AA015 - CHAPTER 2

BASIC ACCOUNTING CONCEPTS AA015
CHAPTER 2

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CHAPTER 2

2.1 GENERALLY ACCEPTED ACCOUNTING PRINCIPLES

This is an ongoing process, the accounting principles can change
to reflect changes in the business environment and demands of the
users.
The different opinions between the accountants can be solved by
referring this recognized set of standards is called Generally
Accepted Accounting Principles (GAAP)
It covers convention, concept, regulations, procedure and the
guidelines standards.
The report must be recorded in the financial statements and it must
be completed and easy to understand in order to make a
comparison.
GAAP’s objective is to make information in the financial statements
relevant to the users, reliable for the users, and comparable in
differentiating entities.

2.2 ACCOUNTING CONCEPTS

(1) The Historical Cost
(2) The Monetary Measurement
(3) The Economic Entity
(4) The Going Concern
(5) The Consistency
(6) The Accounting Period
(7) Materiality
(8) Revenue Recognition
(9) Expenses Recognition
(10) Full Disclosure
(11) Objectivity
(12) Fair Value Measurement

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(1) The Historical Cost

The acquired assets and services should be recorded at their

actual cost.

The cost is a reliable measure and can be approved and should

continue reporting the historical cost of an asset over its useful life.

Example:
▪ The company purchases a car from supplier with a cost price
RM20,000 at 21 August 2014. The market value increases
up to RM25,000 on the next day. What is the cost should
be recorded by the company? Why?

Conclusion:
▪ The value that should be recorded is RM20,000 because
cost is a reliable measure.

(2) The Monetary Measurement

Money is the common denominator in business. Expressing

transactions and events in monetary units is crucial to the use of

financial statements for business communications.

Accounting generally assumes a stable monetary unit. Example of

monetary units are the dollar in the United States.

Example:
▪ A transaction occurred in the organization but the value
cannot be determined.

Conclusion:
▪ The transaction must be recorded in the monetary unit
concept and the value must not change with the inflation
situation.

(3) The Economic Entity
The activities of the entity be kept separate and distinct from the
activities of the owner and of all other economic entities such as
the owner of the entity, supplier and customer.

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The entity needs to be evaluated separately and the transaction

of different entities should not be accounted for together.

Example:

▪ The company purchases a car for his wife by using money
from the business’ operations. He had recorded the
purchases as a business’ assets. Besides that, all the
expenses such as fuel oil was recorded as business
expenses.

Conclusion:
▪ The company does not follow the Separate Entity Concept.
The purchase should be recorded as drawing because the
transaction was the personal transaction.

(4) The Going Concern

The enterprise will continue in operation long enough to carry out

its existing objectives. It means that the entity will remain in

operation for the foreseeable future.

Most firm resources such as supplies, land, buildings and

equipment are acquired to use rather than to sell.

Example:
▪ The company purchases a car with a cost of RM20,000 with
the estimated useful life for 10 years. The market value for
that car is RM25,000. It is suggested that the car should be
depreciated for 5 years because the business is expected to
make a clearance in a short period.

Conclusion:
▪ The suggestion is rejected because it is contra with the Going
Concern Concept. The vehicle should be recorded as the
value of RM20,000 and must be depreciated for 10 years
because the trade must be assumed to operate for the period
that cannot be expected.

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(5) The Consistency

Consistency means that a company uses the same accounting

principles and methods from year to year.

When financial information has been reported on a consistent

basis, the financial statements permit meaningful analysis of

trends within a company.

Example:
▪ The company uses straight line method in depreciating the
fixed asset of the company. The company decides to change
to declining balances method.

Conclusion:
▪ It does not follow the rules of the consistency because the
method should be used from year to year. Any changes
should be disclosed in the notes to the financial statements.

(6) The Accounting Period

Time period covered by financial statements is known as

accounting period.

Time period assumption means business activities can be divided

into specific period such as a month, a quarter and a year in order

to enables comparison of business performance over time.

Example:
▪ The company has established at 1 January 2013. The trade
closes the business account every 12 months at 31
December every year. Explain the concept involved.

