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Unit 6 GAAP Application-Conceptual Framework of
Accounting
The Conceptual Framework allows for the systematic adaptation of
accounting standards to a changing business environment. The FASB
uses the conceptual framework to aid in an organized and consistent
development of new accounting standards. The conceptual framework
outlines the objectives of financial reporting and the qualities of
good accounting information, precisely defines commonly used terms
such as asset and revenue, and provides guidance about appropriate
recognition, measurement, and reporting. Understanding the
terminology associated with the framework is
imperative. 
Match the numbered statements below with the lettered
terms. An answer (letter) may used more than once, and some terms
require more than one answer (letter).
1. Key ingredients in quality of relevance.
2. Traditional assumptions that influence the FASB’s conceptual
framework.
3. The idea that information should represent what it purports
to represent.
4. An important constraint relating to costs and benefits.
5. An example of conservatism
6. The availability of information when it is needed.
7. Recording an item in the accounting records.
8. Determines the threshold for recognition.
9. Implies consensus.
10. Transactions between independent parties.
 
a) Cost-effectiveness
b) Representational faithfulness
c) Recognition
d) Verifiability
e) Time periods
f) Unrealized
g) Completeness
h) Timeliness
i) Materiality
j) Predictive value
k) Economic entity
l) Lower-of-cost-or-market rule
m) Phrenology
n) Arm’s-length transactions
 
Now that you have reviewed the terminology, for each
situation listed below, indicate by letter the appropriate
qualitative characteristic(s) or accounting concept(s) applied. A
letter may be used more than once, and more than one characteristic
or concept may apply to a particular situation. Explain why you
chose your answer.
1. Goodwill is recorded in the accounts only when it arises from
the purchase of another entity at a price higher than the fair
market value of the purchased entity’s identifiable assets.
2. Land is valued at cost.
3. All payments out of petty cash are debited to Miscellaneous
Expense.
4. Plant assets are classified separately as land or buildings,
with an accumulated depreciation account for buildings.
5. Periodic payments of $1,500 per month for services of H. Hay,
who is the sole proprietor of the company, are reported as
withdrawals.
6. Small tools used by a large manufacturing firm are recorded
as expenses when purchased.
7. Investments in equity securities are initially recorded at
cost.
8. A retail store estimates inventory rather than taking a
complete physical count for purposes of preparing monthly financial
statements.
9. A note describing the company’s possible liability in a
lawsuit is included with the financial statements even though no
formal liability exists at the balance sheet date.
10. Depreciation on plant assets is consistently computed each
year by the straight-line method.
 
a) Understandability
b) Verifiability
c) Timeliness
d) Representational faithfulness
e) Neutrality
f) Relevance
g) Going concern
h) Economic entity
i) Historical cost
j) Measurability
k) Materiality
l) Comparability

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