Acct321Sum2008MidtermSolution - ACCOUNTING 321 SUMMER 2008...

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ACCOUNTING 321 SUMMER 2008 Midterm SOLUTION I. A. A conceptual framework is like a constitution; it is "a coherent system of interrelated objectives and fundamentals which can lead to consistent standards and which prescribes the nature, function, and limits of financial accounting and financial statements." B. A conceptual framework is necessary for the following reasons. First, a soundly developed conceptual framework should enable the FASB to issue more useful and consistent standards in the future; a coherent set of standards and rules should be the result because it would be built upon the same foundation. This framework should increase financial statements users' understanding of and confidence in financial reporting, and it should enhance comparability among companies' financial statements. Second, new and emerging practical problems should be more quickly solved by reference to an existing framework of basic theory. It is difficult, if not impossible, for the FASB to prescribe proper accounting treatment for every specific emerging issue in a timely fashion. Practicing accountants, however, must resolve such problems on a day-to-day basis. A universally accepted framework can help practitioners to dismiss certain alternatives quickly and to focus upon a logical and acceptable treatment. C. Generally accepted accounting principles or standards are a common set of standards and procedures developed by the accounting profession as guidelines for reporting business transactions. They have “substantial authoritative support”. The term "generally accepted" means that most accountants and members of the financial community recognize them as the standards and procedures which, over time, have proven to be most useful. D. The four basic assumptions used in accounting are: 1) economic entity, 2) going concern, 3) monetary unit, and 4) periodicity. The economic entity assumption assumes that economic activity can be identified with a particular unit of accountability. In other words, the activity of a business 1
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enterprise can be kept separate and distinct from its owners and any other business unit. Most accounting methods are based on the going concern assumption which assumes that a business enterprise will have a long life such that it will be able to fulfill its objective and commitments. Without these assumptions, the historical cost principle would be of limited use. Eventual liquidation of the business will instead be assumed and assets are better stated at net realizable value than at acquisition cost. The monetary unit assumption assumes that the unit of measure (the dollar) remains reasonably stable so that dollars from different years can be added together without any adjustment. When the value of the dollar fluctuates greatly over time, this assumption loses its validity. The periodicity assumption implies that the economic
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Acct321Sum2008MidtermSolution - ACCOUNTING 321 SUMMER 2008...

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