Accounting Principles and Practices Chapter 5-8 PDF

5 Accounting Principles and Practices Learning Outcomes...............................................................................................................146 Why this Topic is Important..................................................................................................146 Introduction...........................................................................................................................147 5.1 The Purpose and Function of Accounting...............................................................147 5.1.1 Financial Accounting............................................................................................................................ 148 5.1.2 Management Accounting................................................................................................................... 150 5.1.3 Comparison Between Financial Accounting and Management Accounting................... 151 5.2 Users of Financial Information.................................................................................153 5.2.1 Internal Stakeholders........................................................................................................................... 154 5.2.2 External Stakeholders........................................................................................................................... 154 5.3 Financial Statements................................................................................................155 5.4 Financial Position, Financial Performance, and Cash Flows..................................157 5.4.1 The Income Statement........................................................................................................................ 157 5.4.2 The Balance Sheet.................................................................................................................................. 157 5.4.3 The Cash Flow Statement................................................................................................................... 158 5.5 Basic Financial Concepts and the Accounting Equation........................................158 5.5.1 Going Concern........................................................................................................................................ 159 5.5.2 Accruals Basis of Accounting............................................................................................................. 159 5.5.3 Business Entity Concept..................................................................................................................... 160 5.5.4 Materiality Concept............................................................................................................................... 161 5.5.5 Relevance................................................................................................................................................. 162 5.5.6 Reliability.................................................................................................................................................. 162 5.5.7 Neutrality................................................................................................................................................. 163 5.5.8 Faithful Representation...................................................................................................................... 163 5.5.9 Substance Over Form.......................................................................................................................... 163 5.5.10 Prudence................................................................................................................................................... 164 5.5.11 Completeness......................................................................................................................................... 164 5.5.12 Single Economic Entity Concept..................................................................................................... 165 5.5.13 Matching Principle................................................................................................................................. 165 5.5.14 Dual Aspect Concept............................................................................................................................ 166 5.5.15 Comparability Concept........................................................................................................................ 166 144 Accounting Principles And Practices 5.6 The Accounting Equation.........................................................................................167 5.6.1 Transactions that Affect only Assets of the Entity..................................................................... 168 5.6.2 Transactions that Affect Assets and Liabilities of the Entity.................................................. 169 5.6.3 Transactions that Affect Assets and Equity of the Entity........................................................ 170 5.6.4 Transactions that Affect Liabilities and Equity of the Entity.................................................. 171 5.7 Accounting Transactions.........................................................................................172 5.8 Other Financial Reports and Analyses...................................................................173 5.9 Efficient Allocation of Resources.............................................................................173 5.10 Submission of Statutory Documents to SSM..........................................................173 5.10.1 Annual Return......................................................................................................................................... 174 5.10.2 Financial Statements and Reports................................................................................................... 174 5.11 Filing of Statutory Documents through MBRS System.........................................175 5.12 BNM Policy Document on Financial Reporting......................................................176 5.13 Minimum Disclosure Requirements........................................................................176 5.14 Receipts and Payments – Systems for Recording and Monitoring.......................177 5.15 The Construction of Statement of Financial Position............................................179 5.15.1 Assets........................................................................................................................................................ 180 5.15.2 Liabilities................................................................................................................................................... 180 5.15.3 Equity........................................................................................................................................................ 181 5.16 The Construction of Statement of Profit or Loss and other Comprehensive Income.......................................................................................................................183 5.16.1 Basis of Preparation.............................................................................................................................. 183 5.16.2 Components........................................................................................................................................... 183 5.16.3 Statement of Comprehensive Income........................................................................................... 186 5.17 Cash Flow Statements – Their Uses, Format, and Presentation............................187 5.17.1 Basis of Preparation.............................................................................................................................. 187 5.18 The Purpose of the Statutory Notes to the Financial Statements.........................189 Summary................................................................................................................................192 Bibliography..........................................................................................................................195 Review Questions..................................................................................................................196 145 Accounting Principles And Practices 5 CHAPTER Learning outcomes Learning Outcomes After completing this chapter, you should be able to: Explain the purpose and function of Financial Accounting. Differentiate between financial accounting and management accounting. Describe the nature and purpose of financial statements. Identify the wide range of users of financial information. Appreciate the issues of accountability and financial reporting. Describe the nature and functions of double-entry bookkeeping and financial accounting. Discuss the objectives and limitations of company annual accounts. Identify the users of annual reports and describe their information needs. List the legislation and other rules governing the contents of company annual reports. Why this Topic is Important This topic is important because the accounting principles and practices provide a framework for preparing financial statements. Accounting principles are the basic assumptions, rules of operation and essential characteristics that make up the framework for the construction of accounting financial statements. Financial statements provide an opportunity for the users of financial information such as business owners, investors, shareholders, and other businesses with accurate information about the