classification of the data given in the Financial Statements.
Analysis is concerned with the determining the relationship between the items in the Profit and Loss Account
Nature
and Balance Sheet (i.e. Ratio Analysis). Thus, it provides the basis for interpretation.
of
process
Further, analysis involves comparing current year figures with the previous year figures
Basis
Financial Statements generated above in summarizing
Net Profit Ratio The Sales and Net Profit is compared to find out the % of Net Profit earned on Sales. This
helps to ascertain how much sales have to be achieved, to make specified net profits.
Example
For Eg. If NP Ratio is 20% on sales and a businessman wants to achieve net profits of ` 20 Lakhs in a year,
then he must make a sale of ` 100 Lakhs (20 Lakhs / 20%) during that year.
5.

Interpreting:
Drawing observations from the items in the financial statements and also from relationships determined in
Meaning
analyzing process
The recorded financial data is analysed and interpreted in the manner that will enable the data users to make a
Purpose
meaningful judgment about the financial condition and profitability of the business operation.
Financial Statements are interpreted to explain what had happened, why it had happened and what is
Nature of likely to happen under specified conditions.
process
Based on analysed information, interpretation shall be done.
Basis
Financial Statements generated in summarizing process and relationships determined in Analyzing process.
Assuming the NP ratio for 2011 is 20% on sales, whereas it was 15% in 2010.
Similarly the expenses ratio for 2011 is 80% on sales, whereas it was 85% in 2010.
Example
This means the profit has increased mainly due to decrease in expenses. (so the increase is not due to
increase in sales)

6.

Communicating:
It is concerned with the transmission of summarised, analysed and interpreted information to the end user to
Meaning
enable them to make rational decisions.
This is done through preparation and distribution of Accounting Reports, which includes Profit and Loss
Modes
Account and Balance Sheet, additional information in the form of Accounting Ratios, Graphs, Diagrams, Funds
Flow Statement, etc.

1.4 Objectives and Functions of Accounting

The objectives of Accounting are
1. To have a systematic record all business transactions which are of financial nature.
2. To know the result of business operations for a particular period of time. If Revenue / Income exceeds the
Expenses, then it is said that the business is running profitably, but if the Expenses exceed the Revenue, then the
business is operating at a loss.
3. To know the financial position of the business. This will help answer questions like how much Assets and Liabilities
that the business has on any date, whether the business is solvent, i.e. ability to meet its liabilities in the short run and
also in the long run as and when they fall due.
4. To provide information to Users for decision making. Accounting, as the language of business, communicates the
financial result of enterprises, to various Users. Accounting aims to meet the information needs of the decision maker
and help them in rational decision making.
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Basics of Accounting - Meaning and Scope of Accounting

Systematic record of all

business transactions
BookKeeping, i.e. Journal,
Ledger and Trial Balance

Objectives of Accounting
Ascertainment of results of
Ascertainment of
business operation
financial position
Trading and Profit & Loss
Account

Balance Sheet

Providing information to
Users
Financial Statements and
Reports

1.5 Functions of Accounting

The American Principles Board of the AICPA enumerated the following functions of accounting:
1.

Measurement: Accounting measures the performance of the business entity and depicts its current financial position.

2.

Forecasting: Accounting helps in forecasting future performance and financial position of enterprise using past data.

3.

Decisionmaking: Accounting provides relevant information to the Users of accounts to aid rational decisionmaking.

4.

Comparison & Evaluation: Accounting assesses performance achieved in relation to targets and discloses information
regarding accounting policies and Contingent Liabilities, which play an important role in predicting, comparing and
evaluating the financial results.

5.

Control: Accounting identifies weaknesses in the operational system and provides feedback regarding effectiveness of
measures to rectify such weaknesses.

6.

Government Regulation: Accounting provides necessary information to the Government, to exercise control on the
entity as well as in collection of direct and indirect tax revenues.

1.6 BookKeeping Meaning and Features

Meaning
Objective

Features

Advantages

It is an activity of recording and classifying the financial data relating to business operations in a
significant and orderly manner.
Complete recording of transactions.
Ascertainment of financial effect on the business.
It is an art of scientifically recording the transactions.
The recording is done only in monetary terms.
Recording of transaction is restricted only to that of a particular enterprise.
The recordings are made in a given set of books.
From the Financial Statements, financial information is readily available to the Users.
Qualitative financial decisions can be taken, since the financial information is reliable.
Valuable conclusions can be drawn on comparing the books of different years of the same
enterprise, or comparing books of the same period for different enterprise.
Financial accounts of an enterprise are treated as evidence in a Court of Law.
Maintaining records of various assets helps control, i.e. to ensure there is no unauthorized use or
disposal of any asset or property of the business.

