Overview of Accounting

Learning Objectives 
1. Define accounting and state its basic purpose.
2. Explain the basic concepts applied in accounting. 
3. State the branches of accounting and the sectors in the practice
of accountancy. 
4. Explain the importance of a uniform set of financial reporting
standards. 

Definition of Accounting
Accounting is the “process of identifying, measuring and communicating economic information to permit
informed judgments and decisions by users of the information." -(American Association of Accountants)

Three important activities included in the definition of accounting 

1. Identifying 
2. Measuring 
3. Communicating

Identifying
Identifying is the process of analyzing events and transactions to determine whether or not they will be
recognized.

-Recognition refers to the process of including the effects of an accountable event in the statement of
financial position or the statement of comprehensive income through a journal entry.

-Only accountable events are recognized (ie, journalized). An accountable event is one that affects the
assets, liabilities, equity, income or expenses of an entity. It is also known as economic activity, which
is the subject matter of accounting. Only economic activities are emphasized and recognized in
accounting Sociological and psychological matters are not recognized.
Non-accountable events are not recognized but disclosed only in the notes, if they have accounting
relevance. Disclosure only in the notes is not an application of the recognition process. A non-accountable
event that has an accounting relevance may be recorded through a memorandum entry.

Types of events or transactions

1. External events - are events that involve an entity and another external party.

Types of External events

i. Exchange (reciprocal transfer) - an event wherein there is a reciprocal giving and receiving of economic
resources or discharging of economic obligations between an entity and an external party.
Examples: sale, purchase, payment of liabilities, receipt of notes receivable in exchange for
accounts receivable, and the like.
ii. Non-reciprocal transfer - is a "one way" transaction in that the party giving something does not receive
anything in return while the party receiving does not give anything in exchange.
Examples: donations, gifts or charitable contributions, payment of taxes, imposition of fines, theft,
provision of capital by owners, distributions to owners! and the like.

iii. External event other than transfer - an event that involves changes in the economic resources or obligations of
an entity caused by an external party or external source! does not involve transfers of resources or
obligations.
Examples: changes in fair values and price levels, obsolescence, technological changes, vandalism,
and the like.
 2. Internal events - are events that do not involve an external party,

Types of Internal events

i. Production - the process by which resources are transformed into finished goods. Examples: conversion of
raw materials into finished products, production of farm products, and the like.

ii. Casualty - an unanticipated loss from disasters or other similar events. Examples: loss from fire, flood,
and other catastrophes.

Measuring
Measuring involves assigning numbers, normally in monetary terms, to the economic transactions and events.
Several measurement bases are used in accounting which include, but not limited to, historical cost, fair value,
present value, realizable value, current cost, and sometimes inflation adjusted costs. The most commonly used is
historical cost. This is usually combined with the other measurement bases. Accordingly, financial statements are said
to be prepared using a mixture of costs and values. Costs include historical cost and current cost while values include the other
measurement bases.

Valuation by fact or opinion

The use of estimates is essential in providing relevant information. Thus, financial statements are said to be a mixture
of fact and opinion.
When measurement is affected by estimates, the items measured are said to be valued by opinion. Examples:
a. Estimates of uncollectible amounts of receivables.
b. Depreciation and amortization expenses, which are affected by estimates of useful life and residual value.
c. Estimated liabilities, such as provisions.
d. Retained earnings, which is affected by various estimates of income and expenses.

When measurement is unaffected by estimates, the items measured are said to be valued by fact. Examples:
a. Ordinary share capital valued at par value
b. Land stated at acquisition cost
c. Cash measured at face amount

Communicating
Communicating is
the process of transforming economic data into useful accounting information, such as financial
statements and other accounting reports, for dissemination to users. It also involves interpreting the significance of the
processed information

The communicating process of accounting involves three aspects:

 1. Recording - refers to the process of systematically committing into writing the identified and measured
accountable events in the journal through journal entries.
2. Classifying - involves the grouping of similar and interrelated items into their respective classes through
postings in the ledger.
3. Summarizing - putting together or expressing in condensed form the recorded and classified transactions and
events. This includes the preparation of financial statements and other accounting reports.

Interpreting the processed information involves the computation of financial statement ratios. Some
regulatory bodies, such as the Bangko Sentral ng Pilipinas (BSP), require certain financial ratios to be
disclosed in the notes to financial statements

Basic purpose of accounting

The basic purpose of accounting is to provide information that is useful in making economic decisions.
Various sources of information are used when making economic decisions and the financial statements are only
one of those sources. Other sources may include current events, industry publications, internet resources, professional
advices, expert systems, etc.
Economic entities use accounting to record economic activities, process data, and disseminate information intended to be
useful in making economic decisions.
An economic entity is a separately identifiable combination of persons and property that uses or controls economic
resources to achieve certain goals or objectives. An economic entity may either be a:
a. Not-for-profit entity - one that carries out some socially desirable needs of the community or its members and whose
activities are not directed towards making profit; or
b. Business entity - one that operates primarily for profit.