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Financial Accounting - I
Fourth Edition
 Financial Accounting - I
Fourth Edition

Mohammed Hanif
Sr. Professor of Accounting & Finance
St. Xavier’s College (Autonomous), Kolkata

Amitabha Mukherjee
Formerly Sr. Professor of Accounting & Finance
St. Xavier’s College (Autonomous), Kolkata

McGraw Hill Education (India) Private Limited

CHENNAI

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 McGraw Hill Education (India) Private Limited
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Financial Accounting - I, 4e

Copyright © 2018, by McGraw Hill Education (India) Private Limited.

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 Preface to the Fourth Edition

Firstly, we would like to thank our readers for the overwhelming support they’ve shown for the last three
editions of this book. Throughout this book we have tried to give students a thorough knowledge of the
techniques of financial accounting. This book has been structured keeping in mind the latest CBCS syllabus
prescribed by University of Calcutta w.e.f. 2017-18. This book has been designed and written exclusively for
students appearing for their B.Com Semester-I examination.
Considering the changing students’ need and valuable feedback from our readers, we have undertaken a
considerable restructuration of the book especially in terms of pedagogical aspect.
• Every chapter has been supplemented with adequate number of solved examples, which have been
presented in the ascending order of the difficulty level. We believe this will ensure a smooth learning
experience to our readers as they transit from beginning to the end of the chapter.
• The in-chapter solved examples are then followed by Previous Years’ C.U. Question Papers (with
solutions). This section is further segregated as- ‘For General Course Students’ and ‘For Honours
Course Students’. These questions will enable students to assess the kinds of questions asked in the
university exams and will also help them in evaluating their conceptual understanding.
• Lastly, an exclusive section ‘Special Problems’ has been dedicated for the advance learners. This
section includes questions that are more challenging and of higher order of difficulty.
• Considering the weightage assigned to the theory portion in the university question papers, we have
added an exclusive section ‘Suggested Answers of Short Questions’ at the end of the book. The
answers to the theoretical questions from the previous 6 years’ (2011 to 2016) C.U. Question Papers.
New to the Edition
As per the 2017-18 CBCS syllabus prescribed by University of Calcutta, the following two chapters are
exclusive to the current edition.
• Chapter-13: Introduction to Accounting Theory
• Chapter-14: Introduction to Accounting Standards
Secondly, with the withdrawal of AS-6: Depreciation Accounting and amendments in AS-10: Property,
Plant and Equipment, there was a need to revise the Chapter-9: Depreciation Accounting. Accordingly,
there has been a thoroughly revision of this chapter considering the latest amendments in AS-10.
A number of colleagues, friends and students helped us in the preparation of this book. We thank each and
every one of them.
Utmost care has been taken to make it an error free book, but if you still find any errors please email us at
pmhanif@gmail.com . All suggestions are welcome.
We specially thank Mr. S. Rangarajan for typesetting and formatting this book.
AUTHORS
 Preface to the First Edition

Many changes are forthcoming in the field of accounting. To keep students abreast with all such changes
taking place worldwide, different universities of India are changing the coment of the undergraduate syllabus
continually in a consistent manner.
In the past an accountant’s job was to report past events, however, nowadays an accountant has to take
more proactive role in providing and interpreting both financial and non-financial information about the
organization’s workflow. Still thorough accounting knowledge is of vital importance for students as well as
professionals. Throughout this book, we have tried to give students a thorough knowledge in the techniques
of financial accounting.
The book has been designed in accordance with the latest syllabus of the University of Calcutta. Utmost
care has been taken to balance the book well, with text and problems. We have included numerous fully
solved problems, interspersed within the text. In addition, a variety of chapter and exercises have been
provided for the benefit of the users of this book. Special emphasis has been given to the problems set for
various university question papers till 2009. More than 500 solved problems and 300 exercises have been
incorporated into this text. In addition to that, more than 200 multiple choice questions have been added to
help students clear every concept thoroughly.
AS-2, Valuation of Inventories and AS-9, Revenue Recognition, have been dealt with as per the require-
ments of the syllabus.
Utmost care has been taken to make it an error free book. Still, if the readers find any errors, they may
write to the authors at pmhanif@gmail.com. All suggestions for further improvement in the book are also
welcome.
We thank Mr. S. Rangarjan for typesetting and formatting this book. Our students have always been a
source of inspiration and happiness. They never cease to raise good points. We have tried to incorporate all
such points in this book.
We especially thank Master M.H. Kabir for mapping the newly designed rupee symbol “`” throughout
this book.
AUTHORS
 Syllabus
Calcutta University
CC 1.1 Ch: FINANCIAL ACCOUNTING -- I

