ASSIGNMENT

Subject: Financial Accounting

Under Guidance of Mr. Subhash Dalvi

Submitted by R G Rohit Roll no: 44

ACCOUNTING STANDARDS

Introduction Accounting Standards are the defined accounting policies issued by Government or expert institute. These standards are issued to bring harmonization in follow up of accounting policies. The term standard denotes a discipline, which provides both guidelines and yardsticks for evaluation. As guidelines, accounting standard provides uniform practices and common techniques of accounting. As a general rule, accounting standards are applicable to all corporate enterprises. They are made operative from a date specified in the standard. The Institute of Chartered Accountant of India (ICAI) constituted the Accounting Standards Board (ASB) in April, 1977 for developing accounting standards. However, the International Accounting Standards Committee (IASC) was set up in 1973, with its headquarter in London (U.K.). The Accounting Standards Board is entrusted with the responsibility of formulating standards on significant accounting matters keeping in view the international developments, and legal requirements in India. The main function of the ASB is to identify areas in which uniformity in standards is required and to develop draft standards after discussions with representatives of the Government, public sector undertaking, industries and other agencies. In the initial years the standards are of recommendatory in nature. Once an awareness is created about the benefits and relevance of accounting standards, steps are taken to make the accounting standards mandatory for all companies.

Objectives The basic objective of Accounting Standards is to remove variations in the treatment of several accounting aspects and to bring about standardization in presentation. They intent to harmonize the diverse accounting policies followed in the preparation and presentation of financial statements by different reporting enterprises so as to facilitate intra-firm and interfirm comparison.

Accounting Standards : who issues The Institute of Chartered Accountants of India (ICAI) recognizing the need to harmonize the diverse accounting policies and practices at present in use in India constituted Accounting Standards Board (ASB) on April 21, 1977. The main role of ASB is to formulate Accounting Standards from time to time.

Procedure for Issuing Accounting Standards

 Accounting Standard Board (ASB) determines the broad areas in which Accounting Standards need to be formulated. In the preparation of AS, ASB is assisted by Study Groups. ASB also holds discussions with representative of Government, Public Sector Undertakings, Industry and other organizations (ICSI/ICWAI) for ascertaining their views. An exposure draft of the proposed standard is prepared and issued for comments by members of ICAI and the public at large. After taking into consideration the comments received, the draft of the proposed standard will be finalized by ASB and submitted to the council of the Institute. The council of the Institute will consider the final draft of the proposed Standard and If found necessary, modify the same in consultation with ASB. The AS on the relevant subject will then be issued under the authority of the council.

Till date, the IASC has brought out 40 accounting standards. However, the ICAI has so far issued 32 accounting standards. These are : AS-1 Disclosure of accounting policies (January 1979). This standard deals with the disclosure of significant accounting policies in the financial statements. AS-2 Valuation of Inventories (June 1981). This standard deals with the principles of valuing inventories for the financial statements. AS-3 (Revised) Cash flow statement (June 1981, Revised in March 1997). This standard deals with the financial statement which summaries for a given period the sources and applications of an enterprise. AS-4 Contingencies and events occurring after the Balance Sheet date (November 1982, Revised in April, 1995) This standard deals with the treatment of contingencies and events occurring after the balance sheet date. AS-5 Net profit or loss for the period, prior period (period before the date of balance sheet) items and changes in accounting policies (November 1982, Revised in February 1997). This standard deals with the treatment in financial statement of prior period and extraordinary items and changes in accounting policies. AS-6 Depreciation Accounting (November 1982). This standard applies to all depreciable assets. But this standard does not apply to assets in the category of forests, plantations and similar natural resources and wasting assets. AS-7 Accounting for construction contracts (December 1983, revised in April 2003). This standard deals with accounting for construction contracts in the financial statements of contractors. AS-8 Accounting for Research and Development (January 1985). This standard deals with the treatment of costs of research and development in financial statements. AS-9 Revenue Recognition (November 1985). This standard deals with the bases for recognition of revenue in the statement of profit and loss of an enterprise.

