ACCOUNTING CONCEPTS

1-Business Entity Concept:

It is generally accepted that the moment a business enterprise is started it attains a separate entity as distinct from the persons whoom it. In recording the transactions of the business the important question is:How do these transactions affect the business enterprise? The question asto how these transactions affect the proprietors is quite irrelevant. This conceptis extremely useful in keeping business affairs strictly free from the effect ofprivate affairs of the proprietors. In the absence of this concept the privateaffairs and business affairs are mingled together in such a way that the trueprofit or loss of the business enterprise cannot be ascertained nor its financial position. To quote an example, if the proprietor has taken Rs.5000/- from thebusiness for paying house tax for his residence, the amount should be deductedfrom the capital contributed by him. Instead if it is added to the other businessexpenses then the profit will be reduced by Rs.5000/- and also his capital moreby the same amount. This affects the results of the business and also its financialposition. Not only this, since the profit is lowered, the consequential tax payment also will be less which is against the provisions of the Income-tax Act.

2-Going Concern Concept:

This concept assumes that the business enterprise will continue to operate for a fairly long period in the future. The significance of this concept is that the accountant while valuing the assets of the enterprise does not take into account their current resale values as there is no immediate expectation of selling it. Moreover, depreciation on fixed assets is charged on the basis of their expected life rather than on their market values. When there is conclusive evidence that the

business enterprise has a limited life the accounting procedures should be appropriate to the expected terminal date of the enterprise. In such cases, the financial statements could clearly disclose the limited life of the enterprise and should be prepared from the `quitting concern point of view rather than from a `going concern point of view.

3-Money Measurement Concept:

Accounting records only those transactions which can be expressed in monetary terms. This feature is well emphasized in the two definitions on accounting as given by the American Institute of Certified Public Accountants and the American Accounting Principles Board. The importance of this concept is that money provides a common denomination by means of which heterogeneous facts about a business enterprise can be expressed and measured in a much better way. For e.g. when it is stated that a business owns Rs.1,00,000 cash, 500 tons of raw material, 10 machinery items, 3000 square meters of land and building etc., these amounts cannot be added together to produce a meaningful total of what the business owns. However, by expressing these items in monetary terms Rs.1,00,000 cash, Rs.5,00,000 worth of raw materials, Rs,10,00,000 worth of machinery items and Rs.30,00,000 worth of land and building such an addition is possible. A serious limitation of this concept is that accounting does not take into account pertinent non-monetary items which may significantly affect the enterprise. For instance, accounting does not give information about the poor health of the Chairman, serious misunderstanding between the production and sales manager etc., which have serious bearing on the prospects of the enterprise. Another limitation of this concept is that money is expressed in terms of its value at the time a transaction is recorded in the accounts. Subsequent changes in the purchasing power of moneys are not taken into account.

4-Cost Concept:
This concept is yet another fundamental concept of accounting which is closely related to the going-concern concept. As per this concept: (i) an asset is ordinarily entered in the accounting records at the price paid to acquire it i.e., at its cost and (ii) this cost is the basis for all subsequent accounting for the asset. The implication of this concept is that the purchase of an asset is recorded in the books at the price actually paid for it irrespective of its market value. For e.g. if a business buys a building for Rs.3,00,000, the asset would be recorded in the books at Rs.3,00,000 even if its market value at that time happens to be Rs.4,00,000. However, this concept does not mean that the asset will always be shown at cost. This cost becomes the basis for all future accounting for the asset. It means that the asset may systematically be reduced in its value by changing depreciation. The significant advantage of this concept is that it brings in objectivity in the preparations and presentation of financial statements. But like the money measurement concept this concept also does not take into account subsequent changes in the purchasing power of money due to inflationary pressures. This is the reason for the growing importance of inflation accounting.