company’s performance to make informed decisions. Accounting principles are necessary when preparing financial statements, just as the rules of a particular game make the game possible in the first place. Accounting principles are like the glue that holds the accounting process together. For the financial statements to be useful, the accounting information must have certain characteristics, such as being dependable, practical, consistent, and comparable. To be dependable, the accounting information must be unbiased, accurate, and verifiable. To be practical, accounting information must be predictable, prepared in a timely fashion, and be able to provide meaningful feedback. Financial statements must also follow certain operational rules as to when revenue and expenses are reported; how expenses are matched to revenue; what to do when a choice can be made that might overstate or understate figures; and what information should be disclosed so that the reader will fully understand the circumstances under which the information is being presented. There are also basic assumptions that the users of financial information can count on, such as: the information is related to the business entity only and doesn’t have any unrelated information mixed in; the business is a going concern and won’t cease operations soon; the financial information 146 Accounting Principles And Practices 5 Introduction CHAPTER presented is measured in specific time intervals such as a month, quarter or year; the financial information is using a certain unit of measure such as Ringgit, Dollars, etc.; the information is presented at historical cost, i.e., when received, paid, or incurred; and, the method of accounting being used is “double-entry” and not some other method. Accounting principles are important because they establish a consistency that allows for more accurate and efficient viewing of company statements and reports. It helps the users of financial statements make better financial decisions. With the adoption of MFRS/IFRS 17 for insurance contracts starting from January 2024, financial statements will now reflect a more consistent and transparent approach to measuring insurance contracts, enhancing comparability and reliability of financial information across entities and industries. This transition aims to provide a clearer picture of the financial health and performance of insurance companies, making it easier for stakeholders to make informed decisions. Introduction There are general rules and concepts that govern the field of accounting. These general rules, referred to as “basic accounting principles and guidelines,” form the groundwork on which more detailed, complicated, and legalistic accounting rules are based. The financial reporting framework in Malaysia is based on the rules, regulations, and standards set by the Malaysian Accounting Standards Board (MASB),51 Companies Act 2016, and Malaysian Institute of Accountants (MIA). The MASB was established under the Financial Reporting Act 1997 which defines “accounting standards” to mean statements of standard accounting practices used for the preparation of financial statements. As part of the ongoing efforts to align with international standards, Malaysia has transitioned to MFRS/IFRS 17 for insurance contracts. This new standard replaces the previous IFRS 4, providing a unified approach to accounting for insurance contracts. It requires companies to measure insurance contracts based on current estimates, incorporating the time value of money, risk adjustments, and contractual service margins. This change aims to improve the accuracy and comparability of financial statements, benefitting all stakeholders. 5.1 The Purpose and Function of Accounting ‘Accounting’ is a term that describes the process of consolidating financial information to make it clear and understandable for all stakeholders and shareholders. The main goal of accounting is to accurately record and report a company’s financial transactions, financial performance, and cash flows. 51 Preface to MASB Approved Accounting Standards: pdf.php (masb.org.my) 147 Accounting Principles And Practices 5 CHAPTER The purpose and function of accounting Accounting standards improve the reliability of financial statements. The financial statements include the income statement, the balance sheet, the cash flow statement, and the statement of retained earnings. The standardised reporting allows all stakeholders and shareholders to assess the performance of a business. Financial statements need to be transparent, reliable, and accurate. The importance of accounting: 1. Keeps a record of business transactions Accounting is important as it keeps a systematic record of the organisation’s financial information. Up-to-date records help users compare current financial information to historical data. With full, consistent, and accurate records, it enables users to assess the performance of a company over a period. 2. Facilitates decision-making for management Accounting is especially important for internal users of the organisation. Internal users may include the people that plan, organise, and run the organisation. The management team needs accounting in making important decisions. Business decisions may range from deciding to pursue geographical expansion to improving operational efficiency. 3. Communicates results Accounting helps to communicate company results to various users. Investors, lenders, and other creditors are the primary external users of accounting information. Investors may be deciding to buy shares in the company, while lenders need to analyse their risk in deciding to lend. It is important for companies to establish credibility with these external users through relevant and reliable accounting information. 4. Meets legal requirements Every company is required to prepare financial statements for not more than 18 months from the date of incorporation and submit the financial statements to the Companies Commission of Malaysia (SSM) and the Inland Revenue Board of Malaysia. Accounting can be classified into two categories: Financial Accounting and Management Accounting. 5.1.1 Financial Accounting Financial accounting describes a general business discipline which consists of a series of techniques and procedures that are used to identify, measure, record, and communicate information including financial information about an organisation to a range of people who may be interested in its financial performance and position. It involves the day to day recording of the company’s transactions and presenting this information in financial statements for external consumption for those outsiders who have an interest in the 148 Accounting Principles And Practices 5 The purpose and function of accounting CHAPTER company, such as stakeholders, shareholders, and regulators. It is highly structured around the accounting equation and must comply with legal and regulatory requirements. The information has to be prepared using a framework which enables stakeholders to compare the company’s performance from one year to the next and also against other companies in the sector. s ss cti sine Co ord Re llec & C nsa Bu c on t, M ont Tra cy of eas rol a cur ure Ac , Purpose Efficient Resource and Function Compliance Allocation of Financial with the Law Accounting lys ng Fin the O to na orti al A wn is p cco ers an ial Re un dA nc ts a Fin n Figure 5-1 Purpose and function of financial accounting These financial statements are generally prepared quarterly, half yearly, and annually, in accordance with Generally Accepted Accounting Principles. The Malaysian financial statements are prepared in accordance with the Malaysian Accounting Standards Board’s approved accounting standards and provisions of the Companies Act. This includes records of the following: The amount of cash and cheques received, for what, and from whom. The amount of cash and cheques paid, for what and to whom. Records of money received and paid are kept so that the enterprise knows how much money it has at any time. Assets, expenses, and goods purchased on credit – this is so that the enterprise knows to whom it owes money and how much(these are referred to as “creditors”). Assets and goods sold on credit –this is so that the enterprise knows who owes it money and how much(these are referred to as “debtors”). The accountant has been traditionally regarded as the keeper of financial records and information and being responsible for safeguarding the assets of the enterprise. The control aspect of this function includes ensuring that the correct amounts are paid to those entitled to them at the appropriate time, collecting the enterprise’s debts when due, safeguarding against fraud and misappropriation of assets such as goods or cash. The latter function is often referred to as “internal control.” 