Conclusion:
▪ That is normal condition when the trade follow the Accounting
period where the financial statements will be held every 12
months.

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(7) Materiality

Materiality relates to an item’s impact on a firm’s overall financial

condition and operations.

An item is material when it is likely to influence the decision of a

reasonably prudent investor or creditor.

To determine the materiality of an amount, the accountant usually

compares it with such items as total assets, total liabilities and net

income.

Example:
▪ A company purchases a calculator at cost RM20 and it will
depreciate for 5 years over its useful life. Give your opinion.

Conclusion:
▪ Although the proper accounting would depreciate the
calculator over its useful life, but this cost are considered
immaterial. It will not make a material difference on total
assets and net income.

(8) Revenue Recognition

Revenue is recognized in the period they are earned.

When the merchandise has arrived to the buyer or when services

are rendered even cash receivable

Criteria:

✔There is a change of ownership/title.
✔Buyers are willing to pay.
✔The stability of the currency.
✔Buyers are able to pay.
Example:

▪ Azmal is an entrepreneur pottery. He has received 100
reservations porcelain vase on January 1, 2018 and has
received a payment of RM1,000. The booking was sent on
January 15, 2018. When the sales above should be
recognized? Give your opinion.

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Solution:
▪ En. Azmal need to recognize sales revenue of RM1,000 on
15 January 2018 because of a change of ownership at that
date.

(9) Expense Recognition
Expenses are recorded in the accounting period in which it has
been involved for a business revenue.
Expenses are recognized when they are incurred even if payment
has not been made.
The goal - to find out the actual amount of revenue and
expenditure for a financial period.
Example:
▪ Pn. Tina has recorded expenses of RM2,000 for the utility in
December 2019, although payment will only be made in
January 2020.
Explanation:
▪ Pn. Tina agreed to the concept of expense recognition as an
expense of the current period and should be recorded in the
current accounting period.

(10) Full Disclosure
The company should report the sufficient information (ie:
relevant, reliable, comparable) so that external parties can make
a reasonable decision.
Example:
▪ Farida businesses have made changes in stock valuation
method used. The company did not disclose the information
in the financial statements for the accounting period.

Explanation:
▪ The situation does not comply with the concept of full
disclosure where a change is made it should be reported in

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the notes to the accounts. The aim is to inform the user of
changes in the financial statements.

(11) Objectivity

All accounting data must be evidence of valid and reliable to

support transactions occur.

The goal - to prevent accountants in giving subjective and

inaccurate opinion.

Example:
▪ KZB basic business is only issued a receipt for cash
transactions, but for the return of goods sales transactions no
source document is issued. Give your opinion.

Solution:
▪ The Company does not comply with the concept of objectivity
for the return of goods sales transaction for all transactions
that occurred needs to be confirmed with the release of the
source document. In addition to the evidence it can also
facilitate the recording.

(12) Fair Value Measurement
The International Accounting Standards Board’s (IASB) definition
of fair value is the price that would be received to sell an asset or
paid to transfer a liability in an orderly transaction between market
participants at the measurement date.
Basically it is an exit price. Consequently, fair value is focused on
the assumptions about risk. This means that fair value is
measured using the same characteristics of the assets or liability.
Such conditions would include the condition and location of the
assets and any restrictions on its sale or use.
The company should report all information that affects users of
financial statements so they can make reasonable decisions. Any

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additional information can be presented in the notes to the

accounts.

Example:

▪ In 2017, Humaira Hijab Sdn.Bhd. have made investments in
Hasan Ltd. By purchasing shares worth RM10,000. In 2019,
the value of this investments fall of the original cost to the
current market value of RM3,000. This devaluation is not
reported in the financial statements 2019. Give your opinion.

Conclusion:
▪ Fair Value Measurement will show that investment in the
financial statements as RM3,000.