5-Dual Aspect Concept (Double Entry System):

This concept is the core of accounting. According to this concept every business transaction has a dual aspect. This concept is explained in detail below: The properties owned by a business enterprise are referred to as assets and the rights or claims to the various parties against the assets are referred to as equities. The relationship between the two may be expressed in the form of an equation as follows: Equities = Assets Equities may be subdivided into two principal types: the rights of creditors and the rights of owners. The rights of creditors represent debts of the business and are called liabilities. The rights of the owners are called capital. Expansion of the equation to give recognition to the two types of equities results in the following which is known as the accounting equation: Liabilities + Capital = Assets It is customary to place `liabilities before `capital because creditors have priority in the repayment of their claims as compared to that of owners. Sometimes greater emphasis is given to the residual claim of the owners by transferring liabilities to the other side of the equation as: Capital = Assets Liabilities All business transactions, however simple or complex they are, result in a change in the three basic elements of the equation. This is well explained with the help of the following series of examples:

(i) Mr.Prasad commenced business with a capital of Rs.3,000: The result of this transaction is that the business, being a separate entity, gets cash-asset of Rs.30,000 and has to pay to Mr.Prasad Rs.30,000 his capital. This transaction can be expressed in the form of the equation as follows: Capital = Assets Prasad Cash 30,000 30,000 (ii) Purchased furniture for Rs.5,000: The effect of this transaction is that cash is reduced by Rs.5,000 and a new asset viz. furniture worth Rs.5,000 comes in thereby rendering no change in the total assets of the business. The equation after this transaction will be: Capital = Assets Prasad Cash + Furniture 30,000 25,000 5,000

(iii) Borrowed Rs.20,000 from Mr.Gopal: As a result of this transaction both the sides of the equation increase by Rs.20,000; cash balance is increased and a liability to Mr.Gopal is created. The equation will appear as follows: Liabilities + Capital =Assets Creditiors + Prasad Cash + Furniture 20,000 30,000 45,000 5,000

(iv) Purchased goods for cash Rs.30,000: This transaction does not affect the liabilities side total nor the asset side total. Only the composition of the total assets changes i.e. cash is reduced by Rs.30,000 and a new asset viz. stock worth Rs.30,000 comes in. The equation after this transaction will be as follows: Liabilities + Capital =Asset Creditors Prasad Cash + Stock + Furniture 20,000 30,000 15,000 30,000 5,000

(v) Goods worth Rs.10,000 are sold on credit to Ganesh for Rs.12,000. The result is that stock is reduced by Rs.10,000 a new asset namely debtor (Mr.Ganesh) for Rs.12,000 comes into picture and the capital of Mr.Prasad increases by Rs.2,000 as the profit on the sale of goods belongs to the owner. Now the accounting equation will look as under: Liabilities + Capital =Asset Creditors Prasad Cash +Debtors+Stock+ Furnitures 20,000 32,000 15,000 12,000 20,000 5,000

(vi) Paid electricity charges Rs.300: This transaction reduces both the cash balance and Mr.Prasads capital by Rs.300. This is so because the expenditure reduces the business profit which in turn reduces the equity. The equation after this will be: Liabilities + Capital =Asset Creditors + Prasad Cash +Debtors+Stock+ Furnitures 20,000 31,700 14,700 12,000 20,000 5,000 Thus it may be seen that whatever is the nature of transaction, the accounting equation always tallies and should tally. The system of recording transactions based on this concept is called double entry system.

6-Account Period Concept:

In accordance with the going concern concept it is usually assumed that the life of a business is indefinitely long. But owners and other interested parties cannot wait until the business has been wound up for obtaining information about its results and financial position. For e.g. if for ten years no accounts have been prepared and if the business has been consistently incurring losses, there may not be any capital at all at the end of the tenth year which will be known only at that time. This would result in the compulsory winding up of the business. But if at frequent intervals information are made available as to how things are going, then corrective measures may be suggested and remedial action may be taken. That is why, Pacioli wrote as early as in 1494: Frequent accounting makes for only friendship. This need leads to the accounting period concept. According to this concept accounting measures activities for a specified interval of time called the accounting period. For the purpose of reporting to various interested parties one year is the usual accounting period. Though Pacioli wrote that books should be closed each year especially in a partnership, it applies to all types of business organisations.