149 Accounting Principles And Practices 5 CHAPTER The purpose and function of accounting 5.1.2 Management Accounting Management accounting analyses the information gathered from financial accounting and prepares reports about business operations. These reports serve to assist the management team in making strategic and tactical business decisions. An example of management accounting is cost accounting which focuses on a detailed break-up of costs for effective cost control. It can be formulated in many ways to suit many purposes to enable an enterprise to achieve maximum efficiency by reviewing day to day transactional data captured for financial accounting information. Management accounting will also incorporate a variety of other different information sources to enable managers to make sound decisions and fulfil their responsibilities. Management accounting can also be defined as the process of preparing management reports and accounts that provide accurate and timely, financial, and statistical information required by managers to make day-to-day and short-term decisions. Management accounting focuses on providing information to internal managers of the organisation. Functions and objectives of management accounting include the following: Planning Decision-making Monitoring & Control Accountability Functions & Objectives of Management Accounting Accountability Monitoring & Control Decision Making Planning n Figure 5-2 Functions and objectives of management accounting Planning Planning is an important function of management accounting, which is most effectively performed by the preparation of budgets and forecasts. Forecasting is the process of estimation of the expected financial performance and position of a business in the future. Common types of forecasts include cash flow forecast, projected profit or loss, and balance sheet forecast. Forecasts assist in determining the likely change in the financial performance and position of a business when considered in the context of the various assumptions used in forming the projections. Forecasting is the starting point in determining the resource requirements of a business which are quantified into budgets. 150 Accounting Principles And Practices 5 The purpose and function of accounting CHAPTER Budgets quantify the financial targets to be achieved by the management of an organisation. Budgeting process often begins with the preparation of a master budget which is then used as a basis for the preparation of departmental and operational budgets. Budgeting helps in the effective allocation of resources of an organisation between competing needs (e.g., departments, products, etc.) to achieve the financial goals of a business. Budgets and forecasts help businesses to deal with potential problems proactively and avoid foreseeable bottlenecks in business resources. Decision-making Management accounting facilitates the provision of financial information to management for decision-making. Management accounting also involves the evaluation of alternative strategies and actions by the application of techniques and concepts such as relevant costing, cost-volume-profit analysis, limiting-factor analysis, investment appraisal techniques and client/product profitability analysis. Monitoring and Control The control process in management accounting system starts by defining standards against which performance may be measured, such as standard costs and budgets. Actual results are measured and any variances between targets and results are analysed and, where necessary, corrective actions are taken. Management accounting plays a vital role in the monitoring and control of costs, efficiency of the routine processes as well as one-off jobs, and projects undertaken by an organisation. Accountability Management accounting lays great emphasis on accountability through effective performance measurement. By setting targets for strategic business units and departments, management accounting assists in the assignment of responsibility for the achievement of business targets by individual managers. Responsibility accounting is achieved by appraising the performance of managers responsible for their business units while giving due consideration for factors not within their control or influence. 5.1.3 Comparison Between Financial Accounting and Management Accounting Financial Accounting Management Accounting External vs. internal A financial accounting system A management accounting system produces information that is used by produces information that is used by external parties to the organisation, internal parties to the organisations such as banks, shareholders and such as directors, managers and creditors. employees. Objectives The main objectives are to disclose The main objectives are to help the end results of the business management by providing for the period and to depict the information that can be used to plan, financial position of the business on evaluate, and control the business a particular date. effectively. 151 Accounting Principles And Practices 5 CHAPTER The purpose and function of accounting Financial Accounting Management Accounting Focus Financial accounting focuses on Management accounting focuses on history. the present and future. Planning and control Financial accounting helps in making Management accounting helps investment decisions and in credit management to record, plan, and rating. control activities to aid the decision- making process. Information Quantitative and monetary. Quantitative and qualitative; Monetary and non-monetary. Format Financial accounts are supposed No specific format is designed for to be in accordance with a specific management accounting systems. format, so that financial accounts of (Formal and informal recordkeeping) different companies can be easily compared. (Formal recordkeeping) Segment reporting Pertains to the entire organisation or May pertain to smaller business materially significant business units. units or individual departments, in addition to the entire organisation. Reporting frequency and Well-defined:quarterly, half-yearly, As needed: daily, weekly, monthly, duration yearly. yearly. Mandatory/Optional Publishing the annual report is There are no legal requirements to mandatory, especially for public prepare reports on management companies. accounting. Format MFRS prescribes the basis for Drafted according to management presentation of financial statements suitability and the needs of the and statutory reports. business. n Table 5-1 A comparison between Financial Accounting and Management Accounting Case Study Financial Accounting and Management Accounting ABC Company of Malaysia Berhad is facing some tough challenges in trading in the last 2 years. The revenue has declined from RM150,000 in 2013 to RM120,000 in 2014. The salary and wages cost has gone up from RM60,000 in 2013 to RM65,000 in 2014. The cost of goods sold has also increased from RM75,000 in 2013 to RM80,000 in 2014. Based on the information provided, what financial accounting and management accounting information would the finance team of the company put together? Discussion points The financial accounting team will prepare the profit & loss account for 2013 and 2014, giving historical facts for the management’s review. Based on the information provided above, the company has made a profit of RM15,000 in 2013 and a loss of RM25,000 in 2014. For 2013 salary and wages cost is 40% of the turnover of RM150,000 and the salary and wages cost increased to 54% on a reduced turnover of RM120,000. 152 Accounting Principles And Practices 5 Users of financial information CHAPTER The management accounting team will focus on the drivers of the business and review the reasons for the drop in turnover, the reasons for the increase in salary and wages cost, and the increase of the cost of goods sold when the turnover has dropped. The management accounting team will also find ways to manage the salary cost in line with the turnover, by potentially reducing the number of employees to manage the costs. The management accounting team will also work with the management to reduce the cost of goods sold, to be in line with the turnover. The main objectives of financial accounting are to disclose the end results of the business for the period and to depict the financial position of the business on a particular date, whereas the main objectives of management accounting are to help management by providing information that can be used to plan, evaluate, and control the business effectively. 5.2 Users of Financial Information A stakeholder who has a vested interest in a company can either affect or be affected by the operations and performance of a business. Typical stakeholders are investors, employees, customers, suppliers, communities, governments, or trade associations. Financial accounting information helps users to make better financial decisions. Users of financial information are both internal and external to the organisation. Share hol n ers de rs Ow Cre di rs Ex tors rnal Use te Main Users Employees rnal Users of Financial Information Inte Custo me rs nt e m Go ge ver ana M nme nt n Figure 5-3 Users of financial information 153 Accounting Principles And Practices 5 CHAPTER Users of financial information 5.2.1 Internal Stakeholders Owners: The owners of the business may be individuals, members, partners, or shareholders depending on the type of company. They need financial information to analyse the viability and profitability of their investment and determine the next course of action. Shareholders of public limited companies may wish to know the company’s financial performance and financial position to decide on whether to continue or increase their capital investment. Directors and Managers: For analysing the company’s performance and position, and taking appropriate measures to improve its results. Management use accounting and financial information to plan, evaluate, and effectively manage the business. Managers assess the company’s financial performance and position to make important business decisions based on this information. Employees: For assessing the company’s profitability and its consequence on their future remuneration and job security. Employees may also be interested in its financial position and performance to assess the possibility of company expansion and future career opportunities. The public: The public includes people who may be potential investors or shareholders in the organisation, pressure groups that may want to monitor aspects of the organisation’s activities, and people who might be considering applying to work for the organisation. Other members of the public may be interested in any plans that the reporting entity has that affect the environment, including issues relating to conservation and pollution. 