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Accounting for Management

UNIT I FINANCIAL ACCOUNTING

Introduction to Financial Accounting, Cost and Management Accounting Generally Accepted


Accounting Principles, Conventions and Concepts Balance Sheet and Related Concepts Profit and
Loss Account and Related Concepts Inflation. Accounting Introduction to Human Resources
Accounting

Introduction
Accounting is aptly called the language of business. This designation is applied to accounting because
it is the method of communicating business information. The basic function of any language is to
serve as a means of communication. Accounting duly serves this function. The task of learning
accounting is essentially the same as the task of learning a new language. But the acceleration of
change in business organization has contributed to increase the complexities in this language. Like
other languages, it is undergoing continuous change in an attempt to discover better means of
communications. To enable the accounting language to convey the same meaning to all stakeholders, it
should be made standard. To make it a standard language certain accounting principles, concepts and
standards have been developed over a period of time. This lesson dwells upon the different dimensions
of accounting, accounting concepts, accounting principles and the accounting standards.

Book Keeping and Accounting


Book-keeping is that branch of knowledge which tells us how to keep a record of business
transactions. It is considered as an art of recording systematically the various types of transactions that
occur in a business concern in the books of accounts. According to spicer and pegler, book-keeping is
the art of recording all money transactions, so that the financial position of an undertaking and its
relationship to both its proprietors and to outside persons can be readily ascertained.

Definition of Accounting
The American institute of certified and public accountants committee on terminology defined
accounting as, 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.

(i) Recording: It is concerned with the recording of financial transactions in an orderly manner,
soon after their occurrence In the proper books of accounts.
(ii) Classifying: It is concerned with the systematic analysis of the recorded data so as to
accumulate the transactions of similar type at one place. This function is performed by
maintaining the ledger in which different accounts are opened to which related transactions
are posted.
(iii) Summarizing: It is concerned with the preparation and presentation of the classified data in a
manner useful to the users. This function involves the preparation of financial statements such
as Income Statement, Balance Sheet, and Statement of Changes in Financial Position,
Statement of Cash Flow, and Statement of Value Added.
(iv) Interpreting: Nowadays, the aforesaid three functions are performed by electronic data
processing devices and the accountant has to concentrate mainly on the interpretation aspects
of accounting. The accountants should interpret the statements in a manner useful to action.
The accountant should explain not only what has happened but also (a) why it happened, and
(b) what is likely to happen under specified conditions.

SCOPE AND FUNCTIONS OF ACCOUNTING:


Accounting which is so important to all, discharges the following vital functions:
Keeping Systematic Records: This is the fundamental function of accounting. The
transactions of the business are properly recorded, classified and summarized into final
financial statements income statement and the balance sheet.
Protecting The Business Properties: The second function of accounting is to protect the
properties of the business by maintaining proper record of various assets and thus enabling the
management to exercise proper control over them.
Communicating The Results: As accounting has been designated as the language of business,
its third function is to communicate financial information in respect of net profits, assets,
liabilities, etc., to the interested parties.
Meeting Legal Requirements: The fourth and last function of accounting is to devise such a
system as will meet the legal requirements. The provisions of various laws such as the
companies act, income tax act, etc., require the submission of various statements like income
tax returns, annual accounts and so on. Accounting system aims at fulfilling this requirement of
law.

NATURE OF ACCOUNTING
i) Accounting as a service activity: Accounting is a service activity. Its function is to provide
quantitative information, primarily financial in nature, about economic entities that is intended
to be useful in making economic Decisions, in making reasoned choices among alternative
courses of action.
(i) (ii)Accounting as a profession: Accounting is very much a profession. A profession is a career
that involves the acquiring of a specialized formal education before rendering any service.
Accounting is a systematized body of knowledge developed with the development of trade and
business over the past century.
(ii) (iii)Accounting as a social force: In early days, accounting was only to serve the interest of
the owners. Under the changing business environment the discipline of accounting and the
accountant both have to watch and protect the interests of other people who are directly or
indirectly linked with the operation of modern business.
(iii) Accounting as a language: Accounting is rightly referred the "language of business".
It is one means of reporting and communicating information about a business. As one has to
learn a new language to converse and communicate, so also accounting is to be learned and
practiced to communicate business events.
(iv)Accounting as science or art: Accounting has its own principles e.g. the double entry system,
which explains that every transaction has two fold aspects i.e. debit and credit. It also lays
down rules of journalizing. So we can say that accounting is a science. Accounting is an art as
it also requires knowledge, interest and experience to maintain the books of accounts in a
systematic manner.
(v) Accounting as an information system: Accounting discipline will be the most useful one in
the acquisition of all the business knowledge in the near future. You will realize that people
will be constantly exposed to accounting information in their everyday life. Accounting
information serves both profit-seeking business and non-profit organizations.

BRANCHES IN ACCOUNTING:
To meet the ever increasing demands made on accounting by different interested parties such as
owners, management, creditors, taxation authorities etc., the various branches have come into
existence. There are as follows:
I. Financial Accounting: The object of financial accounting is to ascertain the results (profit or loss)
of business operations during the particular period and to state the financial position (balance sheet) as
on a date at the end of the period.
Benefits or Advantages of Financial Accounting
1. Financial information about business: Accounting makes available financial information ie
the profit earned or loss suffered and also what are teh assets and liabilities of the enterprise.
To provide information useful for the making economic decision .
2. To serve primarily those users who have limited authority ability or resource to obtain
information and who rely on financial statement as their principal source of information about
the economic activities of an enterprises.
3. Facilitates comparative study :To provide information useful to investors and creditors for
predicting comparing and evaluating cash flow in terms of amount timing and related
uncertainty.
4. To provide users with information for predicting comparing and evaluating the earning power
of the enterprise.
5. Assistance to Manager : The management responsible for the function of the business and has
to therefore plan make decisions and exercise effective control on the affairs of the business.
The management performs these function on the basis of accounting information. To supply
useful information in judgment the managements ability to utilize enterprise resources
effectively for achieving the primary enterprise goals.
6. To provide factual and interpretive information about the transaction that are useful for
predicting comparing and evaluating the earning power of an enterprise.
7. Replace memory: No business man can remember everything about his business since human
memory has limitation .It is necessary to record transaction in the book of accounts promptly.
There is no necessity of remembering various transaction since on need the records will furnish
the necessary information.
8. Facilitates loan: Loan is granted by the bank and financial institution on the basis of growth
potential which is supported by the performance .Accounting makes available the information
with respect to performance.
Disadvantages of Financial Accounting
1. Accounting is not fully exact: Accounting is influenced by personal judgment in respect of
various terms. People are bound to have different ideas and the estimates will naturally differ
from person to person. Thus this will lead to different amount of profit shown by different
person. Thus the profit cannot be treated as exact.
2. Accounting does not indicate the releasable value: The balance sheet does not show the
amount of cash which the firm may realize by the sale of all assets.
3. Accounting ignores qualitative elements: Since accounting is confined to monetary matters
only qualitative elements like quality of management and labor force industrial relations and
public relations are ignored.
4. Accounting ignores the effect of price level change: Accounting statement are prepared at
historical cost .Money as measurement unit change in value. It does not remain stable
.Financial statement do not show the effect of change in price level .The assets remain
undervalue in many case particular land and building So while preparing financial statement
accounting information will not show the true result.
5. Accounting may lead to window dressing: The term window dressing means manipulation of
accounts in a way so as to conceal vital facts and present the financial statement in a way to
show better position than what it is actually .In this solution income statement fails to provide a
true and fair view of the result of operation and the balance sheet fails to provide a true and fair
view of the financial position of the enterprise.

