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Sample on Fundamentals of Accounting Concepts and System

8857 Downloads I Published: 21 Apr ,2017

Introduction To Accounting Concepts

Accounting is an integral part of any form of business activity. The purpose of maintenance of books of account in business is to keep a systematic record of transactions that have taken place within the commercial enterprise. Proper books of account shall be maintained with respect to sales, purchases, assets, liabilities, incomes and expenses. The primary responsibility of the maintenance of books of accounts rests with the managing directors or finance managers of an entity or any other authorized person by the directing authority in his behalf. Any default in the maintenance of books of accounts may associate with it's legal consequences both for an entity as well as for the person who is entrusted with the responsibility for its maintenance. Therefore, it is the prime duty of responsible authorities to ensure the proper preparation and maintenance of books of accounts.

Purpose and use of different accounting records

Accounting records are maintained to facilitate the provisioning of complete and systematic records of all transactions that are taking place within business. These records are prepared in respect of purchase, sales, receipts, expenses, assets and liabilities of the business as well as it includes journals, ledgers, trial balance, income statement and balance sheets. All these statements serve different purposes both for the business as well as for the different stakeholders who have diversified interests in business. A brief insight of these accounting records and the purpose they serve has been given in the underneath paragraphs:

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Journal vouchers- They are the initial documents from which recording of the transactions takes place. These documents are maintained in a chronological order with the recording of each and every transaction that is taking place from time to time in the routine course of business operations. These records are maintained on double entry basis with one item which is representing debit and the other item which shows credit thereby maintaining proper balance between them (Alexander and Archer, 2000). They are the source documents from which the different items are carried to their respective ledger accounts in order to ascertain the underlying balance of each of these accounts.

Ledgers- Once the transaction are entered in the journal voucher, the next step is the posting of transactions in their respective ledgers to ascertain the underlying balance of each of these accounts. It helps the business to keep record of their outstanding balances as well as income and expenses that have been incurred during the relevant period. This serves as the means to control performance of an entity which is taking into account the past experience and accordingly plans the future activities.

Trial balance- It is a record of all credit and debit items within business and is prepared immediately before the preparation of income statement and balance sheet. It's basic advantage is that it helps in identifying any discrepancies between credit and debit balances along with providing a means to undertake an in depth investigation to ascertain the root causes and incorporating the rectifications in the books of accounts. Any difference in the credit and debit balances or vice versa is entered with the Suspense account in deficient side of the trial balance.

Income statement- Once the trial balance is prepared, the next step is transferring its respective items in the relevant statement that is being income statement or the balance sheet depending upon the nature of each of those items. Each item of accrued or expense are transferred in the income statement (Alexander and Archer, 2000). Such income statement reflects the operating profitability of company and gives an insight of operating profitability of an entity and evaluates the return with respect to various performance indicators.

Balance Sheet- Those items of trial balance which do not find place in income statement are transferred to balance sheet. Balance Sheet is a financial statement which reflects financial position of the company as on a particular point of time which in mostly the reporting date.

Cash flow statements- They give an insight of cash inflows and outflows that have taken place within the relevant period. It helps the business to ascertain its trends and design appropriate measures through which it can manage its effective cash flows.

Importance and meaning of fundamental accounting concepts

Fundamental accounting concepts comprises within its ambit business entity concept, accrual system of accounting and going concern assumption. Each of these concepts are crucial for the preparation and presentation of books of accounts in order to provide their users with the fair and relevant information. The purpose of incorporating fundamental accounting concepts within the routine course of business operations is to ensure that the users are not mislead by the information that is contained within the books of accounts and financial statements. A brief description of these accounting concepts has been given as follows:

Business entity concept- This concept means that the information presented in the financial statement refers only to that of business and shall not be in respect of the owners of business. This is because the commercial enterprise is treated as separate from the owners (Lambert, Leuz and Verrecchia, 2007). The purpose of this accounting concept is to prevent the conflicts of interests between business entity and its owners as well as to assure standard pay on part of business.

Accrual system of accounting- Books of accounts shall be maintained on accrual system of accounting to reflect the fair and accurate position of an entity. It portrays the correct picture of books of account reflecting the rightful amounts that pertains to the relevant accounting periods (Paulsson, 2006). This system of accounting pays no regard to the timing of receipts and payments of cash.

Going concern assumption- Every commercial entity undertakes the business operations with the primary intention of sustaining its operations in the long run. The books of account are therefore prepared by keeping in mind the going concern assumption except where circumstances warrant to curtail the assumption of going concern. In case the entity ceases to follow the going concern assumption, it shall disclose the reason for not following the same in its books of accounts (Hronsky and et al., 2001) and shall record every items at their realizable value.

