ACCOUNTING
ACCOUNTING
Accounting is the language of business.
The affairs and the results of the
business are communicated to others
through accounting information, which
has to be systematically recorded and
presented.
Accounting - Definition
Accounting can be defined as the process of
identifying, measuring, recording and
communicating the economic events of an
organization to the interested users of the
information.
Characteristics of Accounting




Economic events
Identification, measuring, recording
and communication
Organization
Interested users of information
Economic Events
An economic event has been defined as ‘a
happening of consequence’ to a business
entity. Economic events are classified into
• External types
• Internal types.
Economic Events
Continue…
An external event which involves the
transfer or exchange of something of value
between two or more entities.
Economic Events

Continue…
Sale of goods to customers.
• Payment of monthly rent to the landlord.

Purchase of raw materials by an
enterprise from some other business
enterprise.

Rendering of services to customers, etc.
Economic Events
Continue…
An internal event is an economic event that
occurs entirely within one enterprise.
Eg : Supply of raw materials or equipment
by the stores department to the
manufacturing department.
Identification
It means determining what to record, i.e. to
identify recordable events. It involves
observing activities and selecting those
events that are considered to be evidence of
economic activity.
Identification
continue …
The value of human resources, changes in
managerial policies or changes in personnel
are important but none of these items is
recorded in financial accounts. However,
when a company makes a cash sale or
purchase, even if the item is small, it is
recorded in the books of account.
Measurement
It means quantification, including estimates
of business transactions into financial terms,
i.e. rupees and paise. If an event cannot be
quantified in monetary terms, it is not
considered
accounts.
for
recording
in
financial
Recording
Once the economic events are identified
and measured in financial terms, they are
recorded, i.e. a chronological diary of these
measured events is kept in an orderly and
systematic manner.
Communication
The economic events are identified,
measured and recorded is communicated in
some form to management and others for
internal and external uses. The information
is communicated through the preparation
and distribution of accounting reports. The
most common reports are in the form of
financial statements (Balance Sheet and
Profit and Loss Statement).
Organization
It can be a business entity or a nonbusiness entity, depending upon the profit
or non-profit motive.
Users of Accounting Information
Different categories of users need different
kinds of information for making decisions.
These users can be divided into :
•Internal Users; and
•External Users.
Internal Users
These are the persons who manage the
business, i.e. management at the top,
middle, and lower levels. Their requirements
of information are different because they
make different types of decisions.
Internal Users
continue…
The top level is more concerned with
planning; the middle level is concerned
equally with planning and control; and the
lower level is concerned more with
controlling operations.
Information is
supplied on different aspects, e.g. cash
resources, sales estimates, results of
operations, financial position, etc.
External Users
All persons other than internal users come
in the group of external users. External
users can be divided into two groups:

those having direct interest; and

those having indirect interest
in a business organization.
External Users
continue…
The main sources of information for external
users are annual reports of business
organizations, which state the financial
position and performance and give the
auditor’s report, director’s report and other
information.
External Users
continue…
Investors and creditors are the external
users having direct interest. Tax authorities,
regulatory agencies, customers, labour
unions, trade associations, stock exchanges,
investors, etc are indirectly interested in the
company’s financial strength, its ability to
meet short-term and long-term obligations,
its future earning power, etc for making
various decisions.
ASSETS
These are economic resources of an
enterprise that can be usefully expressed in
monetary terms. Assets are things of value
used by the business in its operations.

