Question

Identify the applicable accounting convention for the following business scenario and explain your choice

Randolph, Inc., has experienced major turnover in its accounting department, and the new head of accounting has been going through the current records of transactions. A couple of those transactions appear problematic. The first contains an error of $10,000 that the previous accountant decided was not large enough to adjust before the financial statements were prepared. This error would understate income and make the company look more profitable than it actually is

Answer 1

In the given situation "Materiality" is the applicable accounting convention.

Materiality Convention: As per this convention financial statements should contain only material items and items which are immaterial or having less significance can be grouped.

An item is considered as material when its omission or commission in Financial Statements will have significant effect on the financial status of the company and has the ability to influence the economic decisions of users of financial statements of the company.

However materiality varies from person to person, nature and effect of item, depending on size of the business. An item which is material for one company may not be material for other company.

In the given scenario in Randolph inc, the error of $10,000 may be material or not depends on the size of the company. However if those couple of transactions are going to change the status of the company, then they should be rectified and accounted properly.