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Introduction to Accounting
C. Gomez

Lesson 1 | Handout Set #1

Topic: Fundamentals of Accounting

What is Accounting?

Textbook ( Principles of Accounting, 19th Edition Wild, Shaw, Chiappetta)

Accounting is an information and measurement system that identifies, records, and communicates relevant,
reliable, and comparable information about an organizations business activities.

American Institute of Certified Public Accountants (AICPA)

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

Components of accounting
1. Identifying process by which business activities are recognized or not recognized as accountable events
2. Measuring process of assigning amounts to the events which have been identified as accountable
3. Communicating process of preparing and distributing accounting reports to potential users of accounting

What are the purposes of Accounting?

1. To provide an effective means of recording the transactions of a company
2. To provide decision-makers with information useful in making economic decisions
a. Financial position (balance sheet)
b. Results of operations (income statement)

Users of Accounting Information

accounting information is most often embodied in a companys financial statements, that is why the
more common term is users of financial statements

accounting information is useful to the users if such information have the following qualitative
characteristics: relevance, reliability, understandability, and comparability

1. External users
o Lenders
o Shareholders/Investors
o Customers
o Suppliers
o External auditors
2. Internal users
o Board of directors
o Managers
o Employees
o Internal auditors
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Introduction to Accounting
C. Gomez

Lesson 1 | Handout Set #1

Topic: Fundamentals of Accounting

Areas of Accounting

Financial accounting
Managerial accounting
Government accounting

Generally Accepted Accounting Principles (GAAP)

What is GAAP?

The GAAP represent/s the rules, procedures, practice, and standards followed in the preparation and
presentation of financial statements.

The GAAP constitute/s the laws that must be followed in accounting, more specifically in financial

If the legal system has the Civil Code, the Revised Penal Code, and the Corporation Code, accounting has
the GAAP.

GAAP may differ from country to country or from region to region. US Companies, for instance, adhere to
the US GAAP. Here in the Philippines, we have our own Philippine Accounting Standards (PAS), which, in
effect, are based on International Accounting Standards (IAS).


The IAS is formulated and published by an international body called the International Accounting
Standards Board (IASB). The IASC issues these statements with the aim of harmonizing or bringing to
uniformity the different accounting regulations, standards, and procedures around the world.

The PAS is formulated and published by a local body called the Financial Reporting Standards Council
(FRSC). The FRSC was established by the Board of Accountancy in 2006 to assist the Board in promulgating
accounting standards in the Philippines and to establish GAAP in the Philippines. The FRSC succeeded the
Accounting Standards Council (ASC) which had previously had the same powers and functions. The PAS
is actually largely based on the IAS if not entirely identical with.

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Introduction to Accounting
C. Gomez

Lesson 1 | Handout Set #1

Topic: Fundamentals of Accounting

Underlying Assumptions

Basic notions or fundamental premises on which the accounting process is based.

These serve as the foundation of accounting in order to avoid misunderstanding and further enhance the
understanding and usefulness of the financial statements.
These are unwritten GAAP which have been made effective not by formal standard-making processes, but
by mere convention or consistent practice.

1. Accrual Business transactions are recorded using accrual accounting. It means that:
Income is recognized when earned regardless of when the payment for it is received (Revenue
Expense is recognized when incurred regardless of when it is to be paid (Expense recognition)

Example: The New Directions, an up and coming show choir, was hired by a private school to perform
in their seniors graduation ball to be held on March 31, 2011. On March 1, 2011, the school paid the
choir P20,000 for their scheduled show.
Under accrual accounting, the revenue of P20,000 should be recognized/recorded on:
a. March 1, 2011
b. March 31, 2011

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Introduction to Accounting
C. Gomez

Lesson 1 | Handout Set #1

Topic: Fundamentals of Accounting

Example: On January 2, 2011, Starbucks received its MERALCO bill for the month of December 2010
amounting to P10,000. It was only able to settle its bill on January 10, 2011.
Under accrual accounting, Starbucks expense on electricity should be recognized/recorded on:
a. December 2010
b. January 2, 2011
c. January 10, 2011

2. Going concern assumption the business, whether actually profitable or not, is assumed to continue and
be profitable for an indefinite period of time

When the going concern assumption is applicable, all other GAAP are applicable.
When this assumption is no longer used, certain GAAP will no longer apply (historical cost concept).

3. Accounting/Business entity concept the business/enterprise/company has a personality separate and

distinct from its owner/s and the employees that compose it.

