AS – 1 = DISCLOUSURE OF ACCOUNTING POLICIES
What are the three fundamental accounting assumptions recognised by Accounting Standard (AS) 1? Briefly describe each one of them. (4 marks)
Answer:
Accounting Standard-1 recognizes three fundamental accounting assumptions. These are as follows:
1. Going Concern: The financial statements are normally prepared on the assumption that an enterprise will continue its operations in the foreseeable future and neither there is intention, nor there is need to materially curtail the scale of operations.
2. Consistency: The principle of consistency refers to the practice of using same accounting policies for similar transactions in all accounting periods unless the change is required (1) by a statute, (ii) by an accounting standard or (iii) for more appropriate presentation of financial statements.
3. Accrual Basis of Accounting: Under this basis of accounting, transactions are recognised as soon as they occur, whether or not cash or cash equivalent is actually received or paid.
2015-NOV
In the books of M/s Prashant Ltd., closing inventory as on 31.03.2015 amounts to RS 1,63,000 (on the basis of FIFO method).
The company decides to change from FIFO method to weighted average method for ascertaining the cost of inventory from the year 2014-15. On the basis of weighted average method, closing inventory as on 31.03.2015 amounts to RS 1,47,000. Realisable value of the inventory as on 31.03.2015 amounts to RS 1,95,000.
Discuss disclosure requirement of change in accounting policy as per AS -1. (5 marks)
Answer:
As per AS -1, Disclosure of Accounting Policies, accounting policies refers to the accounting principles and method of applying those principles in the preparation and presentation of financial statements.
So if there is change in the accounting policies the firm should disclose in it's statements:
1. The fact that there is change in accounting policy.
2. The reason for change in accounting policies.
3. The effect of such change in the financial statements.
So in this case M/s. Prashant Ltd. changes valuation of inventory from FIFO to weighted average. Therefore, the firm should disclose in it's financial statement:
1. There is a change in valuation of inventory from FIFO to weighted average.
2. The reason why such change is to be made: The company values its inventory at lower of cost and net realisable value. Since net realizable value of all items of inventory in the current year was greater than respective costs, the company valued its inventory at cost. In the present year i.e. 2014-15, the company has changed to weighted average method, which better reflects the consumption pattern of inventory, for ascertaining inventory costs from the earlier practice of using FIFO for the purpose.
3. The effect of such change in the financial statement: The change in policy has reduced current profit and value of inventory by RS 16,000.
2017-MAY
ABC Financial Services Ltd. is engaged in the business of financial services and is undergoing tight liquidity position, since most of the assets of the company are blocked in various claims/petitions in a Special Court.
ABC Financial Services Ltd. has accepted Inter-Corporate Deposits (ICDs) and it is making its best efforts to settle the dues. There were claims at varied rates of interest, from lenders, from the due date of ICDs to the date of repayment. The company has provided interest, as per the terms of the contract till the due date and a note for non-provision of interest from the due date to date of repayment was mentioned in financial statements.
On account of uncertainties existing regarding the determination of the amount and in the absence of any specific legal obligation at present as per the terms of contracts, the company considers that these claims are in the nature of "claims against the company not acknowledged as debt", and the same has been disclosed by way of a note in the accounts instead
of making a provision in the Profit and Loss Account.
State whether the treatment done by the company is correct or not as per relevant Accounting Standard.(5 marks)
Answer:
As per AS -1, "Disclosure of Accounting Policies," following are major considerations that govern selection of a particular Policy:
1. Prudence
2. Substance over form and
3. Materiality
As per the above considerations and in view of uncertainty associated with future events, profits are not anticipated, but losses are provided for as a matter of conservatism. Provision should be created 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.
As per AS -1, 'Accrual' is one of the fundamental accounting assumptions. Irrespective of the terms of the contract, so long as the principal amount of a loan is not repaid, the lender cannot be placed in a disadvantageous position for non- payment of interest in respect of overdue amount. From the facts given in the question, it is apparent that the company has an obligation
to pay because of the overdue interest amount.
Thus, in the given case, ABC Financial Services Ltd. should make provision for interest from the due date of ICDs to date of repayment even though the amount cannot be determined. Thus, it should represent only a best estimate in the light of available information.
Thus, the treatment done by the company that these claims are in nature of "claims against the company not acknowledged as debt" and the disclosure by way of note in the accounts instead of making a provision in the P & L A/c is not correct as per AS -1.
2018-NOV
HIL Ltd. was making provision for non-moving stocks based on no issues having occurred for the last 12 months upto 31.03.2017. The company now wants to make provision based on technical evaluation during the year ending 31.03.2018.
Total value of stock RS 120 lakhs
Provision required based on technical evaluation RS 3.00 lakhs
Provision required based on 12 months no issues RS 4.00 lakhs
You are requested to discuss the following points in the light of Accounting Standard (AS) - 1:
(i) Does this amount to change in accounting policy?
(ii) Can the company change the method of accounting? (5 marks)
Answer:
The decision of making provision for non-moving inventories on the basis of technical evaluation does not amount to change in accounting policy. Accounting policy of a company may require that provision for non-moving stocks (inventories) should be made. The method of estimating the amount of provision may be changed. In case a more prudent estimate can be made.
In the given case, considering the total value of stock, the change in the amount of required provision of non-moving stock from RS 4 lakhs to RS 3 lakhs is also not material. The disclosure can be made for such change in the following lines by way of notes to the accounts in the annual accounts of HIL Ltd. for the year 2017-18:.
"The company has provided for non-moving stocks on the basis of technical. evaluation unlike preceding years. Had the same method been followed as in the previous year; the profit for the year and the corresponding effect on the year end net assets would have been lower by RS 1 lakh."