5.2.2 External Stakeholders Shareholders and Equity Investors: Some in this category are independent advisors who need relevant information to advise potential shareholders to invest in the company. Rating agencies have analysts that assess insurance companies’ financial strength which is a measure of the company’s ability to meet their obligations to policyholders. Creditors and Lenders: For determining the creditworthiness of the organisation. Terms of credit are set by creditors according to the assessment of their customers’ financial health. Creditors include suppliers as well as lenders of finance such as banks. 154 Accounting Principles And Practices 5 Financial statements CHAPTER Customers: For assessing the financial position of its suppliers, which is necessary for them to maintain a stable source of supply in the long-term. Tax Authorities: Tax authorities will want to know that the organisation is paying the appropriate level of tax. Taxes are computed based on the results of operations and other tax bases. Regulatory Authorities: For financial institutions, Bank Negara Malaysia ensures that the company’s disclosure of accounting information is in accordance with the rules and regulations set to protect the interests of financial consumers. 5.3 Financial Statements Financial statements refer to a structured representation of historical financial information, including disclosures, intended to communicate an entity’s economic resources or obligations at a point in time, or the changes therein for a period, in accordance with a financial reporting framework. The term “financial statements” ordinarily refers to a complete set of financial statements as determined by the requirements of the applicable financial reporting framework, but can also refer to a single financial statement. Disclosures comprise explanatory or descriptive information, set out as required, expressly permitted, or otherwise allowed by the applicable financial reporting framework, on the face of a financial statement, or in the notes, or incorporated therein by cross- reference. Financial statements provide information about the financial position, financial performance and cash flows of an entity that is useful to a wide range of users in making economic decisions. They also show the results of the management’s stewardship of the resources entrusted to it. Financial statements provide information about an entity’s: (b) Assets; (c) Liabilities; (d) Equity; (e) Income and expenses, including gains and losses; (f) Contributions by and distributions to owners in their capacity as owners; and (g) Cash flows. 155 Accounting Principles And Practices 5 CHAPTER Financial statements A complete set of financial statements comprise the following: (a) A statement of financial position as at the end of the period; (b) A statement of profit or loss and other comprehensive income for the period; (c) A statement of changes in equity for the period; (d) A statement of cash flows for the period; (e) Notes, comprising significant accounting policies and other explanatory information including comparative information in respect of the preceding period; (f) A statement of financial position as at the beginning of the preceding period when an entity applies an accounting policy retrospectively or makes a retrospective restatement of items in its financial statements, or when it reclassifies items in its financial statements. Basic Definitions: Income Income is all the amounts of money earned by the organisation from any source including income generated from sales, known as revenue or turnover, rentals, interest payments, dividends and investments. Expenditure Expenditure is all the amounts of money incurred to pay for goods and services. Profit In accounting terms, profit is any excess of income over expenditure incurred in running the business that earns that income. Shareholders’ equity Shareholders’ equity is the stake shareholders have in the company. It is calculated as the total value of all the assets in the business less the total value of all the liabilities. Capital The capital of a trading company is the sum of the equity and long-term debt used to finance the business. Objectives of Financial Statements Stakeholders of a company rely heavily on financial statements to understand its functioning. They portray the true state of affairs of the company. The objectives of financial statements are as follows: Show an accurate state of a company’s economic assets and liabilities – external stakeholders like investors and authorities generally do not possess this information otherwise. 156 Accounting Principles And Practices 5 Financial position, financial performance, and cash flows CHAPTER Help in predicting the extent of a company’s capacity to earn profits – shareholders and investors can use this data to make their financial decisions. Depict the effectiveness of a company’s management – how well a company is performing depends on its profitability, which these statements show. Help readers of these statements know the accounting policies used in them – this helps in understanding statements more comprehensively. Provide information relating to the company’s cash flows – investors and creditors can use this data to predict the company’s liquidity and cash requirements. Explain the social impact of businesses – this is because it shows how the company’s external factors affect its functioning. 5.4 Financial Position, Financial Performance, and Cash Flows Companies produce three major financial statements that reflect their business activities and profitability for each accounting period. These statements are: income statement, balance sheet and cash flow statement. 5.4.1 The Income Statement The Income Statement is a statement of profit or loss and other comprehensive income for the period. It shows the results or financial performance of the company because of transactions during the accounting period and sets out the income, expenses, tax and the profit or loss. It comprises the following items: Sales/Revenue/Income Interest income receivable Cost of sales Administrative costs Finance charges 5.4.2 The Balance Sheet The Balance Sheet is a statement of financial position as at the end of the period. It provides a snapshot of what a company owns and owes, as well as the amount invested by shareholders. Balance sheets can be used with other important financial statements to conduct fundamental analysis or calculate financial ratios. It lists the company’s assets and liabilities, i.e., what is owned and what is owed. The balance sheet adheres to the following accounting equation, with assets on one side, and liabilities plus shareholder equity on the other, balance out: Assets = Liabilities + Shareholders’ Equity 157 Accounting Principles And Practices 5 CHAPTER Basic financial concepts and the accounting equation Components of the Balance Sheet are: The amount of cash deposits and money in the bank. Inventory refers to any goods available for sale, valued at the lower of the cost or market price. Fixed assets include land, machinery, equipment, buildings, and other capital-intensive assets. Debtors and creditors. The amount of capital that has been invested in the business by its owner(s). Loans and borrowings by the business. 5.4.3 The Cash Flow Statement The cash flow statement provides aggregate data regarding all cash inflows that a company receives from its ongoing operations and external investment sources. It also includes all cash outflows that pay for business activities and investments during a given period. The cash flow statement is believed to be the most intuitive of all the financial statements because it follows the cash made by the business in three main ways: through operations, investment, and financing. The sum of these three segments is called net cash flow. 5.5 Basic Financial Concepts and the Accounting Equation Accounting concepts and principles are a set of broad conventions that have been devised to provide a basic framework for financial reporting. As financial reporting involves significant professional judgements by accountants, these concepts and principles ensure that the users of financial information are not mislead by the adoption of accounting policies and practices that go against the spirit of the accountancy profession. Accountants must therefore actively consider whether the accounting treatments adopted are consistent with the accounting concepts and principles. To ensure application of the accounting concepts and principles, major accounting standard-setting bodies have incorporated them into their reporting frameworks. Major accounting concepts and principles: 1. Going concern 2. Accruals basis of accounting 3. Business entity 4. Materiality 5. Relevance 6. Reliability 7. Neutrality 158 Accounting Principles And Practices 5 Basic financial concepts and the accounting equation CHAPTER 8. Faithful representation 9. Substance over form 10. Prudence 11. Completeness 12. Single Economic Entity concept 13. Matching concept 14. Duality concept 15. Comparability concept 5.5.1 Going Concern The going concern principle, also known as “continuing concern” concept or “continuity assumption,” means that a business entity will continue to operate indefinitely, or at least for another twelve months. Going concern is one the fundamental assumptions in accounting based on which financial statements are prepared. Financial statements are prepared assuming that a business entity will continue to operate in the foreseeable future without the need or intention on the part of the management to liquidate the entity or to significantly curtail its operational activities. Therefore, it is assumed that the entity will realise its assets and settle its obligations in the normal course of the business. It is the responsibility of the management of a company to determine whether the going concern assumption is appropriate in the preparation of financial statements. If the going concern assumption is considered by the management to be invalid, the financial statements of the entity would need to be prepared on a “break-up basis”. This means that assets will be recognised at the amount that is expected to be realised from its sale (net of selling costs) rather than from its continuing use in the ordinary course of the business. Assets are valued for their individual worth rather than their value as a combined unit. Liabilities shall be recognised at amounts that are likely to be settled. The going concern assumption is the reason why assets are generally presented in the balance sheet at cost rather that at fair market value. Long-term assets are included in the books until they are fully utilised and retired. 