II. Cost Accounting: The object of cost accounting is to find out the cost of Goods produced or
services rendered by a business. It also helps the business in controlling the costs by indicating
avoidable losses and wastes.
The importance and advantages of cost accounting are presented below:
1. Helps in controlling cost: cost accounting helps in controlling cost by applying some
techniques such as standard costing and budgetary control.
2. Provides necessary cost information: it provides necessary cost information to the
management for planning, implements and controlling.
3. Ascertains the total per unit cost of production: it ascertains the total and per unit cost of
production of goods and services that helps to fix the selling prices as well.
4. Introduces cost reduction programs: it helps to introduce and implement different cost
reduction programs.
5. Discloses the profitable and non-profitable activities: it discloses the profitable and non-
profitable activities that enable management to decide to eliminate or control unprofitable
activities and expand or develop the profitable activities.
6. Provides information for the comparison of cost: it provides reliable data and information
which enable the comparison of cost between periods, volume of output, determent and
processes.
7. Checks the accuracy of financial accounts: it helps checking the accuracy of financial
accounts. This is done by preparing cost reconciliation statement.
8. Helps invest and financial institutions: it is also advantageous to investment and financial
institutions since it discloses the profitability and financial position in which they intend to
invest.
9. Beneficial to workers: it is beneficial to workers as well since it emphasizes the efficient
utilization of labor and scientific systems of wages payment.

III. Management Accounting: The object of management accounting is to supply relevant


information at appropriate time to the management to enable it to take decisions and effect control
Advantages of Management Accounting:
Management accounting has various advantages. Through an effective management accounting
system, it is possible to enhance the overall performance of the company. Let us have a look at the
advantages of management accounting.
1. Increases Efficiency of the company: Companies opt for Management accounting as it
increases the efficiency of company in performing operations. It contributes in striving for
better performance by evaluating and comparing. Management accounting makes it easier to
achieve various results. This indirectly motivates the employees to strive for better
performance. As a result, they receive rewards in the form of promotions. Thus, management
accounting indirectly increases the efficiency of the company at a whole.
2. Increases the bar of Profitability: Management accounting includes budgetary control and
capital budgeting. The use of this method makes it easier for the company to cut short the
extra expenditure for performing vital operations. This indirectly increases the bars of profits
for the company, as the company is able to reduce its pricing on the products.
3. Simplifies the decision making in Financial Statements: Managerial decisions and other
activities of management require a simplified report of the financial statement of the company.
For this action, management accountant creates a detailed technical report with simpler
interpretations. Here, he represents the key facts of the financial statements. This enables the
managing officers to take up appropriate decisions for the betterment of the company.
4. Enables the fluctuation of business monetary fund: One of the essential factors in business
is the monetary fund. Management accounting enables a control over the fluctuation of this
monetary fund. Management accounting studies the flow of the funds in detail. Moreover, it
helps in maintaining the emergency fund in case of any urgency. Further, it also helps in
eliminating any source within the company that misuses the fund. After all, emergency
preparation should always be kept aside before setting up any business.
5. Cost transparency: In the corporate world, majority of the costs comes from the Information
Technology (IT). The work of management accounting in the firm is to work with the IT
department closely. This action ensures a within budget actions and provides cost
transparency to the company.
6. Flexibility and freedom: Management accounting system is of flexible nature. These reports
do not require to be made yearly, monthly, or weekly. Therefore, the accountant gets enough
time to prepare a perfect report.
7. Assist in goal completion (Objectives): The objective of the report presented by the
management accountant is to assist in achieving a long-term goal. It becomes possible to
achieve the goal due to the detailed information of the management accountant, which
highlights the strong and weak points of the company. In addition, this information helps to
identify the weakness and takes measures to overcome them.
8. Future prediction from past result: Every new system that evolves for the corporate world
has a single motive. It is to attain success in the competitive market. With similar intend,
management accounting system also strives for betterment in performance. Thus, with the
help of given data of the past (of the company), it provides a chance to prepare for better
future results.
9. Advanced technique and features: The reasons because of which the management system
seems reliable are the special tools and technique. To form an accurate and valid report special
techniques like budget controlling, marginal costing, control accounting, etc are used. Use of
the technique may differ according to the issue at hand. However, this technique makes it
easier to make decisions in the favor of the company.
10. Marginal costing: Marginal costing is possible with the aid of management accountant. It
fixes the selling price of the products created in the organization. Further, it also suggests
several ways to use the scarce materials and resources. It also recommends actions based on
fixed cost, contribution and other extras.
Disadvantages of Management Accounting:
Advantages always bring along certain disadvantages too. Although management accounting system
has various advantages but no one can ignore the disadvantages. Let us peep into the drawbacks of
management accounting.
1. Based on manually maintained records: Management accounting system requires the
information related to financial and cost accounting. The records prepared by the management
accounting officers are based on the maintained records. Thus, the efficiency of the records
presented relies upon the accuracy of the records that are maintained.
2. Biased interpretation: Personal interpretation matter a lot when it comes to decision taking.
The preparation of these reports by the management officer is based on the capability of
interpretation and understanding. Prejudices and biased knowledge of the subject makes it
impossible for the company to come to an accurate decision. Thus, it becomes impossible to
get effective results at the end of the day.
3. Deficiency of various vital skills of management accountant: Job description of
management accountant includes subjects like financial accounting, cost accounting,
economics, and statistics. Further, he or she should have an insight on a bit of psychology and
sociology. Lack of knowledge regarding these subjects may affect the outcome of the
management accounting. Thus, for a better working of management accounting, it is essential
for the accountant to have a clear knowledge of the required subjects.
4. Cannot recommend a particular action: Various alternatives for problem solving are
presented before the management. These alternatives can be effective or non-effective.
Management accountants function is to select any one of the alternative or toss out all of the
given measures. Thus, management can only suggest a certain action; however, it cannot
guarantee its effectiveness.
5. Preferences depend upon intuition and experience: The management accounting works
upon a set scientific concept. However, following scientific guidelines becomes too much of a
hassle. Moreover, scientific decision-making is a complex technique of management
accounting. Thus, the preference is given to intuition and experience at all times. It
comparatively becomes easier to make decisions.
6. Management Accounting has its own limitations: The management accounting system is
merely a tool that facilitates the management accountant in giving advice for decision-making.
However, the implementation of the actions that are advised depends upon the follow up action
of the management. Thus, management accounting is limited to giving suggestions.
7. Participation and efforts matter: Management accounting system is a Tool that provides
solution. However, the way of applying that solution also matters. Thus, for better results
giving full efforts and participation in the task is required. To attain overall success it is
important for all the employees from different levels to give their full inputs.
8. Broad scope v/s limited knowledge: Management accounting is a wide concept that is to be
taken into consideration before appointing an accountant. It requires skills and knowledge to
look into the matters of monetary and non-monetary transactions of the company. Lack of
these skills can hamper the overall report and data. Moreover, this data can be unreliable due to
the inefficiencies of the accountant.
9. Not an ideal choice for small-scale organizations: Management accounting system is a very
costly tool. As a result, it is not at all ideal for small-scale industries or organization. Due to the
high cost, it is not suitable for low budget businesses. In addition, the utility of this system is
restricted to large scale and complex organizations.
10. Rate of adapting changes: People say that old habits die-hard. Similarly, changes are hard to
adapt. Thus, when management accounting system is newly installed in an old setting
organization, it depends upon the capabilities of the employee to adapt the sudden change. So
installing management accounting system cannot promise instant success.
11. Scope for improvement: New inventions have a lot of scope for improvement. Similarly,
management accounting system is a recent invention. Along with the advantages, it also has
limitations. Due to its complex nature, it requires a lot of intelligent interpretation. Therefore, it
is safe to say that the system still needs to evolve.
12. Impracticable in nature: Management accounting system is a recent innovation. It works on
the availability of old records, present records, and the previously acquired results. Thus, it
does not work while facing problems apart from financial help. Therefore, it is impracticable in
nature for overall performance of business organizations.

