Chapter 1
persons who bind themselves to contribute
Business- a legally-recognized organizational entity existing
within an economically free country designed to sell goods
and/or provide services to consumers
Profit-oriented enterprise- aims to earn income or profit
through the provision of goods and/or services to consumers
Non-profit-oriented enterprise- aims to achieve socio-civic
or charitable aims
Forms of Business Enterprises (according to nature of
operations)
1. Service business or service concern- simplest form
of business and provides services to clients or
customers in exchange for fees, rent, interest or
royalties
2. Merchandising business or trading concern-
purchase goods from suppliers and, without altering
the state of the goods bought, sell the same at a
higher price than cost
3. Manufacturing business or manufacturing
concern- involves the most complex activities and
actually produces the goods that it sells to customers
LEGAL FORMS of Business/ Business Ownership
• Sole Proprietorship- most basic legal form of
business and has only one owner Advantages:
1. Easier to form compared to partnerships and
corporations
2. Generally has uncomplicated transactions and
minimal regulatory requirements
3. Decisions can be arrives at in less time and
implemented faster
4. Proprietor enjoys all the profits earned by the
business
Disadvantages:
1. Proprietor faces financing problems because of
the enterprise’s limited ability to raise capital
once volume of business increases
2. Proprietor does not receive the benefit of second
opinion on decisions made
3. Proprietor bears the risks and losses which may
be incurred in the business
4. Proprietor has unlimited personal liability for the
debts incurred by the business
• Partnership- an association of two or more
money, property, or industry to a common fund
with the intention of dividing the profits among
themselves
- Partnerships are governed by the Civil
Code of the Philippines Advantages:
1. It is easier to organize compared to a corporation
2. Burden of management is shared among partners
3. More ideas are exchanged and brainstormed
which results in better decision-making
4. Can raise more capital than sole proprietorship
Disadvantages:
1. Depends on the capability of each partner to
invest resources into the business
2. Plurality of owners may result to disagreements
regarding ideas and management style,
hampering business operations
3. Life of partnership may be fragile –it may be
dissolved by agreement, by withdrawal of one or
more partners, or by the death of or incapacity of
partner
4. Partners have unlimited personal liability for
partnership debts
• Corporation- the most complex form of business
organizations
- Shareholder- a person who invests in a
corporation
- Certificate of stock- evidence of the number of
shares purchased
- Governed by the Corporation Code of the
Philippines
- Management of operations of the corporation is
centralized in the corporation’s board of directors
Advantages:
1. Has the greatest capacity to raise capital
2. Can raise capital by selling shares of stock to
the public as a whole
3. Shareholders may transfer their shares without
the need to obtain the consent of other
shareholders
4. Corporations may exist for period no longer
than 50 years, subject to renewal
5. Limited liability of owners (shareholders are
liable to third parties for the losses of the
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 corporation only to the limit of their fully-paid
investments)
6. If corporation goes bankrupt, lenders cannot take
personal assets of the stockholders
Disadvantages:
1. The cost of forming and managing a corporation
is relatively high compared to sole
proprietorships and partnerships
2. Subject to greater scrutiny, regulation, control
and supervision by the government
3. Management is more complex
4. Has limited powers, as expressly stated in the
Corporation Code of the Philippines and its own
Articles of Incorporation
5. Subject to higher income tax rate
• Cooperatives- defined by International Cooperative
Alliance’s Statement on Cooperative Identity as
“autonomous associations of persons united voluntarily to
meet their common economic, social, and cultural needs and
aspirations through jointly owned and democratically
controlled enterprises” Economic Decisions
Economic decisions- decisions which affect the resources it
controls and the obligations of the business to other
enterprises
Financial Information- a summary of all the transactions of
the business over a period of time. Most important financial
information comes from accounting
Accounting- 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
- 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
- Service function to management. It basically
processes raw data and converts them to
meaningful information that will be useful for
decision-making
- Is the process of identifying, measuring and
communicating economic information to permit
informed judgement and decision by users of the
information
Basic purpose of accounting: to supply financial
information to users of the information to help them make
informed judgements and better decisions
Accounting is language of the business: used to
