I.

Definitions 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 decision. (Accounting
Standards Council)

Accounting – is the art of recording, classifying, 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. (Committee on Accounting Terminology of the American Institute of Certified Public Accountants)

Accounting – is the process of identifying, measuring, and communicating economic information to permit
informed judgement and decisions by the users of the information. (American Accounting Association)

II. Components of Accounting:

1. Identifying – analytical component (the 1 st step in the accounting process)

 Recognition or non – recognition of accountable events
 Has an effect on assets, liabilities and equity
 Economic activities (external and internal transactions)
2. Measuring – technical component
 Assigning of peso amounts
i. Historical cost
ii. Current cost
iii. Realizable value
iv. Present value
3. Communicating – formal component
 Preparing and distributing accounting reports to potential users
 “language of business”

III. The Communication Process of Accounting (starts with 2nd step in the accounting process)

1. Recording or Journalizing – systematic maintenance of record through the use of Journals or

journal entries
a. Single entry
b. Double entry
2. Classifying – grouping or sorting through the use of general ledger in their respective accounts.
3. Summarizing – through financial statements
a. Statement of Financial Position (Balance Sheet)
b. Statement of Comprehensive Income and other comprehensive income (includes
income statement / profit or loss)
c. Statement of Cash Flows
d. Statement of Changes in Equity
e. Notes to Financial Statements

IV. The Accountancy Profession

 RA 9298 – Philippine Accountancy Act of 2004

 Board of Accountancy (BOA) – body authorized by law to promulgate rules and regulations affecting the
practice of accountancy profession in the Philippines.
 Public Accountancy – minimum of 3 years of meaningful experience in any areas of public practice
including taxation; partnership or sole practitioner, but not corporation.
 Continuing Professional Development (CPD) – 120 hours
V. Areas of Accounting

1. Public accounting – auditing, taxation and management advisory services.

2. Private Accounting – accounting staff, chief accountant, internal auditor, and controller.

3. Government Accounting – BIR, COA, DBM, SEC, BSP, etc.

4. Academe – Professor, lecturers and the like.

VI. Accounting vs. Auditing

 The former is constructive in nature while the latter is analytical in nature;

 The function of the auditor starts when the function of the accountants’ end.

VII. Accounting vs. Bookkeeping

 Accounting encompasses Bookkeeping

 Bookkeeping – is procedural; focuses on development and maintenance of accounting records; this is
the how of accounting.
 Accounting – is conceptual; It answers the “why” of an action.

VIII. Financial accounting vs. managerial accounting

 The former focuses on general purpose reports intended for internal and external users; compliance of
GAAP;
 The latter focuses on special purpose reports intended for internal users only; no need to comply with
GAAP.

IX. Generally Accepted Accounting Principles (GAAP)

 Presently known as International Accounting Standards (IAS)

 These are the rules, procedures and practices, standards followed in the preparation of financial
statements
 Comprise of PAS, PFRS, PI
 a social process which incorporates political action of various interested user groups as well as
professional judgement, logic and research.

X. International Financial Reporting Standards Council (IFRSC)

 counterpart in the Philippines is FRSC, its main function is to establish and improve accounting standards
that will be generally accepted in the Philippines.

XI. Users of Financial Information (Stakeholders)

1. Primary Users (Stockholders, Owners, Creditors, Potential Investors)

2. Other Users (Employees, Customers, Government, Public)

XII. TYPE OF BUSINESS, ACCORDING TO OWNERSHIP

1. Sole Proprietorship
2. Partnership
3. Corporations
4. Cooperative
 XIII. TYPE OF BUSINESS, ACCORDING TO OPERATIONS

1. Service business
2. Merchandising Business
3. Manufacturing Business
4. Not for profit business

XIV. THE MANAGEMENT PROCESS (Planning, Organizing, Directing and Controlling)

 Accounting is usually vital in the planning and controlling stage of management

XV. Code of Professional Ethics

 Integrity – honest, sincere, and trustworthy

 Objectivity – not bias, not prejudicial, impartial attitude
 Competence – adequate knowledge, skills, and experience
 Independence – free of personal interest, and avoid compromising relationships
 Confidentiality – no disclosure of information

XVI. Financial Accounting vs. Financial Reporting

 Financial reporting encompasses financial accounting.

 The former focuses on financial reports including financial statements while the latter also covers non –
financial reports related to the business.

CONCEPTUAL FRAMEWORK OF FINANCIAL REPORTING

I. Definition of Conceptual Framework

 Theoretical foundation in the preparation and presentation of financial statements.