7-Periodic Matching of Costs and Revenues:

This concept is based on the accounting period concept. It is widely accepted that desire of making profit is the most important motivation to keep the proprietors engaged in business activities. Hence a major share of attention of the accountant is being devoted towards evolving appropriate techniques of measuring profits. One such technique is periodic matching of costs and revenues. In order to ascertain the profits made by the business during a period, the accountant should match the revenues of the period with the costs of that period. By `matching we mean appropriate association of related revenues and expenses pertaining to a particular accounting period. To put it in other words, profits made by a business in a particular accounting period can be ascertained only when the revenues earned during that period are compared with the expenses incurred for earning that revenue. The question as to when the payment was actually received or made is irrelevant. For e.g. in a business enterprise which adopts calendar year as accounting year, if rent for December 1989 was paid in January 1990, the rent so paid should be taken as the expenditure of the year 1989, revenues of that year should be matched with the costs incurred for earning that revenue including the rent for December 1989, though paid in January 1990. It is on account of this concept that adjustments are made for outstanding expenses, accrued incomes, prepaid expenses etc. while preparing financial statements at the end

of the accounting period. The system of accounting which follows this concept is called as mercantile system. In contrast to this there is another system of accounting called as cash system of accounting where entries are made only when cash is received or paid, no entry being made when a payment or receipt is merely due.

8-Realisation Concept:
Realisation refers to inflows of cash or claims to cash like bills receivables, debtors etc. arising from the sale of assets or rendering of services. According to Realisation concept, revenues are usually recognized in the period in which goods were sold to customers or in which services were rendered. Sale is considered to be made at the point when the property in goods passes to the buyer and he becomes legally liable to pay. To illustrate this point, let us consider the case of A, a manufacturer who produces goods on receipt of orders. When an order is received from B, A starts the process of production and delivers the goods to B when the production is complete. B makes payment on receipt of goods. In this example, the sale will be presumed to have been made not at the time when goods are delivered to B. A second aspect of the Realisation concept is that the amount recognized as revenue is the amount that is reasonably certain to be realized. However, lot of reasoning has to be applied to ascertain as to how certain `reasonably certain is Yet, one thing is clear, that is, the amount of revenue to be recorded may be less than the sales value of the goods sold and services rendered. For e.g. when goods are sold at a discount, revenue is recorded not at the list price but at the amount at which sale is made. Similarly, it is on account of this aspects of the concept that when sales are made on credit though entry is made for the full amount of sales, the estimated amount of bad debts is treated as an expense and the effect on net income is the same as if the revenue were reported as the amount of sales minus the estimated amount of bad debts.

What is relevant information ?

Information that is relevant to that particular topic, for example; A user wants to purchase a Dell computer but the employee at the computer shop gives the user a HP computer specification for another product.This information that has been passed on is not relevant to that particular object or topic as it relates to another object.

Provision
Provision in accounting means providing for any expenditure before paying it. It is used for determining correct profit or loss of a financial year. For example I made profit of Rs. 10000/- upto 31.03.2008. But in calculating this profit I have not considered the Electricity & Telephone Bill for the month of March 2008 which is assume Rs. 2000/- because i have not received the bills of march 2008 in the month of march. Thus after considering these expenses my profit comes to Rs. 8000/- for year 2007-2008. Now in accounting i will provide Rs. 2000/- as provision and do following entry. Electricity & Telephone Exp. Dr. 2000/Provision for Exp. Cr. 2000/Now my profit & loss a/c reflects true picture.

What does accounting policy means ?