5.5.2 Accruals Basis of Accounting Financial statements are prepared under the accruals concept of accounting which requires that income and expense must be recognised in the accounting periods to which they relate, rather than on cash basis. Under the accrual basis of accounting, income must be recorded in the accounting period in which it is earned. Therefore, accrued income must be recognised in the accounting period in which it arises rather than in the subsequent period in which it will be received. 159 Accounting Principles And Practices 5 CHAPTER Basic financial concepts and the accounting equation Conversely, prepaid income must be not be shown as income in the accounting period in which it is received but instead it must be presented as such in the subsequent accounting periods in which the services or obligations in respect of the prepaid income have been performed. Expenses, on the other hand, must be recorded in the accounting period in which they are incurred. Therefore, accrued expense must be recognised in the accounting period in which it occurs rather than in the following period in which it will be paid. Conversely, a prepaid expense must be not be shown as expense in the accounting period in which it is paid but instead it must be presented as such in the subsequent accounting periods in which the services in respect of the prepaid expense have been performed. The accruals basis of accounting ensures that expenses are matched with the revenue earned in an accounting period. The accruals concept is therefore very similar to the “matching principle”. An exception to this general rule is the cash flow statement whose main purpose is to present the cash flow effects of transactions during an accounting period. Example Accruals basis of accounting – Income XYZ Company rendered repair services to a client on December 10, 2013. The client paid after 30 days – January 9, 2014. The income should be recognised on December 10, 2013, as it is considered as earned when the services have been fully rendered, even if it has not yet been collected as of that date. Example Accruals basis of accounting – Expenses Suppose ABC Company received its electricity bill for March on April 5, 2013, and paid it on April 10. The electricity expense should be accrued and recorded in March, as the electricity expense was for the month of March even if the bill has been received and paid in April. In other words, the electricity was used/consumed in March. 5.5.3 Business Entity Concept Financial accounting is based on the premise that the transactions and balances of a business entity are to be accounted for separately from its owners. The business entity is therefore considered to be distinct from its owners for the purpose of accounting. Therefore, any personal expenses incurred by owners of a business will not appear in the income statement of the entity. Similarly, if any personal expenses of owners are paid out of assets of the entity, it would be “drawings” for the purpose of accounting, much in the same way as cash drawings. 160 Accounting Principles And Practices 5 Basic financial concepts and the accounting equation CHAPTER The business entity concept also explains why owners’ equity appears on the liability side of a balance sheet (i.e., credit side). Share capital contributed by a sole trader to his business, for instance, represents a form of liability (known as “equity”) of the business that is owed to its owner; which is why it is presented on the credit side of the balance sheet. Example Business entity concept If ABC Company buys a vehicle to be used as delivery equipment, then it is considered a transaction of the business entity. However, if Mr. A, owner of ABC Company, buys a personal car using his own money, that transaction is not recorded in the company’s accounting system because it is not a transaction of the company but a transaction of Mr. A, as distinct from the company. 5.5.4 Materiality Concept Information is material if its omission or misstatement could influence the economic decisions of users, taken based on the financial statements. Materiality therefore relates to the significance of transactions, balances, and errors contained in the financial statements. Materiality defines the threshold or cut-off point after which financial information becomes relevant to the decision-making needs of the users. Information contained in the financial statements must therefore be complete in all material respects for them to present a true and fair view of the affairs of the entity. Materiality is relative to the size and circumstances of individual companies. Example Materiality concept – Size A default by a customer who owes only RM3,000 to a company having net assets worth RM30 million is immaterial to the financial statements of the company. However, if the amount of default was, say, RM6 million, the information would have been material to the financial statements, omission of which could cause users to make incorrect business decisions. Example Materiality concept– Nature If a company is planning to curtail its operations in a geographic segment, which has traditionally been a major source of revenue for the company in the past, then this information should be disclosed in the financial statements as it is, by its nature, material to understanding the entity’s scope of operations in the future. 161 Accounting Principles And Practices 5 CHAPTER Basic financial concepts and the accounting equation Materiality is also linked closely to other accounting concepts and principles: Relevance: Material information influences the economic decisions of the users and is therefore relevant to their needs. Reliability: Omission or misstatement of an important piece of information impairs users’ ability to make correct decisions taken based on financial statements thereby affecting the reliability of information. Completeness: Information contained in the financial statements must be complete in all material respects to present a true and fair view of the affairs of the company. 5.5.5 Relevance Information should be relevant to the decision-making needs of the user. Information is relevant if it helps users of the financial statements in predicting future trends of the business (predictive value) or confirming or correcting any past predictions they have made (confirmatory value). The same piece of information which assists users in confirming their past predictions may also be helpful in forming future forecasts. Example Relevance A company discloses an increase in Earnings Per Share (EPS) from RM15.00 to RM18.00 since the last reporting period. The information is relevant to investors as it may assist them in confirming their past predictions regarding the profitability of the company and will also help them in forecasting the future trend in the earnings of the company. Relevance is affected by the materiality of information contained in the financial statements because only material information influences the economic decisions of its users. Example Materiality A default by a customer who owes RM3,000 to a company having net assets worth RM30 million is not relevant to the decision-making needs of users of the financial statements. However, if the amount of default is, say, RM2 million, the information becomes relevant to the users as it may affect their view regarding the financial performance and position of the company. 5.5.6 Reliability Information is reliable if a user can depend upon it to be materially accurate and if it faithfully represents the information that it purports to present. Significant misstatements or omissions in financial statements reduce the reliability of information contained in them. 162 Accounting Principles And Practices 5 Basic financial concepts and the accounting equation CHAPTER Example Reliability If a company is involved in a lawsuit where a potential settlement could threaten its financial stability, failing to disclose this information would be amount to a non-disclosure of a “contingent liability”. This non-disclosure would make the financial statements unreliable for users because it hides significant risks that could impact the company’s financial health. 