BASIC ACCOUNTING PRINCIPLES
Estimated presentation time:
5 hours
Presenters:
1.
BAUTISTA, JOSHUA M.
Objectives:

Discuss the basic accounting principles and provide a brief introduction to the
accounting process.
TOPIC OUTLINE
I.
Introduction to Accounting (SLIDE)
A. Definition (SLIDE)
-ACCOUNTING is the art of recording, classifying and summarizing, in a significant
manner, and in terms of money, transactions and events which are in part at least of a
financial character, and interpreting the results thereof.
-Is a service activity.
-Is a process
1.
2.
3.
4.
5.
6.
7.
B. Users of Financial Statements (SLIDE)
Investors
Employees
Lenders
Suppliers and other trade creditors
Customers
Government and their agencies
The public
C. Areas and branches of accounting (slide)
1. Public- This sector includes individual practitioners, small, medium sized and
multinational accounting firms that render independent professional accounting
services to the public.
2. Private- Accountants are employed in various positions such as: vice-president for
finance, chief accountant, cost accountant, internal auditor or budget officer or
controller which is the highest accounting officer of a business organization.
3. Government- Accountants may be hired as staff, auditor, budget officer or consultant
in government units like the Commission on Audit, Bureau of Internal Revenue,
Department of Finance, Department of Budget and Management, and the Securities
and Exchange Commission.
D. Types and legal forms of businesses (slide)
1. Types of Business (slide)
a. Service- simplest form of business and provides services to clients or customers
in exchange for fees, rent, interest or royalties
b. Merchandising- purchase goods from suppliers and, without altering the state of
the goods bought, sell the same at a higher price than cost
c. Manufacturing- involves the most complex activities and actually produces the
goods that it sells to customers
2. Legal Forms of Business (slide)
a. Sole Proprietorship- most basic and simplest legal form of business and has only
one owner. It is also the easiest one to form.
b. Partnership- an association of two or more persons who bind themselves to
contribute money, property, or industry to a common fund with the intention of
dividing the profits among themselves. Partnerships are governed by the Civil
Code of the Philippines
c. Corporation- the most complex form of business organizations. A person who
invests in a corporation is known to be a “Shareholder”. A shareholder’s ownership
in the corporation is evidenced by a stock certificate. It is governed by the
Corporation Code of the Philippines
II.
1.
2.
3.
4.
Fundamental Accounting Concepts
A. Basic accounting principles, theories, and assumptions (slide)
Business entity principle:
business is considered distinct and separate from the owner(s) of the business
Dual-effect of business transactions:
whenever a business transaction takes place, it is assumed that the value receive
is equal to the value given up (for every value received, there is an equal value
given up) Debit-Credit
Matching principle:
Income recorded and reported in one accounting period should be matched
against the expenses that directly or indirectly contributed to the generation of the
income
Accrual basis:
income is recognized when it is earned, regardless of when cash is received.
Expenses are recognized when incurred, regardless of when cash is paid
5.
6.
7.
8.
Cash basis of Accounting: (slide)
income is recognized when cash is received, and expenses are recognized when
cash is paid
Stable monetary unit:
it is concerned with information which can be quantified and expressed in terms of
money. To be included in the accounting records and financial statements of the
enterprise, it must be expressed in terms of a uniform means of measurement
Periodicity (Time Period Concept):
operating life of an enterprise may be conveniently divided into time periods of
equal length called accounting periods. Normal accounting period is equal to 12
months or 1 year
Going Concern (Continuity Assumption):
enterprise is a going concern and will continue operation for the foreseeable future.
It is assumed that the enterprise has neither the intention nor the need to liquidate
or curtail materially the scale of its operations
B. Elements of Financial Statement (slide)
1. Assets- resource owned and/or controlled by the enterprise and expected to provide
future economic benefits to the enterprise. It is acquired by an enterprise as a result
of a past transaction or event.
