Accounting principles refer to comprehensive guidelines followed when preparing financial statements. A common set of principles should be used for financial reporting of all companies in a certain country to ensure consistency and enable comparisons with other firms. The use of principles in accounting leads to transactions that show the true financial substance of the firm. Some of the generally accepted accounting principles are foregone consideration, revenue recognition, matching, consistency and objectivity.
Firms that use accounting principles can easily compare their statements with other firms in the industry that use the same principles. This is because they have a common guideline for preparation of statements. Comparisons are important because they assist companies to gauge their financial performance with others and rectify where they go wrong. Inter-period comparisons also show the trend in performance from one period to another.
The accounting boards that prepare accounting principles such as the Financial Accounting Standards Board are able to control preparation of financial statements. Control is essential because it prevents unethical accountants from preparing statements that do not reflect a true and fair view of the company’s financial performance. Incorrect statements may lead the firm into financial distress and bankruptcy.
Companies that use accounting principles can easily be audited since the auditors already have knowledge of those principles. Auditors use these principles to audit financial statements of companies to ensure that the principles have been followed to the letter. Auditing is important to firms because they enable shareholders to ensure that their resources are utilized for the right purpose. Auditing is able to detect fraud and increases credibility of financial statements.
Accounting principles can be used in a variety of situations. For example, matching principle states that revenues and costs should be matched in the period in which they take place whether cash is received or not. This principle can be used in any type of business whether it is leasing or health care or banking because all firms incur expenditure and get revenues. Accounting principles can thus be used for unexpected transactions.
