Accounting

Standards
and Financial
Reporting
Chapter -2
Generally Accepted Accounting Principles
• Theterm ‘principle’ has been defined by AICPA as ‘A general
law or rule adopted or professed as a guide to action, a settled
ground or basis of conduct or practice

• GAAP refers to the rules or guidelines adopted for recording

and reporting of business transactions, in order to bring
uniformity in the preparation and the presentation of
financial statements
Accounting Concepts and
Accounting Conventions
• The term concept refers to the necessary assumptions
and ideas which are fundamental to accounting
practice

• Th term convention connotes customs or traditions as

a guide to the preparation of accounting statements
Accounting Concepts

Money
Business entity Going concern
measurement
concept concept
concept

Accounting period Accounting cost Dual aspect

concept concept concept

Matching concept Realization concept Accrual concept

Accounting Conventions

Consistency Full Disclosure

Materiality Conservatism
Basis of Accounting

CASH ACCRUAL
BASIS BASIS
 ASB
• Accounting Standards Board (ASB) - constituted – 1977, on 21st April
initiated by Kumara Mangalam Birla, chairman of the committee of
Corporate Governance for financial disclosures.
• ASB is a committee under Institute of Chartered Accountants of India
(ICAI)
• Representatives from government department, academicians, other
professional bodies’ viz. ICAI, representatives from ASSOCHAM,
Confederation of Indian Industries (CII), Federation of Indian Chambers
of Commerce and industry (FICCI), etc.
Objectives
Date of initiation
Reviewers of Draft accounting standard
• This will generally include the members of the ICAI,
• Department of Company Affairs (DCA)
• SEBI
• Central Board of Direct taxes (CBDT)
• Standing Conference of Public Enterprises (SCPE)
• Comptroller and Auditor General of India etc.
Measurement in Accounting
• assignment of numbers to the attributes or properties of objects being
measured
• Objects themselves have numerous attributes or properties
Accounting standards
• Asset of practices and policies used to systematize the bookkeeping
and other accounting function across firms and over time
• Written policy documents covering the aspects of recognition,
measurement, treatment, presentation and disclosure of accounting
transactions in financial statements.
• Apply to the full breadth of an equity’s financial picture, including
assets, liabilities, revenue, expenses and shareholders equity.
Benefits of Accounting Standards
• Attain uniformity
• Improves reliability
• Prevents fraud and manipulations
• Assists auditors
• Comparability
• Determine the managerial accountability
• choice between different alternate accounting
treatments difficult to apply
• fails to extend flexibility
• Accounting standard cannot override the statue
 Procedure of setting standards
1. ASB Identification of broad area and pritorizing them
2. Consultation with the study group
3. Hold dialogue with representatives
4. Preparation of exposure draft
5. Draft will include concepts, principles, manner, presentation
disclosure, class of entity, date
6. Ascertainment of views of different bodies on draft
7. Comments received on exposure draft
8. Finalisation the draft and submit to council of institute.
9. Modification of the draft
10. Issue of AS
Applicability of Accounting Standard
• Sole proprietorship unit
• Partnership firm
• Societies
• Trusts
• Hindu undivided family
• Association of persons
• Cooperative societies
• Companies