communicate financial information to interested parties.
Through this, different users of information understand
what is happening in the business enterprise
Bookkeeping- procedural or mechanical aspect of
accounting and involves set-up, update and maintenance
of accounting records. It can be done by properly trained
non-accountants
Accounting- interpretation of information recorded under
bookkeeping. Practice of accountancy can be done only
by certified public accountants
The Accountancy Profession
Accounting is a profession because it has the attributes
required of a profession.
1. Mastery of particular intellectual skill, acquired
by training and education. Accounting requires
students to finish degree in Bachelor of Science
in Accountancy and pass government
examination administered by Professional
Regulatory Board of Accountancy
2. Adherence by its members to a common code of
values and conduct established by its
administrating body, including maintaining an
outlook which is essentially objective. The Code
of Ethics is mandatory for all CPAs
3. Acceptance of duty to society as a whole
(usually in return for restrictions in use of a
title or in the granting of qualification).
Majority rely on CPAs for sound financial
accounting and reporting, effective financial
management and competent advice on a variety
of business and taxation matters
The Accountancy Act of 2004
Republic Act No. 9298, the Philippine Accountancy Act
of
2004
Objectives:
• Standardization and regulation of accounting
education
• Examination for registration of certified public
accountants
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 • Supervision, control, and regulation of the practice of
accountancy in the Philippines
Article II creates Professional Regulatory Board of
Accountancy which enforces the provisions of the Philippine
Accountancy Act. It is also granted the right to issue, suspend,
revoke or reinstate CPA certificates for the practice of the
profession
• The Board is composed if a chairman and 6
members, all of whom are appointed by the President
of the Republic of the Philippines The CPA Board
Exams
Any person applying for examination shall establish the
following requisites to the satisfaction of the Board that
he/she:
• Is a Filipino citizen
• Is of good moral character
• Is a holder of degree of Bachelor of Science in
Accountancy conferred by a school, college,
academy or institute duly recognized and/or
accredited by the CHED or other authorized
government offices
• Has not been convicted of any criminal offense
involving moral turpitude
Licensure examination for CPAs shall cover , but are not
limited to, the following subjects:
• Management Services
• Business Law and Taxation
• Theory of Accounts
• Auditing Theory
• Auditing Problems
• Practical Accounting Problems 1
• Practical Accounting Problems 2
• Economics
To be qualified as having passed the licensure exam,
candidate must obtain a general average of 75% with no
grades lower than 65% in any given subject. If candidate
obtains required rating or above in at least a majority of
subjects provided for in this Act, they will receive a
conditional credit for the subjects passed Such candidate will
take an examination in the remaining subjects within 2 years
from preceding examination and fails to obtain 75% and a
rating of at least 65% for the subjects re-examined, they will
be considered as having failed the entire examination
Candidates who fail 2 complete examinations shall be
disqualified from taking another exam unless they submit
evidence to the satisfaction of the Board that they enrolled
an completed at least 24 units of subject given in the
licensure examination
Sectors of Accounting Practice
1. Public practice- This sector includes individual
practitioners, small accounting firms, medium
sized and multinational accounting firms that
render independent professional accounting
services to the public. CPAs charge professional
fees for these services. Example of service are:
• Auditing- most common service provided
by CPAs and involves independent
examination of financial statements for the
purpose of expressing an opinion on the
fairness of these statements
• Tax services- includes the preparation of tax
returns for various clients, provision advice
on tax matters and representation of clients
in tax cases
• Management and consulting services-
involves providing advisory/consulting
services on matters of accounting, finance,
business policies, organization procedures,
budgeting, product costing and the conduct
of operations
2. Commerce and Industry
Accountants are employed in various positions
such as: vice-president for finance, chief
accountant, cost accountant, internal auditor or
budget officer. The highest accounting officer of
a business organization is known as the
controller. Accountants in commerce and
industry assist management in planning and
controlling a company’s operations
3. Education
This area employs accountants as professors,
reviewers or researchers. They take steps to
clarify and address emerging accounting issues
encountered by accountants in other sectors.
They share results of discussion and research
with colleagues in other sectors. Educators also
prepare aspiring CPAs for the Licensure
Examinations