2.3 ACCOUNTING EQUATION

ASSETS = LIABILITIES + OWNER’S EQUITY

ASSETS = LIABILITIES + (CAPITAL + REVENUE - EXPENSES -
DRAWING)

(1)Assets
Wealth / resources owned by the business.
Assets are divided into two:

(i) Non-current Assets
Assets that have a life of more than one year.
Divided into three:

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i. Tangible/fixed assets - can be seen physically.
Example: buildings, vehicles, equipment

ii. Intangible assets – cannot be physically.
Example: - Trademarks, patents, copyrights

iii. Long-term investments - fixed deposits for more than a year,
the purchase of bonds.

(ii)Current Assets
Exist in one accounting period and can be converted into cash
within a year.
Constantly of changing form and value.
Example: - Inventory, Accounts Receivable, Cash, Bank and
so on.

(2)Liability
Debt / businesses obligation to be paid by business entity to
another party.
Liabilities divided into 2 types:

(i) Non-current liabilities (> 1 year)
Debt to be settled within a period exceeding one year.
Example: - Long-term loans, mortgage

(ii)Current liabilities (< 1 year)
Debt due in less than a year.
Example: - Accounts payable, expense payables, unearned
revenue.

(3)Owner’s Equity
Owner’s claims on the business. They include:

(i) Capital invested by the owner into the business.
(ii)The net profit result of the business activities.

The element involved in owner’s equity:

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(i) Capital
Consists of assets in the business by the owners.
It will add the owner's equity.

(ii)Drawings
Owner issuing asset (cash or merchandise) for its own use.
The effect will be to reduce the value of owners' equity.

(iii)Profit/Income
Expenditure
The effect will reduce the owner's equity.
Income
The effect will add value to the owner's equity.

(4)Revenues
All income from the sale of goods or the provision of services
based on the concept of revenue recognition.
2 types of revenue:

(i) Revenue of Business
Example: - Sales, service revenue

(ii)Revenue of Non Business
Example: - Interest income, rental income, gains on sales of
fixed assets

(5)Expenses
Expenses use up assets or create liabilities in the course of
operating a business. Expenses decrease equity.
2 type of expenses:

(i) Operating expenses
Example: Utilities, sales commissions, delivery expense

(ii)Non-operating expenses
Example: Property taxes on the administrative office building

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ANALYSIS OF TRANSACTION

The accounting equation shows how assets, liabilities, and owner’s equity
are related. Assets appear on the left side of the equation, and the liabilities
and owner’s equity appear on the right side.

Example 1
Owner start a new business with cash RM1,000.

Asset = Liability = Owner Equity
(RM)
(RM) (RM)

Example 2
Owner withdraws RM100 cash from the business for his own use.

Asset = Liability = Owner Equity
(RM)
(RM) (RM)

Example 3
Received RM3,000 cash from Maybank for a business loan.

Asset = Liability = Owner Equity
(RM)
(RM) (RM)

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Example 4
The business pays loan RM100 with cash. Owner Equity
(RM)
Asset = Liability =
(RM) (RM)

Example 5
Business performs a service on credit RM2,000 for YY Agency.

Asset = Liability = Owner Equity
(RM)
(RM) (RM)

Example 6
Business pays RM290 for utilities expenses.

Asset = Liability = Owner Equity
(RM) (RM) (RM)

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Do It Yourself

Date Transactions

Sept Sonic invest RM50,000 cash to start a photography business.
1

3 Sonic purchase a photo processing machine costing RM1,000
cash.

5 Sonic withdraw RM10,000 cash for personal use.

6 Sonic borrow RM20,000 cash from Digi Bank.

25 Sonic pay off RM5,000 of the bank loan.

26 Sonic provide professional photography service for a wedding.
Receive RM2,000 cash and another RM1,000 will be received
within 14 days.

28 Sonic pay RM500 cash for his employee’s salary. RM300 cash for
utilities and RM200 cash for shop rental.

Transaction Analysis

Date Assets = Liabilities + Owner’s
Equity

Cas + Acc. + Equipment Loan Capital

h Receivable

1

3

5

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6
25
26
28

2.4 DOUBLE-ENTRY SYSTEM
Accounting uses the double-entry system, which means that we
record the dual effects of each transaction. As a result, every
transaction affects at least two accounts. It would be incomplete
to record only the giving side, or only the receiving side, of a
transaction.