 Useful for standard setters, preparers, users, auditors and other parties interested in the subject matter.
 not a standard, thus standards prevails over the framework in case of conflict. In the absence of
standards, the conceptual may be applied.

II. SCOPE OF CONCEPTUAL FRAMEWORK

1. Objective of Financial reporting

2. Qualitative Characteristics

3. Elements of financial statements, its recognition, measurement and presentation

4. Capital and capital maintenance

III. ASSUMPTIONS UNDER CONCEPTUAL FRAMEWORK

 Going Concern
o Cost Principle
 Accounting Entity
o Parent- subsidiary relationship
 Time Period
o Calendar Year
o Natural Business Year
 Monetary Unit
o Quantifiability aspect
o Stability postulates
o Revaluation
IV. The Elements of Accounting pertains to the Accounting Equation (Assets = Liabilities + Owner’s Equity

 Account – is the accounting device used in summarizing the effects of transactions on each asset,
liability, equity, income, and expense.
 Recognition – the process of reporting of an account on the face of the financial statement.
 Assets, liabilities and equities are component of balance sheet while the income and expenses are
components of income statements.
 Balance sheet shows liquidity, solvency, and flexibility while the income statement shows the
effectiveness and efficiency of managing its resources. Also, the latter is useful in predicting future
performance and the ability to generate future cash flows.

Assets – economic resources controlled by the entity as a result of past events and from which
future economic benefits are expected to flow to the entity.

Asset is recognized when it is probable that future economic benefits will flow to the entity
and the asset has a cost or value that can be measured reliably.

Inherent in the asset recognition is the cost principle.

Assets are classified into current assets or non – current assets.

Current Assets are:

1. Cash and cash equivalents unless restricted to settle a liability for more than 12 months after
the reporting period;

2. Primarily for the purposes of trading;

3. Expects to realize the asset within 12 months after the reporting period;

4. Expect to realize the asset or intends to sell or consume it within the entity’s normal operating
cycle.

Current Assets are usually presented in the order of liquidity.

 Cash and cash equivalents– Cash refers to medium of exchange. It connotes more than
money as it includes checks, money orders, manager’s check and other forms of negotiable
instrument which are acceptable by the bank for deposit and immediate credit. It must be
unrestricted of use. Ex. Cash on hand, Cash in Bank, Petty Cash Fund and etc.
 Cash Equivalents – short – term and highly liquid investments that are readily convertible
into cash and so near their maturity that they present insignificant risk of changes in value
because of changes in interest rates. Ex. 3 month-time deposit
 Receivables –are financial assets that represent a contractual right to receive cash or
another financial asset from another entity. Ex. Accounts Receivable, Claim Receivable,
Receivable from Suppliers, etc.
 Investments – are assets held by an entity for the accretion of wealth through distribution
such as interest, royalties, dividends, and rentals, for capital appreciation or for other
benefits to the investing entity such as those obtained through trading relationships.
 Inventory – assets held for sale in the ordinary course of business, in the process of
production for such sale or in the form of materials or supplies to be consumed in the
production process or in the rendering of services.
 Prepaid Expenses – expenses paid in advance but not yet incurred.
 Other Current Assets

Non – current assets are residual definition.

  Property Plant and Equipment – tangible assets that held for use in production or supply of
goods or services, for rentals to others, or for administrative purposes, and are expected to
be used during more than one period.
 Long-term investment – accretion of wealth, capital appreciation, trading relationship
usually benefited the entity for more than a year.
 Intangible Asset – identifiable nonmonetary asset without physical substance.
 Other non-current assets

Liabilities – present obligations, which may be legal or constructive (normal business practice),
arising from past events the settlement of which is expected to result in an outflow from the entity’s
economic resources embodying economic benefits.

Liability is recognized when it is probable that an outflow of resources of embodying economic

benefits will be required for the settlement of a present obligation and the amount of obligation can
be measured reliably.

Liabilities are classified as current liabilities or non – current liabilities. Current liabilities are:

1. Expects to settle the liability within the entity’s normal operating cycle;

2. Holds the liability primarily for the purpose of trading;

3. To be settled within twelve months after the reporting period;

4. The entity does not have an unconditional right to defer the settlement of the liability for at
least twelve months after the reporting period.