• Not applicable purely charitable organisation

Classification of enterprises

Level I enterprises Level II enterprises Level III enterprises

 Level I Enterprises
• whose debt or equity securities are listed in or outside India
• Which are in the process of listing their equity or debt securities – Board resolution as
evidence
• Banks including co-operative banks, Financial institutions, Insurance
• All commercial, industrial and business reporting enterprises, whose turnover not
including other income exceed 50 crore
• All commercial, industrial and business reporting enterprises, whose turnover not
including public deposits in excess of 10 crore at any time during the accounting period
• Holding and subsidiary enterprises of any one of the above at any time during the
accounting period
Level II enterprises
• All commercial, industrial and business reporting enterprises, whose
turnover not including other income on the basis of audited financial
statements exceed 40 lakhs but not 50 crore
• All commercial, industrial and business reporting enterprises, having
borrowings, including public deposits is greater than 1 crore but less than 10
crore at any time during the accounting period.
• Holding and subsidiary enterprises of any one of the above at any time
during the accounting period
 AS-1 &2
AS-1:Disclosure of Accounting
AS-2: Accounting for Inventories
Policy
AS- 3 &4
AS-4: Contingencies & Events after
AS-3: Cash Flow Statement
the date of B/S
AS- 5& 6
AS-5: Net Profit/Loss for the period, prior
period items and change in accounting AS-6: accounting for depreciation
policies
AS-7 &8
AS-8: Accounting for Research &
AS-7 : Construction Contracts
Development
AS-9 &10
AS-9: Revenue Recognition AS-10 : Accounting for Fixed Assets
AS-11& 12
AS-11: Effects of Change in Foreign AS-12: Accounting for Government
Exchange Grants
AS-13 &14
AS-14: Accounting for
AS-13: Accounting for Investments
Amalgamation
AS-15&16
AS-15: Employee Benefits AS-16: Borrowing costs
AS-17& 18
AS-17: Segmental Reporting AS-18: Related Party Disclosures
AS-19& 20
AS-19: Accounting for Leases AS-20: EPS
AS-21&22
AS-22: Accounting for Taxes&
AS-21: CBS
Income
AS-23&24
AS-23: Accounting for Investments
AS-24: Discounting operations
in Associates in CFS
AS-25&26
AS-25: Interim Financial Reporting AS-26: Intangible Assets
AS-27&28
AS-27: Financial Reporting of
AS-28: Impairment of Assets
Interest in JV
AS-29& [30, 31 and 32]
AS-29: Provisions, Contingent
AS-30: Financial Instruments
Liabilities & Assets
AS 1 Disclosures of Accounting Policies
AS 2 Valuation of Inventories (revised 2016)
AS 3 Cash Flow Statements
AS 4 Contingencies and Events Occurring After the Balance
Sheet Date (revised 2016)
AS 5 Net Profit or Loss for the Period, Prior Period Items and
Changes in Accounting Policies
AS 7 Construction Contracts (revised 2002)
AS 9 Revenue Recognition AS 10 Property, Plant and Equipment
AS 10 Property, Plant and Equipment
AS 11 The Effects of Changes in Foreign Exchange Rates
(revised 2003)
AS 12 Accounting for Government Grants
AS 13 Accounting for Investments (revised 2016)
AS 14 Accounting for Amalgamations (revised 2016)
AS 16 Borrowing Costs
AS 18 Related Party Disclosures
AS 21 Consolidated Financial Statements (revised
2016)
AS 22 Accounting for Taxes on Income
AS 23 Accounting for Investments in Associates in
Consolidated Financial Statements
AS 24 Discontinuing Operations
AS 26 Intangible Assets
AS 27 Financial Reporting of Interest in Joint
Ventures
•Applicability of Accounting Standard
•Company
•SMC