2. Liabilities- present obligation of the enterprise arising from past events, which are to
be settled in the future. It is required to be settled in the future
3. Equity-- claim; residual interest in the assets of the enterprise after deducting all its
liabilities and arise from the original investment by an owner into the business and
increased by additional investments by the owners and by profit earned during a
period
4. Income (slide)- increase in economic benefits during the accounting period in the form
of inflows or enhancements of assets or decreases of liabilities that result in the
increase of equity other than those a relating to contributions from equity participants
5. Expense- decrease in economic benefits during the accounting period in the form of
outflows or depletions of assets or incidences of liabilities that result in decreases in
equity other than those relating to distributions to equity participants
C. Accounting Equation and expanded accounting equation (slide)
Assets= Liabilities + Equity
Net Assets-focuses on equity or the claim of owners to the assets of the business
Equity= Assets – Liabilities
Possible effects of business transactions: (slide)
a)
Increase in assets= increase in liabilities
Cash
Notes Payable
b)
Increase in assets = increase in equity
Cash
Owners, Capital
c)
Increase in one asset= decrease in another asset
Supplies
Cash
d)
Decrease in assets= decrease in liabilities
Accounts Payable
Cash
e)
Decrease in assets= decrease in equity
Owners, Drawings
Cash
f)
Increase in liabilities= decrease in equity
Owners, Capital
Notes Payable
g)
Increase in equity = decrease in liabilities
Accounts Payable
Common Stock
h)
Increase in one liability= decrease in another liability
Accounts Payable
Notes Payable
i)
Increase in one equity= decrease in one equity
Subscribed Share Capital
Common Stock
Expanded Accounting Equation (slide)
Assets= Liabilities + Equity + Income – Expenses
D. Double Entry System (slide)
1.For every debit entry, there must be a corresponding credit entry and accounting
equation must always be maintained equal
2.Each transaction affects at least two accounts
3.Total debit for a transaction must equal total credits
4.An account is debited when an amount is entered on the left side of the account and
credited when amount is entered on the right side
5.The account type determines how increases or decreases in it are recorded
E. Steps in accounting Process (slide)
1.
2.
3.
4.
5.
Analyzing business transactions through source documents
Journalizing, or the recording of transactions in a journal
Posting or transferring of the entries from the journal to the ledger
Preparing the trial balance
Preparing the 10-column worksheet and making the necessary adjusting journal
entries
Recording adjusting entries to the journal and posting the same to the ledger
Preparing the financial statements based on adjusted account balances
Recording and posting of closing entries
Ruling and balancing real and nominal accounts
Preparing post-closing trial balance
Preparing reversing entries
6.
7.
8.
9.
10.
11.
III.
Accounting Cycle (slide)
A. Understanding and Analyzing Business Transactions (slide)
Business transaction- exchange of values involving two parties or within the
enterprise that are evidenced by a source document.
External transactions- sale of goods to customers or the provision of
services to clients
Example: Total Sales amounted to 600,000, of which 80% is via credit with
terms 3/10, 2/15, n/30 and the remaining is thru cash.
Internal transactions- manufacture of goods for sale and incurrence of
losses by the company resulting from fire and flood
Example: Merchandise inventory amounting to 500,000 was razed in a fire
on the storage warehouse.
Source Documents (slide)
-Original record of a business transaction (date and nature of transaction
amount and parties involves) (such as sales invoice, Delivery receipt,
Official receipt, Vendor’s invoice, Purchase requisition forms etc.)
To Analyze a Transaction: (slide)
1.
Determine whether an asset, a liability, owner’s equity, revenue, or
expense account is affected by the transaction.
2.
3.
For each account affected by the transaction, determine whether
the account increases or decreases.
Determine whether each increase or decrease should be recorded
as a debit or a credit
B. Rules of Debit and Credit (slide)
DEBIT TO:
Increase an asset account
Increase an expense account
Increase a loss account
Increase a drawing account
Decrease a liability account
Decrease a capital account
Decrease a revenue account
CREDIT TO:
Increase a liability account
Increase a capital account
Increase a revenue account
Decrease an asset account
Decrease an expense account
Decrease a loss account
Decrease a drawing account
Account Balances (slide)-Difference between the total debits and the total
credits of each account
Debit balance- if total debits are greater than the total credits
Credit balance- if the total credits are greater than the total debits
Normal balance- usual balance of an account assuming proper accounting
has been made
C. Chart of accounts (slide)
-list of all accounts of the business and their respective account numbers.
Use of this would reduce confusion as to the choice of account titles and
permits uniformity in recording routine transactions (put image as example)
D. Journalizing
Once the transactions were identified, these are recorded chronologically in
the general journal through journal entries.
