ACCOUNTING I Leaning Material #1

BASIC ACCOUNTING
INTRODUCTION

Human beings have limitations. Every transaction cannot be retained in the

human brain for quite a period of time without confusions and complications. To
avoid these, transactions and other important events should be recorded. Such
written records serve as reference for future recall.
In business, several parties are interested to its records to seek answers to their
questions and bases for their decisions. These parties can be classified into
direct users or those who have direct interest to business records and indirect
users or those who are indirectly interested to the accounting information of the
business.

Direct users (samples)

a. Owner d. Creditors
b. Management e. Employees
c. Prospective investors f. Government

Indirect users (samples)

d. Trade associations c. Media
e. Labor unions d. Competitors

Needs for Accounting

Why study Accounting?

In order to appreciate and understand the financial reports of the

business, one should have an understanding of how data are gathered
and recorded. All these understandings are gained in the study of
accounting. Accounting can also be one’s profession – a work which is
interesting and highly rewarding.

Business as an Accounting Entity

In accounting, the business is always assumed to be distinct and separate from
its owner/s. Which means that the personal properties of the owner are different
from the assets of the business, the liabilities of the business are different from
his personal obligations, and the expense incurred by the business are also
different from his personal expenses. The transaction therefore, entered into by
the owner in behalf of the business should be recorded in the books of the firm.
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DEFINITION OF ACCOUNTING

There are three major definitions of Accounting but it connotes same meaning:
1st definition - Accounting is a service activity, it functions to provide
quantitative information primarily financial in nature about economic
entitles that are intended to be useful in making economic decisions with
reasoned choices among alternative courses of action.
The quantitative information are shown in the financial statements, these
statements are:
a. Balance Sheet or Statement of Financial Position – gives the user the
financial condition of the business as of a given period. The word “as of “
means that the statement contains cumulative figures from the start of the
business operation up to the present statement date.
b. Income Statement – shows the result of operations of the business
enterprise either makes profits or losses for a period of time. The word “for
a period” means that the statement contains figures that transpired only
during the period of the statement date.
c. Statement of Cash flows – is the statement that gives information to the
user of cash resources and the cash uses of the business enterprise
during a given period of time.
This quantitative information are primarily financial in nature, which means the
financial statement should always be expressed in term of money or cash. In
addition, they give information about economic entities and the total financial
picture of the business enterprise. Thus, the users can make sound economic
decision with reasoned choices among alternative courses of action. They can
also maximize the full potential of the resources of a business enterprise.

The 2nd definition of accounting is an art of recording, classifying,

summarizing in significant manner in terms of money, transactions and
events which are part at least of financial character and interpreting the
result thereof. Accounting in this sense, explains how quantitative information is
being processed according to their ultimate uses.
The word recording means the writing down of business transactions in the
official book of accountants, official book of accounts is important because it is
where business transactions are recorded. Business transactions should not be
recorded in any kind of books that the accountant or the owner prefers; they
should be recorded in an official book duly registered with the BIR. When the BIR
examiner visits your office, he will check whether you are using a registered
official book of accounts, and he will check whether you are using a registered
official book of accounts, and he will examine the content. The inspection is done
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to assure that your business is under the government’s control for tax purposes.
In recording, we do not just write down business transactions in any manner we
like. We also have to organize or classify them. Classifying, means sorting of
business transactions to their specific account.. The reason for classifying is for
easy summarizing, which is the next process in accounting. Summarizing is the
summing up of the business transactions recorded in the book of accounts.
These three processes comprise the first phase of accounting which is referred
to as bookkeeping.
Bookkeeping is defined as the systematic and chronological recording of
business transactions, observing therein the fundamental principles of
accounting. A bookkeeper’s work is therefore called bookkeeping. The word
“chronological” means the transactions should be recorded in accordance with
the date of the business transactions, from the first day of the month to the last
day of the month. In actual practice, a bookkeeper’s work covers the recording of
the preparation of a trial balance. The preparation of trial balance is supposedly
the end product of a bookkeeper and the starting point of an accountant.
Going back to our definition of accounting, it states that the recording, classifying,
and summarizing must be in terms of:
a. Money – means cash
b. Transaction – the exchange of value. Values are money, rights,
properties, and services. Therefore, if there are exchanges among
these values, there will be transactions which should be recorded in
the official book of accounts; and
c. Event – is the act of happening, in accounting, an event must have an
impact in the business enterprise. The impact could either be positive
or negative. Most of the time, negative account is recorded than
positive. Impact, in this sense, means losses (quantifiable in money)
on the part of the business enterprise, caused by any event. For
example, a typhoon hot Metro Manila and I t destroyed some of your
business enterprise assets. As far as your business enterprise is
concerned, this is considered an event. On the other hand, if the
typhoon did not destroy other business enterprises, then it would not
be considered as an event for them. Hence, an event is more specific
to business enterprise and not to a specific place. And the event has a
money value. It is very important that as a student you should be able
to identify an event, because an event is recorded in the books of
account.
Likewise, money, transaction, and event justify our first definition of accounting
that it is financial in nature.
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 The last phase of accounting is interpretation. It is not enough that financial
statements should be prepared; they should also be interpreted so they can be
used appropriately in decision-making process.

