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Accounting Standard

1 and 2

By : Gaurang Badheka

AFM, Sem - 1

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• Accounts are the language of businessand accounting standards - the grammar

of the language.

Accounting standard

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• For the purpose of applicability of Accounting Standards, enterprises areclassified into three categories, viz.,

• Level I,

• Level II &

• Level III.

(Level II and Level III enterprises areconsidered as SMEs. )

Applicability of AS

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(i) Listed Companies or in the process of listing(ii) Banks including co-operative banks.

(iii) Financial institutions.

(iv) Enterprises carrying on insurance business.

(v) Turnover exceeding Rs. 50 crore. Turnover does not

include ‘other income’.

(vi) borrowings, including public deposits, in excess of

Rs. 10 crore at any time during the accountingperiod.

(vii) Holding and subsidiary enterprises of any one of the

above at any time during the accounting period.

Level 1 category

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Enterprises which are not Level I enterprises but fall inany one or more of the following categories are

classified as Level II enterprises:

(i) whose turnover for the immediately preceding

accounting period exceeds Rs. 40 lakhs but doesnot exceed Rs. 50 crore

(ii) borrowings, including public deposits, in excess of

Rs. 1 crore but not in excess of Rs. 10 crore at any

time during the accounting period.(iii) holding and subsidiary enterprises of any one of the

above at any time during the accounting period.

Level II category

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• Enterprises which are not covered under Level I and Level II are considered as

Level III enterprises.

• Depending upon the category, the AS

will be applicable.

Level III category

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• If a particular Accounting standard is found to benot in conformity with law, the provisions of the

said law will prevail.

• The Accounting Standards by their very nature

cannot and do not override the local regulations

which govern the preparation and presentation of

financial statements in the country.

• In formulation of Accounting Standards, theemphasis would be on laying down on accounting

principles and not detailed rules for application

and implementation thereof.

Scope of AS

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• It is the duty of the members of the Institute toexamine the mandatory Accounting standard areis complied , In the event of any deviation, it will betheir duty to make adequate disclosures in their

audit reports.• Ensuring compliance of the Accounting Standards

is the responsibility of the management of theenterprise.

• Financial Statements cannot be described ascomplying with the Accounting Standards unlessthey comply with all the requirements of eachapplicable Standard.

Compliance of AS

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• In a situation where certain matters arecovered both by an Accounting Standard

and a Guidance Note, the Guidance Note

or the relevant portion thereof will beconsidered as superseded unless

otherwise specified in the Accounting

Standard.

AS Vs. guidance note

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Accounting Standard - 1

Disclosure of AccountingPolicies

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• Purpose

1. To facilitate better understanding of

financial statements.

2. To facilitate meaningful comparison

between financial statements of different

enterprises.

AS 1 Disclosure of Accounting Policies

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• Different entities prepare and present their financial statements by adopting different

policies. The adoption of different accounting

policies may affect profit or loss of enterprisesignificantly.

• This statement requires to disclose all the

significant accounting policies adopted in

preparing and presenting financial

statements.


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• Disclosure of some accounting policies isrequired by law in some cases.

• The purpose of this statement is for better understanding of financial statements andto facilitate meaningful comparison of financial statements of different

enterprises.


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• There are mainly 3 fundamentalaccounting assumptions.

• These assumptions are :

1. Going Concern

2. Consistency

3. Accrual


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1. Going Concern= It means the enterprise is continuing in

operation for foreseeable future.

= It is assumed that the enterprise has neither

intention nor the necessity of liquidation or of

curtailing materially the scale of operations.

= However, as per AS 24, Level I Enterprise is

required to disclose discontinuation of operation

specifically and other details related to

discontinuation of operation as given in AS 24.


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2. ConsistencyIt is assumed that accounting policies are

consistent from one period to another.

3. Accrual

Revenues and costs are recognised when

they are earned or incurred and not when

actually money paid or received.


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What is accounting policy ???