Sample: On January 01, 2020 Mr. A started business (A’s Store) by
investing cash of P 795,075.
1-Jan Cash
795,075.00
Mr. A, Capital
795,075.00
General Journal- book where non repetitive transactions involving
infrequently used accounts are initially recorded in a systematic and
chronological order; also called the book of original entry.
Special Journal- Repetitive entries of the same type, recorded in one of the
special journals (sales journal, purchase journal, cash receipts journal)
Different entries: (SLIDE)
Simple journal entry- one account debited and one account credited
Ex.
Furnitures and Fixtures
Cash
Compound journal entry- more than one account is involved in a single entry
Ex.
Purchases
Cash
Accounts Payable
Memorandum entry- an entry which has no debit or credit, which shows only
the date and a brief explanation or reminder.
Ex. Authorized to issue 500,000 stocks @P 2.00 par value.
E. Ledger and Preliminary Trial Balance (slide)
Ledger- group of accounts and known as the book of final entry. Posting is
the process of periodically transferring all debits and credits recorded in the
general journal to the ledger.
Two types of ledgers:
General ledger: holds the individual accounts grouped according to the
seven account types (asset, liab, capital, income, expense, gains, losses)
Subsidiary ledger- supports the general ledger accounts that comprise
many separate individual accounts (customers’ accounts)
Example
1-Jan
31-Dec
Cash
795,075.00
1-Jan
120,000.00
8-Jan
303,360.00
10-Jan
12-Jan
15-Jan
15-Jun
30-Nov
31-Dec
1,218,435.00
Balance
[f]
Balance
50,000.00
326,435.00
80,000.00
260,000.00
9,000.00
1,000.00
335,000.00
50,000.00
55,000.00
10,000.00
132,000.00
10,000.00
942,000.00
276,435.00
After all transactions were recorded and posted, the Unadjusted trial
Balance is prepared to check that the sum of debit account balances equals
the sum of credit accounts balances.
Trial balance- list of all accounts and their balances and indicated whether
total debit equals total credit. It does not guarantee that all transactions have
been recorded. It is commonly taken every month-end
F. Merchandising (slide)
Two methods of accounting for merchandise Businesses:
1. Periodic Inventory System (physical Inventory)
-uses “Purchases account” to account for merchandise purchased
-merchandise inventory account is used to account for physically
counted unsold goods and in preparing an adjusting entry
-cost of goods sold is calculated by deducting the cost of the unsold
inventory from the total available merchandise for sale (beg.
Merchandise inventory plus purchases)
2. Perpetual Inventory System
-a running balance or record of the merchandise available on hand is
kept by the business with the use of merchandise ledgers.
-uses only one account “merchandise inventory” to account for all
transactions involving the merchandise like purchasing, and selling.
- no adjusting entry is prepared at the end of the period since the cost of
unsold goods and cost of goods sold are already in the books.
Sample: Purchase Goods for Cash P 260,000 and for Credit P 300,000
from B’s Retail Store terms 2/10 n/30 , FOB Shipping Point.
Periodic:
Purchases
560,000.00
Cash
Accounts Payable
Terms: 2/10, n/30; FOB Shipping Point
260,000.00
300,000.00
Perpetual:
Merchandise Inventory
Cash
Accounts Payable
Terms: 2/10, n/30; FOB Shipping Point
560,000.00
260,000.00
300,000.00
SHIPPING
FOB Shipping FOB Destination
Point
Ownership
delivered to delivered to buyer
(title) passes freight carrier
to buyer when
merchandise
is
Transportation buyer
seller
costs are paid
by
Buyers Book
FOB Shipping Point
A. Buyer pays for the
freight
Freight-In
Cash
B. Seller pays for the
freight
Freight-In
Accounts Payable
FOB Destination
A. Buyer pays for the
freight
Accounts Receivable
Cash
B. Seller pays for the
freight
No entry required
Seller's Book
No entry required
Accounts Receivable
Cash
Freight-Out
Accounts Payable
Freight-Out
Cash
IV.
Adjusting and Correcting Entries
A. Accruals (slide)
1. Accrued Income- are revenues that have been earned but have not been recorded
in the accounts. An example of an accrued revenue is fees for services that an
attorney has provided but has not billed to the client at the end of the period.
