FRAMEWORK FOR ACCOUNTING &

REPORTING I

SEMSTER 1, 2020
 Recap
Recap
Capital and Maintenance

Conceptual Framework 2018 define Equity as;

“The residual interest in the assets of the entity after deducting all its liabilities”

Financial capital maintenance

Capital defined as net Asset (A – L) is greater than or equal to the
balance at the beginning of year.
Net Assets = Equity

 Physical capital maintenance

Capital defined productive capacity or operational output.
Issue :
Definition of capital
 Measurement of profit – capital definition.
Change of price effect – inflation / purchasing power

Financial capital maintenance concept

 Does not require the use of a particular basis of measurement, and is dependent solely on the nominal
value of the underlying financial capital seeking to be maintained.
 Holding gains included

Physical capital maintenance concept

 Requires the adoption of the current cost basis of measurement
 Holding gains excluded
 Capital maintenance adjustments.
 Class
ClassActivity
Activity
To illustrate the difference, consider a company that begins operations with $1,000 cash on 1st
January and immediately purchase 100 units for $10 each. On 31st January, it sells all the units
for $18 each. On this date, the current cost has risen to $12 a unit. Assume that profit is paid
out as dividends at the end.

Sales
COGS
Current operating profit
holding gain
Profit
Paid as dividends

Beg. Capital
Less Purchase
Add: Sales
End balance of capital
 Class
ClassActivity-
Activity-Solution
Solution
To illustrate the difference, consider a company that begins operations with $1,000 cash on 1st January and
immediately purchase 100 units for $10 each. On 31st January, it sells all the units for $18 each. On this date, the
current cost has risen to $12 a unit. Assume that profit is paid out as dividends at the end.
Financial Physical
 
Capital view Capital view
Sales (100 x $18) $ 1,800.00 $ 1,800.00
COGS (100 x $12) $ 1,200.00 $ 1,200.00
Current operating profit $ 600.00 $ 600.00
holding gain (100 x $2) $ 200.00 $ -
Profit $ 800.00 $ 600.00
Paid as dividends $ 800.00 $ 600.00
   
   
Beg. Capital $ 1,000.00 $ 1,000.00
Less Purchase of 100 units @$10 each $ 1,000.00 $ 1,000.00
Add: Sales of 100 units @$18 each $ 1,800.00 $ 1,800.00
End balance of capital $ 1,800.00 $ 1,800.00
Dividend Paid $ 800.00 $ 600.00
Capital Maintain $ 1,000.00  
Needed at end to maintain Capital 100 units @ $12 NA $ 1,200.00
Accounting
AccountingTheories
Theories
 Why do rockets need so much power to lift off?
Gravity

Why do humans walk on two legs?

Evolution /biblical

Why might changing accounting policies for PPE depreciation

affect some firm’s expenditure decisions?
Accounting
Theory defined as:

1. ….the coherent set of hypothetical, concept and pragmatic principles

forming the general framework of reference for a field of inquiry.

2. …logical reasoning in the form of a set of board principles that (1)

provide a general framework of reference by which accounting practice
can be evaluated and (2) guide the development of new practices and
procedures.
 Accounting Theories
Accounting Theories

Whether the theory is accepted depends on:

How well it explains and predicts reality (not that all theories need necessarily predict)

How well it is constructed

How acceptable are the implications of the theory

Accounting key purpose is to explain current accounting

practice and provide the basis for developments in such
practice.
 Accounting Theories
Accounting Theories

Explaining the behaviours of those who supply and demand

information.

Accounting setters try to solve the inconsistency problem – conceptual

framework.

Conceptual framework – does not resolved inconsistencies in practice,

used to justify or support inconsistencies.

Too general to provide a clear set of decision rules – Accounting policy

choices.
 Accounting Theories
Accounting Theories

How are theories formulated?

Deduction/Deductive
Reasoning from general statements to specific statements.
Reasoning from general premises to develop predictions, prescriptions or
explanations of specific matters

Induction/Inductive
Reasoning from the particular to the general
Reasoning from specific observation to develop a general implication of those
observations.
 Accounting Theories
Accounting Theories

 Deduction
Statement 1 The land and buildings account is an asset account
Statement 2 All asset accounts have debit balances
Conclusion The land and buildings accounts has a debit account

 Induction
Statement 1 The land and buildings account is an asset account and has a debit balance
Statement 2 The motor vehicles account is an asset account and has a debit balance
Statement 3 The plant and Machinery account is an asset account and has a debit balance

Conclusion All asset have debit balances

 Accounting Theories
Accounting Theories

 Normative theory
Normative theory seeks to explain what is “bad” or “good”. Therefore, what
you SHOULD do.
Structured logical framework.

 Positive theory
A positive theory seeks to explain and predict particular phenomena
Scientific
END OF CLASS