Title FAR Self Study Part 1.pdf ✅

*Substance over form: inherent to faithful representation II. ENHANCING QUALITATIVE CHARACTERISTICS (relate to presentation or form): VCUT 1. Verifiability: diff knowledgeable observers could reach consensus that depiction is faithful rep. 2. Comparability: bring together to note points of likeness and difference Consistency: use of same method for same item 3. Understandability: comprehensive and intelligible 4. Timeliness: available/communicated early enough when a decision is made ACCRUAL BASIS Accrual basis of accounting recognizes revenue when they are earned and not when they are realized and recognizes expenses when they are incurred and not when they are disbursed. In accounting, recognition means recording. In contrast, realizing means converted to cash or collected. MATCHING PRINCIPLE Expenses should be recognized when resources have been consumed to generate revenue. Hence, expenses are recognized when related revenues are recognized. For example, cost of goods sold is recognized when sales is recognized. The matching principle is implemented in three ways: cause and effect (like cost of goods sold); systematic allocation (like depreciation) and immediate recognition. MEASUREMENT: I. HISTORICAL COST: consideration paid plus transaction cost II. CURRENT VALUE: 1. Fair Value: price received/paid to sell and asset/transfer liability in an orderly transaction; exit price; not adjusted for transaction cost 2. Value in use: PV of cashflow; not include transaction cost on acquiring asset but includes transaction cost on disposal 3. Fulfillment Value: PV of cash expected to transfer in settling a liability 4. Current Cost: cost of equivalent asset; consideration received less transaction cost APPROACHES IN DETERMINATION OF FINANCIAL PERFORMANCE: 1. Transaction Approach: traditional preparation of income statement 2. Capital Maintenance Approach: net income as amount an entity can distribute to its owners (a) Financial Capital/Net Asset Approach: monetary amount of net assets and amount of increase due to earnings retained (b) Physical Capital: quantitative measure of physical productive capacity to produce goods/services - requires productive assets be measured at current cost ACCOUNTING CYCLE The first step in the accounting cycle is identifying whether a transaction or event is recognizable. If recognizable, they transaction or event is recorded in the general journal. The general journal is the book of original entry. Transactions involve an exchange between the entity and another entity. On the other hand, events just involve one entity. An example of the latter is the downgrade of the value of the inventory because of flood. After the transactions and events have been recorded in the journal entry, the amounts in the journal entries will be posted to their specific accounts in the general ledger. The general ledger is the book of final entry. Adjusting entries are prepared at the end of the period. They are needed because certain events might not be reflected yet in the account balances. An example of this is depreciation. This means that prior to recording the adjustment, the amount of the contra-asset account is understated and the expense account is understated. Recording of the depreciation will increase depreciation expense and accumulated depreciation. Adjusting entries update both balance sheet and income statement items. Another example is recording of interest expense which has not yet been paid but already incurred. Such is called an accrual. Adjustments are required. The reversal of the adjustments at the beginning of the next period, however, are optional. Revenues and expenses are reduced to zero and transferred to shareholders’ equity, specifically retained earnings, when they are closed at the end of the period.