ACCOUNTING CYCLE/ACCOUNTING PROCESS

In summarizing the accounting process, enumerated herewith are the usual processes:

1. Collection of business documents as transaction occurred. These business

documents will serve as pieces of evidence for a finished transaction. They are
essential as support to the recorded transactions.
2. Recording in the journal book. Journal book is the book of original entry. It is
the book where transactions are first entered. Recording may vary from company
to company, depending on the accounting system designed by the accountant. It
could be that the business documents can be recorded directly to books, without
the necessity of recording to a business forms to authorize them. This is
especially true for small business enterprises where transactions are minimal that
the accountant or the owner could easily remember the arrangements when
necessary. In other companies, when the collection of business document of
specific transactions are done through the use of voucher. In vouchers, the
accounting clerk or junior accountant types the entries appropriate for the
transactions. Then, the vouchers will be checked by the supervisor in change
and will finally be approved by an officer. The approval means the transactions
are approved for recording in the company’s book of accounts. This is a very
common practice especially for medium and big sized companies. This is also a
matter of control that all entries recorded in the book of accounts are authorized
by a company officer responsible for such.
3. Posting. After all transactions for the month are recorded, a total will be made
per account. The totals will then be transferred to another book called the general
ledger. The ledger is the book of final entry.
4. Preparation of Trial balance. The trial balance can be prepared by getting the
net balance of an individual account which is found in the ledger. If the trial
balance is balance, it means the posting process was properly made but
necessarily correct. In case of error, it can be counterchecked by analyzing each
account.
5. Preparation of adjusting entries. An adjusting entry is necessary to update an
account or correct an error. In doing, an account will be presented fairly in the
financial statement.
6. Preparation of working paper. Working paper is an accountant’s scratch paper,
but as possible, it must be neatly done. It facilitate the preparation of financial
statements.
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7. Preparation of financial statements. The statements are listed already in the
definition of accounting topic. The income statement is the statement to prepare
it first for the reason the net income or profit will be included in the balance sheet.
8. Preparation of the closing entries, post-closing trial balance, and reversal
entries. If it is the end of the accounting period, then the following processes
must be done:
a. Closing entries – mean that a nominal or temporary account will be closed
to capital accounts so that the remaining accounts will be the permanent
of the real accounts.
b. Post-closing trial balance – is essential to balance the accounts so that
before the start of another accounting period, the accounts are already
balance.
c. Reversal entries - before we formally open the books for the first
transactions to be recorded in, we still have one optional process and this
is the preparation of reversal entries

Now the 3rd definition – Accounting is a language of business. As a business

language, some Standard English terms could mean differently when used in
accounting. Nevertheless, accounting terms are within the user’s range of
understanding. Since accounting is the language of business, it entails
communication. Accounting is communicating financial informations to the user/s
through the financial statements.

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 PART II

ACCOUNTING ELEMENTS OR VALUES

There are three elements or values, namely:

Assets
Liabilities
Owner’s Equity (Capital)

1. ASSETS – are economic resources owned by the business. They included

properties and other things of value the ownership title of which is in the name of
the business. Assets can be grouped into:
a. Current assets are these assets which can be reasonably converted into
cash within a short period of time, usually within one accounting period or
within the regular operation of the business or normal operating cycle of
the business. Regular operation of the business is the period between the
render of service, in case of service concern, to the receipt of cash, and
the period between the acquisition of materials to their conversion to cash,
in case of merchandizing and manufacturing concern. The following
illustrations show this process.