1.7 BookKeeping Vs Accounting

Basis

Bookkeeping

Scope

Bookkeeping involves
(a) Identifying the transactions,
(b) Measuring the identified transactions,
(c) Recording the measured transactions,
(d) Classifying the recorded transactions.

Stage

Bookkeeping is the
recordkeeping phase)

Basic
Objective

To maintain systematic records of financial

transactions.

primary

stage.

1.7

(i.e.

Accounting
In addition to bookkeeping, Accounting involves
(a) Summarizing the classified transactions,
(b) Analyzing the summarized results,
(c) Interpreting the analysed results, and
(d) Communicating the information to interested
parties.
Accounting is the secondary (summarizing) stage.
It starts where bookkeeping ends.
To ascertain net results of operations and financial
position and to communicate information to the
interested parties.

Padhukas Complete Guide for CA CPT Theory

Basis

Bookkeeping

Accounting

Person

Bookkeeping is done by Junior Staff.

Accounting work is performed by Senior Staff.

Knowledge
level

BookKeeper is not required to have higher level

of knowledge than an accountant.

Accountant is required to have higher level of

knowledge than that of BookKeeper.

Analytical
skills

BookKeeper may
analytical skills.

Accountant is required to possess analytical skills.

Nature of job

The job of a BookKeeper is often routine and

clerical in nature.

The job of an Accountant is analytical in nature.

Designing of
System

It does not cover designing of accounts system.

It covers designing of accounting system.

Supervision

The BookKeeper does not supervise and check

the work of an Accountant.

An Accountant supervises and checks the work of

a BookKeeper.

10

Financial
position

Financial position of the business cannot be

ascertained through bookkeeping.

Financial position of the business is ascertained

based on the accounting reports.

11

Financial
Statements

Financial Statements do not form a part of the

bookkeeping process.

Financial Statements are part of the accounting

process. These Statements are prepared based on
bookkeeping records.

12

Managerial
decision

Managerial decision cannot be taken with the

help of bookkeeping records alone.

Management can take decision on the basis of

accounting records and statements.

13

Subfields

There are no subfields for BookKeeping.

It has several subfields such as Financial

Accounting, Management Accounting, etc.

Note:

or

may

not

possess

In terms of scope, BookKeeping < Accounting < Accountancy.

1.8 BookKeeping Vs Accounting

The various subfields of Accounting are
1.

Financial Accounting: It covers the preparation and interpretation of Financial Statements (i.e. P&L Account and
Balance Sheet) and communication thereof, to the User of accounts. It is historical in nature as it records transaction
which has already occurred. It primarily helps in determination of the net result for an accounting period and the
financial position as on a given date. (CPT Syllabus covers only Financial Accounting)

2.

Management Accounting: It is used for internal reporting to the Management of a business unit. The different ways
of grouping information and preparing reports as desired by the Managers for discharging their functions are referred to
as Management Accounting.

3.

Cost Accounting: It is the process of accounting for cost and determination of overall cost of the product or service.
The study of the behavioural pattern of cost will enable to control cost.

4.

Social Responsibility Accounting: It is concerned with accounting for social costs incurred by the enterprise and
social benefits created.

5.

Human Resource Accounting: It seeks to identify, quantify and report investments made in human resources of an
organization that are not presently accounted under any conventional accounting practice.

1.9 Users of Financial Information

Users
Management
Proprietor /
Shareholders
Lenders Banks &
Fin. Institutions
Suppliers

Purpose
For daytoday decisionmaking and performance evaluation.
To analyse performance, profitability and financial position.
Note: Prospective investors are interested in the track record of the Company.
To determine the financial position and strength of the Company, Debt Service Coverage, etc.
To determine the credit worthiness of the Company.

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Basics of Accounting - Meaning and Scope of Accounting

Users
Customers

Purpose
To know general business viability before entering into longterm contracts and arrangements.
To know the stability, continuity and growth of the enterprise, and its ability to pay
remuneration, retirement & other benefits, and to enhance career opportunities.

Employees

To ensure prompt collection of Direct and Indirect Tax revenues,

To evaluate performance and contribution to social objectives.

For study, research and analysis purposes.
To see whether the enterprise is making a reasonable / substantial contribution to the local
economy, e.g. employment opportunities, patronage of local suppliers.

Government
Research Scholars
Public at Large

1.10 Relationship of Accounting with other Disciplines

The relationship of Accounting with other disciplines is highlighted as under
Discipline
Relationship
1.

Auditing

Auditing process reviews the Financial Statements, which are the outcome of the accounting process.
Thus, The Auditor should have a thorough and sound knowledge of Accounting Standards and
Generally Accepted Accounting Principles for reviewing the Financial Statements.

2.

