FABM 1 Module 1

Definition of Accounting

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.

The Philippine Institute of Certified Public Accountants (PICPA) defines accounting as a “system that measures business
activities, processes given information into reports, and communicates findings to decision makers.” With this definition
we can say that accounting in the business context is a science that follows systematic and organized methods in
understanding the financial undertakings of a business establishment.

The American Institute of Certified Public Accountants (AICPA), however, views accounting as an art. For AICPA, it 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.” Accounting may be called
an art because it requires skillful implementation of methods and techniques, just like how skillfully a painter uses a
particular method and technique to create a masterpiece.

Phases of Accounting

1. Identifying economic events – this involves selecting economic events that are relevant to a particular business
transaction. The economic events of an organization are referred to as transactions.

2. Measuring business transactions. In order that accounting information will be useful, it must be expressed in
terms of a common financial denominator – money. Money serves as both a medium of exchange and a measure
of value.

3. Recording business transactions. Business transactions are the economic activities of a business. Recording these
historical events is a significant function of accounting.

4. Classifying recorded data. Classification reduces the effects of numerous transactions into useful groups or
categories.

5. Summarizing financial data. Summarization of financial data is achieved through the preparation of financial
statements or financial reports. These usually summarize the effects of all business transactions that occurred
during some period.

6. Interpreting financial statements/reports. Analyze to evaluate the liquidity, profitability and solvency of the
business organization.

Nature of Accounting

1. Accounting as the language of business. It is the tool used to communicate financial information to various
parties interested in the financial status of an economic entity. An economic entity is an organization that uses
resources to achieve its goals and objectives. It is also referred to as business entity.
2. Accounting is a service activity. Accounting provides assistance to decision makers by providing them financial
reports that will guide them in coming up with sound decisions.
3. Accounting is a process. A process refers to the method of performing any specific job step by step according to
the objectives or targets. Accounting is identified as a process, as it performs the specific task of collecting,
processing and communicating financial information. In doing so, it follows some definite steps like the
collection, recording, classification, summarization, finalization, and reporting of financial data.
4. Accounting is both an art and a discipline. Accounting is the art of recording, classifying, summarizing and
finalizing financial data. The word ‘art’ refers to the way something is performed. It is behavioral knowledge
involving a certain creativity and skill to help us attain some specific objectives. Accounting is a systematic
method consisting of definite techniques and its proper application requires skill and expertise. So by nature,
accounting is an art. And because it follows certain standards and professional ethics, it is also a discipline.
5. Accounting deals with financial information and transactions: Accounting records financial transactions and
data, classifies these and finalizes their results given for a specified period of time, as needed by their users. At
every stage, from start to finish, accounting deals with financial information and financial information only. It
does not deal with non-monetary or non-financial aspects of such information.
6. Accounting is an information system: Accounting is recognized and characterized as a storehouse of
information. As a service function, it collects processes and communicates financial information of any entity.
This discipline of knowledge has evolved to meet the need for financial information as required by various
interested groups. It connects the transmitter of information (accountant) to the set of receivers (users of
accounting information) using a medium of communication, which is the financial statement.

Bookkeeping and Accounting

Bookkeeping and accounting are two related processes. Bookkeeping is an accounting support function that involves the
systematic recording of business transactions in financial terms. Accounting functions at a higher level or degree than
bookkeeping does. Accountants design the accounting information system that the bookkeeper will use to record business
transactions. Accountants tend to focus on analyzing and interpreting information. Accountants may also supervise the
work of bookkeepers and prepare financial statements and tax returns. The bookkeeper’s work is routine when compared
to the accountant’s.

Functions of Accounting in Business

As a language of business, accounting is primarily utilized whenever there are business transactions. Any business
activity can affect many interested parties. Thus, it is the main function of accounting to provided quantitative financial
information that is useful in making economic decisions. What is the financial information provided in accounting?

The major end products of accounting are the financial statements. The following are the types of financial statements
and the information they provide.

a. Statement of Comprehensive Income – also known as the profit and loss statement or income statement. It
shows the results of the company’s performance as a result of operations at a particular period of time. This type
of financial statement indicates whether the entity has gained or lost from the operations by detailing its income
and expenses.
b. Statement of Changes in Equity – Throughout the organizations existence, its capital changes as it receives
investments or as it experiences withdrawal of investments, generates income, and pays for expenses. These
activities are all recorded in the statement of changes in equity. Thus, this type of financial statement provides
information about the entity’s financial and investing activities.
c. Statement of Financial Position – also called balance sheet. This presents the entity’s assets, liabilities, and
capital at a given point in time. The data in this statement provide information about the entity’s financial
condition or position in the business.
d. Statement of Cash Flows – provides information about the entity’s cash inflows and outflows resulting from its
operations, investments, and financing. Thus, it shows the balance of cash flow from the beginning until the end
of a given period.