4. Government
Accountants may be hired as staff, auditor,
budget officer or consultant in government units
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 like the Commission on Audit, Bureau of Internal
Revenue,
Department of Finance, Department of Budget and
Management, and the Securities and Exchange
Commission
Accounting –Then and Now
• Comes from Middle East Region, where as early as
8500 BC, tradesmen use clay objects to represent
commodities
• Ancient civilizations of Babylon, Greece and Egypt
also used clay tablets and later papyri to record
document wage payments, material requisitions and
costs of labor
• In 13th to 15th centuries, more systematic
recordkeeping methods were developed with the
growth of trade and commerce
• Florentine, Venetian and Genoan merchants used
these methods to keep track of their business
• Double-entry records first appeared in Genoa in
1340 AD
Luca Pacioli and the Summa
• 1494, Friar Luca Pacioli wrote a book containing
discussions on the double-entry bookkeeping system
entitled Summa de Arithmetica, Geometria,
Proportioni et Proportionalita (Everything about
Arithmetic, Geometry, Proportions and
Proportionality), summary of the existing
mathematical knowledge at the time
• Considered as Father of Double-Entry Bookkeeping
The Industrial Revolution
• Cost accounting- specialized field of accounting
which deal with the allocation of costs to products
was developed during this period
Fields of Accounting
1. Financial accounting-focuses on preparation of
general-purpose financial statements with the aim of
meeting most of the needs of the external users
2. Management accounting- concerned with financial
reporting for internal users (management) and users
have control over the accounting system and can
specify precisely the type of reports needed for use in
decision-making
3. Cost accounting- measures a business’ costs to
help management in controlling expenses
4. Tax accounting- has two aims: compliance with
tax laws and minimizing the company’s tax bill
through legal means
5. Government accounting- encompasses the
process of analyzing, classifying, summarizing
and communicating all transactions involving
receipt and disposition of government funds and
property and interpreting the results thereof.
Focus is the proper custody, disposition and
accounting for public funds
Chapter 2
Generally Accepted Accounting Principles
GAAP- comprises the accounting principles and
processes, standards and underlying assumptions that are
used in preparing financial statements
Financial Reporting Standards Council (FRSC)- official
accounting standard setting body in the Philippines. The
primary task of FRSC is to improve and establish
accounting standards that will be generally accepted in the
Philippines
Philippine Financial Reporting Standards (PFRS)- The
FRSC issued this and this constitutes the generally
accepted accounting standards observed in the Philippines
-PFRS includes:
• Philippine Accounting Standards
• PFRS
• Philippine Interpretations developed by
Philippine Interpretations Committee
Basic Accounting Concepts
1. Business entity principle: business is considered
distinct and separate from the owner(s) of the
business
• Accounting entity- an organization
accounted for as a separate economic unit
2. Dual-effect of business transactions: whenever
a business transaction takes place, it is assumed
that the value receive is equal to the value given
up (for every value received, there is an equal
value given up) Debit-Credit
3. Matching principle: profit or loss is computed
by deducting the expenses incurred from the
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 income earned during an accounting period. Income
recorded and reported in one accounting period
should be matched against the expenses that directly
or indirectly contributed to the generation of the
income
4. Accrual basis: income is recognized when it is
earned, regardless of when cash is received. Expenses
are recognized when incurred, regardless of when
cash is paid
• If services have already been rendered to a
customer, income is recognized even if cash has
not been received from the customer
• If cash is received from customer before a
service is rendered or goods are delivered,
income is not yet earned because there is no
service or delivery of goods yet. The cash
received would be earned only upon rendering of
service or delivery of the goods
• If services have already been received by the
business from its suppliers, expenses are
recognized even if these services have not yet
been paid for by the businessz
• If cash has already been paid by the business to
its suppliers, an expense is not recorded until it is
incurred
5. Cash basis of Accounting: income is recognized
when cash is received, and expenses are recognized
when cash is paid (extra concept sometimes used by
other businesses)
6. Stable monetary unit: it is concerned with
information which can be quantified and expressed in
terms of money. For business transactions to be
included in the accounting records and financial
statements of the enterprise, it must be expressed in
terms of a uniform means of measurement
7. Periodicity (Time Period Concept): operating life of