AS-10 Accounting for fixed assets (November 1991). This standard deals with recognition of fixed assets grouped into various categories, such as land, building, plant and machinery, vehicles, furniture and gifts, goodwill, patents, trading and designs. AS-11 Accounting for the effects of change in foreign exchange Rates. (August 1991 and Revised in 1993). This standard deals with the issues relating to accounting for effect of change in foreign exchange rates. AS-12 Accounting for Government grants (April 1994). This standard deals with the accounting for government grants. AS-13 Accounting for investments (September 1994). This standard deals with accounting aspect concerning investments in the financial statements. These include classification, determination of cost for initial recognition, disposal and re-classification of investment. AS-14 Accounting for amalgamation (October 1994). This standard deals with accounting treatment of any resultant goodwill or reserves in amalgamation of companies. AS-15 Accounting for retirement Benefits in the financial statements of employers (January 1995). This standard deals with accounting for retirement benefits in the financial statements of employers. AS-16 Borrowing Costs (April 2000). This standard deals with the uses involved relating to capitalization of interest on borrowing for purchase of fixed assets. AS-17 Segment reporting (October 2000). This standard applies to companies which have an annual turnover of Rs 50 crores or more. These companies have to present financial statements and consolidated financial statements. AS-18 Related party disclosures (October 2000 revised 1st July 2003). This standard requires certain disclosure which must be made for transactions between the enterprise and related parties. AS-19 Leases (January 2001). This standard deals with the accounting treatment of transactions related to lease agreements. AS-20 Earning per share (April 2001). This standard deals with the presentation and computation of earning per share (EPS). AS-21 Consolidated financial statements (April 2001). This standard deals with the preparation of consolidated financial statements with an intention to provide information about the activities of a group. AS-22 Accounting for taxes on Income (April 2001). This standard deals with determination of the account of tax expenses for the related revenue. AS-23 Accounting for investments in Associates in consolidated financial statements (July 2001). This standard deals with the principles and procedures to be followed for recognising, in the consolidated financial statement. AS-24 Discontinued operations (February 2002). This standard deals with the principles of discontinuing operations of an enterprise with the activities which are continuing.

AS-25 Interim financial reporting (February 2002). This standard deals with the minimum content of interim financial report. AS-26 Intangible Assets (February 2002). This standard prescribed the accounting treatment for intangible assets which are not covered by any other specific accounting standard. AS-27 Financial reporting of interest for joint venture (February 2002). This standard sets principles and procedure for accounting for interest in joint venture. AS-28 Impairment of Assets (2004). This standard prescribed procedure to ensure that an asset is carried at no more than its carrying amount and procedures as to when to recognise an asset as impaired. AS-29 Provision for contingent liabilities and contingent assets (2004). This standard deals with measurement and recognition criteria in three areas, namely provisions, contingent liabilities and contingent assets. AS-30 Financial Instruments: Recognition and Measurement AS-31 Financial Instruments: Presentation Accounting Standard AS-32 Financial Instruments: Disclosures, and limited revision to Accounting Standard

ACCOUNTING STANDARDS - 01 DISCLOSURE OF ACCOUNTING POLICY Accounting policies are the specific accounting principles and the methods of applying those principles adopted by an enterprise in the preparation and presentation of financial statements. All significant accounting policies should be disclosed. Such disclosure form part of financial statements. All disclosures should be made at one place. Specific disclosure for the adoption of fundamental accounting assumptions is not required. Disclosure of accounting policies cannot remedy a wrong or inappropriate treatment of the item in the accounts.

Any change in accounting policies which has a material effect in the current period or which is reasonably expected to have 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, the fact should be indicated. Fundamental Accounting Assumption: (GCA): 1] Going Concern 2] Consistency 3] Accrual

Major considerations governing the selection of accounting policies: 1] Prudence 2] Substance over form (Logic over Law) 3] Materiality

The following are examples of the areas in which different accounting policies may be adopted by different enterprises: Methods of depreciation Methods of translation of foreign currency Valuation of inventories Valuation of investments Treatment of retirement benefits Treatment of contingent liabilities etc.

ACCOUNTING STANDARDS - 02 VALUATION OF INVENTORY Inventories are assets: held for sale in ordinary course of business; in the process of production fro such sale (WIP); in the form of materials or supplies to be consumed in the production process or in the rendering of services. However, this standard does not apply to the valuation of following inventories: (a) WIP arising under construction contract (b) WIP arising in the ordinary course of business of service providers; (c) Shares, debentures and other financial instruments held as stock in trade; and (d) Producers inventories of livestock, agricultural and forest products, and mineral oils, ores and gases to the extent that they are measured at net realizable value in accordance with well established practices in those industries. Inventories should be valued at the lower of cost and net realizable value. The cost of inventories should comprise a) All costs of purchase b) Costs of conversion c) Other costs incurred in bringing the inventories to their present location and condition. The costs of purchase consist of a) The purchase price b) Duties and taxes (other than those subsequently recoverable by the enterprise from the taxing authorities like CENVAT credit) c) Freight inwards and other expenditure directly attributable to the acquisition. Trade discounts (but not cash discounts), rebates, duty drawbacks and other similar items are deducted in determining the costs of purchase. The costs of conversion include direct costs and systematic allocation of fixed and variable production overhead. Allocation of fixed overheads is based on the normal capacity of the production facilities. Normal capacity is the production, expected to be achieved on an average over a number of periods or seasons under normal circumstances, taking into account the loss of capacity resulting from planned maintenance. Under Recovery: Unallocated overheads are recognized as an expense in the period in which they are incurred. Example: Normal capacity = 20000 units Production = 18000 units Sales = 16000 units Closing Stock = 2000 units

