Question

On 1st January 2019, Mr. Ahmed, invested OMR 6,000 to start a software company. He purchased 5 Desktop computers and necessary furniture for the business OMR 1,200. But Mr. Ahmed did not bring any bill or invoice of the purchase of the computer and furniture. After the purchase, the price of the computers fell sharply. When asked about the bill, Mr. Ahmed advised his accountant to record the transaction in the current market price without any bill or invoice for the purchase of computer and furniture. By 10th of December 2019, Mr. Ahmed further informed his accountant that the business received an order worth OMR 5,800 together with an advance of OMR 800. The software to be delivered in January 2020. Mr. Ahmed wanted his accountant to record the order of OMR 5,800 as business revenue for the year 2019 and all his personal expenses including expense of food and clothing OMR 300 to be recorded as business expenses. Finally Mr. Ahmed directed the accountant not to prepare the financial statements or any other relevant accounts or reports of the business for the first year alone. But, needed to prepare all such reports of the business for two years or more together. Identify the accounting principles/concepts/conventions followed or violated in the case and explain in detail with the reasons.

Answer 1

The problem is deals with normal accounting mistakes done by the business owners during the course of business conduct. In this we see that Mr Ahmed made the classic mistakes of

1. Not recording the assets purchased immediately and later recording them in the market value.

2. Recognizing the full revenue for a future order-contract for which he only received advance.

3. Showing his personal expenses as business expenses.

4. Not allowing the accountant to prepare financial statements for the financial year 2019.

Accounting principles which were to be followed in this case:

1. Historical cost of assets: Whenever an asset is purchased for the business with the view to hold it long term, it must be recorded in the Purchase price at which it was bought and not at the current market price.

2. Revenue Recognition: Whenever a business accepts a business order or accepts job order, it should recognise the revenue only after knowing with absolute certainty that the revenue recorded will be recognised. In any other cases the revenue should be recognised only after receiving cash or the date of order or the date of payment has elapsed (whichever is earlier).

The conditions to be satisfied before revenue recognition

1. The risk in the product or service is transferred to the buyer.
2. The seller no longer controls the goods or service; in other words the seller does not have control over the good or services sold.
3. The payment from the buyer or customer is reasonably assured and does not pose any risk of non-payment.
4. The amount of payment to the contract and the cost of expenses to the contract are ascertainable.

3. Distinction between Personal & Business expenses: The business owner should distinguish between personal and business expenses and should treat them separately. The personal expenses of the owner are not allowed to be deducted as business expenses and are to be treated as drawings form the business capital.

4. Non-preparation of financial statements: The business should comply with the law and is obligated to prepare financial statements on regular intervals such as Quarterly, Half-yearly and Annual reports. Non-preparation does not exempt the business from paying taxes and other liabilities but will only increase those liabilities.

Principles/Concepts Violated in the case of Mr Ahmed:

1. Principle violated – Historical Cost Concept for recording Business Assets.

2. Principle violated – Revenue Recognition Concept

3. Principle violated – Non-distinction between Business and Personal Expenses

4. Principle violated – Non-preparation of Financial Statements.

What can be done by the Accountant to correct?

1. Record the Business assets in the Cost at which they were purchased @ OMR 1200 even if no invoice is available.

2. Revenue to be brought into the business for the year 2019 is only OMR 800 and not OMR 5800 which must be recognised in the year 2020.

3. The personal expenses of Mr Ahmed of OMR 300 is to be either treated as Drawings for the year and subtracted from the Capital.

4. Prepare the Financial Statements for Year Ended 2019 Period from Jan-2019 to Dec-2019.

Memorandum Profit & Loss / Income & Expenditure Account for Year Ended 2019
Expenditure	Amount (OMR)	Income	Amount (OMR)
		Advance Received for Software Product	800

Memorandum Balance Sheet for Year ended Dec – 2019
Liabilities	Amount (OMR)	Assets	Amount (OMR)
Capital	6000	Fixed Assets	1200
Less: Drawings	(300)	Less: Depreciation	(XXXX)
Total	5700
Sundry Creditors