an enterprise may be conveniently divided into time
periods of equal length called accounting periods.
Normal accounting period is equal to 12 months or 1
year
8. Going Concern (Continuity Assumption): enterprise
is a going concern and will continue operation for the
foreseeable future. It is assumed that the enterprise
has neither the intention nor the need to liquidate or
curtail materially the scale of its operations
Accounting Framework
• The Framework for the Preparation and Presentation
of Financial Statements sets out the concepts that
underlie the preparation and presentation of
financial statements for external users
• The Framework is not part of the PFRS and in
case of conflict, the requirements of the PFRS
shall prevail over those of the Framework
Purposes of the Framework
a) Assist the FRSC in developing accounting
standards that represent the GAAP in the
Philippines
b) Assist the FRSC in its review and adoption of
existing
International Financial Reporting Standards
c) Assist prepares of financial statements in
applying FRSC Philippine Financial Reporting
Standards and in dealing with topics that have yet
to from the subject of an FRSC statement
d) Assist the auditors in forming an opinion as to
whether financial statements conform with the
Philippine GAAP
e) Assist users of financial statements in
interpreting the information contained in
financial statements prepared in conformity with
Philippine GAAP
f) Provide those who are interested in the work of
the FRSC with information about its approach to
the formulation of Philippine Financial Reporting
Standards
Scope of the Framework
a. Objective of financial statements
b. Underlying assumptions in the preparation of
financial statements
c. Qualitative characteristics that determine the
usefulness of information in financial statements
d. Definition, recognition and measurement of the
elements of the financial statements
e. Concepts of capital and capital maintenance
Financial Statements
Financial statement- the means by which the information
accumulated in and processed by financial accounting is
communicated to users on a periodic basis and is the
endproduct of the financial accounting process
Parts:
1. Statement of financial position or balance
sheet
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 2. Statement of comprehensive income (income
statement)
3. Statement of changes in equity
4. Statement of cash flows
5. Notes to the financial statements
Users of Financial Statements
1. Investors- providers of risk capital and are concerned
with the risk inherent in and return provided by their
investments. They need information to help them
determine whether to buy, sell or hold their
investments. Info enables them to assess enterprise’s
ability to pay dividends
2. Employees- interested in information about the
stability and profitability of their employers. Info
enables them to assess the enterprise’s ability to
provide remuneration, retirement benefits and
employment opportunities
3. Lenders- determine whether their loans and the
interest attaching to them will be paid when due
4. Suppliers and other trade creditors- determine
whether the amounts owing to them will be paid
when due
5. Customers- information about the continuance of an
enterprise
6. Government and their agencies- interested in the
allocation of resources and, therefore, the activities of
the enterprise. They also require information to
regulate the activities of enterprise, determine
taxation policies and as the basis for national income
and similar statistics
7. The public- enterprises affect the members of the
public in a variety of ways
• Financial statements are primarily used for the use of
investors and creditors
Information Provided by Financial Statements
• Information about the financial position, financial
performance and cash flows of an entity
1. Financial Position
- Condition of a business, in monetary terms, as of
a given date or point in time and is primarily
provided in a statement of financial position or
balance sheet. Financial position is affected by
the economic resources controlled, financial
structure,, liquidity, solvency, and capacity to
adapt to changes in the environment in which an
enterprise operates
Liquidity- availability of cash in the near future to cover
currently maturing liabilities or obligations
Solvency- availability of cash over the long term to meet
obligations when they fall due
Capacity for adaptation- ability of the enterprise to use its
available cash for unexpected requirements and
investment opportunities or simply called as emergency
money
2. Performance or profitability
- Refers to whether a company is able to
generate profit or incur a loss during a
particular accounting period and is used for
statement of comprehensive income. 2 parts:
profit/loss portion and other comprehensive
income portion
Income statement- useful tool for evaluating
management’s stewardship of the resources of the
enterprise and for assessing the inflow and outflow of
cash
3. Changes in financial position
- Information concerning changes about a
company’s financial position is useful in
order to assess its investing, financing and
operating activities during the reporting
period. This information provides users with