DEBIT = The left side of the
account

CREDIT = The right side of the account

(Dr.) Title of (Cr.)
Account

Date Explanation RM Date Explanation RM

Rules of Debit and Credit

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Account Record Dr./Cr. Normal
Increase Debit Balance
Asset
Expenses Decrease Credit Debit
Drawings Increase Credit
Credit
Liability Decrease Debit
Equity
Revenue

EXERCISES

Question 1
What is meant by generally accepted accounting principles? What is the purpose of this
principle held?

Question 2
Specify whether accounting principles or concepts involved and give your comments on
the following situations given: -

a) TDE Company bought a piece of land in the past five years at a price of
RM200,000. The current market price for the land has increased to RM300,000.
TDE Company wants to report the value of the land at the market price of
RM300,000 in the current year financial statements.

b) Perniagaan Jadi reported that the computers at their house as an asset in his
business even the computer is being used for personal use only.

c) BZ Enterprise buy a trash worth RM25 and is expected to be used for 10 years.
Purchase of trash is reported as an expense in the financial statements.

d) EXP Property Agency, had been providing services on credit to customers
totaling RM1,000. This was recorded as a result of service in that month even if
cash will be accepted only on a few months later.

e) Syarikat SNA Berhad does not explain the change in depreciation calculation
method used in the 'notes to the accounts' in the current year financial
statements.

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f) In December, Syarikat Cempaka has agreed to carry out an advertising

campaign of goods through a network of leading television to be made

throughout the year. The company's accounting period is the normal calendar

year (1/1 - 31/12). The television network company asked for full payment of

RM600,000 in December at the beginning of the advertising campaign to be

launched. Syarikat Cempaka recorded the transaction as follows:

Advertising expenses = increased to RM600,000

Cash = reduced RM600,000

g) At the end of the first year of business, Mr Meor deeply regrets on December

31st, 2019 that he had used the straight-line method in determining the

depreciation of computers but have chosen to use the declining balance method

for the second year.

h) Vehicles in the balance sheet had been recorded at fair value where the value is

less than the RM70,000 of cost value.

Question 3

Identify the following items whether it is either assets, liabilities, revenue, expense or

equity such as the following example:-

Asset / Liabilities/

No. Account Name Income / Expenses /

Equity

1. Accounts Receivable Asset

No. Account Name Asset / Liabilities/
Income / Expenses /
1. Accounts Payable Equity
2. Bank Loans
3. Equipment
4. Capital
5. Salary expenses
6. Accrued Expenses Salaries/Payable
7. Cash
8. Bank
9. Unearned Revenue
10. Bank Interest Revenue
11. Utilities expenses / Fees
12. Insurance Expenses

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13. Prepaid Insurance
14. Notes Payable
15. Notes Receivable
16. Service Revenue
17. Cash Drawings
18. Advertising expenses
19. Accrued advertising
20. Unearned Revenue / Previous revenue
21. Land
22. Commission
23. Supplies
24. Supplies expenses
25. Stationery expenses
26. Commission receivables
27. Rental income
28. Unearned rental income / previous
29. Interest expenses
30. Interest payable
31. Bad debts expenses
32. Depreciation expenses
33. Buildings
34. Prepaid rent / previous
35. Equipment
36. Vehicles

Question 4

Show the impact of the increase and decrease (-) for the transactions below:

No Transactions Asset Liabilitie Owners
. s ’ Equity

1. Owners bring in cash of RM10,000 into the

business.

2. Open a business account at Maybank with

cash of RM4,000.

3. Provide services to the customer named

Mr. Ali worth RM950 and he promise to pay

in the next month.

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4. A debtor settled his debt of RM150 with
cheque.

