PRINCIPLES OF ACCOUNTING
Accounting is the process of identifying, measuring, recording and summarising
economic information and finally communicating it to interested parties (users)
ANALYSIS OF DEFINITION
(a) Process means accounting has steps and procedures of doing things.
(b) Identifying means accounting is only concerned with activities or
transactions
relating to the business.
(c) Measuring means that all activities related to the business should be stated
in
monetary terms.
(d) Recording is the aspect of writing down business transactions in accounting
books. This is called BOOK KEEPING.
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(e) Summarising means analysing all recorded information in categories and
preparing financial statements.
Financial statements include:
(i) Income Statement (or Statement of Profit or Loss), which is a
summary of trading activities to establish profit or loss achieved
during a trading period.
(ii) Statement of Financial Position) which is a summary
of what the business owns(assets) or owes(liabilities) at a given time.
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TYPES OF BUSINESSES
What is a business?
a person, firm, company or other organisation which makes or produces some
kind of product or service usually for the purpose of making profits.
SOLE TRADER
This is the type of business owned and operated by one person. However, the person
running this business can have employees.
The sole trader, as an individual will provide the resources and skills to operate the
business.
Maintaining accounting records in a sole trader may vary from basic to complex as
some sole trader may grow very big.
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
PARTNERSHIP

This is a type of business where two or more persons put their resources together to
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carry on business for the purpose of making profits. There is a limit as to the number

of partners depending on the type of business to be carried on.
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COMPANY

This is a formal association of persons for business purposes. A company is legally

incorporated under company law.Members of a company are called shareholders.

Companies are usually limited (Ltd) meaning that if the company goes into

liquidation because of debts, each member will only lose the cost of his shares i.e.
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amount contributed in the business and no more.
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TYPES OF LIMITED COMPANIES

a) Private Companies

They are private in the sense that membership is restricted to well-known individuals

and members are few in numbers.
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Private companies usually have the word “LIMITED” at the end of the name. Other

countries use the word “PRIVATE”.

They do not invite members of the public to subscribe for shares and members are not

allowed to transfer their shares without agreement of the other shareholders.
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Public Companies

They offer shares to the public and there is no limit to membership.

Shareholders can transfer shares without restrictions. Such a company
must include

the words PUBLIC LIMITED COMPANY (Abbreviated PLC) after its name
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USERS OF ACCOUNTING INFORMATION

(a) Managers of the organisation: Managers are people appointed by owners of the company to
supervise the daily activities of the company.Managers need accounting information for planning and
control purposes.
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(b)Shareholders and potential investors: A shareholder is a member of limited company and therefore
holds one or more shares in that company. Potential investors are people with resources but are yet to
make a decision as to where to invest. Shareholders are interested in profits and security of their
investment. They need to look at accounting information to access profitability of the business and will
make decisions such as retaining their investment in the company or invest it somewhere else
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
Trade contacts: Trade contacts are suppliers of goods and services to the business. They also
include customers. 5 Credit suppliers are interested in the ability of the business to pay its debts
should they supply to it. Customers are interested in continuous supply with no danger of the
business closing.Financial accounting information may satisfy their concern

Lenders Lenders provide finance to busineessess in form of loans which could be short or long
term. Their main concern is to whether a business will be able to pay interest on loans and also
eventually repay the loan itself. This information may be provided by accounting information.
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Government agencies Government needs to know how the economy is performing in order to plan
for financial and industrial policies. Tax authorities would also want to know the business profits in
order to assess the tax payable by the company.Financial statements could be used as a basis.
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
Employees and trade union representatives Employees are workers in a company. Their concern is job
security and better conditions of service. They will need accounting information as a basis for
negotiating for improved salaries and conditions of services. Accounting information may also disclose
that the company is threatened with closure and employees will have to make a decision of staying or
not.

The public: People in general want accounting information because enterprises affect them in many
ways. Companies are found where people live. Companies provide jobs for the people, and they also
use local suppliers. Companies may also affect the environment through pollution.