The transactions of the business entity shall be recorded and kept separately from the transactions of
its owner/s and employees.

Example: Nigel Barker, a freelance photographer, established a modest enterprise to engage in the business
of providing various photography services and named it Top Model Photos. Mr. Barker in buying his
current residence, a posh apartment in New York, obtained a loan from the bank amounting to $10,000.
Under the legal entity concept, the $10,000 loan is a liability of Mr. Barker and not of Top Model Photos.
4. Time period or periodicity the life of a company may be divided into segments called accounting

For reporting purposes, it is necessary to make distinctions as to the different accounting periods.
An accounting period is usually composed of twelve (12) months:
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Introduction to Accounting
C. Gomez

Lesson 1 | Handout Set #1

Topic: Fundamentals of Accounting

a. Calendar year accounting period which begins on January 1 and ends on December 31.
b. Fiscal year accounting period also runs for twelve months, but begins on a date other than
January 1 (e.g. April 1)

An accounting period of 12 months may be broken down further to shorter periods for reporting (e.g.
semi-annually, quarterly, monthly)

An accounting period is different from an accounting/operating cycle such that the latter is the average
period of time that it takes for an enterprise to acquire the merchandise inventory, sell the inventory to
customers and ultimately collect cash from the sale.

5. Stable monetary unit the transactions of a business are measured using only one stable currency.

It is possible for a company to enter into transactions that are denominated in different monetary units
or currencies.
A company may sell products to US clients who pay in US Dollar, but it may also buy its inventory or
stocks from local suppliers who require payment in Philippine Peso.
The concept of stable monetary unit requires a company, for reporting purposes, to express all of its
transactions using only one currency.
Functional currency is the accounting parlance for the stable monetary unit of a company. All other
transactions which are originally expressed different foreign currencies are required to be translated
into the functional currency using the applicable foreign exchange rates.

6. Historical cost It is a basis of measurement of business transactions in which activities are recognized and
recorded in the books.

Historical cost is the amount of cash originally involved in a certain transaction.

Example: A Company decides to purchase a truck on January 1, 2010 for P1 million. Six (6) months
later, the Company paid P20,000 for repairs and maintenance of the said truck.
Historical cost in this case will be P1 million, the purchase price of the truck. It will not include the amount
spent on repairs as the same was not involved in the original transaction.

7. Matching principle All costs associated with a particular item of revenue should be recorded in the same
period as the revenue is recorded.

Conceptual Framework Qualitative Characteristics

Conceptual framework summary of the terms and concepts that underlie the preparation and
presentation of the financial statements.
Qualitative characteristics attributes that make financial information useful to the users.

1. Relevance capacity of information to influence a decision.

2. Reliability degree of confidence users place upon the truthfulness of the representations in the financial

Factors that enhance the reliability of financial information:

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Introduction to Accounting
C. Gomez

Lesson 1 | Handout Set #1

Topic: Fundamentals of Accounting

a. Faithful representation the actual effects of the transactions should be properly accounted and
reported in the financial statements.
b. Substance over form transactions should be recorded in accordance with their substance and
reality and not merely their legal form.
c. Neutrality Financial information must be free from bias and partiality.
d. Conservatism The company shall anticipate profit and provide for all losses. In a situation
wherein several alternatives for income are available, the alternative which will yield the least
benefit (least income) should be given higher regard.
Everything that can go wrong will go wrong.
Dont count your chicks until the eggs hatch.
e. Completeness (Adequate disclosure principle) - A business entity should report or disclose all of
its transactions. Reporting the amount involved in a transaction is usually not enough. Full
disclosure requires the company to explain, in detail, the events that have transpired and all other
information related to a transaction. These details are embodied in the notes to the financial
3. Understandability Financial information must be comprehensible or intelligible if it is to be useful.
Technical jargon should be communicated in a way that general users, even non-accountants, will be able
to understand the transaction.
4. Comparability Financial information must be presented in a manner that will allow the users to compare
the information of:
one period to previous or future accounting period
one enterprise with other competing enterprises

Consistency In order to be comparable, financial information should be consistent. Accounting

methods and practices should be applied on a uniform basis from period to period.

5. Materiality Although, adequate disclosure requires a company to report all of its transactions, this concept
limits such reporting only to those transactions and information which are:

It will be impracticable and cumbersome for a company to divulge every little detail in its operations.
A transaction or a piece of information is considered material if it is capable of altering a business
decision which is based upon it.

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