5. The owner of the business of withdraw
RM150 cash for personal use.

6. Salary expenses of RM1,000 paid to an
employee.

7. Utility bills have been received amounting
RM500 and will only be paid next month.

8. A customer has paid to RM500 to the
business for services that will be provided
in next month.

9. Bought furniture for business premises
worth RM7,000 in credit.

10. Produce billing services of RM1,500 to the
customer for services rendered.

11. Make a loan from Bank Rakyat amounting
RM20,000.

Question 5

Based on question 4, set up doubles entries based on format below:

Number Details Debit(RM) Credit (RM)
10,000
1. Cash 10,000

Capital

Question 6
The following are transactions for Perniagaan Murisah (PM) for the month of April 2020.

April 3 Puan Murisah added capital of RM50,000 in cash.
8 Cash received of RM2,000 from the debtor.

10 Purchase the equipment of RM10,000 in cash.
13 Paid RM4,000 to supplier.
15 Provide services of RM6,000 on credit.
20 Pay electricity bills and water bills of RM1,040.
23 Pay services of RM12,000 in cash.
25 Pay wages of RM1,700.
27 Puan Murisah take cash of RM200 for her own use.
30 Receive payment for services rendered on April 15th.

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REQUIRED:
+ Capital
Analyse the above transactions using the following format:
+ RM
Date Cash Accounts Equipmen = Accounts 50,000

(+/-) Receivable t (+/-) Payable

(+/-) (+/-)

April. + RM50,000

3

Question 7
(i) The following is Perniagaan Manis (PM) business transaction for the month of

September 2020.

Sept. Puan Manisah top-up the capital in cash of RM25,000.
3
8 Received RM1,000 cash from the debtor.

10 Purchased of equipment RM5,000 in cash.
13 Paid RM2,000 to the supplier.
15 Provided services of RM3,000 for credit.
20 Paid RM520 for electricity and water bills.
23 Provided services of RM6,000 in cash.
25 Paid wages of RM850.
27 Puan Manisah took RM100 cash for her own personal use.
30 Received payment for services rendered on September 15.

REQUIRED:

Analyse the above transactions using the following format:

Date Cash Accounts Equipmen = Accounts + Capital
(+/-)
(+/-) Receivable t Payable
+ RM
(+/-) (+/-) (+/-) 25,000

Sept. +

3 RM25,000

(ii) Perniagaan Krubong (PK) has been involved with the following situations:
a) In order to ensure that the consumers get relevant information, PK reports their
building at market value in the financial statements.
b) PK accounting records only take into account transactions data that can be
expressed in monetary values.

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c) Encik Wan Halim, the owner of PK recorded his personal expenses as part of
operating expenses of PK.

REQUIRED:

State and justify whether the accounting concepts had been used correctly or incorrectly
by Perniagaan Krubong (PK) for each of the above situations.

Question 8

(i) For each of the following cases, you are required to identify the accounting concepts
involved and explain why you agree or disagree with the action taken.
a) A deposit paid by the customer for the booking of goods in the next accounting
period have been recognized as revenue for the current period even though
the the goods have not yet been sent. This is to increase the sales and
profitability of the company.
b) The business owner and his family travelling expenses to Europe has been
entered as the expenditure for a business trip.

(ii) The followings are the transactions that occurred during the month of November
2020 for Perniagaan Nurain business in Subang.

Date Transactions
Nov. 1 Buy RM3,400 cash for equipment.
5 Settling RM2,200 of accounts payable.
14 Cash Sales RM2,800 and RM2,250 credit sales.
30 Pay the employee's monthly salary of RM3,200.

REQUIRED:
Analyse of the above transactions based on the accounting equation by using the
following format.