SERVICE CONCERN

Cash

Service rendered Account receivable Cash

Notes receivable Cash (upon maturity)

MERCHANDISING CONCERN

Purchase or Selling of Goods Cash

Acquisition Selling of Goods Account receivable Cash

Goods or

Merchandize Selling of goods Notes receivable Cash

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 MANUFACTURING CONCERN

Purchase or

Acquisition of

Raw materials Manufacturing Finished goods

Selling of FG Cash

Finished goods Selling of FG Account receivable Cash

Selling of FG Notes receivable Cash

The above illustration shows that assets such as Account Receivables, Note
Receivables, Merchandise is considered current assets because they are
eventually converted into cash within the normal operating cycle of the business.
Current assets are also used to liquidate current liabilities. Included here are
cash, account receivables, and notes receivables which are expected to be
realized into cash, merchandise inventory which are expected to be sold, and
prepaid expenses which are expected to be used or consumed.
The following are among the current assets used by the business;
Cash/Cash on Hand/Cash in Banks, this includes currency of cash items
on hand, peso or foreign currency deposits in banks which are
unrestricted and immediately available for use in the current operations of
the business.
Receivables represents amounts collectible from customers arising from
sales of merchandise, claims for money lent, or the performance of
services. Such is presented in the balance sheet as account receivables.
If the receivable is supported by promissory note, it is presented as Notes
receivable.
Inventories constitute items of tangible personal property which are:
i. Merchandise inventory/finished goods – held for sale in the ordinary
course of business.
ii. Good-in-process – in the process of production for sale
iii. Raw materials – to be currently consumed in the production of
goods or services to be available for sale.
Prepaid expenses are those which are already paid before they are used
or consumed.

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 b. Non-current Assets are those assets not classified as current. They include
among others, Property, Plant, and Equipment are tangible assets used in
the operation of the business, have useful life that exceeds beyond one year,
and are not intended for sale. Examples are land, building, equipment,
furniture and fixtures. Other noncurrent assets are long-term investment,
intangible assets, and other noncurrent assets which are discussed in higher
accounting subject.

2. LIABILITIES - are debts or obligations of the business to a party other than its
owner. There two classifications of liabilities:
Current liability
Noncurrent liability

Current or short-term liabilities are those which are due for payment within a
short period of time or within one year from balance sheet date. These
obligations require current asset for payment. Included here are account payable,
note payable, accrued expenses and unearned income.
a. Accounts Payables are indebtedness arising from purchase of goods and
services in the ordinary course of business.
b. Notes Payables are short-term indebtedness supported by a written
promise to pay.
c. Accrued expenses are expenses already incurred but not yet paid as of
the balance sheet date.
Unearned income arises when payments for undelivered goods or services
not yet rendered or received. This item is included among current liabilities
because it requires current asset for liquidation, say the delivery of
merchandize inventory.

Fixed or Long-term Liabilities are those which matures beyond one year fro
the balance sheet date. Examples are mortgages payable, bonds payable, and
notes payable due beyond one year.

3. OWNER’s EQUITY (Capital)

Capital represents the owner’s equity in the business. The investment of the
owner to finance the business thus, shows the rights of the owner to the assets
of the business.

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Transaction

The data that we record in the accounting books are called transactions.
Transactions are the economic activities of the firm. These activities could
involve one enterprise and another enterprise which is called external transaction
or it may-be activities within the enterprise which is called internal transaction,
when there is transaction there is an exchange of value for value. In every
transaction, there is always a value received and a value parted with. These
values received and parted with may either be money, property or services.
Illustration:

Transactions Value Received Value Parted With

1. Purchased tools for cash Tools money/cash

2. Purchase supplies on credit Supplies Obligation/debt

3. Completed repair
work for R. Cruz & received
cash Money/Cash Services

4. Completed repair work for

Vet One on credit Receivable Services

5. Paid advertising in the

local newspaper Advertising Money/Cash

6. Paid the account in # 2 Obligation/debt Cash

7. Received payment from

Vet One Money/Cash Receivable

8. Paid the monthly

salary of the assistant Salary (services) Money/Cash

9. Paid the rent of the shop

space Rent (space) Money/Cash

10. Paid the monthly

Telephone bill Utilities (services) Money/Cash