•Non SMC

•Non Company
•Level I

•Level II

•Level III
•Level IV
Small and Medium Sized Companies (SMC)
• whose equity or debt securities are not listed or are not in the process of
listing on any stock exchange, whether in India or outside India;
• which is not a bank, financial institution or an insurance company;
• whose turnover (excluding other income) does not exceed Rs 250
Crores in the immediately preceding accounting year;
• which does not have borrowings (including public deposits) in excess of
Rs 50 crores at any time during the immediately preceding accounting
year; and
• which is not a holding or subsidiary company of a company which is
not a SMC.
Non - SMC
• Companies not falling within the definition of SMC are
considered as Non-SMCs.
Level I
• Entities whose securities are listed or are in the process of listing on
any stock exchange, whether in India or outside India.
• Banks (including co-operative banks), financial institutions or entities
carrying on insurance business.
• All entities engaged in commercial, industrial or business activities,
whose turnover (excluding other income) exceeds rupees two-fifty
crore in the immediately preceding accounting year.
• All entities engaged in commercial, industrial or business activities
having borrowings (including public deposits) in excess of rupees fifty
crore at any time during the immediately preceding accounting year.
• Holding and subsidiary entities of any one of the above
Level II
Enterprises which are not Level I enterprises but fall in any one or more
of the following categories are classified as Level II enterprises
• All entities engaged in commercial, industrial or business activities,
whose turnover (excluding other income) exceeds rupees fifty crore
but does not exceed rupees two-fifty crore in the immediately
preceding accounting year.
• All entities engaged in commercial, industrial or business activities
having borrowings (including public deposits) in excess of rupees ten
crore but not in excess of rupees fifty crore at any time during the
immediately preceding accounting year.
• Holding and subsidiary entities of any one of the above
Level III
• All entities engaged in commercial, industrial or business activities, whose
turnover (excluding other income) exceeds rupees ten crore but does not
exceed rupees fifty crore in the immediately preceding accounting year.
• All entities engaged in commercial, industrial or business activities having
borrowings (including public deposits) in excess of rupees two crore but does
not exceed rupees ten crore at any time during the immediately preceding
accounting year.

• Holding and subsidiary entities of any one of the above

Level IV

Enterprises which are not covered under Level I, Level II and

Level III are considered as Level IV enterprises.
Applicability of Accounting Standard – Level I
Level I entities are required to comply in full with all the
Accounting Standards.
 Exempted from AS – Level II, Level III, Level IV
AS1 Applicable Applicable Applicable
Disclosure of accounting policies
AS 2 Applicable Applicable Accounting for Inventories
Applicable
AS 3 Not Applicable Not Applicable Cash Flow Statement
Not Applicable
AS 4 Applicable Applicable Contingency events after B/S date
Applicable
AS 5 Applicable Applicable Net Profit
Applicable
AS 6 Not Applicable Not Applicable Accounting for Depreciation
Not Applicable
AS 7 Applicable Applicable Applicable
Construction contracts
AS 8 Not Applicable Not Applicable Accounting ForNot
R&DApplicable
AS 9 Applicable Applicable Applicable
Revenue recognition
AS 10 Applicable with disclosures exemption Withfor
Accounting disclosures
FA exemption
AS 11 Applicable with disclosures exemption Withexchange
Change is foreign disclosures exemption
AS 12 Applicable Applicable Government grants
Applicable
AS 13 Applicable Applicable WithInvestments
disclosures exemption

AS 14 Applicable Applicable Amalgamation

Not Applicable

AS 15 With exemptions With exemptions Employee benefits

With exemptions
Contd
Contd
Contd
Exempted from AS – Level II, Level III, Level IV
AS 16 Applicable Applicable Applicable Borrowing cost
AS 17 Not Applicable Not Applicable Not Applicable Segmental Borrowing
AS 18 Applicable Not Applicable Not Applicable Related party disclosure
AS 19 Applicable with Applicable with Applicable with Accounting for Leases
AS 20 Not Applicable Not Applicable Not Applicable EPS
AS 21 Not Applicable Not Applicable Not Applicable CBS
AS 22 Applicable Applicable Applicable only for current tax related provisions Taxes
AS 23 Not Applicable Not Applicable Not Applicable Associates In CBS
AS 24 Applicable Not Applicable Not Applicable Discounting operations
AS 25 Not Applicable Not Applicable Not Applicable Interim Financial reporting
AS 26 Applicable Applicable With disclosures exemption Intangible Assets
AS 27 Not Applicable Not Applicable Not Applicable FR for Interest in JV
AS 28 With disclosures exemption Impairment of Assets
AS 29 With disclosures exemption Provisions, Contingent assets & Liabilities
 NACAS and its role under Companies Act 1956
• National Advisory Committee on Accounting Standards (NACAS) is a body set up under
section 210A of the Companies Act, 1956 by the Government of India.
• To advise the Central Government on the formulation and lying down of accounting policies and
accounting standards for adoption by companies or class of companies under this Act but at the
same time NACAS did not have any regulatory powers to regulate the above issues.
 Composition of NACAS
•12 Members