5.5.7 Neutrality Information contained in the financial statements must be free from bias. It should reflect a balanced view of the affairs of the company without attempting to present them in a favoured light. Biased information may be deliberately biased or systematically biased. 5.5.8 Faithful Representation Information presented in the financial statements should faithfully represent the transaction and events that occur during a period. Faithful representation requires that transactions and events should be accounted for in a manner that represents their true economic substance rather than the mere legal form. 5.5.9 Substance Over Form “Substance over form” is an accounting concept, which means that the economic substance of transactions and events must be recorded in the financial statements rather than just their legal form to present a true and fair view of the affairs of the entity. The substance over form concept entails the use of judgement on the part of the preparers of the financial statements for them to derive the business sense from the transactions and events, and to present them in a manner that best reflects their true essence. Whereas, while legal aspects of transactions and events are of great importance, they may have to be disregarded at times to provide more useful and relevant information to the users of financial statements. Example Substance over form A machine is leased to Company A for the entire duration of its useful life. Although Company A is not the legal owner of the machine, it may be recognised as an asset in its balance sheet since the company has control over the economic benefits that would be derived from the use of the asset. This is an application of the accountancy concept of substance over legal form, where economic substance of a transaction takes precedence over its legal aspects. 163 Accounting Principles And Practices 5 CHAPTER Basic financial concepts and the accounting equation 5.5.10 Prudence Preparation of financial statements requires the use of professional judgement in the adoption of accounting policies and estimates. Prudence requires that accountants should exercise a degree of caution in the adoption of policies and significant estimates, such that the assets and income of the entity are not overstated, whereas liability and expenses are not under stated. The rationale behind prudence is that a company should not recognise an asset at a value that is higher than the amount which is expected to be recovered from its sale or use. Conversely, liabilities of an entity should not be presented below the amount that is likely to be paid in its respect in the future. There is an inherent risk that assets and income of an entity are more likely to be overstated than understated by the management, whereas liabilities and expenses are more likely to be understated. The risk arises from the fact that companies often benefit from better reported profitability and lower gearing in the form of cheaper sources of finance and a higher share price. There is a risk that leverage offered in the choice of accounting policies and estimates may result in bias in the preparation of the financial statements aimed at improving profitability and financial position using creative accounting techniques. The prudence concept helps to ensure that such bias is countered by requiring the exercise of caution in arriving at estimates and the adoption of accounting policies. Example Prudence When inventory is recorded at the lower of cost or net realisable value (NRV) rather than the expected selling price, it makes sure that the profit on the sale of inventory is realised only when the actual sale takes place. However, prudence does not require management to deliberately overstate its liabilities and expenses or understate its assets and income. The application of prudence should eliminate bias from financial statements but its application should not reduce the reliability of the information. 5.5.11 Completeness Reliability of information contained in the financial statements is achieved only if complete financial information is provided relevant to the business and financial decision-making needs of the users. Therefore, information must be complete in all material respects. Incomplete information reduces not only the relevance of the financial statements, it also decreases its reliability since users will be basing their decisions on information which only presents a partial view of the affairs of the entity. 164 Accounting Principles And Practices 5 Basic financial concepts and the accounting equation CHAPTER 5.5.12 Single Economic Entity Concept The “Single Economic Entity” concept suggests that companies, associated with each other through the virtue of common control, operate as a single economic unit and, therefore, the consolidated financial statements of a group of companies should reflect the essence of such an arrangement. Consolidated financial statements of a group of companies must be prepared as if the entire group constitutes a single entity to avoid the misrepresentation of the scale of the group’s activities. It is therefore necessary to eliminate the effects of any inter-company transactions and balances during the consolidation of group accounts, such as the following: Inter-company sales and purchases. Inter-company payables and receivables. Inter-company payments such as dividends, royalties and Head office charges. Inter-company transactions must be eliminated as if the transactions had not occurred in the first place. Examples of adjustments that may be required to eliminate the effects of inter-company transactions include: Elimination of unrealised profit or loss on the sale of assets between member companies of a group. Elimination of excess or deficit depreciation expense in respect of a fixed asset purchased from a member company at a price that was higher or lower than the net book value of the asset in the books of the seller. 5.5.13 Matching Principle The “Matching principle” requires that expenses incurred by an organisation must be charged to the income statement in the accounting period in which the revenue, to which those expenses relate, is earned. Prior to the application of the matching principle, expenses were charged to the income statement in the accounting period in which they were paid, irrespective of whether they related to the revenue earned during that period. This resulted in non-recognition of expenses incurred but not paid for during an accounting period (i.e., “accrued expenses”), and the charge to the income statement of expenses paid in respect of future periods (i.e., “prepaid expenses”). Application of the ‘matching principle’ results in the deferral of prepaid expenses in order to match them with the revenue earned in future periods. Similarly, accrued expenses are charged in the income statement in which they are incurred, to match them with the current period’s revenue. A major development from the application of the matching principle is the use of depreciation in the accounting for non-current assets. Depreciation results in a systematic charge of the cost of a 165 Accounting Principles And Practices 5 CHAPTER Basic financial concepts and the accounting equation fixed asset to the income statement over several accounting periods spanning the asset’s useful life during which it is expected to generate economic benefits for the entity. Depreciation ensures that the cost of fixed assets is not charged to the profit and loss account at once but is matched against economic benefits (revenue or cost savings) earned from the asset’s use over several accounting periods. The matching principle therefore results in the presentation of a more balanced and consistent view of the financial performance of an organisation, than would result from the use of the cash basis of accounting. 5.5.14 Dual Aspect Concept The “Dual Aspect” concept, also known as the “Duality principle”, is a fundamental convention of accounting that necessitates the recognition of all aspects of an accounting transaction. The dual aspect concept is the underlying basis for double-entry accounting system. The double-entry accounting system is based on the duality principle and was devised to account for all aspects of a transaction. Under the system, aspects of transactions are classified under two main types: Debit Credit Debit is the portion of transaction that accounts for the increase in assets and expenses, and the decrease in liabilities, equity, and income. Credit is the portion of transaction that accounts for the increase in income, liabilities, and equity, and the decrease in assets and expenses. The classification of debit and credit effects is structured in such a way that for each debit there is a corresponding credit and vice versa. Hence, every transaction has dual effects (i.e., debit effects and credit effects). The application of the duality principle therefore ensures that all aspects of a transaction are accounted for in the financial statements. 5.5.15 Comparability Concept Financial statements of one accounting period must be comparable to another for the users to derive meaningful conclusions about the trends in an entity’s financial performance and position over time. Comparability of financial statements over different accounting periods can be ensured by the application of similar accounting policies over a period. A change in the accounting policies of an entity may be required to improve the reliability and relevance of financial statements. 