The specific policies and procedures used by a company to prepare its financial statements. These include any methods, measurement systems and procedures for presenting disclosures. Accounting policies differ from accounting principles in that the principles are the rules and the policies are a company's way of adhering to the rules.
Investopedia explains Accounting Policies Accounting principles are lenient at times, so the policies of a company can be very important. Looking into a specific company's accounting policies can signal whether management is conservative or aggressive when reporting earnings. This should be taken into account by investors when reviewing earnings reports. Also, outside accountants that are hired to review a company's financial statements should check the company's policies to ensure they conform to accounting principles. What Does Fixed Asset Mean? A long-term tangible piece of property that a firm owns and uses in the production of its income and is not expected to be consumed or converted into cash any sooner than at least one year's time. Fixed assets are sometimes collectively referred to as "plant".

Investopedia explains Fixed Asset Buildings, real estate, equipment and furniture are good examples of fixed assets. Generally, intangible long-term assets such as trademarks and patents are not categorized as fixed assets but are more specifically referred to as "fixed intangible assets".

What Does Liability Mean? A company's legal debts or obligations that arise during the course of business operations. Liabilities are settled over time through the transfer of economic benefits including money, goods or services.

Investopedia explains Liability

Recorded on the balance sheet (right side), liabilities include loans, accounts payable, mortgages, deferred revenues and accrued expenses. Liabilities are a vital aspect of a company's operations because they are used to finance operations and pay for large expansions. They can also make transactions between businesses more efficient. For example, the outstanding money that a company owes to its suppliers would be considered a liability.

Outside of accounting and finance this term simply refers to any money or service that is currently owed to another party. One form of liability, for example, would be the property taxes that a homeowner owes to the municipal government.

Current liabilities are debts payable within one year, while long-term liabilities are debts payable over a longer period.

What Does Income Statement Mean? A financial statement that measures a company's financial performance over a specific accounting period. Financial performance is assessed by giving a summary of how the business incurs its revenues and expenses through both operating and non-operating activities. It also shows the net profit or loss incurred over a specific accounting period, typically over a fiscal quarter or year. Also known as the "profit and loss statement" or "statement of revenue and expense".

Investopedia explains Income Statement The income statement is the one of the three major financial statements. The other two are the balance sheet and the statement of cash flows. The income statement is divided into two parts: the operating and non-operating sections. The portion of the income statement that deals with operating items is interesting to investors and analysts alike because this section discloses information about revenues and expenses that are a direct result of the regular business operations. For example, if a business creates sports equipment, then the operating items section would talk about the revenues and expenses involved with the production of sports equipment.

The non-operating items section discloses revenue and expense information about activities that are not tied directly to a company's regular operations. For example, if the sport equipment company sold a factory and

What Does Revenue Recognition Mean? An accounting principle under generally accepted accounting principles (GAAP) that determines the specific conditions under which income becomes realized as revenue. Generally, revenue is recognized only when a specific critical event has occurred and the amount of revenue is measurable.

Investopedia explains Revenue Recognition For most businesses, income is recognized as revenue whenever the company delivers or performs its product or service and receives payment for it. However, there are several situations in which exceptions may apply. For example, if a company's business has a very high rate of product returns, revenue should only be recognized after the return period expires. Companies can sometimes play around with revenue recognition to make their financial figures look better. For example, if XYZ Corp. wants to hide the fact that it is having a bad year in sales, it may choose to recognize income that has not yet been collected as revenue in order to boost its sales revenue for the year.

(A) Disclosure of Accounting Policies

1.This statement dealswith the disclosure of significant accounting policies followed in preparing and presenting financial statements.

2. The view presented in the financial statements of an enterprise of its state of affairs and of the profit or loss can be significantly affected by the accounting policies followed in the preparation and presentation of the financial statements. The accounting policies followed vary from enterprise to enterprise.Disclosure of significant accounting policies followed is necessary if the view presented is to be properly appreciated.

3. The disclosure of some of the accounting policies followed in the preparation and presentation of the financial statements is required by law in some cases.

4. The Institute ofCharteredAccountants of India has, in Statements issued by it, recommended the disclosure of certain accounting policies, e.g., translation policies in respect of foreign currency items.