a basis to assess the enterprise’s ability to
generate cash and cash equivalents and the
needs of the enterprise to utilize those cash
flows
Statement of changes in equity- shows balance of the
owner’s investment in the business at the beginning of the
accounting period, additional investments made by the
owner, withdrawals by the owner for personal use, the
profit or loss for the period, and the balance of the
owner’s investment at the end of the accounting period
Statement of cash flows- summarizes cash activity for the
period, classified according to the nature of activity
4. Other supplementary information
- Additional information that is relevant to the
need of financial statement users. May
include:
• disclosures about the risk and uncertainties
concerning the enterprise and any resources
and obligations not recognized in the
statement of financial position
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 • information about geographical and industry
segments
• effects on the enterprise of changing prices
General-Purpose Financial Statements
- financial statements that meet most of the needs of
other users
• Special-purpose financial statements- covered by
management accounting and auditing courses
Frequency of Preparation of Financial Statements
- Usually prepared annually
• Interim financial statements- shorter period financial
statements (monthly, quarterly or semi-annually)
Responsibility for Financial Statements
Management is responsible for:
• Preparation and presentation of the financial
statements of the enterprises
• Selecting and applying the accounting policies and
principles which are appropriate for the company
Underlying Assumptions in the Preparation of Financial
Statements
Underlying assumptions-concepts which are assumed to have
been applied in preparing financial statements
• Accrual basis
• Going concern
Elements of Financial Statements
A. Elements pertaining to financial position
1. Assets- resource owned and/or controlled by the
enterprise and expected to provide future
economic benefits to the enterprise. It is
acquired by an enterprise as a result of a past
transaction or event. The enterprise should have
the capacity to restrict or prevent other entities
from enjoying the economic benefits arising
from the use of the resource or item
• Cash- items considered as medium of exchange
in business transactions
• Accounts receivable- valid claims from
customers or clients arising from the provision
of services or delivery of goods in the ordinary
course of business where the price for these
services or goods have not yet been paid
• Supplies on hand- supplies purchased by an
enterprise which are unused as of the
reporting date
• Merchandise inventory- goods which have
been bought from suppliers for resale to
customers at a higher price than cost
• Property , plant and equipment- long-
lived assets which have been acquired for
use in operation
2. Liabilities- present obligation of the enterprise
arising from past events, which are to be settled
in the future. It is required to be settled in the
future
• Accounts payable- amounts due to
suppliers for goods purchased or services
received on account
• Salaries payable- due to employees which
are unpaid as of the reporting date
• Utilities payable- due to utility companies
for electricity, heat, light and water charges
• Advances from customers- amounts
received from customers in advance for
delivery of goods or provision of services
• Loans payable- obligations of an enterprise
to lenders
3. Equity- claim; residual interest in the assets of
the enterprise after deducting all its liabilities and
arise from the original investment by an owner
into the business and increased by additional
investments by the owners and by profit earned
during a period
B. Elements pertaining to performance or profitability
1. Income- increase in economic benefits during
the accounting period in the form of inflows or
enhancements of assets or decreases of
liabilities that result in the increase of equity
other than those a relating to contributions
from equity participants
• Revenue- course of the ordinary
activities of an enterprise (sales, fees,
dividends, royalties and rent)
• Gain- other items that meet the
definition of income and may or may
not arise in the course of the ordinary
activities of an enterprise
2. Expenses- decrease in economic benefits
during the accounting period in the form of
outflows or depletions of assets or incidences
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 of liabilities that result in decreases in equity other
than those relating to distributions to equit
participants
• Losses- other items that meet the definition
of expenses and may or may not arise in the
course of the ordinary activities of the
enterprise
Recognition of the Elements of the Financial Statements
Recognition- process of incorporating in the statement of
financial position or statement of comprehensive income an
item that meets the definition of an element and satisfies the
criteria for recognition
Criteria:
1. It is probable that any future economic benefit
associated with the item will flow to or from the
enterprise
2. The item has cost or value that can be measured with
reliability
Examples:
