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4. Analysis of the countable principles

Chapter 4

ANALYSIS OF THE COUNTABLE PRINCIPLES

 

by: josavere

 

People who are involved in finance and other users of the financial statements work with companies of all types and interact with all the economic sectors. The best way to choose between several alternatives is the comparison on a homogeneous basis, which is obtained as all the accountants, and therefore the states that they prepare are ruled by the same accounting principles and accounting norms.

In order to inquire about a financial matter one requires a general knowledge of the accounting principles and its effects to be able to interpret the information correctly. The most important principles are:

 

1. ECONOMIC BODY

 

The company constitutes a different body from the individuals considered partners. The body concept is different from the "person" concept. The same person can produce financial statements of several individuals or economic bodies. 

This principle defines the accounting unit and emphasizes the distinction between the firm and the owners. For that reason, it is needed to register the operations to the company and its owners, as equal as with others. The body must be defined in a way in which it can be distinguished from others and able to have exclusive accounting. For practical cases a certificate of constitution and management is required. Due to this principle, the presentation of a consolidated balance becomes recommendable, especially for economic groups. 

2. CONTINUITY

It is assumed that a company has undefined life, except for an express indication on the contrary. Normally, the permanence are expected and not its liquidation.
According to this principle, the value of liquidation does not constitute a criterion for valuation of the assets, with the exception of a special case in which it is indicated that the economic entity will not continue working normally due to capital deficiency, accumulated losses, strikes and governmental restrictions, etc.
The generation of monetary founds gains importance, according to which the value of a company or its assets is calculated by its capacity to generate cash flow. As a consequence of this, it is accepted that the merchandise in the process may have some value (depending on a suitable criterion of valuation) even though in a specific stage of production its real value can be zero.
On the other hand, due to this philosophical base the accumulation of expenses that will appear in the future to maintain the company in an increasing process.
The projection of cash flow constituted at a fundamental accounting statement, replaces the balance ship as bases on the real estimation of the value of an organization, because through it, the risk of falling into technical insolvency can be calculated. One demands explanatory notes in case of negative tendencies, financial difficulties, and other internal or external causes. 

3. OBJECTIVITY

The accounting transactions and the financial statements must have plenty of endorsement in reality supported by facts and documents. For that, by any possible means, verifiable proof must exist objectively. It is possible to be replaced by the criterion of the accountant and the director's body. According to Gredy, the reliability of the accounting data is obtained by means of suitable measures of internal control.
With a little analysis it can be concluded that the accounting measurements have variable degrees of objectivity that depend on the ones that are being moderate and the capacity of those who are doing. Later on, when we analyze the accounting caution, we can see how these principles, in a certain way, are somehow contradictory therefore a good criterion of those users of financial statements is demanded. 

4. CONSISTENCY OR CONTINUITY

The accounting practices must be applied constantly through time. The application of alternative practices that can give enormously divergent results is avoided. As in accounting we have several procedures for the same aim (valuation of inventories, calculation of depreciation, recognition of rent, etc.), the selection of a method that better adapts to each particular case, and its application year after year is required.

 

By its application the management manipulation of the results alternatively
using different accounting practices is avoided, as could be, for example, the estimate of inventories by FIFO (first units in entering, first in leaving) in a period and the following one changing to LIFO (last in entering, first in leaving); this in order to improve the level of profit of the last period.

 

Of course, in respect to the consistency does not mean that the methods of the accounting, once adopted, can never be changed. If sometimes a change is considered advisable more towards another suitable procedure, it is possible, as long as it is complemented with an explanatory note to the financial statements.

 

5. CAUTIOUSNESS

A profit must be recognized only at the moment of its accomplishment; the loss must be entered with the single expectation, in order to balance a little the not well-based optimism. Another way to interpret it consists of sub valuing the net profits and the accounting capital instead of overvalue them in case of doubt. The principle, in a certain way, is oriented to protect the bankers, the investors, and the creditors.
Sometimes an exaggerated application can take away the reality of the information that the financial statements provide, this situation would cause the violation of the objectivity previously commented.

According to Moonitz, the conservative is not more than a warning in order to act in a cautious way considering all the pertinent factors. In practice, the preserving doctrine has become the most used tool by the businessman to undervalue the profits and to exaggerate the losses.
With the unrestricted acceptance of this principle, businessmen have found useful resources to reduce profit. The damaged field is the state treasurer because its accounting has been oriented fundamentally with a tributary criterion. Another damaged, without a doubt, is the small shareholder who does not have access to the information.

With a batter analysis, the stock market is clearly explained as the best practice procedure to buy a company, used among other indicators the Q of Tobin
(the value of a share in the market/the intrinsic value). 

6. UNIT OF MEASUREMENT 

The value of the balance sheet cuts must be expressed in monetary units.
The common practice consists of choosing the currency of each country as an instrument to reduce a series of heterogeneous components (machinery, buildings, lands, etc.), to an expression that allows us to group them and to compare them easily. This principle makes the accounting nowadays questionable. Since the structure of the accounting discipline began, until some years ago, the accountants assumed that the value of the currency was constant, which is not certain nowadays neither in the United States nor in the European countries and even less in the rest of the world. 

7. PERIOD

The economic body must prepare and spread periodic financial statements; the cuts, previously defined in consideration to the cycle of the operations. It must be made a minimum, once a year. 

                                                   8. PRACTICAL CHARACTERISTICS OF EACH ACTIVITY 

The accounting model of each economic body is prepared considering the limitations that in reasonable form impose the customs of each activity, for reasons of social development, economic, technological, geographic, etc. 

                                                 9. ACCOMPLISHMENT: it forces to recognize the economic facts made solely; in other words, that it can be verified what have or will have a benefit or a quantifiable commitment. 

10. ASSOCIATION

It indicates that the income of an accounting period must be associated, with the costs and expenses incurred to generate them and to register those incomes simultaneously in the accounts of results. 

11. TOTAL REVELATION

It a brief way, the current information due to the financial situation is needed, the experienced changes and their capacity to generate cash flow in the future. This indicates that in addition to the basic financial statements, the information of managers is an integral part of the information as well as the fiscal auditors and the notes of the sheets. 

12. ESSENCE ON FORM
The economic facts must not merely be informed according to their essence and legal form. 

13. VALUATION OR MEASUREMENT

All the headings of the financial statements must be expressed in monetary terms with subjection to technical norms (updated historical value, present value or of replacement, value of accomplishment or market, discounted present value). 

14. MAINTENANCE OF THE EQUITY
It is understood that first of all, the economic body must maintain or recover its equity properly updated to reflect the effect of inflation.

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