5. In recent years, a few enterprises in India have adopted the practice of including in their annual reports to shareholders a separate statement of accounting policies followed in preparing and presenting the financial statements.

6. In general, however, accounting policies are not at present regularly and fully disclosed in all financial statements. Many enterprises include in the Notes on the Accounts, descriptions of some of the significant accounting policies. But the nature and degree of disclosure vary considerably between the corporate and the non-corporate sectors and between units in the same sector.

7. Even among the few enterprises that presently include in their annual reports a separate statement of accounting policies, considerable variation exists. The statement of accounting policies forms part of accounts in some cases while in others it is given as supplementary information.

8. The purpose of this Statement is to promote better understanding of financial statements by establishing through an accounting standard the disclosure of significant accounting policies and the manner in which accounting policies are disclosed in the financial statements. Such disclosure would also facilitate a more meaningful comparison between financial statements of different enterprises.

(B) Fundamental Accounting Assumptions

1. Certain fundamental accounting assumptions underlie the preparation and presentation of financial statements. They are usually not specifically stated because their acceptance and use are assumed.Disclosure is necessary if they are not followed.

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2. The following have been generally accepted as fundamental accounting assumptions: a. Going Concern The enterprise is normally viewed as a going concern, that is, as continuing in operation for the foreseeable future. It is assumed that the enterprise has neither the intention nor the necessity of liquidation or of curtailingmaterially the scale of the operations.

b. Consistency It is assumed that accounting policies are consistent fromone period to another. c. Accrual Revenues and costs are accrued, that is, recognised as they are earned or incurred (and not asmoney is received or paid) and recorded in the financial statements of the periods to which they relate. (The considerations affecting the process of matching costs with revenues under the accrual assumption are not dealt with in this Statement.)

(C) Nature of Accounting Policies

1. The accounting policies refer to the specific accounting principles and the methods of applying those principles adopted by the enterprise in the preparation and presentation of financial statements.

2. There is no single list of accounting policies which are applicable to all circumstances. The differing circumstances in which enterprises operate in a situation of diverse and complex economic activity make alternative accounting principles and methods of applying those principles acceptable. The choice of the appropriate accounting principles and the methods of applying those principles in the specific circumstances of each enterprise calls for considerable judgement by the management of the enterprise.

3. The various statements of the Institute of Chartered Accountants of India combinedwith the efforts of government and other regulatory agencies and progressive managements have reduced in recent years the number of acceptable alternatives particularly in the case of corporate enterprises. While continuing efforts in this regard in future are likely to reduce the number still further, the availability of alternative accounting principles and methods of

(D) Areas inWhichDifferingAccounting Policies are Encountered

1. The following are examples of the areas in which different accounting policies may be adopted by different enterprises. Methods of depreciation, depletion and amortisation

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 Treatment of expenditure during construction Conversion or translation of foreign currency items Valuation of inventories Treatment of goodwill Valuation of investments Treatment of retirement benefits Recognition of profit on long-term contracts Valuation of fixed assets Treatment of contingent liabilities.

2. The above list of examples is not intended to be exhaustive.

(E) Considerations in the Selection of Accounting Policies

1. The primary consideration in the selection of accounting policies by an enterprise is that the financial statements prepared and presented on the basis of such accounting policies should represent a true and fair view of the state of affairs of the enterprise as at the balance sheet date and of the profit or loss for the period ended on that date. 2. For this purpose, the major considerations governing the selection and application of accounting policies are: a. Prudence In viewof the uncertainty attached to future events, profits are not anticipated but recognised only when realised though not necessarily in cash. Provision ismade for all known liabilities and losses even though the amount cannot be determined with certainty and represents only a best estimate in the light of available information.

b. Substance over Form The accounting treatment and presentation in financial statements of transactions and events should be governed bytheir substance and notmerely by the legal form.

c. Materiality Financial statements should disclose all material items, i.e. items the knowledge ofwhichmight influence the decisions of the user of the financial statements.