Fixed Overheads = Rs. 60000/Then, Recovery rate = Rs60000/20000 = Rs 3 per unit Fixed Overheads will be bifurcated into three parts: Cost of Sales : 16000 x 3 = 48000 Closing Stock : 2000 x 3 = 6000 Under Recovery : Rs. 6000 (to be charged to P/L) (Apparently it seems that fixed cost element in closing stock should be 60000/18000*2000 =Rs 6666.67. but this is wrong as per AS-2) Over Recovery: In period of high production, the amount of fixed production overheads is allocated to each unit of production is decreased so that inventories. Example: Normal capacity = 20000 units Production = 25000 units Sales = 23000 units Closing Stock = 2000 units Fixed Overheads = Rs 60000/Than, Recovery Rate = Rs 60000/20000 = Rs 3 per unit But, Revised Recovery Rate = Rs 60000/25000 = Rs. 2.40 per unit Cost of Sales : 23000 x 2.4 = Rs. 55200 Closing Stock : 2000 x 2.4 = Rs. 4800 Joint or by products: In case of joint or by products, the costs incurred up to the stage of split off should be allocated on a rational and consistent basis. The basis of allocation may be sale value at split off point or sale value at the completion of production. In case of the by products of negligible value or wastes, valuation may be taken at net realizable value. The cost of main product is then joint cost minus net realizable value of by product or waste. The other costs are also included in the cost of inventory to the extent they contribute in bringing the inventory to its present location and condition. Interest and other borrowing costs are usually not included in cost of inventory. However, AS-16 recommends the areas where borrowing costs are taken as cost of inventory. Certain costs are strictly not taken as cost of inventory. (a) Abnormal amounts of wasted materials, labour, or other production costs; (b) Storage costs, unless those costs are necessary in the production process prior to a further production stage; (c) Administrative overheads that do not contribute to bringing the inventories to their present location and condition; and (d) Selling and Distribution costs.

Cost Formula: Specific identification method for determining cost of inventories Specific identification method means directly linking the cost with specific item of inventories. This method has application in following conditions: In case of purchase of item specifically segregated for specific project and is not ordinarily interchangeable. In case of goods of services produced and segregated for specific project. Where Specific Identification method is not applicable The cost of inventories is valued by the following methods; FIFO ( First In First Out) Method Weighted Average Cost Cost of inventories in certain conditions: The following methods may be used for convenience if the results approximate actual cost. Standard Cost: It takes into account normal level of consumption of material and supplies, labour, efficiency and capacity utilization. It must be regularly reviewed taking into consideration the current condition. Retail Method: Normally applicable for retail trade. Cost of inventory is determined by reducing the gross margin from the sale value of inventory. Net Realisable Value: NRV means the estimated selling price in ordinary course of business, at the time of valuation, less estimated cost of completion and estimated cost necessary to make the sale. Comparison between net realizable value and cost of inventory The comparison between cost and net realizable value should be made on item-by-item basis. (In some cases, group of items-by-group of item basis) For Example: Cost 100 100 200 NRV 90 115 205 Inventory Value as per AS-2 90 100 200 190

Item A Item B Total

Raw Material Valuation If the finished goods, to which raw material is applied, is sold at profit, RAW MATERIAL is valued at cost irrespective of its NRV level being lower to its costs.

ACCOUNTING STANDARDS - 03 CASH FLOW STATEMENT Definitions: Cash comprises cash on hand and cash at bank. (Demand Deposits with bank) Cash Equivalents are Short Term Highly Liquid Investments (Maturity around 3 months) Subject to insignificant risk of changes in value. Cash Flows are inflows and outflows of cash and cash equivalents. Cash Flow Statement represents the cash flows during the specified period by operating, investing and financing activities. Operating Activities are the principal revenue-producing activities of the enterprise and other activities that are not investing activities and financing activities. Example: 1] Cash receipts from sales of goods/services 2] Cash receipts from royalties, fees and other revenue items 3] Cash payments for salaries, wages and rent 4] Cash payment to suppliers for goods 5] Cash payments or refunds of Income Tax unless they can be specifically identified with financing or investing activities 6] Cash receipts and payments to future contracts, forward contracts when the contracts are held for trading purposes. Cash from operating activities can be disclosed either by DIRECT METHOD OR BY INDIRECT METHOD. Investing Activities are the acquisition and disposal of long-term assets and other investments not included in cash equivalents. Example: 1] Cash payments/receipts to acquire/sale of fixed assets including intangible assets 2] Cash payments to acquire shares or interest in joint ventures (other than the cases where instruments are considered as cash equivalents) 3] Cash advances and loans made to third parties (Loan sanctioned by a financial enterprise is operating activity) 4] Dividends and Interest received 5] Cash flows from acquisitions and disposal of subsidiaries Financing Activities are activities that result in changes in the size and composition of the owners capital (including preference share capital in the case of a company) and borrowing of the enterprise. Example: 1] Cash proceeds from issue of shares and debentures 2] Buy back of shares