2. Accrued Expense- are expenses that have been incurred but have not been
recorded in the accounts. An example of an accrued expense is accrued wages
owed to employees at the end of a period.
B. Deferrals
1. Deferred Income- are items that have been initially recorded as liabilities but are
expected to become revenues over time or through the normal operations of the
business. An example of deferred revenue is unearned rent
a. Liability Method- the initial entry credit is to a liability account
b. Income Method- the initial entry credit is to an income account
2. Deferred Expense- are items that have been initially recorded as assets but are
expected to become expenses over time or through the normal operations of the
business. Supplies and prepaid insurance are two examples of prepaid expenses.
a. Asset Method- the initial entry debit is to an asset account
b. Expense Method- the initial entry is debit is to an expense account
Original Entry
Cash
Unearned
Income
Adjusting Entry
Unearned Income
Cash
Income
Unearned Income
Income
Income
Prepaid Asset
Cash
Expense
Prepaid Asset
Expense
Prepaid Asset
Expense
Cash
C. Depreciation (slide)
decrease in usefulness of a fixed asset except land.
Three factors are considered in determining the amount of depreciation expense
to be recognized each period. These three factors are (a) the fixed asset’s initial
cost, (b) its expected useful life, and (c) its estimated value at the end of its useful
life. This third factor is called the residual value, scrap value, salvage value, or
trade-in value.
1. Straight Line (slide)
The straight-line method provides for the same amount of depreciation expense
for each year of the asset’s useful life. It is computed by dividing the difference
between the assets initial cost and residual value by its estimated useful life.
(example)
2. Other Methods (theories) (slide)
a. Unit of Production- provides for the same amount of depreciation expense
for each unit produced or each unit of capacity used by the asset. To apply
this method, the useful life of the asset is expressed in terms of units of
productive capacity such as hours or miles. The total depreciation expense
for each accounting period is then determined by multiplying the unit
depreciation by the number of units produced or used during the period.
b. Double Declining- provides for a declining periodic expense over the
estimated useful life of the asset. To apply this method, the annual straightline depreciation rate is doubled.
c. SYD
Provides for depreciation that is computed by multiplying the depreciable
amount by a series of fractions whose numerator is the digit in the useful
life of the asset and whose denominator is the sum of the digits in the useful
life of the asset.
D. Bad debts (slide)
1. Percentage of Sale
Accounts receivable are created by credit sales. The amount of credit sales
during the period may therefore be used to estimate the amount of uncollectible
accounts expense. The amount of this estimate is added to whatever balance
exists in Allowance for Doubtful Accounts.
2. Percentage of A/R
The estimate based on receivables is compared to the balance in the allowance
account to determine the amount of the adjusting entry.
E. Correcting Entries
Reasons Why Trial Balance may not be Balance: (slide)
1.
2.
3.
4.
5.
Error in footing the debit and credit columns
Error in transferring from the ledger to the trial balance
Error in posting (e.g. posting debit to credit side of account)
Error in journalizing
Error of omission
Working-Back Method (slide)
1.
Check if amount is doubled on debit or credit side
2.
Transplacement error- e.g. 1M -> 100,000
3.
Transposition error- when position of numbers are mixed (e.g. 535,700 -> 553,700)
Error Correction
Journal entry is incorrect but not
posted. insert correct title or
amount.
Journal entry is correct but posted
incorrectly.
Journal entry is incorrect and
posted.
Procedure
Draw a line through the error and
insert correct title or amount.
Draw a line through the error and
post correctly.
Journalize and post a correcting
entry
F. Fractional Year Examples (slide)
G. Adjusted Trial Balance (slide)
After all the adjusting entries have been posted, another trial balance, called the
adjusted trial balance, is prepared. The purpose of the adjusted trial balance is to verify
the equality of the total debit balances and total credit balances before we prepare the
financial statements. If the adjusted trial balance does not balance, an error has occurred.
V.
Financial Statements
A. Introduction to Financial Statements
Financial Statements - means by which the information accumulated in and
processed by financial accounting is communicated to users on a periodic basis
and is the end-product of the financial accounting process.
B. Income Statement (P/L, Comprehensive Income)
Income Statement - useful tool for evaluating management’s stewardship of the
resources of the enterprise and for assessing the inflow and outflow of cash.