Accounting Standard (AS) 2

Valuation of Inventories
(This Accounting Standard includes paragraphs set in bold italic type and plain type, which have equal authority. Paragraphs in bold italic type indicate the main principles. This Accounting Standard should be

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read in the context of its objective and the General Instructions contained in part A of the Annexure to the Notification.)

Objective
A primary issue in accounting for inventories is the determination of the value at which inventories are carried in the financial statements until the related revenues are recognised. This Standard deals with the determination of such value, including the ascertainment of cost of inventories and any write-down thereof to net realisable value.

Scope
1. This Standard should be applied in accounting for inventories other than: (a) work in progress arising under construction contracts, including directly related service contracts (b) work in progress arising in the ordinary course of business of service providers; (c) shares, debentures and other financial instruments held as sk-in-trade; and (d) producers' inventories of livestock, agricultural and forest products, and mineral oils, ores and gases to the extent that they are measured at net realisable value in accordance with well established practices in those industries.

2. The inventories referred to in paragraph 1 (d) are measured at net realisable value at certain stages of production. This occurs, for example, when agricultural crops have been harvested or mineral oils, ores and gases, have been extracted and sale is assured under a forward contract or a government guarantee, or when a homogenous market exists and there is a negligible risk of failure to sell. These inventories are excluded from the scope of this Standard.

Definitions
3.1-Inventories are assets: (a) held for sale in the ordinary course of business; (b) in the process of production for such sale; or (c) in the form of materials or supplies to be consumed in the production process or in the rendering of services.

3.2 Net realisable value is the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale.

4. Inventories encompass goods purchased and held for resale, for example, merchandise purchased by a retailer and held for resale, computer software held for resale, or land and other property held for resale.

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Inventories also encompass finished goods produced, or work in progress being produced, by the enterprise and include materials, maintenance supplies, consumables and loose tools awaiting use in the production process. Inventories do not include machinery spares which can be used only in connection with an item of fixed asset and whose use is expected to be irregular; such machinery spares are accounted for in accordance with Accounting Standard (AS) 10, Accounting for Fixed Assets.

Measurement of Inventories
5. Inventories should be valued at the lower of cost and net realisable value. Cost of Inventories

6. The cost of inventories should comprise all costs of purchase, costs of conversion and other costs incurred in bringing the inventories to their present location and condition. Costs of Purchase

7. The costs of purchase consist of the purchase price including duties and taxes (other than those subsequently recoverable by the enterprise from the taxing authorities), freight inwards and other expenditure directly attributable to the acquisition. Trade discounts, rebates, duty drawbacks and other similar items are deducted in determining the costs of purchase. Costs of Conversion

8. The costs of conversion of inventories include costs directly related to the units of production, such as direct labour. They also include a systematic allocation of fixed and variable production overheads that are incurred in converting materials into finished goods. Fixed production overheads are those indirect costs of production that remain relativaly constant regardless of the volume of production, such as depreciation and maintenance of factory buildings and the cost of factory management and administration. Variable production overheads are those indirect costs of production that vary directly, or nearly directly, with the volume of production, such as indirect materials and indirect labour.

9. The allocation of fixed production overheads for the purpose of their inclusion in the costs of conversion is based on the normal capacity of the production facilities. Normal capacity is the production expected to be achieved on an average over a number of periods or seasons under normal circumstances, taking into account the loss of capacity resulting from planned maintenance. The actual level of production may be used if it approximates normal capacity. The amount of fixed production overheads allocated to each unit of production is not increased as a consequence of low production or idle plant. Unallocated overheads are recognised as an expense in the period in which they are incurred. In periods of abnormally high production, the amount of fixed production overheads allocated to each unit of

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production is decreased so that inventories are not measured above cost. Variable production overheads are assigned to each unit of production on the basis of the actual use of the production facilities.