Fixed Assets

Current Assets
ASSETS
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 Fixed Assets are assets held on a longterm basis.
e.g. Land, Building, Machinery, Plant,
Furniture and Fixtures, etc.
ASSETS
continue…
 Current Assets are assets held on a
short-term basis.
e.g. Debtors, Bills receivable,
Stock(Inventory), Cash and Bank
balances, etc.
LIABILITIES
These are obligations or debts that the
enterprise must pay in money or services at
some time in the future.
• Long-term liabilities
• Short-term liabilities
LIABILITIES
continue..
 Long-term liabilities are those that are
usually payable after a period of one year.
e.g. A term loan from a financial institution,
debentures (bonds) issued by a company.
LIABILITIES
continue..
 Short-term liabilities are obligations that
are payable within a period of one year.
e.g. Creditors, bills payable, overdraft from
a bank for a short period.
CAPITAL
Investment by the owner for use in the firm
is known as capital. Owner’s equity is the
ownership claim on total assets. It is equal
to total assets minus total liabilities.
REVENUES
These are the amounts the business earns
by selling its products or providing services
to customers. Other titles and sources of
revenue common to many businesses are:
sales, fees, commission, interest, dividends,
royalties, rent received, etc.
EXPENSES
These are costs incurred by a business in
the process of earning revenue. Generally,
expenses are measured by the cost of
assets consumed or services used during an
accounting period. The usual titles of
expenses are: depreciation, rent, wages,
salaries, interest, costs of heat, light and
water, telephone, etc.
PURCHASES
Purchases are total amount of goods
procured by a business on credit and for
cash, for use or sale. In a trading concern,
purchases are made of merchandise for
resale with or without processing.
In a manufacturing concern, raw materials
are purchased, processed further into
finished goods and then sold. Purchases
may be cash purchase or credit purchase.
SALES
Sales are total revenues from goods or
services sold or provided to customers.
Sales may be cash sales or credit sales.
STOCK
Stock
(Inventory)
is
a
measure
of
something on hand – goods, spares and
other items – in a business.
It is called stock on hand.
STOCK: continue…
In a trading concern, the stock on hand is
the amount of goods which have not been
sold on the date on which the balance sheet
is prepared. This is also called closing
stock.
STOCK
continue…
In a manufacturing concern, closing stock
comprises
raw
materials,
semi-finished
goods and finished goods on hand on the
closing date.
Similarly, opening stock is the amount of
stock at the beginning of the accounting
year.
DEBTORS
Debtors are persons and/or other entities who
owe to an enterprise an amount for receiving
goods and services on credit.
The total amount standing against such persons
and/or entities on the closing date, is shown in the
Balance Sheet as Sundry Debtors on the asset
side.
CREDITORS
Creditors are persons and/or other entities who
have to be paid by an enterprise an amount for
providing the enterprise goods and services on
credit.
The total amount standing to the favour of such
persons and/or entities on the closing date, is
shown in the Balance Sheet as Sundry Creditors
on the liability side.
ACCOUNTING PRINCIPLES
Accounting principles can be subdivided into
two categories:

Accounting Concepts; and

Accounting Conventions.
ACCOUNTING PRINCIPLES

Accounting Concepts

Accounting Conventions
The term ‘concept’ is used to connote
accounting postulates, that is necessary
assumptions and conditions upon which
accounting is based. The term ‘convention’
is used to signify customs and traditions as
a guide to the presentation of accounting
statements.
ACCOUNTING PRINCIPLES
Accounting Concepts
•
Business Entity Concept
•
Money Measurement Concept
•
Cost Concept
•
Going Concern Concept
•
Dual Aspect Concept
•
Realization Concept
•
Accounting Period Concept
ACCOUNTING PRINCIPLES
Accounting Conventions
•
Convention of Consistency
•
Convention of Disclosure
•
Convention of Conservation
ACCOUNTING PRINCIPLES
Accounting Concepts
The term ‘concept’ is used to connote
accounting postulates, that is necessary
assumptions and conditions upon which
accounting is based.
Business Entity Concept
Business is treated as a separate entity or
unit apart from its owner and others. All the
transactions of the business are recorded in
the books of business from the point of view
of the business as an entity and even the
owner is treated as a creditor to the extent
of his/her capital.
Money Measurement Concept
In
accounting,
we
record
only
those
transactions which are expressed in terms
of money. In other words, a fact which can
not be expressed in monetary terms, is not
recorded in the books of accounts.
Cost Concept
Transactions are entered in the books of
accounts at the amount actually involved.
Suppose a company purchases a car for
Rs.1,50,000/- the real value of which is
Rs.2,00,000/-, the purchase will be recorded
as Rs.1,50,000/- and not any more. This is
one of the most important concept and it
prevents arbitrary values being put on
transactions.
Going Concern Concept
It is persuaded that the business will exists
for a long time and transactions are
recorded from this point of view.
Dual Aspect Concept
Each transaction has two aspects, that is,
the receiving benefit by one party and the
giving benefit by the other. This principle is
the core of accountancy.
Dual Aspect Concept continue…
For example, the proprietor of a business
starts his business with Cash Rs.1,00,000/-,
Machinery of Rs.50,000/- and Building of
Rs.30,000/-, then this fact is recorded at
two places. That is Assets account (Cash,
Machinery & Building) and Capital accounts.
The capital of the business is equal to the
assets of the business.
Dual Aspect Concept continue…
Thus, the dual aspect can be expressed as
under
Capital + Liabilities = Assets
or
Capital = Assets – Liabilities
Realization Concept
Accounting
is
a
historical
record
of
transactions. It records what has happened.
It does not anticipate events. This is of
great important in preventing business firms
from inflating their profits by recording sales
and income that are likely to accrue.
Accounting Period Concept
Strictly speaking, the net income can be
measured by comparing the assets of the
business existing at the time of its
liquidation. But as the life of the business is
assumed to be infinite, the measurement of
income according to the above concept is
not possible. So a twelve month period is
normally adopted for this purpose. This time
interval is called accounting period.
ACCOUNTING PRINCIPLES
Accounting Conventions
The term ‘convention’ is used to signify
customs and traditions as a guide to the
presentation of accounting statements.
Convention of Consistency
In order to enable the management to draw
important conclusions regarding the working
of the company over a few years, it is
essential that accounting practices and
methods remain unchanged from one
accounting
period
to
another.
The
comparison of one accounting period with
that of another is possible only when the
convention of consistency is followed.
Convention of Disclosure
This principle implies that accounts must be
honestly prepared and all material
information must be disclosed therein. The
contents of Balance Sheet and Profit and
Loss Account are prescribed by law. These
are designed to make disclosure of all
material facts compulsory.
Convention of Conservation
Financial statements are always drawn up
on rather a conservative basis. That is,
showing a position better than what it is,
not permitted. It is also not proper to show
a position worse than what it is. In other
words, secret reserves are not permitted.
FUNCTIONS OF
ACCOUNTING
• Keeping systematic records
• Protecting properties of the business
• Communicating the results
• Meeting legal requirements
Keeping systematic records
The first function of accounting is to keep a
systematic record of financial transactions,
to post them to the ledger accounts and
ultimately prepare final statements.
Protecting properties of the
business
The second important function is to protect
the property of the business. The system
accounting is designed in such a way that it
protects its assets from an unjustified and
unwarranted use.
Meeting legal requirements
The
fourth
