THE FUNDAMENTALS

OF ACCOUNTING
PART-1
ACCOUNTING- It is a systematic method of recording, analyzing and evaluating figurative
information in such a manner that the user of the information gets a fair and clear view regarding
the financial performance of the business

BOOK-KEEPING- It involves all the activities of recording business dealings in a set of books.
Keeping the most basic records is described as bookkeeping.

THE USERS OF ACCOUNTING INFORMATION?

• Employees
• Investors/Prospective partners
• Bank
• Suppliers
• Government
• Owner
• Creditors/ Lenders

OBJECTIVES OF ACCOUNTING
• Monitoring and control over the use of resources
• Preparing Financial position to calculate profits and losses
• Effective financial planning and decision making
• Measuring the performance of the business
• Mistakes and fraud detection
• Comply with law (tax)

EVENTS & TRANSACTIONS

• Events are all incidents or occurrences that relate to the business or have an impact on
the business.
• Transaction is an event or a business activity which involves exchange of money and
goods between parties. Transactions are those events that make an immediate change in
the financial resources or obligations that are measurable in monetary terms.
• Cash Transaction & Credit Transaction?
 EVENTS TRANSACTION
1. All events are not transaction. 1. All transaction are events.
2. All event cannot be expressed in 2. All transactions can be expressed in
monetary terms. monetary terms.
3. Events may or may not require two 3. In the case of transaction two parties are
parties. . must.
4. The earning of profit is not the objects of 4. The earning of profit is the main object the
all events. business transaction.
DIFFERENCE

EVENT
Monetary Event Non- Monetary Event

Personal Business

Transaction

ASSETS- are resources OWNED by a business.

 Assets are expected to provide current and future benefits (used to generate revenue
for the business).
 Example: factory building, machines, inventory, etc.
 NON-CURRENT ASSETS CURRENT ASSETS
- Long term resources. - Short term resources.
- Used/stays in the business for more - Expected to be used /converted in to
than a year. cash WITHIN ONE year.
- Cannot be converted into cash easily. - Can be converted into cash easily.
Examples: Examples:
Land/Premises Inventory/stock
Building Accounts receivable (customers)
Fixtures and fittings Bank
Office Furniture Cash
Motor van/ Vehicle Other Receivables
Equipment/ Machinery

LIABILITY- is an amount that a business OWES to someone else (a supplier, bank, lender etc.).
 A liability can be considered a source of funds
 Example: Bank loans, accounts payable etc.

NON-CURRENT LIABILITY CURRENT LIABILITY

• Long term liabilities/obligations. • Short term liabilities/obligations.
• Non-current liabilities are due after a • Current liabilities are due and payable
year or more. within one year.
• Used to fund the purchase of non- • Obligations are met using current
current assets assets. (liquidity)
Examples: Examples:
Bank loans Bank overdraft
Debentures Accounts payable (suppliers)
Other Payables

CAPITAL- is the total investment made by the owner(s) of the business.

It is often called OWNER’S EQUITY or NET WORTH.
ACCOUNTING EQUATION
• Assuming that the owner supplied all the resources
• Resources in the business (Asset) = Resources supplied by the owner (Capital)
If the owner borrows to increase resources of the business-
ASSET (A) = CAPITAL (C)+ LIABILITY (L)
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PART-2
ACCOUNTING CYCLE is a series of steps that involves recording transactions in the
daybooks, posting them to ledger, extracting a trial balance and finally drawing up
financial statements.
• Step 1- Recording Transactions in Daybooks (6 day books)
• Step 2- Posting Transactions in Ledgers (3 ledgers)
• Step 3- Balancing off accounts at the year end
• Step 4- Extracting Trial Balance with the year-end account balance amount
• Step 5- Draw up Financial Statements (balance sheet & income statement)

LEDGER is a book which contains accounts (the actual T Accounts)

 SALES LEDGER- This contains accounts of credit costumers (people to who we sell
goods on credit) – Trade/accounts Receivables.
 PURCHASE LEDGER- This contains accounts of credit suppliers (people from whom we
buy goods on credit)– Trade/ Accounts Payables
 GENERAL LEDGER- This contains all the other accounts. Like all expenses, incomes,
provisions (literally all other accounts)

DOUBLE ENTRY SYSTEM

 Double entry bookkeeping is a system of recording transactions that recognizes that there
are two sides/aspect of every transaction.
 Every transaction involves giving and receiving. It is important that you recognize and
record both aspects of each transactions
 Double entry book keeping is a system by which every debit entry is balanced by an equal
credit entry.
DEBIT- It means writing something to at the left hand side of an account.
CREDIT- It means writing something to at the right hand side of the account.