Prudence: Prudence is a principle that has to be strictly followed while recording any business transaction. In order to restrain from reporting any anticipated gains, companies are required to provide for all known loses that will be occurred on account of business transactions already entered into. Finance managers must strive to provide for all expenses as and when they are accrued during the given period nevertheless the payment is yet to be made. Contingent loses must be disclosed in the notes forming part of financial statements even and a reasonable estimate must be made so that shareholders and other stakeholders are conscious of future liability.

Materiality: Materiality concept must be followed for recording and presenting transactions in financial statement. It is a subjective matter and hence depends on case to case. An expense of 10000 may not be material for the company incurring millions of turnover against companies having turnover in thousands. An item can be said to be material if it is likely to have an impact on the decision making of users.

Historical Cost: Accounting standards prescribes different accounting treatment for different types of transactions. As far as fixed assets of the company are concerned, they must be recorded at the historical cost or at the cost at which they were acquired and based on such cost depreciation is accumulated and charged. However, in order to prepare the financial statements at real figures which is generally the fair value, it is usual accounting practice to conduct revaluation of fixed assets at periodic intervals and create a revaluation reserve to record any upward or downward revaluation in carrying amount of fixed assets.

Also all the business transactions must be initially recorded at the historical cost or say at the cost of date of transaction.

Factors which influences the nature and structure of accounting system

Nature and structure of accounting systems depend upon the nature and scale of operations in which they are implemented. Further, the legal framework governing organization affects the nature of accounting system to be adopted to a significant extent (Adams, 2002). Some of the important factors that influences the selection of accounting system are discussed as follows:

Size of the enterprise- Size of an enterprise is a crucial factor that is governing the accounting system to be used by accountign assignment helpan entity (Wicks, 2009). For instance, in small and medium sized enterprises, they can think of maintaining the books of account on cash or accrual basis by keeping in mind their scale of their operations. Whereas, in case of large sized enterprises, it is preferable for them to maintain their records on accrual basis to reflect their correct position.

Complexities in the nature of business- It is a significant factor which governs the selection of the nature of accounting system to be governed by the business.

Legal framework- The legal framework which is governing an entity also influences the selection of accounting system to a significant extent. For instance, in case of companies, legal framework requires the compulsory preparation of books of accounts, income statement, balance sheet and cash flow statements etc., whereas in case of other entities, there is no such specific requirements (Bianca, 2007). Accordingly, it can be said that the entities other than companies shall maintain the books of accounts which enables them to keep a record of their business transactions.

Level of training required for staff: Accounting has been made easy these days, with the use of ERP and other software like oracle, SAP. However these software helps in addressing high information needs and reporting requirements of business leaders and finance managers, but their optimum utilization cannot be made unless a qualified and skilled staff is available. Such software require from the users to possess extreme accounting knowledge apart from having technical staffs to carry out the operations.

Service provider differentiator: In order to align the IT strategy with the enterprise strategy, it is required on the part of managers to assess the current business environment and required IT services and capabilities. Service provider differentiator must be made financial impact and potential benefits and costs of using IT services must be considered.

Different components of business risk

Every entity operating within an industry is surrounded by business as well as operating risks. While operating risks arise as a result of operations undertaken by a business entity, business risks arise a result of operating in particular industry. It could therefore be said that business entities are in position to sort out measures in order to mitigate the business risks but no means can be designed by business premises in order to encounter the business risks (Vose, 2008). Entities are exposed to innumerable business risks which can pose threat to the both the reputation and the survival of an entity within an industry. Components of business risk within the business of TESCO are highlighted as follows:

Slow economic growth- Slow economic growth reduces the purchasing power of the people which ultimately have an affect on the performance of the company in terms of deteriorating sales (Vose, 2008). This altogether hampers the overall performance of the company thereby casting threat on the survival of the business.

Risk of competitors- Absence of strict regulations governing the entries of new competitors in the market poses a significant risk on the survival and the sustainability of business. This may be because of the attractive pricing strategies adopted by the new entrants in order to capture the wider market share in the very beginning stages of their entry into market.

Litigations- Due to the multiple components within its value chain, TESCO have responsibility of maintaining effective and cordial relationships with each of its business partners if it has to ensure its survival in the industry in the long run. Any non observance of ethics within the conduct of its business may attract severe legal as well as ethical which may ultimately have adverse impact on the goodwill earned by the company over the years.