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• Method of depreciation• Treatment of expenditure during

construction period

• Foreign currency items

• Valuation of inventories

• Valuation of fixed assets

• Treatment of contingent liabilities

( the list is inclusive )

Accounting policies

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The policy adopted should give true & fairview, And major considerations are;

i) Prudence

ii) Substance over form

iii) Materiality

Selection of accounting policies

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• It guards against over optimism• Guards against tendency of window

dressing

• Recognize of gain till certainty• It recognizes immediate and future losses

and contingent liabilities

• It requires that adverse eventsimmediately reported

Principle of prudence

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• What is the level of accuracy required toenable the users for fair estimates of FS

• How significant is a particular matter when

it is viewed in the context of whole or howit is significant individually

• Is it significant enough to influence the

economic decision of a user ?

Materiality and fin. statement

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• All significant policies should be disclosed• It should be part of financial statements

• It should be disclosed in one place rather

than scattered

• Any change in the accounting policy which

has material effect should be disclosed

• Disclosure cannot be remedy for thewrong treatment in the accounts

Disclosure of accounting policies

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Valuation of Inventories

Accounting Standard - 2

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• Inventories generally form one of thelargest items in current assets of the

companies.

• Inventory valuation is crucial to income

measurement and inventory management

is crucial to financial management.

Inventories

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Inventories are assetsa) held for sale in the ordinary course of business

b) in the process of production or manufacture

c) in the form of materials and supplies to be consumed in

such process of such production or manufacture.

Hence inventories refer to :

• Finished goods inventory

• Work in process inventory

• Raw materials , stores and supplies

Inventories

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AS – 2 will not apply toi) Construction contracts AS-7

ii) W.I.P. of service providers

iii) Shares , debentures other than stock-in-

trade

iv) Livestock, agriculture products , mineral

oil, iron ores

AS – 2 Applicability

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a) held for sale in the ordinary course of business

b) In the process of production for such

sales or c) In the form of materials or supplies to be

consumed in the production process or in

rendering of services

Inventories defined as …

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• Is the estimated selling price in theordinary course of business less the

estimated costs of completion and the

estimated costs necessary to make thesale.

• Estimated Selling Price – Estimated costnecessary to make the sale.

Net realizable value

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• Lower of cost or net realisable value

Valuation

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• Cost of purchases• Cost of conversion

• Other cost

Cost of inventories

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• Purchase price inclusive of taxes, duties ,transportation of goods , handing and

other charges

• However taxes which are subsequentlyrecoverable from authorities will be

excluded

Cost of purchase

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Cost of purchase - Example

Purchase Price 100 x 10 1000

Less : Trade Discount 100

Net Price 900

Add : Sales Tax 36

Less : Refundable Duties Modvat 100

Add : Transportation & Loading Chg 50

Total Cost of Purchases 886

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• Includes cost directly related to units of production

• Eg. Direct labour, power cost , production

overheads• Overheads are classified as fixed and

variable overheads

Cost of conversion

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• Labour costs• Stores and spares

• Raw Material at Factory

• Repair and Maintenance

• Royalty on Manufactured goods

• Supervisory Staff at Factory

• Depreciation

• Power and Fuel

Cost of conversion – examples

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• Abnormal amounts of wasted materials,labour or other production cost

• Storage cost unless they are necessary in

the production process• Administrative cost

• Selling & distribution cost

Exclusion from inventories

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• The cost of inventories of items that arenot ordinarily interchangeable and goods

or services produced and segregated for

specific projects should be assigned byspecific identification of their individual

products

Cost formula 1

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• Other than 1 should be assigned by usingfirst-in ,first-out (FIFO) or weighted

average cost formula. The formula used

should reflect the fairest possibleapproximation to the cost incurred to

bringing the inventory to their present

location and condition.

Cost formula 2

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• FIFO – First In First Out• LIFO – Last In First Out

• WAC – Weighted Average Cost

• Specific Identification Method

Costing method

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Inventory valuation affects the profit and loss account aswell as the balance Sheet

FIFO – more realistic inventory value but unrealistic profit

LIFO - more realistic profit but outdated inventory value

WAC - the average of the two

Accounting Standard does not allow the use of LIFO.

Under Income Tax law any method may be adopted but

it should be followed consistently.

Which one is the best

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• The accounting policies adopted tomeasuring inventories including cost

formula used

• Total carrying amount of inventory and its

classification appropriate to the enterprise

Disclosure

Ch 5 - As 1 and as 2

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