Differences between Financial Accounting and Management Accounting


Criteria Financial Accounting Management Accounting
External (Investors, government Internal (Managers of business,
Primary Users
authorities, creditors) employees)
Help investors, creditors, and others
Purpose of Help managers plan and control
make investment, credit, and other
Information business operations
decisions
Timelines Delayed or historical Current and future oriented
GAAP does not apply, but
(Generally Accepted Accounting
Restrictions information should be restricted to
Principles) GAAP
strategic and operational needs
Nature of Objective, auditable, reliable, More subjective and judgmental,
Information consistent and precise valid, relevant and accurate
Highly aggregated information about Disaggregated information to support
Scope
the overall organization local decisions
Behavioral Concern about how reports will
Concern about adequacy of disclosure
Implications affect employees behavior
Usually approximate but relevant
Must be accurate and timely
and flexible Except for few
Features Compulsory under company law Is an
companies, it is not mandatory Is a
end in itself
mean to the end
Segments of It is primarily concerned with Segment reporting is the primary
Organization reporting for the company as a whole. emphasis.

Differences between Financial Accounting and Cost Accounting


Criteria Financial Accounting Cost Accounting
It provides information of
It provides information about financial
ascertainments of costs to control
Objective performance and financial position of
costs and for decision making about
the business.
the costs.
It classifies records, presents and It classifies records, presents and
Nature interprets transactions in terms of interprets in significant manner
money. materials, labor and overhead costs.
Recording of Data It records historical data. It records and presents estimated,
budgeted data. It makes use of both
historical costs and predetermined
costs.
External users like shareholders,
Users of Used by Internal management at
creditors, financial analysts,
Information different levels.
government and its agencies ,etc.
Analysis of Costs It provides details of costs and profit
It shows profit/loss of the organization.
And Profits of each product, process, job ,etc.
They are prepared for a definite period, They are prepared as and when
Time Period
usually a year. required.
Presentation of A set format is used for presenting There are no set formats for
Information financial information. presenting cost information.

USERS OF ACCOUNTING INFORMATION


Accounting information consists of sets of financial statements which is useful for internal users
(primary users) of an organisation as well as external users (secondary users).
Internal Users (Primary Users)
Following are some of the primary users of accounting system:
1. Management Organizations management requires accounting information for analyzing the
performance and actual position of the business. Accounting information helps the
management to arrive at an evaluated decision. It helps with cost determination, investment
decisions, helps to identify warning signals in case of a down fall etc.
2. Owners/Partners Owners are more concerned on the returns they get out of their investment
in the organization and this purpose if fulfilled through the accounting information. Not only
do they want their capital safe they are also interested in knowing the profit earned or loss
incurred by the business time to time.
3. Employees Employees are interested to know the accounting details of their organization so
that they are aware about overall profitability of the company which has a direct impact on
their remuneration and job security.
External Users (Secondary Users)
Following are some of the secondary users of accounting system:
1. Investors Similar to owners, external investors are concerned about their ROI (Return on
Investment) from the organisation. Since investors do not have a direct control over the
business operations they use accounting information to find out how their money is being spent
by the managers. It helps them in decision-making such as whether to increase, decrease or
hold their investments.
2. Banks & NBFCs They are a crucial part of any business environment since they advance
both short & long-term loans to a business. Accounting information helps them in determining
the credit worthiness of the organisation. Based on financial health of an organisation, the
future terms and conditions of credit are assessed by the Banks and NBFCs.
3. Regulatory and Tax Authorities Regulatory Authorities including the govt. agencies ensure
that the accounting information is prepared based on the accounting principles, standards and
rules & regulations governing the organisation. The primary objective is to protect the interest
of the stakeholders of the organisation. Correct tax evaluation is also done by the authorities
after analyzing the financial statements.
4. Customers They are complex groups which include producers at every level of processing,
wholesalers and retailers & the end users. Good financial health shows that customers at each
level are comfortable with continuous inflow of stock from the business. Customers use the
accounting information for assessing the financial position of its suppliers which is essential
for maintaining stable source of supply in future.
5. Suppliers Other businesses which supply goods to an organization on credit would also want
to assess the repaying capacity of that organization before providing any form of credit.
Accounting information play a crucial role in this case.
6. Public General public would want to know the financial health of a business to get a fair idea
of the firms niche & overall economy of the nation. It can help to analyze employment trends,
general financial stability of a country etc.

OTHER AREAS IN ACCOUNTING


I. Social Responsibility Accounting:
This branch is the newest field of accounting and is the most difficult to describe concisely. It owes its
birth to increasing social awareness which has been particularly noticeable over the last three decades
or so. Social responsibility accounting is so called because it not only measures the economic effects
of business decisions but also their social effects, which have previously been considered to be
immeasurable. Social responsibilities of business can no longer remain as a passive chapter in the text
books of commerce but are increasingly coming under greater scrutiny. Social workers and peoples
welfare organizations are drawing the attention of all concerned towards the social effects of business
decisions. The management is being held responsible not only for the efficient conduct of business as
reflected by increased profitability but also for what it contributes to social well-being and progress.
Companies that employ social responsibility accounting may report on some or all of the following
issues:
Statistics regarding employee health and job-related accidents.
Emission rates, spills and volume of hazardous waste generated.
Use of scarce resources such as water or lumber.
Information about ethical initiatives within the company, such as labor practices, education,
philanthropic efforts, human rights and diversity.
Links between executive pay and sustainability criteria.
Features of Social responsibility Accounting:
(i) An expression of a companys social responsibilities.
(ii) Related to the use of social resources.
(iii) Emphasize on relationship between firm and society.
(iv)Determines desirability of the firm in society.
(v) Application of accounting on social sciences.
(vi)Emphasizes on social costs as well as social benefits.