2021- DEC
(i) ABC Ltd. was previously making provision for non-moving stocks based on stocks not issued for the last 12 months up to 31.03.2020. Now, the company wants to make provisions based on technical evaluation during the year ending 31.03.2021.
Total value of stock ` 133.75 lakhs
Provision required based on technical evaluation ` 4.00 lakhs Provision required based on 12 months not issued ` 5.00 lakhs.
(ii)In the Books of Kay Ltd., Closing stock as on 31st March, 2021 amounts to` 1,24,000 (on the basis of FIFO method) The company decides to change from FIFO method to weighted average method for ascertaining the cost of inventory
from the year 2020-2021. On the basis of weighted average method, closing stock as on 31st March, 2021 amounts to `
1,15,000. Realisable value of the inventory as on 31st March, 2021 amounts to` 1,54,000.
Discuss Disclosure Requirements of change in accounting policy in above cases as per AS 1.
ANSWER.
(i) The decision of making provision for non-moving inventories on the basis of technical evaluation does not amount to change in accounting policy. Accounting policy of a company may require that provision for non-moving inventories should be made. The method of estimating the amount of provision may be changed in case a more prudent estimate can be made.
In the given case, considering the total value of inventory, the change in the amount of required provision of non- moving inventory from ` 5 lakhs to ` 4 lakhs is also not material. The disclosure can be made for such change in the following lines by way of notes to the accounts in the annual accounts of ABC Ltd. for the year 2020 -21:
“The company has provided for non-moving inventories on the basis of technical evaluation unlike preceding years. Had the same method been followed as in the previous year, the profit for the year and the corresponding effect on the year end net assets would have been lower by ` 1 lakh.”
(ii) As per AS 1 “Disclosure of Accounting Policies”, any change in an accounting policy which has a material effect should be disclosed in the financial statements. The amount by which any item in the financial statements is affected by such change should also be disclosed to the extent ascertainable. Where such amount is not ascertainable, wholly or in part, the fact should be indicated. Thus company should disclose the change in valuation method of inventory and its effect on financial statements. The company may disclose the change in accounting policy in the following manner:
“The company values its inventory at lower of cost and net realizable value. Since net realizable value of all items of inventory in the current year was greater than respective costs, the company valued its inventory at cost. In the present year i.e. 2020-21, the company has changed to weighted average method, which better reflects the consumption pattern of inventory, for ascertaining inventory costs from the earlier practice of using FIFO for the purpose. The change in policy has reduced current profit and value of inventory by ` 9,000.”
RTP QUESTIONS
2021-MAY
The draft results of Surya Ltd. for the year ended 31st March, 2020, prepared on the hitherto followed accounting policies and presented for perusal of the board of directors showed a deficit of ` 10 crores. The board in consultation with the managing director, decided to value year-end inventory at works cost (` 50 crores) instead of the hitherto method of valuation of inventory at prime cost (` 30 crores). As chief accountant of the company, you are asked by the managing director to draft the notes on accounts for inclusion in the annual report for 2019-2020.
ANSWER
As per AS 1, any change in the accounting policies which has a material effect in the current period or which is reasonably expected to have a material effect in later periods should be disclosed. In the case of a change in accounting policies which has a material effect in the current period, the amount by which any item in the financial statements is affected by such change should also be disclosed to the extent ascertainable. Where such amount is not ascertainable, wholly or in part, the fact should be indicated. Accordingly, the notes on accounts should properly disclose the change and its effect. Notes on Accounts: “During the year inventory has been valued at factory cost, against the practice of valuing it at prime cost as was the practice till last year. This has been done to take cognizance of the more capital intensive method of production on account of heavy capital expenditure during the year. As a result of this change, the year-end inventory has been valued at ` 50 crores and the profit for the year is increased by ` 20 crores.”
2022- MAY
(a) A company with a turnover of ` 225 crores and borrowings of ` 51 crore during the year ended 31st March, 2021, wants to avail the exemptions available in adoption of Accounting Standards applicable to companies for the year ended 31.3.2021. Advise the management on the exemptions that are available as per the Companies (Accounting Standards) Rules, 2021.
(b) An organization whose objects are charitable or religious, believes that the Accounting Standards are not
applicable to it since only a very small proportion of its activities are business in nature. Comment.
ANSWER
(a) The question deals with the issue of Applicability of Accounting Standards for corporate entities. The companies can be classified under two categories viz SMCs and Non-SMCs under the Companies (Accounting Standards) Rules, 2021. As per the Companies (Accounting Standards) Rules, 2021, criteria for above classification as SMCs, are:
“Small and Medium Sized Company” (SMC) means, a company-
• 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 rupees two-fifty crores in the immediately preceding accounting year;
• which does not have borrowings (including public deposits) in excess of rupees fifty 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 small and medium-sized company. Since, XYZ Ltd.’s turnover was ` 225 crores which does not exceed ` 250 crores but borrowings of ` 51 crore are more than ` 50 crores, it is not a small and medium sized company (SMC). The exemptions available to SMC are not available to this company.
(b) Accounting Standards apply in respect of any enterprise (whether organized in corporate, co-operative or other forms) engaged in commercial, industrial or business activities, whether or not profit oriented and even if established for charitable or religious purposes. Accounting Standards however, do not apply to enterprises solely carrying on the activities, which are not of commercial, industrial or business nature, (e.g., an activity of collecting donations and giving them to flood affected people). Exclusion of an enterprise from the applicability of the Accounting Standards would be permissible only if no part of the activity of such enterprise is commercial, industrial or business in nature. Even if a very small proportion of the activities of an enterprise were considered to be commercial, industrial or business in nature, the Accounting Standards would apply to all its activities including those, which are not commercial, industrial or business in nature.