• Asset is recognized when it is probable that the future
economic benefits will and asset has a cost or value
that can be measured reliably
• Liability recognized when it is probable that an
outflow of resources embodying economic benefits
will result from settlement of a present obligation and
it can be measured reliably
• Income is recognized when increase in future
economic benefits related to an increase in an asset or
a decrease of a liability has arisen that can be
measures reliably
• Expenses is recognized when a decrease in future
economic benefits related to a decrease in asset or an
increase of a liability has arisen that can be measure
reliably
Measurement of the Elements of the Financial Statements
- Process of determining the monetary amounts at
which the elements of the financial statements
are to be recognized and carried in the financial
statements
Measurement Bases
• Historical cost: assets are recorded at the amount of
cash or cash equivalents paid or the fair value of the
consideration given to acquire them at the time of
their acquisition
• Current cost: assets are carried at the amount of
cash or cash equivalent they would have to be
paid if the same or an equivalent asset was
acquired currently
• Realizable (settlement) value: assets are carried
at the amount of cash or cash equivalent that
could currently be obtained by selling the asset in
an orderly disposal
• Present value: assets are carried at the present
discounted value of the future net cash inflows
that the item is expected to generate in the
normal course of business
Qualitative Characteristics of Financial Statements
(Accounting concepts)
Qualitative characteristics- attributes that make the
information provided in financial statements useful to
users
4 principal qualitative characteristics
1. Relevance- when it influences the economic
decisions of users by helping them evaluate past,
present or future events or confirming or
correcting past evaluations
a) Predictive role- if it is used to make
predictions of future cash inflows or income
in future periods
b) Confirmatory role- if it is used o confirm
or correct the earlier expectations of a
financial statement user
c) Materiality- if its omission or misstatement
could influence the economic decisions of
users taken on the basis of financial
statements
2. Reliability- info should be free from material
error and bias and can be depended upon by
users to respect faithfully that which it either
purports to represent or could reasonably be
expected to represent
a) Faithful representation- information must
represent faithfully the transactions and
other events it either purports to represent or
could reasonably be expected to represent.
The actual effects of transactions should be
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 properly accounted for and reflected in the Source Documents
financial statements
b) Substance over form- transactions and other - Original record of a business transaction
accountable events are accounted for and (date and nature of transaction amount and
presented in accordance with their substance and parties involves)
economic reality and not merely their legal form
Examples:
c) Neutrality- financial statements must be free
from bias 1. Sales invoice- issued to evidence a sale for cash
d) Prudence (Conservatism)- inclusion of a 2. Delivery receipt- evidence the
degree of caution in the exercise of judgement acceptance/receipt of the goods delivered to the
needed in making the estimates required under customer
conditions of uncertainty, such that asset or
3. Official receipt- issued to evidence the receipt of
income are not overstated and liabilities and
cash from customers
expenses are not understated
4. Vendor’s invoice- issued to the enterprise by the
e) Completeness- info must be complete within the
enterprise’s suppliers
bounds of materiality and cost
5. Purchase requisition forms- evidences an
3. Understandability- words and other accounting
employee’s request for the purchase of needed
terminology being used are those expected to be
goods or suppliers
known and understood by users of the financial
statements 6. IOUs- note acknowledging indebtedness to the
enterprise
4. Comparability
7. Promissory notes- unconditional promise in
a) Intra-comparability- users must be able to
writing made by one person to another
compare the financial statements of an enterprise
across accounting periods 8. Bank statements- summary of all financial
transactions occurring over a certain period on a
b) Inter-comparability- users must be able to
bank account
compare financial statements of different
enterprises in order to evaluate their relative 9. Minutes of meetings- record of a meeting
financial position 10. Business letters- business correspondences
11. Job time tickets- time spent working at a
Constraints on Relevant and Reliable Information particular customer order
1. Timeliness- if there is undue delay in the reporting of
information it may lose its relevance
2. Cost-benefit- cost of providing financial information
should not exceed the benefits of having these
information available for decision-makers
3. Balance between Qualitative characteristics-
relevance and reliability are not present
simultaneously as desired