II. Inflation Accounting:


Inflation has now become a world-wide phenomenon. The consequences of inflation are dire in case of
developing and underdeveloped countries. At this juncture when financial statements or reports are
based on historical costs, they would fail to reflect the effect of changes in purchasing power or the
financial position and profitability of the firm. Thus, the utility of the accounting records, not taking
care of price level changes is seriously lost. This imposes a demand on the accountants for adjusting
financial accounting for inflation to know the real financial position and profitability of a concern.
Thus emerged a future branch of accounting called inflation accounting or accounting for price level
changes. It is a system of accounting which regularly records all items in financial statements at their
current values.
Methods:
Current Purchasing Power (CPP) Method- The financial statements are converted into figures
at current purchasing price. However the values of only the non-monetary items are converted.
Conversion Factor = Price index at the time of conversion / Price index at the date of
transaction.
Current Cost Accounting (CCA) Method- Each and every item under the financial statements
is restated at its current value.
Hybrid Method- Mix of both CPP method and CCA method

Significance of inflation accounting


The significance of inflation accounting emerges from the inherent limitations of the historical cost
accounting system. Following are the limitations of historical accounting:
1. Historical accounts do not consider the unrealized holding gains arising from the rise in the
monetary value of the assets due to inflation.
2. The objective of charging depreciation is to spread the cost of the asset over its useful life and
make reserve for its replacement in the future. But it does not take into account the impact of
inflation over the replacement cost which may result into the inadequate charge of
depreciation.
3. Under historical accounting, inventories acquired at old prices are matched against revenues
expressed at current prices. In the period of inflation, this may lead to the overstatement of
profits due mixing up of holding gains and operating gains.
4. Future earnings are not easily projected from historical earnings.

Limitations of Inflation Accounting


Though Inflation Accounting is more practical approach for the true reflection of financial status of the
company, there are certain limitations which are not allowing this to be a popular system of
accounting. Following are the limitations:
1. Change in the price level is a continuous process.
2. This system makes the calculations a tedious task because of too many conversions and
calculations.
3. This system has not been given preference by tax authorities.

III. Human Resources Accounting:


Human resources accounting is yet another new field of accounting which seeks to report and
emphasize the importance of human resources in a companys earning process and total assets. It is
based on the general agreement that the only real long lasting asset which an organization possesses is
the quality and caliber of the people working in it. This system of accounting is concerned with, the
process of identifying and measuring data about human resources and communicating this
information to interested parties.
Thus, human resources accounting may be defined as, a process of accounting which identifies,
quantifies and measures human resources for the use of management to cope up with the changes
in its quantum and quality so that equilibrium could be achieved in between the required resources
and the provided human resources
This definition brings out the following important characteristic features of human resource
accounting:
Valuation of human resources
Recording the valuation in the books of accounts
Disclosure of the information in the financial statements of the Business

Importance of Human Resource Accounting:


Human Resource Accounting provides useful information to the management, financial analysts and
employees as stated below:
Human Resource Accounting helps the management in the Employment, locating and
utilization of human resources.
It helps in deciding the transfers, promotion, training and retrenchment of human resources.
It provides a basis for planning of physical assets vis--vis human resources.
It assists in evaluating the expenditure incurred for imparting further education and training in
employees in terms of the benefits derived by the firm.
It helps to identify the causes of high labor turnover at various levels and taking preventive
measures to contain it.
It helps in locating the real cause for low return on investment, like improper or under-
utilization of physical assets or human resource or both.
It helps in understanding and assessing the inner strength of an organization and helps the
management to steer the company well through most adverse and unfavorable circumstances.
It provides valuable information for persons interested in making long term investment in the
firm.
It helps employees in improving their performance and bargaining power. It makes each of
them to understand his contribution towards the betterment of the firm vis--vis the
expenditure incurred by the firm on him.
Objectives of HRA
The main objectives of a HR Accounting system are as follows:
To furnish cost value information for making proper and effective management decisions about
acquiring, allocating, developing and maintaining human resources in order to achieve cost
effective organizational objectives.
To monitor effectively the use of human resources by the management.
To have an analysis of the human asset i.e., whether such assets are conserved, depleted or
appreciated.
To aid in the development of management principles, and proper decision making for the
future by classifying financial consequences, of various practices.
In all, it facilitates valuation of human resources, recording the valuation in the books of
account and disclosure of the information in the financial statement.
Further, it is to help the organization in decision making in the following areas:
1. Direct Recruitment vs. promotion.
2. Transfer vs. Retention.
3. Retrenchment vs. Retention
4. Impact on budgetary controls of human relations and organizational behavior.
5. Decision on reallocation of plants, closing down existing units and developing overseas
subsidiaries etc.
Advantages of HRA
Information for manpower planning: HRA provides useful information about the cost and
value of human resources. It shows the strengths and weakness of the human resources. All this
information helps the managers in planning and making the right decisions about human
resources. Thus, it provides useful information for Manpower Planning and Decision Making.
Information for making personnel policies: HRA provides useful information for making
suitable personnel policies about promotion, favorable working environment, job satisfaction
of employees, etc.
Utilization of human resources: HRA helps the organization to make the best utilization of
human resources.
Proper placements: HRA helps the organization to place the right man in the right post
depending on his skills and abilities.
Increases morale and motivation: HRA shows that the organisation cares about the
employees and their welfare. This increases their morale and it motivates them to work hard
and achieve the objectives of the organisation.
Attracts best human resources: Only reputed organizations conduct HRA. So, competent and
capable people want to join these organizations. Therefore, it attracts the best employees and
managers to the organisation.
Designing training and development programs: HRA helps the organization to design
(make) a suitable training and development program for its employees and managers.
Valuable information to investors: HRA provides valuable information to present and future
investors. They can use this information to select the best company for investing their money.
Limitations of HRAs
1. The valuation of human assets is based on the assumption that the employees are going to
remain with the organisation for a specified period. However, this assumption is wrong
because employee mobility is very high.
2. The human resource accounting may lead to the dehumanization in the organisation. If the
valuation is not done correctly or the results of the valuation are not used properly.
3. In the case of financial accounting, there are certain specified accounting standards which
every organisation must follow. However, there are no standards for HRA. Each organisation
has its own standards for it. So, there are no uniform standards for it. Therefore, the HRA of
two organizations cannot be compared.
4. There are no specific and clear cut guidelines for 'cost' and 'value' of human resources of an
organisation. The present valuation systems have many limitations.
5. The life of a human being is uncertain. So its value is also uncertain.