3] Redemption of Preference shares or debentures 4] Cash repayments of amount borrowed. 5] Dividend and Interest paid An enterprise should report separately major classes of gross cash receipts and gross cash payments arising from investing and financing activities. However, cash flows from following activities may be reported on a net basis. Cash receipts and payments on behalf of customers For example: Cash collected on behalf of, and paid over to, the owners of properties. Cash flows from items in which turnover is quick, the amounts are large and the maturities are short. For example: Purchase and sale of investments For Financial Enterprise: Cash receipts and payments for the acceptance and repayment of deposits with a fixed maturity date. For Financial Enterprise: Deposits placed/withdrawn from other financial enterprises For Financial Enterprise: Cash advances and loans made to customers and the repayment of those advances and loans. Foreign Currency Cash Flows: Cash flows arising in foreign currency should be recorded in enterprise reporting currency applying the exchange conversion rate existing on the date of cash flow. The effect of changes in exchange rates of cash and cash equivalents held in foreign currency should be reported as separate part of the reconciliation of the changes in cash and cash equivalents during the period. Extraordinary Items: These items should be separately shown under respective heads of cash from operating, investing and financing activities. Investing and financing transactions that do not require the use of cash and cash equivalents should be excluded from a cash flow statement. For Example: A] The conversion of debt to equity B] Acquisition of an enterprise by means of issue of shares Other Disclosure: Components of cash and cash equivalents. Reconciliation of closing cash and cash equivalents with items of balance sheet. The amount of significant cash and cash equivalent balances held by the enterprise, which are not available for use by it.

ACCOUNTING STANDARDS - 04 CONTINGENCIES AND EVENTS OCCURRING AFTER THE BALANCE SHEET DATE Contingency : A contingency is a condition or situation, the ultimate outcome of which, gain or loss, will be known or determined only on the occurrence, or non-occurrence, of one or more uncertain future events. Accounting Treatment: If it is likely that a contingency will result in LOSS: It is prudent to provide for that loss in the financial statements. PROFIT: Not recognized as revenue (However, when the realization of a gain is virtually certain, then such gain is not a contingency and accounting for the gain is appropriate.) The estimates of the outcome and of the financial effect of contingencies are determined a) by the judgment of the management by review of events occurring after the balance sheet date. b) by experience of the enterprise in similar transaction c) by reviewing reports from independent experts. If estimation cannot be made, disclosure is made of the existence and nature of the contingency.Provisions for contingencies are not made in respect of general or unspecified risks. The existence and amount of guarantees and obligations arising from discounted bills of exchange are generally disclosed by way of note even though the possibility of loss is remote. The amount of a contingent loss should be provided for by a charge in the statement of profit and loss if: it is probable that future events will confirm that, after taking into account any related probable recovery, an asset has been impaired or a liability has been incurred as at the balance sheet date, and a reasonable estimate of the amount of the resulting loss can be made. If either of aforesaid two conditions is not met, e.g. where a reasonable estimate of the loss is not practicable, the existence of the contingency should be disclosed by way of note unless the possibility of loss is remote. Such disclosure should provide following information: a) The nature of the contingency; b) The uncertainties which may affect the future outcome; c) An estimate of the financial effect or a statement that such an estimate cannot be made. Events Occurring after the Balance Sheet Date: Events occurring after the balance sheet date are those significant events, both favourable and unfavourable, that occur between the balance sheet date and the date on which the financial statements are approved by the Board of Directors in case of a company, and, by the corresponding approving authority in the case of any other entity.

Two types of events can be identified: Adjusting Event: Those, which provide further evidence of conditions that, existed at the balance sheet date Actual adjustments in financial statements are required for adjusting event. Exceptions: 1] Although, not adjusting event, Proposed dividend are adjusted in books of account. 2] Adjustments are required for the events, which occur after balance sheet date that indicates that fundamental accounting assumption of going concern is no longer, appropriate. Non-Adjusting Events: Those, hitch are indicative of conditions that arose subsequent to the balance sheet date. No adjustments are required to be made for such events. But, disclosures should be made in the report of the approving authority of those events occurring after the balance sheet date that represent material changes and commitments affecting the financial position of the enterprise. Such disclosure should provide following information: The nature of the events An estimate of the financial effect, or a statement that such an estimate cannot be made.