•1 Chairperson who should be well versed in accountancy, finance, economics and similar discipline

•1 member nominated by ICAI (Institute of Chartered Accountants of India) •1 member nominated by ICMAI (Institute
of Cost and Management Accountants of India)

•1 member nominated by ICAI (Institute of Company Secretaries of India)

•1 representative of Central Government

•1 representative of RBI

•1 representative of C&AG

•1 representative of SEBI

•2 members to represent Chamber of Commerce and Industry

•Chairman of the CBDT constituted under Central Board of Revenue Act 1963

•1 person who holds or has held office of professor in accountancy and similar discipline in any university
 NACAS became NFRA
The concept of having a body such as National Financial Reporting Authority is a modified concept
the bare of which was extracted from Companies act 1956.

In Companies Act, 2013, the new authority is set up named National Financial Reporting Authority
(NFRA).

It is an advisory body which will also function as the regulatory authority for the accounting policies
for same purposes for which NACAS was set up under Companies act 1956.

NACAS UNDER CO. ACT 1956 + REGULATORY POWERS = NFRA UNDER CO. ACT 2013
 Objective of NFRA
(a) The first objective is to advice the Central Government on the formulation
and laying down of accounting and auditing policies and standards for
adoption by companies or class of companies or their auditors.
(b) The second objective is of regulatory nature which aims at monitoring and
enforcing the compliance with accounting standards and auditing standards
along with the quality of service provided by professionals.
(c) It ensures compliance with standards.
(d) It aims to improve the service quality of the professionals.
Composition of NFRA
• 16 Members
•1 Chairperson who should be well versed in accountancy, finance, economics
and similar discipline
•15 other members as may be prescribed (Not yet Prescribed)
Other regulatory powers of NFRA
• NFRA has the power to investigate, on a reference made to it by the Central Government, for
bodies corporate or persons, into the matters of professional or other misconduct committed by any
member or firm of chartered accountants.
• NFRA has the same powers as are vested in a civil court under the Code of Civil Procedure, 1908,
while trying a suit
• Discovery and production of books of account and other documents.
• Power to Summon the attendance of persons and examining them on oath.
• Power of inspection of any books, registers and other documents of any person.
• Power to impose penalty if misconduct proved

• NFRA has also the power of debarring the member or the firm from engaging himself or itself from
practice as member of the Institute of Chartered Accountant of India for a minimum period of six
months or for such higher period not exceeding ten years.
Provision
There is also a provision for appellate authority where aggrieved person can appeal against the
order of NFRA.
The head office of NFRA shall be at New Delhi and it may, meet at such other places in India, as it
deems fit.
Its accounts shall be audited & certified by CAG together with audit report, shall be forwarded
annually to CG
AS 1 - Disclosure of
Accounting Policies
Coverage of standard
• Disclosure of significant accounting policies followed in preparing and
presenting financial statements

• Required by law in some cases

• Required by Institute of Chartered Accountants of India
• Enterprise decides it*
Accounting Policy Meaning
• specific principles and methods adopted by the organization in preparing and
presenting financial statements
• no single list of accounting policies which are applicable to all
circumstances
• Accounting Policies are part of Financial Statement
 Accounting Assumptions
• Going Concern
• Consistency
• Accrual

• Fundamental accounting assumptions underlie the preparation and

presentation of financial statements
• SHOULD IT BE DISCLOSED ?
Examples of Different accounting Policy followed
Methods of depreciation, depletion and amortisation
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
Why to disclose accounting policy
• Financial statements are affected by accounting policies
• Proper and better understanding
• All significant accounting policies to be put up in one place
Selection of Accounting Policies