Economics

3. Law

4. Mathematics

Economics uses the database provided by Accounting System, for developing decisionmodels
and for rational decisionmaking on the use of scarce resources.
Economic Theories have influenced the development of decisionmaking tools used in accounting.

However, there are differences between the Economists and Accountants concepts of Income,
Capital and Valuation of Assets.
Transactions and events are governed by the laws of the land like the law of Contracts, Sale of
Goods, Negotiable Instruments and Taxation Laws.
The entity itself is governed by specific statutes like Partnership Act, Companies Act, Cooperative
Societies Act, which have a bearing on maintenance of account books.
The format of Financial Statements is also prescribed by certain Statutes like Companies Act,
Banking Regulation Act, etc.
Also, accounting influences law in the sense that legislation about accounting system cannot be
enacted unless there is a corresponding development in the accounting discipline, e.g.
formulation of Accounting Standards and adoption by Companies Act.
Knowledge of arithmetic and algebra is a prerequisite for accounting computations and
measurements, e.g. Depreciation, Use of interest and annuity tables, Lease Rentals, Hire
Purchase Instalments, etc.
Ratios, Graphs, and Operations Research Models have been widely used in accounting

5. Management

Management relies on accounting and other data for effective decisionmaking. Accounting System
can be designed to serve management purposes.

6. Statistics

In accounting, many ratios and financial calculations are based on statistical methods, which help in
averaging them over a period of time. Thus, Statistics is helpful in development of accounting data
and in their interpretation, using PieCharts, Graphs and Trend Curve Diagrams, etc.

1.11 Services of a Chartered Accountant

1. Accounting Services

2. Audit Services

Maintenance of Books of
accounts

Statutory Audit
Internal Audit

Preparation of Financial
Statements

Interpretation of
Financial Statements

3. Consultancy Services

Taxation Consultancy
(Direct & Indirect Taxes)

Limited Review

Due Diligence
Audit

Corporate Laws
Consultancy

Management Consultancy

Investigation

1.9

4. Other Services

Financial Advisory Services,

e.g. Investment, Insurance,
Business Expansion, etc.

Specific Services, e.g.

Secretarial, Share
Registration, formation /
liquidation of companies etc.

Padhukas Complete Guide for CA CPT Theory

2.1 ACCOUNTING ASSUMPTIONS, PRINCIPLES AND CONCEPTS

Students Notes:
Every Field is based on certain Principles, Concepts and Ideas. (Either scientifically proved or traditionally
followed). Accounting Field is also based on Certain (a) Assumptions, (b) Concepts, (c) Principles and (d)
Conventions. This segment discusses them in detail.
The Understanding of the following segment assumes the greatest importance for understanding the logic of
accounting entries.

Item

Description

Accounting
Assumptions

(a) Assumption refers to the fundamental Premise / Condition based on which the entire
accounting process is carried out.
(b) In Accounting, there are 3 Fundamental Accounting Assumptions Refer Next Question
(c) For Eg. When a person started a particular business, we assume that the person started the
business for continuing it to earn profits and not for closing it.

Accounting
Concepts

(a) Concept means any idea or notion, which has a universal application.
(b) Accounting Concepts are the basic conditions which lay down the foundation for formulating
the accounting principles.
(c) They are clearly defined and supported by reasoning.

Accounting
Principles

(a) Accounting Principles refer to the set of doctrines associated with the theory and procedures
of accounting,
(b) They serve as an explanation of current practices and as a guide for selection of conventions
or procedures where alternatives exist.
(c) Accounting Policies should be (i) based on real assumptions, (ii) simple and easily
understandable, (iii) consistently followed, (iv) informational to the Users, and (v) able to
reflect future predictions.

Accounting
Conventions

(a) Accounting Conventions are the general procedures emerging out of usage and practice of
accounting principles.
(b) Conventions may not have universal application.
(c) They may contradict the basic accounting principles.
(d) Further, certain conventions may be changed over a period of time, by Accounting Bodies like
ICAI, for improving the quality of Financial Statements.
(e) Example: In India, pedestrians walk on the left side and the vehicles go on the right side of the
road. This is traditionally accepted practice and everybody follows it

Concepts Vs Conventions:
(a) Concepts are clearly defined and supported by reasoning while conventions may not be clearly defined.
(b) Concepts support the principles whereas Conventions may contradict the principles.

Note: The above terms Concepts, Principles and Conventions, are sometimes used interchangeably. In the
Exam questions, the students have to give a liberal meaning to the above words.

Gist of Accounting Assumptions / Concepts / Conventions

1.
2.

Fundamental Accounting Assumptions: Only 3 (a) Going Concern, (b) Consistency and (c) Accrual. (They are

also considered as part of Accounting Concepts)

Accounting Concepts:

1.10