C. Statement of Changes in Equity
Shows balance of the owner’s investment in the business at the beginning of the
accounting period, additional investments made by the owner, withdrawals by
the owner for personal use, the profit or loss for the period, and the balance of
the owner’s investment at the end of the accounting period.
1. Sole and partnership - Sole Proprietor is the most basic legal form of business
and has only one owner, while Partnership is an association of two or more
persons who bind themselves to contribute money, property, or industry to a
common fund with the intention of dividing the profits among themselves.
2. Corporation (introduction to Retained earnings) - Corporation is the most
complex form of business organizations, and consists of a shareholder who
invests in a corporation. It is governed by the Corporation Code of the
Philippines. A corporation would often prepare a statement of retained earnings
in lieu of the changes in equity of a Sole and a Partnership. After then, the
information from RE Statement can be used in preparing the Stockholders
Equity Statement.
D. Balance Sheet - Condition of a business, in monetary terms, as of a given
date or point in time and is primarily provided in a statement of financial
position or balance sheet.
1. Account form - The account form balance sheet is a financial statement
format where the assets are reported on the left side and the liabilities and
equity are reported on the right side.
2. Report form - A report form balance sheet is a balance sheet that presents
asset, liability, and equity accounts in a vertical format.
E. Cash Flow - summarizes cash activity for the period, classified according to
the nature of activity.
1. Direct - The direct method of cash flow starts with cash transactions such as
cash received and cash paid while ignoring the non-cash transactions.
2. Indirect - Indirect cash flow method, on the other hand, the calculation starts
from the net income, and then we go along adjusting the rest.
VI. Closing Entries
A. The “Income and Expense Summary Account” - is a temporary account into
which all income statement revenue and expense accounts are transferred at the
end of an accounting period.
B. Debit balance in the Income and Expense Summary Account - If the Income
Summary has a debit balance, the amount is the company's net loss. The
Income Summary will be closed with a credit for that amount and a debit to
Retained Earnings or the owner's capital account.
C. Credit balance in the Income and Expense Summary Account - if the Income
Summary has a credit balance, the amount is the company's net income. The
Income Summary will be closed with a debit for that amount and a credit to
Retained Earnings or the owner's capital account.
D. Closing I&E to Capital - To close all the income accounts, we debit Service
Revenue for the full amount and credit Income Summary for the same. To close
expense accounts, we credit the expense accounts and debit Income Summary.
Then, the Income Summary balance is ultimately closed to the capital account.
E. Post-Closing Trial Balance - A post-closing trial balance is a listing of all balance
sheet accounts containing non-zero balances at the end of a reporting period.
VII. Reversing entries
A. Purpose - accountants use reversing entries to cancel out the adjusting
entries that were made to accrue revenues and expenses at the end of the
previous accounting period.
Sample Problem
<slide1-3>
On January 01, 2020 Mr. A started business (A’s Store) by investing cash of P 795,075 and other
transactions for the year are as follows:
1/1
Purchase Furniture costing P 80,000 for cash.
1/8
Purchase Goods for Cash P 260,000 and for Credit P 300,000 from B’s Retail Store terms 2/10
n/30 , FOB Shipping Point.
1/10 Purchase additional Goods on credit for P 50,000 from C’s Store terms n/30, FOB Destination.
Paid freight on purchase on January 8 amounting to P 9,000.
1/12 Paid freight on purchase on January 10 amounting to P 1,000.
1/15 Returned P 9,000 of purchased merchandise to C’s Store due to substandard quality.
Paid B and C.
4/1
Purchase Office Equipment for P 50,000 by issuing an 8% interest bearing note with maturity on
April 1, 2022. Principal and interest are both payable on maturity date.
6/15 Owner withdrew of worth P 50,000 for personal use.
11/30 Monthly salaries of P 5,000 was paid up to November.
12/31 Total Sales amounted to 600,000, of which 80% is via credit with terms 3/10, 2/15, n/30 and the
remaining is thru cash. Half of the customers who purchased via credit paid 10 days after the
sale, 15% paid 15 days after the sale and 10% did not take the discount and remains outstanding
as of the year end. Cost of Goods Sold amounted to P 354,000. Freight on sale was paid by A’s
Store amounting to P 10,000, Terms: FOB Destination.
Customers who purchased via cash were refunded for P 10,000.
25% of the credit customers defaulted on their payment at due date and instead issued a note
to A’s Store.