Risk of people: Failure to recruit, retain , train and motivate the best people with right abilities at all levels could limit group's ability to succeed.

Technology risk: Trade operations may be affected if significant failure in the IT processes of company' s retail operations and conduct of online business.

Political and regulatory requirements: If appropriate compliance with governing laws and regulations are not made, then smooth running of business cannot be ensured and government might intervene the conduct of business.

Treasury: If the cash and debt management is not ensured, financial crisis cannot be prevented. Company is even exposed to high frequency of foreign exchange fluctuations.

Analysing control system in place of business

Design and implementation of proper control system is an essence to assure the correctness, completeness and accuracy of operations within the business. The purpose is to provide reasonable assurance to the users of business information that they are not being misguided or misled by any sort of information contained in the relevant financial statements and the books of accounts. In case of TESCO, appropriate procedures and controls have been put in place to mitigate the fraud and compliance risks. Segregation of duties has been effectively done to ensure that the right kind of personnels have been entrusted with the right kind of jobs (Chapman and Kihn, 2009). Group Accounting policies have been led to assist each of the group companies in the preparation and the presentation of the financial statements (Ritchie and Brindley, 2007). Proper training has been provided to the employees on the code of conduct within the business, UK Bribery Act and the whistle blowing service practised within TESCO to ensure the fair and legal conduct of the employees. Internal Audit team undertakes a risk based programme with detailed investigations in each area of business and report its finding to the management and the Audit committee. External audit team keeps on rotating their areas of coverage in order to keep a track on diversified areas of business. A comprehensive compliance programme has been in place in order to secure compliance with UK Groceries Supply code of Practice.

Dual controls must be placed to process any particular business transactions. Such mechanism will ensure that if the fraud at initial stage remains undetected, it will be detected at the end point of terminal. Usually materials purchases are processed by stores department and finance department. Materials received are verified against purchase orders and the payment for the same is checked by finance department against quotations and peforma invoice.

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Risks of fraud and suggestions

Fraud refer the deliberate acts committed or omitted or committed with the intention of deceiving others. These acts could either creep into the financial statements or may affect the business externally without casting any impact on the financial statements. In case of TESCO company, the major risk of fraud arises from the that of suppliers' activities and the involvement of management or handful of persons who do not observe ethical behaviour in conduct of their operations. In fact, TESCO had recently underwent a major accounting scandal in terms of recognition of excess revenue (Hallikas and et al., 2004). The underlying facts of such misstatement had remained recognition of rebate incomes that were to received from the suppliers in the future periods and which were recognized as revenues in the respective accounting period under consideration and the said fraud was committed by a small group of employees. The effective ways through which TESCO can detect the risk of fraud within the business premises comprise of use of data mining techniques (Kirkos, Spathis and Manolopoulos, 2007), implementation of effective internal accounting system within the organization to ensure that each transaction being entered in the books of accounts are being properly authorized.

Dummy employees: Payroll fraud prevails in almost all the organization. Such fraud occurs by showing dummy employees in the payroll records. When the dummies are successfully creates all employment related benefits attached with such employee is incorporated in a secret account in name of that employee. Such fraud generally occurs when a particular employee is to be recruited by specific authority without any intervention of other authorities like HR department, operational managers.

Altering payroll data: Payroll data can be manipulated by the accounts managers who are charged with processing of the payroll data. Salary of a particular employee may be manipulated and might be shared between fraudulent persons.

Conclusion

The above discussion gives an insight of the accounting systems and the fundamental accounting concepts that are used by the business entity in the preparation of their accounting statements. Further, various factors have been highlighted that impacts the selection of accounting system within the business entity. In addition to this, business risks faced by TESCO and various controls being put in place by the said company has been explained which helps in understanding the the type of control prevailing within an entity.

References

  • Adams, C. A., 2002. Internal organisational factors influencing corporate social and ethical reporting: Beyond current theorising. Accounting, Auditing & Accountability Journal.
  • Alexander, D. and Archer, S., 2000. On the myth of “Anglo-Saxon” financial accounting. The International Journal of Accounting.
  • Chapman, C. S. and Kihn, L. A., 2009. Information system integration, enabling control and performance. Accounting, organizations and society.
  • Kirkos, E., Spathis, C. and Manolopoulos, Y., 2007. Data mining techniques for the detection of fraudulent financial statements. Expert Systems with Applications.
  • Paulsson, G., 2006. Accrual accounting in the public sector: experiences from the central government in Sweden. Financial Accountability & Management.
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