Date Cash Accounts Equipment = Accounts + Capital
Nov. 1 (+/-) Receivable (+/-) Payable

(+/-) (+/-)

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Question 9

You are required to identify the proper accounting concepts involved and need to be
complied with for each of the following situations.
(1) Perniagaan Ruzitas (PR) has been using the straight-line depreciation method for

recording depreciation expense and accumulated depreciation. In 2020, PR
accountant has converted the straight line method to the declining balance method
without disclosing it in the financial statements.
(2) Perniagaan Tabaya have bought a piece of land at the invoice price of RM50,000
and the market value is RM55,000. The company is not sure on the amount that
should be recorded.
(3) Puan Rohaidas believed that the inventory valuation method of Last in and First Out
(LIFO) can be changed to First in and First Out (FIFO) method at any time.
(4) Perniagaan Lamanda believed depreciation expense for property, furniture and
office equipment should not be recorded in the book of business.
(5) Jai Enterprise vehicle maintenance expenses in July 2020 was RM7,000. This
amount includes RM800 car maintenance expenses of the business owners.

Question 10

On August 1, 2020, Soleha formed a service business. The followings are the

transactions occurred in August 2020:

Date Transactions

August 1 Started the business with a capital of RM10,000.

2 Purchased office supplies on credit RM1,150.

4 Received RM4,500 cash for services performed.

10 Paid RM675 to creditors.

15 Sent RM3,250 bills to customers for services performed.

18 Paid RM680 for vehicles rented.

25 Office supplies used RM935.

27 Cash withdrawals of RM1,000.

29 Paid RM2,500 for August office rent.

REQUIRED:
Show the effects of the transactions in August 2020 on the Accounting equation using the
following table:

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ASSET = LIABILITIES + OWNERS EQUITY
Cash Office
Date Accounts = Accounts Capital Revenues
supplies Receivabl
August e Payable @
1 10,000
Expenditur

e

10,000

Question 11

Date Transactions
January Started the business with a capital of RM30,000.

1 Bought RM18,000 laundry equipment on credit from Syarikat Peralatan
3 Maju Sdn. Bhd.
Bought supply for RM6,000 in cash.
4 Send invoices amounting RM2,550 to Mutiara Resort as a laundry service
10 that has been done.
Send invoices RM1,000 to Perniagaan Hassan for carpet cleaning service.
12 Paying half of the debt incurred in the acquisition of equipment on January
13 3rd, 2020.
Received a cheque from Mutiara Resort for invoices that have been sent
19 on January 10th, 2020.
Withdraw RM1,000 for family use.
23 Paid RM800 for stores rental in January 2020.
25 Paid RM350 for store utility expenses.
28 Taking RM30 soap for their own personal use.
29

REQUIRED:
Show the effects of transactions for the month of January 2020 on the accounting
equation based on the following schedule:

ASSETS = LIABILITIES + OWNERS EQUITY

Date Cash / Bank Equip- Supply Accounts Creditors Capital Revenue/
+RM30,000 ment Receiva- Expendi-
Jan. +RM30,00
1 ble 0 ture

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Question 12

Complete the gaps in the following table:

ASSETS EXPENSES LIABILITIES CAPITAL REVENUE
S
1 67 500 85 700 50 500 53 700
2 7 000 8 000 21 000 70 000
3 112 000 85 000 171 000 25 800
4 7 900 3 200 2 750 4 200
5 32 500 6 600 7 200 5 700

Questions 13

For each of the following transactions, REQUIRED:

a) Show the effect of the transactions on assets, owner’s equity, liabilities, revenues

and expenses.

b) State the accounts to be debited and credited.

Transactions Effect of transaction Account to be

(Increase/Decrease) (Debited/Credited

)

1 Cash purchase RM 100

2 En Kassim started business with

cash RM 10 000 , premises

RM 25 000 and loan RM 15 000

3 Bought computer worth RM

2,500 by cheque

4 Paid salary of RM 1,500 by cash

Question 14
Recognize the effect of changes in the assets, liabilities and owner’s equity for each of
the following transactions:
Example: Bringing RM5,000 cash as additional capital.
Answer: Assets (+), Owner’s Equity (+)
(i) Making loans of RM1,000 from Bank Mutiara.

(ii) Pay RM550 cash for the office rent.

(iii) Withdraw RM200 cash for own use.

(iv) Buy office equipment worth RM400

(v) Received services revenue of RM150 in cash.

(vi) Received a cheque of RM500 from the debtor.

(vii) Pay advertising expenses RM250 by cash.

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