Purchased additional merchandise from C’s Store amounting to P 10,000 on credit to meet
expected inventory levels for next year.
Other Expenses that were paid are listed as follows
Advertising
P 12,000
Rent
P 60,000
Insurance
P 24,000
Light, water and Electricity
P 36,000
<slide 4-8>
General Journal- Periodic
1-Jan Cash
795,075.00
Mr. A, Capital
Furnitures and Fixtures
Cash
795,075.00
80,000.00
80,000.00
8-Jan Purchases
Cash
Accounts Payable
Terms: 2/10, n/30; FOB Shipping Point
10-Jan Purchases
Accounts Payable
Terms: n/30; FOB Destination
560,000.00
260,000.00
300,000.00
50,000.00
50,000.00
Freight-In
Cash
9,000.00
12-Jan Accounts Receivable
Cash
1,000.00
15-Jan Accounts Payable
Purchase Returns and Allowances
9,000.00
Accounts Payable
Cash
Purchase Discounts
1-Apr Office Equipment
Notes Payable
9,000.00
1,000.00
9,000.00
341,000.00
335,000.00
6,000.00
50,000.00
50,000.00
15-Jun Mr. A, Drawings
Cash
50,000.00
30-Nov Salaries Expense
Cash
55,000.00
31-Dec Cash
Accounts Receivable
Sales
Sales Returns and Allowances
Cash
Cash
Sales Discount
Accounts Receivable
Freight-out
Cash
50,000.00
55,000.00
120,000.00
480,000.00
600,000.00
10,000.00
10,000.00
303,360.00
8,640.00
312,000.00
10,000.00
10,000.00
Notes Receivable
Accounts Receivable
120,000.00
120,000.00
Advertising Expense
Rent Expense
Insurance Expense
Utilitites Expense
Cash
12,000.00
60,000.00
24,000.00
36,000.00
Purchases
Accounts Payable
10,000.00
132,000.00
10,000.00
<slide 9-13>
General Journal- Perpetual
1-Jan Cash
795,075.00
Mr. A, Capital
Furnitures and Fixtures
Cash
8-Jan Merchandise Inventory
Cash
Accounts Payable
Terms: 2/10, n/30; FOB Shipping Point
10-Jan Merchandise Inventory
Accounts Payable
Terms: n/30; FOB Destination
Merchandise Inventory
Cash
795,075.00
80,000.00
80,000.00
560,000.00
260,000.00
300,000.00
50,000.00
50,000.00
9,000.00
9,000.00
12-Jan Accounts Receivable
Cash
1,000.00
15-Jan Accounts Payable
Merchandise Inventory
9,000.00
Accounts Payable
Cash
Merchandise Inventory
341,000.00
1,000.00
9,000.00
335,000.00
6,000.00
1-Apr Office Equipment
Notes Payable
50,000.00
50,000.00
15-Jun Mr. A, Drawings
Cash
50,000.00
30-Nov Salaries Expense
Cash
55,000.00
31-Dec Cash
Accounts Receivable
Sales
50,000.00
55,000.00
120,000.00
480,000.00
600,000.00
Cost of Goods Sold
Merchandise Inventory
300,000.00
Sales Returns and Allowances
Cash
10,000.00
Merchandise Inventory
Cost of Goods Sold
Cash
Sales Discount
Accounts Receivable
Freight-out
Cash
Notes Receivable
Accounts Receivable
300,000.00
10,000.00
5,000.00
5,000.00
303,360.00
8,640.00
312,000.00
10,000.00
10,000.00
120,000.00
120,000.00
Advertising Expense
Rent Expense
Insurance Expense
Utilitites Expense
Cash
12,000.00
60,000.00
24,000.00
36,000.00
Merchandise Inventory
Accounts Payable
10,000.00
132,000.00
10,000.00
Cash
1-Jan 795,075.00
31-Dec 120,000.00
303,360.00
1-Jan 80,000.00
8-Jan 260,000.00
10-Jan 9,000.00
12-Jan 1,000.00
15-Jan 335,000.00
15-Jun 50,000.00
30-Nov 55,000.00
31-Dec 10,000.00
132,000.00
10,000.00
1,218,435.00
942,000.00
Balance 276,435.00
[f]
50,000.00
Balance 326,435.00