•Prudence
•Uncertainty of future
•Substance over form
•governed by their substance and not merely by the legal form
•Materiality
•Anything that influence the decision of users
Principles to be followed when an enterprise is
not a going concern
• All assets are to be valued on net realisable value.
• All liabilities should be valued at settlement price
• employee termination, premature termination of contracts, lease
Disclosure
• significant accounting policies
• should form part of the financial statements
• should normally be disclosed in one place
• Changes in the accounting policy to be disclosed
AS 2
Valuation of
Inventories
Inventories
• Are the assets
• held for sale in the ordinary course of business
• in the process of production for such sale
• in the form of materials or supplies to be consumed in production
process or in rendering of services
• intangible items of inventory – such as software held for sale.
What is covered as inventory?
• Goods purchased and held for resale
• Merchandise of a retailer, computer software, land or other properties,
held for resale.
• Finished goods purchased for sale
• WIP – generally – materials, maintenance supplies. Consumables and
loose tools uses in the production process.
What is not covered by AS 2
• Shares, debentures and other financial instruments held as STOCK – IN –
TRADE
• Finished goods
• Livestock, agricultural and forest products, mineral oils, ores and gases etc for
valuation of which certain established practices may exist

• WIP
• Under construction contracts, or of service providers
• Machinery spares that are used only in connection with an item of FA, and there is
no regulatory of use (governed by AS 10)
Measurement – Valuation of
Inventories
“Inventories should be valued at the lower of cost and net
realizable value”

•Valuation of Inventories
•Lower of
•Cost
•Purchase

•Conversion
•Other cost

•Net realizable value

•Selling price (- ) cost of completion and cost of sale
Major points for valuation of inventories
• Determination of cost of inventories
• Determination of net realizable value of inventories
• Comparison between cost and net realizable value
Segment I – COST
• Cost – includes
• Cost of purchase,
• Cost of conversion
• Other cost incurred in bringing the inventories to their present location and
condition
• Cost – does not include
• Selling & Distribution cost, and abnormal wastage, storage cost
COST – Cost of Purchases

• Cost of Purchases
• Purchase price
• Duties and taxed on such purchase except those that are subsequently
recoverable by the enterprise from the taxing authorities
• Freight inwards
• Other items of expenditure directly attributable to the acquisition
• (Less) Trade discounts , rebates, duty drawbacks and similar items are
deducted in determining the cost of purchase
 COST – Cost of Conversion
• Direct Labour, Direct material, Direct expenses
– Cost that are specifically attributable to units of production completed or in the course of
production

• Production Overheads
• Variable Production OH (VPOH) – Based on actual rate per unit
• Indirect expenses attributable to production as would vary directly or nearly
directly with the volume of production.

• Fixed Production OH (FPOH) – based on rate per unit, computed with

reference to normal capacity
• Indirect cost of production and are such as would remain relatively constant
regardless of the volume of production.
• Allocation of fixed production OH – On normal capacity.
• In periods of abnormally high production, the amount of fixed production OH allocated to each unit of
production is decreased so that inventories are no measured above cost

• Allocation of variable production OH - On actual production

• Joint products
• When the cost of conversion of each product is not separately identifiable, total cost of conversion is
allocated between the products on the rational and consistent basis
(i.e allocation on the basis of relative sale value of the product)

• By products
• If by products, scrap or waste materials are not of material value, they are measured at net realizable
value, then the NRV is deducted from cost of conversion.
• Net cost of conversion (i.e., cost of conversion – net realizable value ) is distributed among the main
product
COST – Other Cost
• Cost incurred to bring the inventory to its present location and condition
• Cost not related to purchase, labour or overheads can be take as forming
part of the cost.

