Basic Accounting Principles for Analyzing the Financial Position of a Business
Accounting Principles are general rules and concepts that govern the field of accounting. These principles are used to analyze the financial position and operating results of a business. There are four key accounting principles along with four basic accounting assumptions and four basic accounting constraints on the basis of which businesses record and report their financial earnings and losses for the accounting period. These accounting principles are issued by the Financial Accounting Standards Board, in conjunction with other government entities.
Accountants abide by the set standards to ensure appropriate accounting activity, understandability and comparability of the accounting data for different businesses.
Given below are the four basic accounting principles:
- The Cost Principle: Businesses need to record and report assets based on the actual cost incurred to acquire them and not the free-market value of the acquired assets themselves. This is a reliable reporting method that reduces the opportunity for factors such as biased market values to interfere with the accounting. However, this method is at times considered irrelevant, as it relates to the actual value of assets.
- The Accrual Principle: As per the accrual principle, businesses record and report revenue at the time it is earned and realized by the business and not when the cash for the revenue is received by the business. The purpose of this principle is to illustrate what work has been completed.
- The Matching Principle: This principle is suitable for real time analysis of the expenses and revenues. This principle shows how well the business has done financially and also shows how effective the business was.
The business accounts prepared on the basis of these principles are generally accepted by all accountants throughout the world.
- The Disclosure Principle: The accounting records of a business are disclosed to judge the financial status of a business. The key idea of disclosure of accounting and financial information is not to accrue unreasonable expenses or cause erroneous opinions for the business.