166 Accounting Principles And Practices 5 The accounting equation CHAPTER A change in the accounting policy may also be imposed by changes in accountancy standards. In these circumstances, the nature and circumstances leading to the change must be disclosed in the financial statements. Financial statements of one entity must also be consistent with other entities within the same line of business. This should aid users in analysing the performance and position of one company relative to the industry standards. It is therefore necessary for entities to adopt accounting policies that best reflect the existing industry practice. Example Comparability concept If a company that retails leather jackets valued its inventory based on the FIFO method in the past, it must continue to do so in the future to preserve consistency in the reported inventory balance. A switch from FIFO to LIFO basis of inventory valuation may cause a shift in the value of inventory between the accounting periods largely due to seasonal fluctuations in price. 5.6 The Accounting Equation The basic accounting equation is: Assets = Liabilities + Capital The accounting equation is the unifying concept in accounting that shows the relationships between and among the accounting elements: assets, liabilities, and capital. Assets of an entity may be financed either by external borrowing (i.e., Liabilities) or from internal sources of finance such as share capital and retained profits (i.e. Equity). Therefore, assets of an entity will always equal to the sum of its liabilities and equity. The accounting equation may be rearranged as follows: Assets – Liabilities = Equity We may test the accounting equation by incorporating the effects of several transactions to see whether it still balances. For this test, we may classify accounting transactions into the following generic types: Transactions that affect only Assets of the entity. 167 Accounting Principles And Practices 5 CHAPTER The accounting equation Transactions that affect Assets and Liabilities of the entity. Transactions that affect Assets and Equity of the entity. Transactions that affect Liabilities and Equity of the entity. Note: For all the following examples, it will be assumed that before any transaction, Assets of ABC Berhard are $10,000 while its Liabilities and Equity are $5,000 each. 5.6.1 Transactions that Affect only Assets of the Entity These transactions result in an increase in one asset which is equally offset by a decrease in another asset and vice versa. Since Assets, and other components of the equation, will be the same as before the transaction, the Accounting Equation will be in equilibrium. Example Accounting Equation: Transactions that affect only Assets of the entity ABC Berhad purchases a machine costing RM3,000 for cash. Before the transaction: Assets RM30,000 – Liabilities RM15,000 = Equity RM15,000 After the transaction: Assets RM30,000* – Liabilities RM15,000 = Equity RM15,000 *Assets RM30,000 = RM30,000 Plus RM3,000 (Machine) Less RM3,000 (Cash) Example Accounting Equation: Transactions that affect only Assets of the entity ABC Berhad receives RM1,500 cash from a debtor DEF Berhad in respect of goods sold on credit. Before the transaction: Assets RM30,000 – Liabilities RM15,000 = Equity RM15,000 After the transaction: Assets RM30,000* – Liabilities RM15,000 = Equity RM15,000 *Assets RM30,000 = RM30,000 Plus RM1,500 (Cash) Less RM1,500 (Trade Receivable) 168 Accounting Principles And Practices 5 The accounting equation CHAPTER 5.6.2 Transactions that Affect Assets and Liabilities of the Entity These transactions result in an increase in Assets and Liabilities of the entity simultaneously. Conversely, the transactions may cause a decrease in both Assets and Liabilities of the entity. Any increase in the assets will be offset by an equal increase in liabilities and vice versa causing the accounting equation to balance after the transactions are incorporated. Example Accounting Equation: Transactions that affect Assets and Liabilities of the entity ABC Berhad receives a RM7,500 bank loan in cash. Before the transaction: Assets RM30,000 – Liabilities RM15,000 = Equity RM15,000 After the transaction: Assets RM37,500* – Liabilities RM22,500** = Equity RM15,000 *Assets RM37,500 = RM30,000 Plus RM7,500 (Cash) **Liabilities RM22,500 = RM15,000 Plus RM7,500 (Bank Loan) Example Accounting Equation: Transactions that affect Assets and Liabilities of the entity ABC Berhad pays RM1,500 cash to XYZ Berhad for goods purchased on credit. Before the transaction: Assets RM30,000 – Liabilities RM15,000 = Equity RM15,000 After the transaction: Assets RM28,500* – Liabilities RM13,500** = Equity RM15,000 *Assets RM28,500 = RM30,000 Less RM1,500 (Cash) **Liabilities RM13,500 = RM15,000 Less RM1,500 (Trade Payable) 169 Accounting Principles And Practices 5 CHAPTER The accounting equation 5.6.3 Transactions that Affect Assets and Equity of the Entity These transactions result in an increase in Assets and Equity of the entity simultaneously. Conversely, the transactions may cause a decrease in both Assets and Equity of the entity. Any increase in the assets will be matched by an equal increase in equity and vice versa causing the accounting equation to balance after the transactions are incorporated. Example Accounting Equation: Transactions that affect Assets and Equity of the entity ABC Berhad issues share capital for RM7,500 in cash. Before the transaction: Assets RM30,000 – Liabilities RM15,000 = Equity RM15,000 After the transaction: Assets RM37,500* – Liabilities RM15,000 = Equity RM22,500** *Assets RM37,500 = RM30,000 Plus RM7,500 (Cash) **Equity RM22,500 = RM15,000 Plus RM7,500 (Share Capital) Example Accounting Equation: Transactions that affect Assets and Equity of the entity ABC Berhad pays a dividend of RM1,500 in cash. Before the transaction: Assets RM30,000 – Liabilities RM15,000 = Equity RM15,000 After the transaction: Assets RM28,500* – Liabilities RM15,000 = Equity RM13,500** *Assets RM28,500 = RM30,000 Less RM1,500 (Cash) **Equity RM13,500 = RM15,000 Less RM1,500 (Dividend) 170 Accounting Principles And Practices 5 The accounting equation CHAPTER 5.6.4 Transactions that Affect Liabilities and Equity of the Entity These transactions result in an increase in Liabilities which is offset by an equal decrease in Equity and vice versa. Any increase in liabilities will be matched by an equal decrease in equity and vice versa causing the accounting equation to balance after the transactions are incorporated. Example Accounting Equation: Transactions that affect Liabilities and Equity of the entity ABC Berhad incurs an utility expense of RM1,500 which remains unpaid at the period-end. Before the transaction: Assets RM30,000 – Liabilities RM15,000 = Equity RM15,000 After the transaction: Assets RM30,000 – Liabilities RM16,500* = Equity RM13,500** *Liability RM16,500 = RM15,000 Plus RM1,500 (Accrued Liability) *Equity RM15,000 = RM13,500 Less RM1,500 (Accrued Expense) Example Accounting Equation: Transactions that affect Liabilities and Equity of the entity ABC Berhad recognises rent income for the period of RM1,500 which it received in advance in the last accounting period. Before the transaction: Assets RM30,000 – Liabilities RM15,000 = Equity RM15,000 After the transaction: Assets RM30,000 – Liabilities RM13,500* = Equity RM16,500** *Liability RM13,500 = RM15,000 Less RM1,500 (Accrued Income) **Equity RM16,500 = RM15,000 Plus RM1,500 (Rent Income) 171 Accounting Principles And Practices 5 CHAPTER Accounting transactions 5.7 Accounting Transactions The recording of transactions in accounting is the process of capturing financial data relating to business activities and operations in a systematic and structured manner. The main purpose of recording transactions is to provide accurate and up-to-date information about the financial position of a company as well as maintain accurate and complete records of financial transactions. Accountants typically first record transactions in an accounting journal and then a ledger, which forms the basis for financial statements and other reports. There are various methods of recording transactions, but the most common and simplest method is the double-entry bookkeeping system. Under this system, an accountant records each transaction in at least two different accounts, with a corresponding debit and credit entry. This system helps to ensure the accuracy of financial records and provides a clear audit trail in case of any discrepancies. Example Double-entry bookkeeping Suppose a small business owner purchases office supplies for RM100 in cash. The transaction would be recorded as follows: Debit: Office Supplies (RM100) Credit: Cash (RM100) This entry increases the Office Supplies account balance by RM100 and decreases the Cash account balance by RM100. “Double-entry bookkeeping” is generally regarded as the most accurate method of bookkeeping, primarily because each transaction is entered in the books twice. Every transaction has two effects. Financial accounting attempts to record both effects of a transaction or event on the entity’s financial statements. This is the application of the double-entry concept. Traditionally, the two effects of an accounting entry are known as “Debit (Dr)” and “Credit (Cr).” The accounting system is based on the principle that for every Debit entry, there will always be an equal Credit entry. This is known as the “Duality Principle.” 172 Accounting Principles And Practices 5 Other financial reports and analyses CHAPTER 5.8 Other Financial Reports and Analyses This includes the use of ratios to evaluate the following matters: The profitability of the business. The level of activity and productivity. The solvency and liquidity position (i.e., whether the business will be able to pay its debts). The efficiency of credit-control procedures. The efficiency of stock-control procedures. The effect of any loans on the business’s profitability and financial stability. 