accounting
and
is
the
to
last
meet
function
the
of
legal
requirements under the Companies Act,
Income Tax Act, Sales Tax Act and so on.
THE ACCOUNTING CYCLE
Recording transactions in subsidiary books.
Classifying data by posting from subsidiary
books to the accounts.
Closing the books and preparation of final
accounts.
SYSTEMS OF ACCOUNING
• Cash System
• Single Entry System
• Double Entry System
Cash System
This system takes into account only cash
receipts and payments on the assumption
that there are no credit transactions. Even if
there are any, they will not be recorded.
This system may be suitable for charitable
institutions like schools, colleges, social
clubs, etc.
Single Entry System
As the name itself implies, it deals with only
one aspect of transaction. This system
recognizes cash and personal items of the
transactions and it ignores the impersonal
items. So it is incomplete, inaccurate and
unscientific.
Double Entry System
This is the most scientific system that
recognizes both the aspects of each
transaction and also records each aspect.
This system takes into account every
business transaction in its double aspect,
i.e., receiving benefit by one party and
giving the like benefit by another. So it
records the two-fold aspect of every
business transaction.
Double Entry System continue…
Example: When ‘A’ purchases a car, he
receives the benefit in the form of a car and
gives the benefit in the form of money.
Similarly, the car seller receives the benefit
in the form of money and gives the benefit
in the form of a car.
Double Entry System continue…
Definition
The process by which the dual aspects of
business transactions are recorded is known
as the double entry book-keeping. It is a
complete book-keeping in the sense that it
records all the two aspects, debit and credit
in each business transaction, in equal value.
CLASSIFICATION OF ACCOUNTS
Every business deal with other “Person”, possesses
“Assets”, pay “Expenses” and receive “Income”.
So from the above, we can see every business
has to keep
• An account for each person
• An account for each asset and
• An account for each expense or income.
CLASSIFICATION OF ACCOUNTS
• Accounts in the names of persons are known as
“Personal Accounts”
• Accounts in the names of assets are known as
“Real Accounts”
• Accounts in respect of expenses and incomes
are known as “Nominal Accounts”
CLASSIFICATION OF ACCOUNTS
ACCOUNTS
PERSONAL
ACCOUNTS
IMPERSONAL
ACCOUNTS
REAL
ACCOUNTS
NOMINAL
ACCOUNTS
PERSONAL ACCOUNTS
Accounts in the name of persons are known as
personal accounts.
Eg: Babu A/C,
Babu & Co. A/C,
Outstanding Salaries A/C, etc.
REAL ACCOUNTS
These are accounts of assets or properties. Assets
may be tangible or intangible. Real accounts are
impersonal which are tangible or intangible in
nature.
Eg:- Cash a/c, Building a/c, etc
are Real
Accounts related to things which we can
feel, see and touch.
Goodwill a/c, Patent a/c, etc Real Accounts
which are of intangible in nature.
NOMINAL ACCOUNTS
These accounts are impersonal, but invisible and
intangible. Nominal accounts are related to those
things which we can feel, but can not see and
touch. All “expenses and losses” and all “incomes
and gains” fall in this category.
Eg:- Salaries A/C, Rent A/C, Wages A/C, Interest
Received A/C, Commission Received A/C,
Discount A/C, etc.
DEBIT AND CREDIT
Each accounts have two sides – the left side and
the right side. In accounting, the left side of an
account is called the “Debit Side” and the right
side of an account is called the “Credit Side”. The
entries made on the left side of an account is
called a “Debit Entry” and the entries made on the
right side of an account is called a “Credit Entry”.
RULES FOR DEBIT AND CREDIT
Personal
Account
Debit the Receiver
Credit the Giver
Debit what comes in
Real Accounts
Nominal
Accounts
Credit what goes
out
Debit all Expenses
and Losses
Credit all Incomes
and Gains
Steps for finding the debit and credit aspects
of a particular transaction
• Find out the two accounts involved in the
transaction.
• Check whether it belongs to Personal, Real or
Nominal account.
• Apply the debit and credit rules for the two
accounts.
Exercise
• Purchased a Building for Rs.20,000/-.
• Paid Cash Rs.1,000/- to Satheesh.
• Paid Salary Rs.1000/-.
• Received Commission Rs.250/-.
• Sold goods for Cash Rs.3500/-.
Subsidiary Books
• General Journal
• Special Journals
• Purchase Book
• Sales Book
• Purchase Return Book
• Sales Return Book
• Bills Receivable Book
• Bills Payable Book
• Cash Book
• Petty Cash Book
Journal
Journal is the prime or original book of entry
which all transactions are recorded in the form
entries. Journalising is an act of recording
entering transactions in a Journal in the order
date.
Date
Particulars
LF
Debit
Amount
Credit
Amount
in
of
or
of
Journal Entry
Jan 1, 1981 Prakash Started a business Rs.
15,000/Date
Particulars
1981
Jan 1
Cash a/c
Dr.
To Prakash’s Capital
a/c
(Being cash invetsed to
business)
LF
Debit
Amount
Credit
Amount
15,000
15,000