 Trade and other payables (accounts payable, notes payable, accrued interest, accrued
expenses)
 Current provisions
 Short – term borrowings
 Current portion of long – term debt
 Current tax liability

Non- current liabilities are residual definitions

 Noncurrent portion of long-term debt

 Finance lease liability
 Long term deferred revenue

Owner’s Equity (NET ASSETS) – is the owner’s interest in, or claim to, the assets of a
business. It is the difference between the amount of assets and the amount of liabilities. (OE = A – L)

Income – is increase in economic benefit during the accounting period in the form of inflow
or increase in asset or decrease in liability that results in increase in equity, other than contribution
from equity participants.

Income encompasses revenue and gains.

Income is recognized when it is probable that an increase in economic benefits related to

an increase in asset or a decrease in liability has arisen and that the increase in economic benefits
can be measured reliably.

Income recognition is present at the point of sale subject to exceptions.

 Expenses – is the decrease in economic benefit during the accounting period in the form of
an outflow or decrease in asset or increase in liability that results in decrease in equity, other than
distribution to equity participants.

Expenses encompasses losses

Net Income (Loss) – the excess (deficit) of revenue over expenses for a given accounting
period. Net Income increases owner’s equity while net loss decreases owner’s equity.
(Revenue – Expenses = Net Income (Loss))

V. Accrual Basis of Accounting vs. Cash Basis of Accounting

 Accrual – income is recognized when earned, and expenses is recorded when incurred.
 Matching Concept
o Cause and effect association (cost of goods sold, sales commissions)
o Systematic and rational allocation (depreciation, amortization)
o Immediate recognition (loss on sale of equipment, administrative expenses)
 Cash – income is recognized when cash is received, and expenses is recorded when paid.

VI. Measurement Method

1. Historical Cost – past purchase exchange price

2. Current Cost – current purchase exchange price

3. Realizable Value – current sale exchange price

4. Present Value – future exchange price

VII. Limitations of Financial Reporting

 It does not provide all the information.

 Does not show the value of the entity but help the users to estimate the value of the entity.
 Common information.
 Based on estimate and judgement

VIII. QUALITATIVE CHARACTERISTICS

1. Fundamental Characteristics (substance and content)

a. Relevance (capacity to influence decisions)
i. Predictive Value
ii. Confirmatory Value
iii. Materiality (relative size; size and nature of the item)
b. Faithful Representation
i. Neutral
ii. Complete (standard of adequate disclosure)
iii. Free from error
iv. Substance over form
2. Enhancing Characteristics
a. Comparability
i. Intra and inter comparability
ii. Principle of consistency
b. Understandability
c. Verifiability
d. Timeliness
3. Cost – benefit principle
 IX. Concept of capital and capital maintenance

 Concept of Capital – capital is synonymous with net assets or net worth (income statement approach)
 Concept of capital maintenance – profit is earned when the net asset at the end of the year is greater
than the net assets at the beginning of the year, exclusive of the contributions and distributions of and to
the owners respectively.

X. Sources of capital

 Borrowed capital and contributed capital

 Accounting Equation

The Accounting Process (Cycle)

1. Analyze

Reversing 2.
Entries Journalization

Post Closing
Posting
Trial Balance

Closing Unadjusted
Entries Trial Balance

Financial Adjusting
Statements Entries

Steps in the Accounting Cycle:

1. Analyzing the business documents or transactions. This means that the accountants determine the impact of
the transactions on the financial position as represented by the basic equation “assets equal liabilities plus
equity”.
2. Journalizing – this is the process of recording the transactions in a journal.
3. Posting – transactions as classified and recorded in the journal are transferred to the appropriate accounts in
the general ledger and subsidiary ledger, if appropriate.
4. Preparing the unadjusted trial balance
5. Preparing the adjusting entries
6. Preparing the financial statements
 7. Preparing the closing entries
8. Preparing a post-closing trial balance
9. Preparing the reversing entries

Source Documents – different documents, business forms and papers evidencing or supporting a transaction, which
serve as the basis for recording in the books of accounts.

Accounting Equation – A = L + C

Double – Entry method of Bookkeeping – is a method of recording the business transactions in terms of the DUAL
EFFECT on the accounting elements. In other words, transactions are recorded in terms of the increase or decrease
in the accounts that are affected.

Account – is an accounting device used to classify and store information about the increases or decreases in a
particular item.

Chart of Accounts – a list of all account titles and their account (code) numbers used for journalizing business
transactions.

Books of Accounts – are the accounting books where business transactions are recorded. It consists of general
journal and the general ledger.

1. General Journal – this is a two-column journal, which is called the book of original entry because this is the
first book where the business transactions are recorded.
2. General Ledger – this is called the book of final entry because this is the book where the business
transactions are finally recorded. The ledger serves the same purpose as the T account but more formal and
detailed.