• Eg
• Cost of designing a product to meet the specific requirements of the
customers
Inclusion of excise duty in valuation of
finished goods
• Excise duty contributes directly to bridging inventory to its preset location and
condition and is a direct cost, which should be included in valuation of
inventories.
• Eg: Company XYZ imports raw materials from an overseas supplier to be used in
the production of its products.
• The excise duty paid (or payable) would be added to the cost of the imported raw materials.
This combined cost is then considered the cost of inventory. If the raw materials cost $10,000
and the excise duty paid is $2,000, the total cost of the raw materials for inventory valuation
would be $12,000.

• Excise duty is required to be included in the valuation of FG as per AS 2, though

excise duty is paid only when goods are removed from the factory.
Exclusion of certain components from cost
Components excluded and treated as expenses of period
• Cost attributable to normal wastage of materials, labour or other production cost
with comparable characteristics
• Storage (shelf) cost unless these costs are indispensable in production prior to a
further processing stage.
• Administrative OH that do not contribute to bringing the inventories to their present
location and condition
• Selling & distribution cost.
• Interest element not included in the inventory
CENVAT & Excise duty Vs Cost of Inventory
• Excise duty paid or payable is included in valuation
• Amount recoverable from tax authorities by way of CENVAT credit will
be excluded in the valuation of FG
 COST FORMULAE

Methods

Inventory not ordinarily Inventory ordinarily

interchangeable interchangeable

Scientific
WAC
Identification FIFO
method
Method
 COST FORMULAE
1. Specific identification method for determining cost of inventories
• This method is directly linking the cost with specific item of inventories.
• Conditions
• In case of purchase of item specifically segregated for specific project and is not ordinarily
inter-changeable
• In case of goods or services produced and segregated for specific project

2. Where specific identification method is not applicable

Methods :
FIFO
WAC
FIFO
This method is used when
• Size of raw materials is very large and cost is high
• Materials are easily identified as belonging to a particular purchase lot.
• Not more than 2 or 3 different receipts are on material card at one time
• Price of materials does not fluctuate widely, so that clerical labour involved
is minimized.
• Materials are subject to deterioration and obsolescence
Weighted Average Cost (WAC) method
• Calculated by diving the total cost of material in stock by total quantity
of material in stock
• Cost are averaged after weighting by their quantities.
 Cost of inventories in certain conditions
• When it is impractical to calculate the cost, the following methods may be followed to
ascertain cost:
• Standard cost
• takes into account normal level of consumptions of material and supplies, labour,
efficiency and capacity utilization. It must be regularly reviewed and revised taking
into consideration the current condition
• Retail method
• generally used in retail business, when it is difficult to ascertain cost of individual
item. It is applicable when items of inventories are rapidly changing items and have
similar margins and for which it is impracticable to use other costing method.
SEGMENT – II Net Realizable Value
• Net Realizable value means estimated selling price in ordinary course of
business, less estimated cost of completion and estimated cost necessary to make
the sale.
• Estimated on the basis of most reliable evidence at the time of value
• Estimation of net realizable value also takes into account the purpose for which
the inventory is held.
• Estimation of net realizable value is made as at each balance sheet date.
NRV – Salient aspects
• For estimating NRV information about net estimated selling price available
as on B/S is taken into a/c
• Inventories should be written down to NRV when value is lower than cost
• If NRV exceeds cost the excess is to be ignored and valuation of inventories
should be based on at cost only.
Circumstances that prompt valuation at NRV
• Where the cost of inventories may not be recoverable in situations
where items under valuation are damages, or become wholy or partially
obsolete

• Where there is a fall in market prices

• Where estimated costs of completion or estimated costs necessary to

make the sale, have increased.
Application of rule of Cost or NRV
• Item by item method
• Under this method cost and NRV of each and every item is considered
individually, and the lower figure is taken for the purpose of inventory
valuation

• Group method
• Also known as global method.
• Under this method similar or related items are grouped into categories and the
lower of cost and NRV is applied to each category.