ACCOUNT is a place where all the information referring to a particular asset or liability, or to
capital, is recorded. It is a history of all transactions of similar nature and it separates what is
received from what is given.
T-accounts used to classify and summarize the increase, decrease and balance of a particular
account involved in transaction.
DRAWING UP A T-ACCOUNT
T-account check list: Account title, Date, Cross reference of other accounts title, Currency, Total
amount
DOUBLE ENTRY AND T-ACCOUNT EXAMPLES
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PART-3
THE ASSET OF STOCK
PURCHASE- Purchases in accounting means the purchase of goods which the business buys
with the prime intention of selling.
SALES- Sales means the sale of those goods in which the business normally deals and which
were bought with the intention of resale. Note: Sale of asset is a part of disposal, not Sales.

INVENTORY/STOCK MOVEMENT:
INCREASE IN STOCK
• Purchase of goods. Purchase Account - purchases of goods are entered
• Return in to the business of goods previously sold. Return Inwards Account - in which
goods being returned in to the business are entered. (This is also known as the Sales
Returns Account.)
DECREASE IN STOCK
• The sale of goods. Sales Account - sales of goods are entered
• Good previously bought by the business now being returned to supplier. Return Outwards
Account- in which goods being returned out to a supplier are entered. (This is also known
as the Purchases Returns Account.)

RETURN INWARDS OR OUTWARDS: REASONS

• We sent goods of the wrong size
• Wrong color or the wrong model.
• The goods may have been damaged in transit.
• The goods of poor quality.
EXAMPLES
Purchases of stock for cash:
On 2 August 20X8, goods costing £310 are bought, cash being paid for them immediately at the
time of purchases.
The movement of inventory is that of a purchase. Debit
The asset of cash is decreased. Credit

Current Assets: Inventory, Accounts Receivable, Cash, Bank

Sales of inventory on credit:
On 3 August 20X8, goods were sold on credit for £375 to J Lee.
An asset is increased. (Accounts Receivable) Debit
The asset of stock/Inventory is decreased. Credit

Return Inwards (Sales Return):

On 5 August 20X8, goods which had been previously sold to F Lowe for £29 are now returned to
the business.
The asset of stock is increased by the goods returned.
There is a decrease in an asset. (Accounts receivable decrease)

Returns Outwards (Purchase Return):

On 6 August 20X8, goods previously bought for £96 are returned by the business to K Howe.
The liability of the business to K Howe is decreased by the value of the goods
returned. Debit
 The asset of stock is decreased by the goods sent out. Credit

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PART-4
REVENUES means the sales value of goods and services that have been supplied to customers.
(Price * Quantity Sold)
EXPENSES means the cost value of all the assets that have been used up to obtain those
revenues.

As, profit belongs to the owners,

 Revenues increase profits, so they increase capital, and that makes them credits.
Revenue is treated the same as liabilities. Increases in revenue are credited to the
appropriate revenue accounts, while decreases are debited to the same accounts.
 Expenses decrease profits, so they reduce capital, and that makes them debits.
The treatment of expenses is the same as the treatment of assets. Increases in expenses
result in debit entries to the appropriate expense accounts, while decreases result in credit
entries to those same accounts.
EXPENSE ACCOUNTS – DEBIT INCOME ACCOUNTS- CREDIT
 Rent Account Rent received
Commissions Account Commission received
Stationery Account
Wages and Salaries Account
Insurance Account
Bank Interest Account
Motor Expenses Account
Telephone Account
General/ Miscellaneous / Sundry
Expenses Account
Stationery
Motor expense
Administrative
Carriage Outwards
Bank Service Charge
Repairs and Maintenance
Advertising Expense

CLASSWORK: 6.2
HOMEWORK: 6.3 and 6.4
DAY BOOKS