T – Account – used to show the increase or decrease in an account (item) caused by a transaction. It is the
convenient tool to analyze and record the effect of transactions in a particular account (item).

Top Account Title

Left side Right Side Debit Credit

(Debit) (Credit)

RULES OF DEBIT (Dr) AND CREDIT (Cr)

Debits and Credits are used to record the increases and decreases in each account affected by a business
transaction.

Guide in the rules of debits and credits: Use accounting equation and identify the normal balance of the elements of
financial statements.

ASSETS = LIABILITIES + OWNER’S EQUITY

Debit Credit

(Normal balance) (Normal Balance)

Rules for Asset Accounts:

 1. Add (increase) on the same side (debit)
2. Subtract (decrease) on the opposite side (credit)
3. The normal balance for an asset account is a debit balance

Asset Account

Debit Credit

Increase + Decrease -

Balance

Rules for Liability and Owner’s Equity Accounts:

1. Add (increase) on the same side (credit).

2. Subtract (decrease) on the opposite side (debit)
3. The normal balance for a liability or owner’s equity account is a credit balance.

Liability and Capital Account

Debit Credit

Decrease - Increase +

Balance

Example Problem:

On July 1 of the current year, Paul Brite started a TV repair business.

1. He invested P 50,000 in cash to start his business.

2. Purchased for cash group supplies costing P 3,500.

3. Brite brought from A & G Company repair equipment costing P 20,000 on credit.

4. Customers paid P 12,000 cash for repair services rendered.

5. Rental for the month of July was paid, P 6,000.

6. Customers were billed on account P 14,000 for repair services rendered.

7. Rental for the month of July was paid, P 6,000

8. Collected P 8,000 from customers as payment of their accounts.

9. Paid wages of assistant helper for the month of July, P 4,000.

10. Bought additional supplies costing P 7,500. A down payment of P 3,000 was made and the balance is payable at
the end of the month.

11. Repair services rendered, P 9,000. Received P 4,500 as partial payment.

12. Repair supplies bought for cash and used for repairs amounted to P 6,500.

13. Brite withdrew P 10,000 for his personal use.

Requirement:

A. Record the peso amount under the appropriate heading below on the accounting equation to show the effect of
transaction. Show the balance after the second transaction and there after and their final balances.

Assets = Liabilities + Owner’s Equity

Cash + A/R + Supplies + Equipment = A/P + P. Brite Capital + Revenue – Expenses

B. Prepare the journal entries

C. Post to the ledger

D. Prepare a financial statement

The General Journal

Contents:

1. The date of transaction

2. The name of the account debited as well as the amount.
3. The name of the account credited as well as the amount.
4. A posting reference (PR) indicating the account number of the account.
5. A short explanation of the trsanction.

Sample entries in the General Journal:

Jan. 1 J. Cruz, the owner invested cash in the business, P 50,000

GENERAL JOURNAL
Date Particulars PR Debit Credit
Jan. 1 Cash 101 5 0 0 0 0 00

J. Cruz. Capital 301 5 0 0 0 0 00

Initial Investment

Sample Chart of Accounts for Service Business

Statement of Financial Position Accounts (Real Accounts) Statement of Comprehensive Income (Nominal)

100 – Assets 400 – Income

101 – Cash 401 – Service Income

102 – Accounts Receivable

103 – Unused Office Supplies 500 - Expenses

104 – Prepaid Rent 501 – Salary Expense

121 – Delivery Equipment 502 – Advertising Expense

122 – Accumulated Depreciation – 503 – Communication Expense

Delivery Equipment 504 – Office Supplies Expense

 200 – Liabilities 505 – Rent Expense

201 – Accounts Payable 506 – Insurance Expense

202 – Salaries Payable 507 – Miscellaneous Expense

508 – Depreciation Expense

300 – Owner’s Equity

301 – Brandon Lopez, Capital

302 – Brandon Lopez, Drawing

303 – Income Summary

Trial Balance – is a listing of all the balances of the different accounts as of a give time. The total of all the accounts
with debit balances must equal with the total of all the accounts with credit balances. If not, then an error in posting
(recording in the T account) must have been committed.

Purposes of Trial Balance:

 1. To check the accuracy of posting by testing the equality of debits and credits.
2. It aids in locating errors in posting.
3. It serves as a basis in the preparation of financial statements.

Errors Cannot be Detected by Trial Balance:

1.