Financial analyst and advisers: These are specialists in economic trends. They need accounting
information in order to advise their clients on best investment options and generally to inform the
public on financial matters.
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QUALITIES OF GOOD ACCOUNTING INFORMATION

a) Relevance: Accounting information is relevant if it is connected with what the user wants. That
is, it must influence them to make a decision.
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Reliability: Accounting information provided should be depended upon when making decisions. For
accounting information to be reliable it must be audited (examined) by qualified and experienced
auditors so that accounts are free from error.

Comparability: An exercise was taken to judge to what extent accounting information is similar or
dissimilar. For reasonable conclusion to be made about the business it is important that its
accounting information is comparable. N.B when comparing use similar businesses both in size and
nature,or use accounting information from the same business from previous year; If business is
starting for the first time a budget could also be used.
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
Understandability For anybody to make a meaningful decision they should have clear knowledge of
what they are looking at. Any difficulties arising from its interpretation must be dealt with by those
who understand it.
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Completeness When financial statements are prepared they should have all its parts and should
portray a whole or rounded picture of the business activities.
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Objectivity Financial statements should be free from bias. They should not be prepared inorder to
satisfy a particular group. They should be actual facts otherwise they would be considered biased.

Timeliness decisions could be made.Accounts are usually published soon after the year end. or
information to be meaningful, it should be provided at the time it is required so that timely
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ACCOUNTING CONCEPTS

THE ENTITY CONCEPT

This concept states that a business and the owner should be treated separately.e.g. if the owner
takes goods or cash without replacing a record is made in the books so that the amount is deducted
from his capital. These amounts are called drawings.
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MONEY MEASUREMENT CONCEPT This states that accounts should deal only with items to which a
monetary value can be attributed.
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GOINGCONCERN CONCEPT.
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This states that the business will continue in operational existence for the foreseeable
future(ACCOUNTING PERIOD), and that there is no intention to put the company into liquidation,
unless otherwise it is known. Therefore, assets to be stated in the books at the value for their
remaining life in the business If it is known that the business is coming to an end then assets would
be stated at their saleable value(market value)
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
PRUDENCE CONCEPT

This states that where alternative procedures or alternative valuations, are possible, the one
selected should be the one which gives the most cautious presentation of the business financial
position or results. This is a cautionary concept which dictates that assets should not be overvalued
and liabilities should not be undervalued.Do not record profits in the books until they are realised
but losses should be recorded as soon as they are foreseen.

THE ACCRUALS/MATCHING CONCEPT This states that, in computing profits, revenue earned must
be matched against the expenditure or incurred in earning it.

THE CONSISTENCY CONCEPT This states that in preparing accounts consistency should be observed
i.e. certain items should be treated using different methods, the method chosen should be used
consistently from one year to the next so that reasonable conclusions can be made on the
performance of the business. e.g. Depreciation, stock(inventory) valuations.
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
THE MATERIALITY CONCEPT: This is judgmental depending on the nature and size of the
business. A matter is material if its omission or misstatement would reasonably influence the
decisions of a user of the accounts.
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SUBSTANCE OVER FORM: It can happen that the legal form of a transaction can differ from
its real economic substance. Where this happens accounting should show the transaction in
accordance with its real substance (or economic reality) e.g. goods bought on hire purchase.

NEUTRALITY/OBJECTIVITY CONCEPT: This states that accountants should be free from bias
when preparing financial statements e.g. internally generated goodwill should not be
recorded in the books because of its uncertainty as to its true value.
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THE ACCOUNTING PERIOD CONCEPT: This states that there must be a standard shorter period
in which to measure performance of a business. Twelve months period is normally adopted for
this purpose. This time interval is the accounting period.
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
THE REALISATION CONCEPT This states that profits are realised immediately goods or
services exchange hands whether cash has been paid or not
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THE HISTORICAL COST CONCEPT This state that assets should be recorded in the
accounting books at cost i.e. price paid to acquire it.

THE DUALITY CONCEPT This concept states that there are two aspects to every
transaction: a) the giving aspect, which creates a liability, and b) the receiving aspect,
which creates an asset. It is from this concept that the rule of double entry is derived.

The rule of double entry states that for every debit entry to an account there is a
corresponding credit entry in another account. ‘Corresponding’ means of equal
magnitude in value. Consequently, what debit or credit will depend on the transaction
that has taken place.
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