ACCOUNTING PRINCIPLES: CONCEPTS AND CONVENTIONS


Meaning of Accounting Principles
The rules and conventions of accounting are commonly referred to as principles. The American
institute of certified public accountants has defined the accounting principle as, a general law or rule
adopted or professed as a guide to action; a settled ground or basis of conduct or practice. It may
be noted that the definition describes the accounting principle as a general law or rule that is to be used
as a guide to action. The Canadian institute of chartered accountants has defined accounting principles
as, the body of doctrines commonly associated with the theory and procedure of accounting,
serving as explanation of current practices and as a guide for the selection of conventions or
procedures where alternatives exist. This definition also makes it clear that accounting principles
serve as a guide to action.
Generally Accepted Accounting Principles (GAAP)
Generally Accepted Accounting Principles (GAAP) are uniform minimum standards of and guidelines
to financial accounting and reporting. GAAP establishes appropriate measurement and classification
criteria for financial reporting. Adherence to GAAP provides a reasonable degree of comparability
among the financial reports of state and local governmental units. GAAP specifications include
definitions of concepts and principles, as well as industry-specific rules. The purpose of GAAP is to
ensure that financial reporting is transparent and consistent from one organization to another.

Accounting Concepts
Accounting Concept defines the assumptions on the basis of which Financial Statements of a business
entity are prepared. Certain concepts are received assumed and accepted in accounting to provide a
unifying structure and internal logic to accounting process. The word concept means idea or nation,
which has universal application. Financial transactions are interpreted in the light of the concepts,
which govern accounting methods. Concepts are those basis assumption and conditions, which form
the basis upon which the accountancy has been laid. Unlike physical science, Accounting concepts are
only results of broad consensus. These accounting concepts lay the foundation on the basis of which
the accounting principles are formulated.
Now we shall study in detail the various concept on which accounting is based. The following are the
widely accepted accounting concepts.
Business Entity Concept: Entity Concept says that business enterprises is a separate identity
apart from its owner. Business transactions are recorded in the business books of accounts and
owners transactions in this personal back of accounts. The concept of accounting entity for
every business or what is to be excluded from the business books. Therefore, whenever business
received cash from the proprietor, cash a/c is debited as business received cash and capital/c is
credited. So the concept of separate entity is applicable to all forms of business organization.
Money Measurement Concept: As per this concept, only those transactions, which can be
measured in terms of money are recorded. Since money in the medium of exchange and the
standard of economic value, this concept requires that these transactions alone that are capable of
being measured in terms of money be only to be recorded in the books of accounts. For example,
health condition of the chairman of the company, working conditions of the workers, sale policy
etc. Do not find place in accounting because it is not measured in terms of money.
Cost Concept: By this concept, the value of assets is to be determined on the basic of historical
cost. Transaction is entered in the books of accounts at the amount actually involved. For
example a machine purchased for Rs. 80000 and may consider it worth Rs. 100000, But the
entry in the books of account will be made with Rs. 80000 or the amount actually paid. The cost
concept does not mean that the assets will always be shown at cost. The assets may be recorded
at the time of purchase but it may be reduced its value be charging depreciation.
Going Concern Concept: According to this concept the financial statements are normally
prepared on the assumption that an enterprise is a going concern and will continue in operation
for the foreseeable future. Transaction are therefore recorded in such a manner that the benefits
likely to accrue in future from money spent. It is because of this concept that fixed assets are
recorded at their original cost and depreciation in a systematic manner without reference to their
current realizable value.
Dual aspect Concept: This concept is the care of double entry book-keeping. Every transaction
or event has two aspects. If any event occurs, it is bound to have two effects. For Rs.50000, on
the other hand stock will increase by Rs.50000 and other liability will increase by Rs.50000.
similarly is X starts a business with a capital of Rs. 50000, while on the other hand the business
has to pay Rs. 50000 to the proprietor which is taken as proprietors Capital.
Realization Concept: It closely follows the cost concept any change in value of assets is to be
recorded only when the business realize it. i.e. either cash has been received or a legal obligation
to pay has been assumed by the customer. No Sale can be said to have taken place and no profit
can be said to have arisen. It prevents business firm from inflating their profit by recording sale
and income that are likely to accrue, i.e. expected income or gain are not recorded.
Accrual Concept: Under accrual concept the effect of transaction and other events are
recognized on mercantile basic. When they accrue and not as cash or a cash equivalent is
received or paid and they are recorded in the accounting record and reported in the financial
statements of the periods to which they relate financial statement prepared on the accrual basic
inform users not only of past events involving the payment and receipt of cash but also of
obligation to pay cash in the future and of resources that represent cash to be received in the
future. For Example: Mr. Raj buy clothing of Rs. 50000,a paying cash Rs. 20000 and sells at Rs.
60000 of which customer paid only Rs. 40000. So his revenue is Rs. 60000, not Rs. 40000 cash
received. Exp. Or Cash is Rs. 50000, not Rs. 20000 cash paid. So the accrual concept based
profit is Rs. 10000 (Revenue- Exp.)
Accounting Period Concept: This is also called the concept of definite periodicity concept as
per going concept on indefinite life of the entity is assumed for a business entity it causes
inconvenience to measure performance achieved by the entity in the ordinary causes of business.
Therefore, a small but workable fraction of time is chosen out of infinite life cycle of the
business entity for measure the performance and loading at the financial position 12 months
period is normally adopted for this purpose accounting to this concept accounts should be
prepared after every period & not t the end of the life of the entity. Usually this period is one
calendar year. In India we follow from 1 st April of a year to 31st March of the immediately
following years. Now a day because of the need of management, final accounts are prepared at
shorter intervals of quarter year or in some cases a month such accounts are know a interim
account.
Matching Concept: In this concept, all exp. Matched with the revenue of that period should
only be taken into consideration. In the financial statements of the organization. If any revenue is
recognized that exp. Related to earn that revenue should also be recognized. This concept as it
considers the occurrence of exp. And income and do not concentrate on actual inflow or outflow
of cash. This leads to adjustment of certain items like prepaid and outstanding expenses,
unearned or accrued income.
Objective Concept: As per this concept, all accounting must be based on objective evidence. In
other words, the transactions recorded should be supported by verifiable documents. Only than
auditors can verify information record as true or otherwise. The evidence should not be biased. It
is for this reasons that assets are recorded at historical cost and shown thereafter at historical lass
depreciation. If the assets are shown on replacement cost basis, the objectivity is lost and it
becomes difficult for auditors to verify such value, however, in resent year replacement cost are
used for specific purpose as only they represent relevant costs. For example, to find out intrinsic
value of share, we need replacement cost of assets and not the historical cost of the assets.