10. A production process may result in more than one product being produced simultaneously. This is the case, for example, when joint products are produced or when there is a main product and a by-product. When the costs of conversion of each product are not separately identifiable, they are allocated between the products on a rational and consistent basis. The allocation may be based, for example, on the relative sales value of each product either at the stage in the production process when the products become separately identifiable, or at the completion of production. Most by-products as well as scrap or waste materials, by their nature, are immaterial. When this is the case, they are often measured at net realisable value and this value is deducted from the cost of the main product. As a result, the carrying amount pf the main product is not materially different from its cost.

Accounting Standard (AS) 6*

Introduction
Depreciation Accounting 101 1. This Statement deals with depreciation accounting and applies to all depreciable assets, except the following items to which special considerations apply: (i) forests, plantations and similar regenerative natural resources; (ii) wasting assets including expenditure on the exploration for and extraction ofminerals, oils, natural gas and similar non-regenerative resources; (iii) expenditure on research and development; (iv) goodwill;

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(v) live stock. This statement also does not apply to land unless it has a limited useful life for the enterprise. 2. Different accounting policies for depreciation are adopted by different enterprises. Disclosure ofaccounting policies for depreciation followed by an enterprise is necessary to appreciate the view presented in the financialstatements of the enterprise.

Definitions
Depreciation is a measure of the wearing out, consumption or other loss of value of a depreciable asset arising from use, effluxion of time or obsolescence through technology and market changes. Depreciation is allocated so as to charge a fair proportion of the depreciable amount in each accounting period during the expected useful life of the asset. Depreciation includes amortisation of assets whose useful life is predetermined.

Depreciable assets are assets which

(i) are expected to be used during more than one accounting period;and

(ii) have a limited useful life; and (iii) are held by an enterprise for use in the production or supply of goods and services, for rental to others, or for administrative purposes and not for the purpose of sale in the ordinary course of business.

Useful life is either

(i) the period over which a depreciable asset is expected to be used by the enterprise; or (ii) the number of production or similar units expected tobe obtained from the use of the asset by the enterprise.

3.4 Depreciable amount of a depreciable asset is its historical cost, or other amount substituted for historical cost2 in the financial statements, less the estimated residual value.

Explanation
4. Depreciation has a significant effect in determining and presenting the financial position and results of operations of an enterprise. Depreciation is charged in each accounting period by reference to the extent of the depreciable amount, irrespective of an increase in the market value of the assets.

5. Assessment of depreciation and the amount to be charged in respect thereof in an accounting period are usually based on the following three factors: (i) historical cost or other amount substituted for the historical cost of the depreciable asset when the asset has been revalued; (ii) expected useful life of the depreciable asset; and (iii) estimated residual value of the depreciable asset.

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6. Historical cost of a depreciable asset represents its money outlay or its equivalent in connection with its acquisition, installation and commissioning as well as for additions to or improvement thereof. The historical cost of a depreciable asset may undergo subsequent changes arising as a result of increase or decrease in long term liability on account of exchange fluctuations, price adjustments, changes in duties or similar factors.

Revenue
Revenue is the gross inflow of cash, receivables or other consideration arising in the course of the ordinary activities of an enterprise6 from the sale of goods, from the rendering of services, and from the use by others of enterprise resources yielding interest, royalties and dividends. Revenue is measured by the charges made to customers or clients for goods supplied and services rendered to them and by the charges and rewards arising from the use of resources by them. In an agency relationship, the revenue is the amount of commission and not the gross inflow of cash, receivables or other consideration.

Revenue recognization
Revenue recognition is mainly concerned with the timing of recognition of revenue in the statement of profit and loss of an enterprise. The amount of revenue arising on a transaction is usually determined by agreement between the parties involved in the transaction. When uncertainties exist regarding the determination of the amount, or its associated costs, these uncertainties may influence the timing of revenue recognition.

