Accounting policies

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Cambridge IGCSE Accounting 0452

Accounting Policies

The big idea: Accounting policies are the methods a business chooses, such as how it depreciates assets or values inventory. International accounting standards narrow the choice, and every choice is judged against four objectives: comparable, relevant, reliable and understandable.

Summary — What This Chapter Covers

Accounting policies are the specific methods a business adopts to prepare its financial statements.
International accounting standards set rules for measurement and presentation, so statements from different businesses and countries are prepared in a similar way.
Four objectives guide the choice: comparability, relevance, reliability, understandability.

1. The Influence of International Accounting Standards

Syllabus 7.2 · Paper 1 & 2

Common rules, common language

International accounting standards (International Financial Reporting Standards and the older International Accounting Standards, issued by the International Accounting Standards Board) set out how items should be measured and presented. For example, IAS 2 Inventories requires inventory at the lower of cost and net realisable value, and IAS 16 Property, Plant and Equipment requires non-current assets to be depreciated over their useful lives. Standards:

reduce the choice of methods, so statements are easier to compare between businesses and countries;
give users confidence that the statements are prepared to an agreed standard;
create a common vocabulary — the reason this syllabus uses international terms.

International term (used now)	Older term
Financial statements	Final accounts
Irrecoverable debts	Bad debts
Duality	Dual aspect
Historic cost	Historical cost
Business entity	Accounting entity
Disposal of non-current assets	Sale of non-current assets

Practice Question 1

State two benefits to users of financial statements of businesses following international accounting standards.

2. The Four Objectives

Syllabus 7.2 · Paper 1 & 2

Judging an accounting policy

Objective	Meaning	Example
Comparability	Users can compare the statements with those of earlier years and of other businesses.	Using the same depreciation method every year (consistency) and the same layout.
Relevance	The information can influence users’ decisions and is provided in time to be useful.	Producing statements soon after the year end; showing figures a bank needs to decide on a loan.
Reliability	The information is free from material error and bias, and can be checked (faithful representation).	Figures supported by invoices and bank statements; prudent estimates.
Understandability	Users with reasonable knowledge can understand the statements.	Clear headings, standard terms, items grouped and totalled.

Practice Question 2

A trader presents the bank with statements prepared eleven months after the year end, with no headings and with inventory valued at selling price. Identify which objectives are not met, explaining each.

3. Changing a Policy

Syllabus 7.2 · Paper 1 & 2

Why comparability matters

Memorise

Policy

The method chosen: depreciation, inventory valuation, layout.

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Accounting policies