Accounting Conventions
The term Accounting Conventions refers to the customs or traditions which are used as a guide in
the preparation of accounting reports and statements. The conventions are derived by usage and
practice. The accountancy bodies of the world may charge any of the convention to improve the
quality of accounting information accounting conventions need not have universal application.
Following are important accounting conventions in use:
1.) Convention of consistency:- According to this convention the accounting practices should remain
unchanged from one period to another. It requires that working rules once chosen should not be
changed arbitrarily and without notice of the effect of change to those who use the accounts. For
example, stock should be valued in the same manner every year. Similarly depreciation is charged on
fixed assets on the same method year after year. If this assumption is not followed, the fact should be
disclosed together with reasons.
The principle of consistency plays its role particularly when alternative accounting methods is equally
acceptable. Any change from one method to another method would result in inconsistency; they may
seem to be inconsistent apparently. In case of valuation of stocks if the company applies the principle
at cost or market price whichever is less and if this principle accordingly result in the valuation of
stock in one year at cost and the market price in the other year, there is no inconsistency here. It is only
an application of the principle.

2) Convention of Conservatism:- This is the policy of playing sale game. It takes into consideration
all prospective losses but leaves all prospective profits financial statements are usually drawn up on a
conservative basis anticipated profit are ignored but anticipated losses are taken into account while
drawing the statements following are the examples of the application of the convention of
conservatism.
Making the provision for doubtful debts and discount on debtors.
Valuation of the stock at cost price or market price whichever is less.
Charging of small capital items, like crockery to revenue.
Showing joint life policy at surrender value as against the actual amount paid.
Not providing for discount on creditors.

3) Convention of Disclosure:- Apart from statutory requirement, good accounting practice also
demands that significant information should be disclosed in financial statements. Such disclosures can
also be made through footnotes. The purpose of this convention is to communicate all material and
relevant facts concerning financial position and results of operations to the users. The contents of
balance sheet and profit and loss account are prescribed by law. These are designed to make
disclosures of all materials facts compulsory. The practice of appending notes relative to various facts
and items which do not find place in accounting statements is in pursuance to the convention of full
disclosure of material facts. For example;
(a) Contingent liability appearing as a note.
(b) Market value of investments appearing as a note.
The convention of disclosure also applies to events occurring after the balance sheet date and the date
on which the financial statement are authorized for issue. Such events include bad debts, destruction of
plant and equipment due to natural calamities, major acquisition of another enterprises, etc. such
events are likely to have a substantial influence on the earnings and financial position of the
enterprises. Their not-disclosure would affect the ability of the users for evaluations and decisions.

4) Convention of Materiality: According to this conventions, the accountant should attach


importance to material detail and ignore insignificant details in the financial statement. In materiality
principle, all the items having significant economics effect on the business of the enterprises should be
disclosed in the financial statement.
The term materiality is the subjective term. It is on the judgment, common sense and discretion of the
accountant that which item is material and which is not. For example stationery purchased by the
organization though not used fully in the concept. Similarly depreciation small items like books,
calculator is taken as 100% in the year if purchase through used by company for more than one year.
This is because the amount of books or calculator is very small to be shown in the balance sheet. It is
the assets of the company.

ACCOUNTING PROCESS
The accounting process consists of three major parts:
The recording of business transactions during that period;
The summarizing of information at the end of the period and
The reporting and interpreting of the summary information.

Meaning of Journal
Accounting process starts with the identification of financial transactions of a business. Such
financial transactions are recorded permanently in the books of accounts systematically in different
specialized books. These books of accounts are called journal. The journal is an important book under
the double-entry system. Journal is the first book of systematic record of the financial transactions of
the business. Journal is called the book of original or prime entry, because its financial transactions are
first of all recorded in this book as and when they take place. Journal is also called a subsidiary book
as it is maintained to help prepare the main book called the ledger. The journal is prepared with the
help of memorandum or waste book, which is a rough and temporary record of the financial
transactions of the business.

Journalizing: In simple words, journalizing is an act of recording financial transactions in the journal
book. It is a process of systematic recording of financial transactions in the book of prime or original
entry. The following steps are taken while journalizing the transactions in the journal book.
To identify the two aspects of the transaction.
To identify the appropriate accounts for the two aspects of the transactions.
To debit and credit the accounts relevant to the transaction by using the rules of debit and
credit.
To write the entry in the journal in chronological order. Such an entry is called journal entry.
The format of the journal is represented below

Rules of Journalizing or Rules of Debit and Credit


There are two alternative bases for the rules of debit and credit such as follows.
1. Rules of debit and credit based on the types of account
2. Rules of debit and credit based on the accounting equation.
1. Rules of debit and credit based on the types of account
Under double-entry system an account is classified into three types. They are personal account, real
account and nominal account. For each of these types of account, there are three separate rules of
debiting and crediting the financial transactions. The rules of debit and credit under different types of
account are as follows.
A. Personal Account: Personal account is a account of a person. A person can be a natural person
such as people like us, an artificial person such as firms, organizations and institutions and a
representative person such as debtors and creditors. Since a person, be it a natural, artificial or
representative, can be the receiver of benefits or giver of benefits.
B. Real Account: Real account is a record of an asset. An asset can be current asset such as cash,
a fixed asset such as building and intangible asset such as goodwill. Since an asset, is a current,
fixed or an intangible asset, can either come in the business through its purchase or go out of the
business through its sales.
C. Nominal Account: Nominal account is a record of expense or loss or income or gain. An
expense or loss is the sacrifice of benefits in exchange for service used and an income or gain is
the benefit earned in exchange for service rendered.

2 Rules of Debit and Credit Based on the Accounting Equation


Accounting equation is a statement of equality between the three basic elements of accounting. They
are assets, capital and liabilities. In other words, accounting equation is a statement of equality
between the assets and the sources which finance the assets and is expressed as :
Assets = Sources of Finance
Assets may be tangible e.g. land, building, plant, machinery, equipment, furniture, investments, cash,
bank, stock, debtors etc. or intangible e.g. patent rights, trade marks, goodwill etc.,
Sources include internal i.e. capital provided by the owner and external i.e. liabilities. Liabilities are
the obligations of the business to others/outsiders. The above equation gets expanded
Assets = Liabilities + Capital
All transactions of a business can be referred to this equation:
Assets = Liabilities + Owner's equity
To further explain the transaction of revenues, expenses, losses and gains, the equation can be
expanded thus:
Assets + Expenses = Liabilities + Revenue + Owner's equity
OR
Assets = Liabilities + (Revenue Expenses) + Owner's equity
OR
Assets = Liabilities + Owner's equity + Owner's equity (income) which ultimately becomes
Assets = Liabilities + Owner's equity

Each and every financial transaction affects the three basic elements. However, the total of all
assets is always equal to the total of capital and liabilities at any point in time. The rules of debiting
and crediting an account based on the accounting equation can be summarized in the following way:

S.N...............Effect of Transactions........................................ Debit or Credit


1...................Increase in assets and expenses/losses........... Debit
2...................Decrease in assets and expenses/losses........... Credit
3...................Increase in capital, liabilities, income/gains........ Credit
4...................Decrease in capital, liabilities, income/gains........ Debit

Ledger
Ledger is a principal book of accounts of the enterprise. It is rightly called as the 'King of Books'.
Ledger is a set of accounts. Ledger contains the various personal, real and nominal accounts in which
all business transactions of the entity are recorded. The main function of the ledger is to classify and
summarize all the items appearing in Journal and other books of original entryunder appropriate
head/set of accounts so that at the end of the accounting period, each account contains the complete
information of all transaction relating to it.