Sale of Goods
A key criterion for determining when to recognise revenue from a transaction involving the sale of goods is that the seller has transferred the property in the goods to the buyer for a consideration. The transfer of property in goods, in most cases, results in or coincides with the transfer of significant risks and rewards of ownership to the buyer.However, theremay be situations where transfer of property in goods does not coincide with the transfer of significant risks and rewards of ownership. Revenue in such situations is recognised at the time of transfer of significant risks and rewards of ownership to the buyer. Such cases may arise where delivery has been delayed through the fault of either the buyer or the seller and the goods are at the risk of the party at fault as regards any loss which might not have occurred but for such fault. Further, sometimes the parties may agree that the risk will pass at a time different from the time when ownership passes.

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At certain stages in specific industries, such as when agricultural crops have been harvested or mineral ores have been extracted, performance may be substantially complete prior to the execution of the transaction generating revenue. In such cases when sale is assured under a forward contract or a government guarantee or where market exists and there is a negligible risk of failure to sell, the goods involved are often valued at net realisable value. Such amounts,while not revenue as defined in this Statement, are sometimes recognised in the statement of profit and loss and appropriately described.

Rendering of Services
Revenue from service transactions is usually recognised as the service is performed, either by the proportionate completion method or by the completed service contract method. (i) Proportionate completion methodPerformance consists of the execution of more than one act. Revenue is recognized proportionately by reference to the performance of each act. The revenue recognised under this method would be determined on the basis of contract value, associated costs, number of acts or other suitable basis. For practical purposes, when services are provided by an indeterminate number of acts over a specific period of time, revenue is recognised on a straight line basis over the specific period unless there is evidence that some other method better represents the pattern of performance.

(ii) Completed service contract methodPerformance consists of the execution of a single act.Alternatively, services are performed in more than a single act, and the services yet to be performed are so significant in relation to the transaction taken as a whole that performance cannot be deemed to have been completed until the execution of those acts. The completed service contract method is relevant to these patterns of performance and accordingly revenue is recognised when the sole or final act takes place and the service becomes chargeable.

8. The Use by Others of Enterprise Resources Yielding Interest, Royalties and Dividends
The use by others of such enterprise resources gives rise to: (i) interestcharges for the use of cash resources or amounts due to the enterprise; (ii) royaltiescharges for the use of such assets as know-how, patents, trade marks and copyrights; (iii) dividendsrewards from the holding of investments in shares. Interest accrues, in most circumstances, on the time basis determined by the amount outstanding and the rate applicable.Usually, discountor premium on debt securities held is treated as though it were accruing over the period to maturity.

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Royalties accrue in accordancewith the terms of the relevant agreementand are usually recognised on that basis unless, having regard to the substance of the transactions, it is more appropriate to recognise revenue on some other systematic and rational basis. Dividends frominvestments in shares are not recognised in the statement of profit and loss until a right to receive payment is established. When interest, royalties and dividends from foreign countries require exchange permission and uncertainty in remittance is anticipated, revenue recognition may need to be postponed.

Effect of Uncertainties on Revenue Recognition

Recognition of revenue requires that revenue is measurable and that at the time of sale or the rendering of the service it would not be unreasonable to expect ultimate collection. Where the ability to assess the ultimate collection with reasonable certainty is lacking at the time of raising any claim, e.g., for escalation of price, export incentives, interest etc., revenue recognition is postponed to the extent of uncertainty involved. In such cases, it may be appropriate to recognise revenue only when it is reasonably certain that the ultimate collectionwill bemade.Where there is no uncertainty as to ultimate collection, revenue is recognised at the time of sale or rendering of service even though payments are made by instalments.

When the uncertainty relating to collectability arises subsequent to the time of sale or the rendering of the service, it is more appropriate to make a separate provision to reflect the uncertainty rather than to adjust the amount of revenue originally recorded.

An essential criterion for the recognition of revenue is that the consideration receivable for the sale of goods, the rendering of services or from the use by others of enterprise resources is reasonably determinable. When such consideration is not determinable within reasonable limits, the recognition of revenue is postponed. When recognition of revenue is postponed due to the effect of uncertainties, it is considered as revenue of the period in which it is properly recognised.

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