Chapter 3

Business transaction- exchange of values involving two

parties or within the enterprise

External transactions- sale of goods to customers or the

provision of services to clients

Internal transactions- manufacture of goods for sale and

incurrence of losses by the company resulting from fire and
flood

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 12. Certificates of stock-ownership of shares in a
corporation
13. Time records/timesheets- time-in and time-out of
employees
14. Check voucher- authorization of cash disbursement
transactions
15. Journal voucher- documents used for transactions
and journal entries for which there is no other source
document
Basic Accounting Equation
Assets= Liabilities + Equity
Net Assets-focuses on equity or the claim of owners to the
assets of the business
Equity= Assets – Liabilities
Possible effects of business transactions:
a) Increase in assets= increase in liabilities
b) Increase in assets = increase in equity
c) Increase in one asset= decrease in another asset
d) Decrease in assets= decrease in liabilities
e) Decrease in assets= decrease in equity
f) Increase in liabilities= decrease in equity
g) Increase in equity = decrease in liabilities
2. Liability Accounts
h) Increase in one liability= decrease in another liability
i) Increase in one equity= decrease in one equity
Expanded Accounting Equation
Assets= Liabilities + Equity + Income – Expenses
Parts of:
• Financial Position: assets, liabilities and equity
• Comprehensive Income: Income and expenses
• Changes in Equity: capital, additional investments
and withdrawals
• Cash flows: any activity that results in inflow or
outflow of money or resources
Common Examples of Account Titles Used
3. Equity Accounts
1. Asset Accounts
• Cash- medium of exchange for business transactions
• Held for trading securities- temporary
investments of excess cash which are primarily
held for short-term gain
• Loans and receivables- trade receivables and
non-trade receivables and are claim against
others which arise in the ordinary course of
doing business
• Trade notes receivable- written promise from
the customer to pay a fixed amount of money on
a certain future date
• Non-trade receivables- all other claims which
are not trade
• Inventories- assets which are held for sale/ in
the process of production/ in the form of
materials and supplies
• Prepaid expenses-expenses paid for by the
business in advance. (e.g. prepaid insurance and
prepaid rent)
• Long-term investments- asset held by an
enterprise for the accretion of wealth through
capital distribution for capital appreciation or for
other benefits to the investing enterprise
• Property, plant and equipment- tangible assets
used in the production or supply of goods or
services
• Intangible assets- identifiable, non-monetary
assets without physical substance
• Accounts payable- opposite of accounts
receivable
• Notes payable- enterprise is the one who
promises to pay
• Accrued liabilities- amounts owed to others for
unpaid expenses
• Unearned revenues- enterprise receives
payments before providing its customers with
goods or services
• Mortgage payable- used for recording longterm
debts of an enterprise
• Bonds payable- large sums of money are often
required by a business for working capital and
expansion purposes and is often obtained by
floating bonds
• Equity- used to record the original and
additional investments of the owner of the
business entity
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 • Withdrawals- when proprietor withdraws cash
or other assets for non-business use
• Income summary- temporary account used to
summarize all income and expenses for a given
period
4. Income Accounts
• Service income or fees income- revenues
earned by performing services for customers
• Sales- revenues earned as a result of sale of
merchandise
5. Expense Accounts
• Cost of sales- cost incurred to purchase or to
produce the products sold to customers during
the period
• Salaries and wage expense- payments as a
result of an employer-employee relationship
• Utilities expense- expenses related to use of
communication facilities, the consumption of
water and electricity
• Rent expense- expense for leased office space,
equipment or other assets rented from others
• Supplies expense- account used for recording
the usage of supplies in the normal course of
business
• Insurance expense- portion of premiums paid
on insurance coverage which has expired
• Depreciation expense- the portion of the cost of
a tangible asset allocated or charged as expense
during as accounting period
• Bad debts expense- amount of receivables
estimated to be uncollectible and charged as
expense during an accounting period
• Interest expense- expense related to borrowed
funds
Account Balances
- Difference between the total debits and the
total credits of each account
Debit balance- if total debits are greater than the total
credits
Credit balance- if the total credits are greater than the
total debits
Normal balance- usual balance of an account assuming
proper accounting has been made
Chapter 4
Steps in Accounting Cycle:
1. Analyzing business transactions through source
documents
2. Journalizing, or the recording of transactions in a
journal
3. Posting or transferring of the entries from the
journal to the ledger
4. Preparing the trial balance
5. Preparing the 10-column worksheet and making
the necessary adjusting journal entries
6. Preparing the financial statements based on
adjusted account balances
7. Recording adjusting entries to the journal and
posting the same to the ledger
8. Recording and posting of closing entries
9. Ruling and balancing real and nominal accounts
10. Preparing post-closing trial balance
11. Preparing reversing entries