5.9 Efficient Allocation of Resources Viewing the function of financial accounting at a more general, abstract level, its aim is usually described as being able to facilitate the efficient and effective allocation of resources. This is generally given a macroeconomic interpretation as providing information to investors so that capital is directed towards more efficient firms. A less common but similar interpretation would be to extend this to providing information to prospective employees so that labour is directed towards more efficient firms. The same interpretation could also be extended to other potential users of final accounts and providers of resources in a broad sense that embraces quality of life and environmental considerations, etc. This would include others such as bank lenders, creditors (suppliers), the government, and the public in general. This function of financial accounting can also be viewed at a microeconomic or individual firm level. One of the main purposes of financial accounting may be said to be to enable an organisation’s management to operate the enterprise efficiently and effectively. This embraces at least three of the functions referred to above, namely, the recording and control of business transactions, accuracy in recording, and the preparation of final accounts (for management use). However, this function of accounting is more commonly attributed to management accounting, particularly in larger organisations. 5.10 Submission of Statutory Documents to SSM In April 2002, the Companies Commission of Malaysia (SSM)52 was formed as a statutory body resulting from the merger of the Registrar of Companies (ROC) and the Registrar of Businesses (ROB). SSM or Suruhanjaya Syarikat Malaysia regulates company operations and business activities in Malaysia. 52 Suruhanjaya Syarikat Malaysia (SSM) Pages – Home2 173 Accounting Principles And Practices 5 CHAPTER Submission of statutory documents to SSM It serves as an agency to incorporate new companies and register businesses and has in store company and business information which is accessible to the general public. It plays a leading role in the improvement of corporate governance by ensuring compliance and enforcement of rules and regulations under the Companies Act. The Companies Act 2016,53 requires all registered and existing companies to submit yearly the following statutory documents, comprising of two parts: annual return, and financial statements and reports. 5.10.1 Annual Return Annual Return is a term used in the context of company incorporation or registration. The annual return contains the following particulars: a) the address of its registered office; b) the nature of its business; c) the address of the places where its business is carried on including branch, if any; d) the address at which its register of members is kept, if not kept at the registered office; e) the address at which its financial records are kept, if not kept at the registered office; f) in the case of a company with a share capital, the summary of its shareholding structure, including debentures; g) the total amount of its indebtedness; h) the particulars of directors, managers, secretaries, and auditors; i) the list of its members; and j) such other information as the Registrar may require. A company is required to lodge with the Registrar an annual return for each calendar year not later than thirty days from the anniversary of its incorporation date, or in the case of a foreign company not later than thirty days from the anniversary of its registration date or within such further period as the Registrar in special circumstances allow. 5.10.2 Financial Statements and Reports Financial Statements has the same meaning as set out in the approved accounting standards issued or approved by the Malaysian Accounting Standards Board under the Financial Reporting Act 1997: a) in the case of a public company, the Financial Statements are required to be circulated to its members and laid before the company at its annual general meeting; or b) in the case of a private company, be circulated to its members or laid before the company at a meeting of members. 53 Act 777 – Final Draft (1.8.2022).pdf (agc.gov.my) 174 Accounting Principles And Practices 5 Filing of statutory documents through MBRS system CHAPTER The company, its directors and managers are required to: a) keep the accounting and other records to sufficiently explain the transactions and financial position of the company, and enable true and fair profit and loss accounts and balance sheets and any documents required to be attached thereto to be prepared; b) keep the accounting and other records in a manner as to enable the accounting and other records to be conveniently and properly audited; and c) retain the records for seven years after the completion of the transactions or operations to which the entries relate. The MASB approved accounting standard prescribes the basis for presentation of general-purpose financial statements to ensure comparability both with the entity’s financial statements of previous periods and with the financial statements of other entities. It sets out overall requirements for the presentation of financial statements, guidelines for their structure and minimum requirements for their content. If a conflict or inconsistency arises between the provisions of the MASB approved accounting standards and the Companies Act 2016 in their respective applications to the financial statements of a company or consolidated financial statements of a holding company, the provisions of the applicable approved accounting standard will prevail. 5.11 Filing of Statutory Documents through MBRS System Beginning 1 March 2021, SSM announced that the “Malaysian Business Reporting System” (MBRS), a digital business reporting platform based on the eXtensible Business Reporting Language (XBRL) format, will be applicable for filing of statutory documents for companies in Malaysia. The documents that are mandated for submission through the MBRS System are: a) Financial statements and reports; b) Annual return; and c) Exemption applications, related to a) and b). The guiding principles are based on the legal and financial framework established under: the Companies Act 2016; and MASB approved accounting standards, namely: the Malaysian Financial Reporting Standards (MFRS) the Malaysian Private Entities Reporting Standard (MPERS) which is effective for annual reporting periods beginning on or after 1 January 2016. 175 Accounting Principles And Practices 5 CHAPTER BNM Policy Document on Financial Reporting 5.12 BNM Policy Document on Financial Reporting Financial Institutions comprise banking institutions, finance companies, insurance companies and takaful operators, who are licensed to carry out business under the Financial Services Act 2013 (FSA),and regulated by Bank Negara Malaysia (BNM) or the Central Bank. They are required under the FSA to prepare financial statements in accordance with MASB approved accounting standards, and be subject to any standards as may be specified by the Central Bank to reflect specific modifications or exceptions to the approved accounting standards. The policy document which came into effect from 1 January 2023,54 clarifies and sets the minimum expectations for the application of the approved accounting standards to a financial institution. It also aims to ensure adequate disclosures by a financial institution in the financial statements to improve comparability for users of financial statements and better facilitate the assessment of a financial institution’s financial position and performance. A financial institution is required to submit to Jabatan Penyeliaan Insurans dan Takaful of Bank Negara Malaysia i.e., the Insurance and Takaful Supervision Department, within three months after the close of each financial year and before the laying of the financial statements at the general meeting, the following statutory documents: a) its audited annual financial statements; b) the audited annual financial statements of its principal subsidiaries, where relevant; c) its Auditor’s Report55 including a report on the key accounting and auditing matters tabled to the board audit committee; d) the analysis of performance by key business segments; e) a written confirmation by the officer primarily responsible for the financial management of the financial institution that its audited annual financial statements have been prepared in accordance with the MASB approved accounting standards; and f) the tentative date of the publication of its audited annual financial statements on the website, where applicable. 5.13 Minimum Disclosure Requirements A financial institution is required to make disclosures in the financial statements in accordance with the requirements of the MASB approved accounting standards, and comply with the following key principles on disclosure of information: 54 Financial Reporting (bnm.gov.my) 55 This refers to the detailed report prepared by the auditor on the audit of a financial institution’s annual financial statements – Financial Reporting (bnm.gov.my) 176 Accounting Principles And Practices 5 Receipts and payments – systems for recording and monitoring CHAPTER (a) information should be timely and up-to-date to ensure the relevance of the information being disclosed; (b) the scope and content of information disclosed and the level of disaggregation and detail should be sufficient to provide comprehensive, meaningful56 and relevant information

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