Uses of ledger:
(a) It provides complete information about all accounts in one book.
(b) It enables the ascertainment of the main items of revenues and expenses
(c) It enables the ascertainment of the value of assets and liabilities.
(d) It facilitates the preparation of Final Accounts

Trial Balance
At the end of the financial year or at any other time, the balances of all the ledger accounts are
extracted and are recorded in a statement known as Trial Balance and finally totalled up to see whether
the total of debit balances is equal to the total of credit balances. A Trial Balance may thus be defined
as a statement of debit and credit totals or balances extracted from the various accounts in the
ledger books with a view to test the arithmetical accuracy of the books
Objectives of Preparing Trial Balance
1. To check the arithmetic accuracy of books of accounts: According to the principle of double
entry system of book-keeping, every business transaction has two aspects, debit and credit. So,
the agreement of the trial balance is a proof of the arithmetical accuracy of the books of
accounts.
2. Helpful in preparing final accounts: The trial balance records the Balances of all the ledger
accounts at one place which helps in the preparation of final accounts, i.e. Trading and Profit
and Loss Account and Balance Sheet. But, unless the trial balance agrees, the final accounts
cannot be prepared.
3. To serve as an aid to the management: By comparing the trial balances of different years
changes in figures of certain important items such as purchases, sales, debtors etc. are
ascertained and their analysis is made for taking managerial decisions. So, it serves as an aid to
the management.
Advantages
It helps to ascertain the arithmetical accuracy of the book-keeping work done during the
period.
It supplies in one place ready reference of all the balances of the ledger accounts.
If any error is found out by preparing a trial balance, the same can be rectified before preparing
final accounts.
It is the basis on which final accounts are prepared.

Format of trial balance

Preparation of Final Accounts


The transactions of a business enterprise for the accounting period are first recorded in the books of
original entry, then posted therefrom into the ledger and lastly tested as to their arithmetical accuracy
with the help of trial balance. After the preparation of the trial balance, every businessman is interested
in knowing about two more facts They are :
(i) Whether he has earned a profit or suffered a loss during the period covered by the trial
balance, and
(ii) Where does he stand now? In other words, what is his financial position?

For the above said purposes, the businessman prepares financial statements for his business i.e. he
prepares the Trading and Profit and Loss Account and Balance Sheet at the end of the accounting
period. These financial statements are popularly known as final accounts. The preparation of financial
statements depends upon whether the business concern is a trading concern or manufacturing concern.
If the business concern is a trading concern, it has to prepare the following accounts along with the
Balance Sheet:
(i) Trading Account; and
(ii) Profit and Loss Account.
But, if the business concern is a manufacturing concern, it has to prepare the following accounts along
with the Balance Sheet:
(i) Manufacturing Account;
(ii) Trading Account; and
(iii) Profit and Loss Account.

Trading Account: Trading Account is one of the financial statements which shows the result of
buying and selling of goods and/or services during an accounting period. The main objective of
preparing the Trading Account is to ascertain gross profit or gross loss during the accounting period.
Gross Profit is said to have been made when the sale proceeds exceed the cost of goods sold.
Conversely, when sale proceeds are less than the cost of goods sold, gross loss is incurred

Profit and Loss Account: Trading Account results in the gross profit / loss made by a businessman on
purchasing and selling of goods. It does not take into consideration the other operating expenses
incurred by him during the course of running the business. Besides this, a businessman may have other
sources of income. In order to ascertain the true profit or loss which the business has made during a
particular period, it is necessary that all such expenses and incomes should be considered. Profit and
Loss Account considers all such expenses and incomes and gives the net profit made or net loss
suffered by a business during a particular period. All the indirect revenue expenses and losses are
shown on the debit side of the Profit and Loss Account, whereas all indirect revenue incomes are
shown on the credit side of the Profit and Loss Account.

Advantages of profit and loss account


It is shows the operating results of company in terms of net profit and net loss.
It facilitates to compares the profit of a current year with that of last year and thus helps to
knows whether the company is running effectively or not.
It helps in controlling indirect expenses and in improving profitability.
It provides relevant information for determining bonus for worker, Commission to manager
and tax payable to the government.
Balance Sheet
A Balance Sheet is a statement of financial position of a business concern at a given date. It is called a
Balance Sheet because it is a sheet of balances of those ledger accounts which have not been closed till
the preparation of Trading and Profit and Loss Account. A Balance Sheet is also described as a
"Statement showing the Sources and Applications of Capital". It is a statement and not an account and
prepared from real and personal accounts. The left hand side of the Balance Sheet may be viewed as
description of the sources from which the business has obtained the capital with which it currently
operates and the right hand side as a description of the form in which that capital is invested on a
specified date.

Characteristics of Balance sheet


(a) A Balance Sheet is only a statement and not an account. It has no debit side or credit side. The
headings of the two sides are 'Assets' and 'Liabilities'.
(b) A Balance Sheet shows the nature and value of assets and the nature and the amount of
liabilities at a given date.
(c) A Balance Sheet is prepared at a particular point of time and not for a particular period. The
information contained in the Balance Sheet is true only at that particular point of time at which
it is prepared.
(d) A Balance Sheet is a summary of balances of those ledger accounts which have not been closed
by transfer to Trading and Profit and Loss Account.

Classification of Assets:

Real Assets:
Assets which have some market value are called real assets, e.g. building, machinery, stock, debtors,
cash, goodwill, etc. Real assets are further divided into two types according to their permanence:
Fixed Assets: Assets which have long life and which are bought for use for a long period of time
are called "fixed assets". These are not bought for selling purposes, e.g. land, building, plant,
machinery, furniture etc. Fixed assets are again sub-divided into two:
1. Tangible Assets: Assets which have physical existence and which can be seen, touched and
felt are called "tangible assets", e.g. building, plant, machinery, furniture etc.
2. Intangible Assets: Assets which have no physical existence and which cannot be seen,
touched or felt are called "intangible assets", e.g. goodwill, patent right, trade mark etc.
Current Assets: Assets which are short-lived and which can be converted into cash quickly to
meet short term liabilities are called "current assets", e.g. stock debtors, cash etc. Such assets
change their form repeatedly and so, they are also known as circulating or floating assets. For
example, on purchase of goods cash is converted into stock and on sale of goods, stock is
converted into debtors, on collection from debtors, debtors take the form of cash etc. Out of
current assets those which can be converted into cash very quickly or which are already in the
form of cash are called liquid or quick assets e.g. debtors, cash in hand, cash at bank etc.
Fictitious Assets: Assets which have no market value are called fictitious assets. Examples of
fictitious assets include preliminary expenses, loss on issue of shares etc. They are also known as
nominal assets.