Double-Entry Accounting System
1. For every debit entry, there must be a corresponding
credit entry and accounting equation must always be
maintained
2. Each transaction affects at least two accounts
3. Total debit for a transaction must equal total credits
4. An account is debited when an amount is entered on
the left side of the account and credited when amount
is entered on the right side
5. The account type determines how increases or
decreases in it are recorded
Journal- book where transactions are initially recorded in
a systematic and chronological order; also called the book
of original entry
Simple journal entry- one account debited and one
account credited
Compound journal entry- more than one account is
involved in a single entry
Memorandum entry- an entry which has no debit or
credit, which shows only the date and a brief explanation
or reminder

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Chart of accounts- list of all accounts of the business and
their respective account numbers. Use of this would reduce
confusion as to the choice of account titles and permits
uniformity in recording routine transactions

Ledger- group of accounts and known as the book of final

entry

Trial balance- list of all accounts and their balances and

indicated whether total debit equals total credit. It does not
guarantee that all transactions have been recorded. It is
commonly taken every month-end

Footing- adding all the debits and credits

Open account- when in trial balance, there is a balance either

on the debit or credit side

Closed account- if the debit equals credit

Reasons Why Trial Balance may not be Balance:

1. Error in footing the debit and credit columns

2. Error in transferring from the ledger to the trial
balance
3. Error in posting (e.g. posting debit to credit side of
account)
4. Error in journalizing
5. Error of omission

Working-Back Method

1. Check if amount is doubled on debit or credit side

2. Transplacement error- e.g. 1M -> 100,000
3. Transposition error- when position of numbers are
mixed (e.g. 535,700 -> 553,700)

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