Besides these, there is another type of assets whose value gradually reduce on account of use and
finally exhaust completely. This type of assets is called wasting assets e.g. mine, forest etc.
Classification of Liabilities:

Internal Liabilities:
The total amount of debts payable by a business to its owner is called internal liability e.g.
Owner's equity (capital), reserve etc. From practical view point internal liabilities should not be
regarded as liabilities, since there is no question of meeting such liabilities al long as the
business continues.
External Liabilities:
All debts payable by a business to the outsiders (other than the owner) are called external
liabilities e.g. creditors, debentures, bills payable, bank overdraft, etc. External liabilities are
further divided into two.
o Fixed or Long Term Liabilities: The liabilities which are payable after a long period
of time are called fixed or long term liabilities e.g. debentures, loan on mortgage etc.
o Current or Short Term Liabilities: The debts which are repayable within a short
period of time are called current or short-term liabilities e.g. creditors, bills payable,
bank overdraft etc. Current liabilities may again be divided into two:
1. Deferred Liabilities: Debts which are repayable in the course of less than one year
but more than one month are called deferred liabilities e.g. Short term loan etc.
2. Liquid or Quick Liabilities: Debts are repayable in the course of a month are called
liquid or quick liabilities e.g. bank overdraft, outstanding expenses, creditors etc.

Besides the above, there is another type of liability which is known as contingent liability. It is one
which is not a liability at present, but which may or may not become a liability in in future. It depends
upon certain future event. For example, suppose, the buyer of goods filed a suit in the court against the
seller claiming damage of Rs.10,000 for breach of contract. This will be regarded as a contingent
liability to the seller until the receipt of the court's order. To the buyer, this is a contingent asset. Both
contingent liability and contingent asset are not recorded in the balance sheet. They are generally
mentioned in the balance sheet as a note.

Basis for
Balance Sheet Profit and Loss Account
Comparison
Account that shows the company's
A statement that shows company's assets,
Meaning revenue and expenses over a period
liabilities and equity at a specific date.
of time.
What is it? Statement Account
Financial position of the business on a Profit earned or loss suffered by
Represents
particular date. business for the accounting period
Basis for
Balance Sheet Profit and Loss Account
Comparison
Preparation Prepared on the last day of financial year. Prepared for the financial year.
Information Assets, liabilities, and capital of
Income, expenses, gains and losses.
Disclosed shareholders.
Accounts shown in the Balance Sheet do
Accounts transferred to Profit and
not lose their identity; rather their balance
Accounts Loss account are closed and cease to
is carry forward to next year as opening
exist.
balance.
It is prepared after the preparation of It is prepared before the preparation
Sequence
Profit & Loss Account. of Balance Sheet

Format of Balance Sheet

Vertical form of Balance Sheet


In this, Balance Sheet is presented in a statement form.
Balance Sheet as on ..............................
Particulars Rs. Rs.
Current Assets:
Stock-in-Trade xxx
Sundry Debtors xxx
Prepaid Expenses xxx
Accrued Income xxx
Bills Receivable xxx
Cash at Bank xxx
Cash in Hand xxx

Total Current Assets xxx


Less: Current Liabilities:
Sundry Creditors xxx
Bills Payable xxx
Bank Overdraft xxx
Outstanding Expenses xxx

Total Current Liabilities xxx

Net Working Capital: xxx


Add: Fixed Assets:
Goodwill xxx
Land and Building xxx
Plant and Machinery xxx
Furniture xxx
Investment xxx

Total Fixed Assets xxx

Capital Employed xxx


(Both owners and outsiders)
Less: Long Term Liabilities
Debentures xxx
Loans xxx
Total Long Term Liabilities xxx

Net Assets xxx


Represented by:
Owners Capital xxx
Reserves and surplus xxx
Shareholders Funds xxx

Difference between Trial balance and Balance sheet


Trial Balance Balance Sheet

It is prepared to verify the arithmetical It is prepared to disclose the true financial position
1 1
accuracy of books of accounts of the business
It is prepared with balances of all the ledger It is prepared with the balances of assets and
2 2
accounts liabilities accounts.
3 It is not a part of final accounts 3 It is an important part of final accounts.
It is prepared before the preparation of final It is prepared after the preparation of trading and
4 4
accounts profit and loss account.
It may be prepared a number of time in an It is generally prepared once at the end of
5 5
accounting year. accounting year.
Generally, it includes opening stock but not It always includes closing stock but not opening
6 6
closing stock. stock.
There is no rule for arranging the ledger Assets and liabilities must be shown in it according
7 7
balances in it. to the rule of marshaling.
It must be filed with the registrar of companies if
8 It is not required to be filed to anybody. 8
the business is a company.
9 Auditor need not to sign it. 9 Auditor must sign it.

Advantages of balance sheet:


It is helpful in ascertaining the financial position of the business by showing assets and
liabilities of the concern on a specific date.
It discloses the solvency of business by showing how much assets are available for payment of
liabilities.
It also discloses the proprietary interest of owner.
It helps in calculation of various ratios which help in better management of business.
It helps in comparison of assets and liabilities of business on two dates to ascertain the
progress being made by business.
It helps to ascertain the amount of capital employed in business.

Limitations of Balance Sheet:

It is prepared on a historical cost basis. Changes in prices are not considered.


Window-dressing may be done in Balance Sheet.
Historical Cost of Balance Sheet does not convey fruitful information.
Different assets are valued according to different rules.
It cannot reflect the ability or skill of staff.
Important University Questions
Part A
1. List the main elements of balance sheet and income statement.
2. What is the position of ledger in book keeping?
3. Define inflation accounting.
4. What is money measurement concept?
5. State the limitations of accounting principles.
6. What is financial accounting?
7. What are personal accounts?
8. Define accountancy?
9. What do you understand by GAAP?
10. Write short note on cost concept.
11. What is management accounting?
12. What are the objectives of financial accounting?

Part B
1. Explain the tools and techniques used in management accounting.
2. Differentiate between financial and management accounting.
3. What is the nature of accounting? In what ways accounting information is useful to creditors,
investors and employees of business organization.
4. Explain the importance of various accounting concepts and conventions.
5. State the functions of accounting.
6. What are the advantages of HRA?
7. Define HRA. What are the objectives of HRA? How is it important to the business?
8. What do you mean by accounting concepts and conventions? Explain important conventions.
9. Explain the different branches of accounting.
10. Evaluate GAAP.
11. Explain the tools and techniques used in management accountings.