Marks Where you can

Unit Topic Details
allotted find in the Book
 Nature of accounting; Users of accounting
information; Qualitative characteristics of
accounting information
 Double entry book keeping system -- Basic
accounting equation, meaning of assets,
Chapter 1
liabilities, equity, revenue and expenses
Chapter 2
 Accounting cycle -- Recording of
Chapter 3
1 Introduction transactions, journal, ledger and preparation 5
Chapter 4
of Trial Balance.
Chapter 5
 Bases of accounting; cash basis and accrual basis.
Chapter 6
 Basic concepts and conventions: entity, money
measurement, going concern, cost, realisation,
accruals, periodicity, consistency, prudence
(conservatism), materiality, matching and full
disclosures.
 Revenue recognition: Meaning of revenue;
objective; timing of recognition. Recognition
of expenses. Chapter 7
 Inventories: meaning. Significance of inventory Chapter 8
valuation. Lower of cost or market value rule;
Inventory ascertainment and reconciliation.
 The nature of depreciation. The accounting
concept of depreciation. Factors in the
measurement of depreciation. Methods of
computing depreciation: straight line method and
2 Concepts for diminishing balance method; Disposal of
Determination Chapter 9
depreciable assets; change in estimate and 15
of Business Chapter 10
method of charging depreciation. Accounting for
Income depreciation:
Asset-depreciation, Asset-provision.
 Reserves and provisions: Meaning; Objective;
Types & Accounting
 Capital and revenue expenditures and receipts:
Chapter 11
general introduction only.
Chapter 12
 Adjustment and rectification
x Syllabus

Concept of accounting theory, relation with

Introduction to
practice; GAAP, Capital ---- Capital maintenance
Accounting Chapter 13
concepts. Limitations of Historic Cost accounting,
Theory
3 Introduction to Fair Value accounting. 10
Introduction to Financial accounting standards: concept, benefits,
Accounting procedure for issuing accounting standards in India. Chapter 14
Standard Need for a global standard, IFRS (concept only).
Preparation of financial statements: of sole
Final Accounts of proprietorship business entities from a trial balance Chapter 15
4 15
Trading Concern -- Manufacturing, Trading, P/L A/c and Balance Chapter 16
Sheet
Financial Preparation of financial statements: a) from
Statement of incomplete records b) of non-profit organisation
Chapter 17
5 Incomplete 10
chapter 18
Records and of
NPO
 Consignment: Basic features; difference
with sales. Recording in the books of
Consignor -- at cost & at invoice price,
Valuation of unsold stock; Ordinary
Accounting for commission. Treatment and valuation of
Special Sales abnormal & normal loss. Special
Transaction commission; Del credere commission (with
and without bad debt) - use of Consignment
Debtors A/c. Recording in the books of
Consignee
 Accounting for sale on approval
Chapter 19
 Concept of sectional balancing, preparation Chapter 20
6 Sectional and Self of control accounts. Self balancing Ledger: 25
Chapter 21
Balancing Ledger advantages; Recording process; preparation Chapter 22
of Adjustment accounts.
 Loss of stock: Physical & ownership
concept; concept of under-insurance and
average clause; computation of claim -- with
Insurance Claim price change; consideration of unusual
for Loss of Stock selling line; price reduction etc.
and for Loss of  Loss of profit: Concept -- insured &
Profit uninsured standing charges, GP rate, short
sales and increased cost of working, average
clause and computation of claim (simple
type)
TOTAL 80
 Brief Contents

1. Introduction to Accounting 1.1 - 1.10

2. Double Entry System 2.1 - 2.10
3. Accounting Cycle 3.1 - 3.44
4. The Trial Balance 4.1 - 4.18
5. Bases of Accounting 5.1 - 5.14
6. Accounting Concepts and Conventions 6.1 - 6.8
7. Revenue Recognition 7.1 - 7.10
8. Inventories 8.1 - 8.28
9. Depreciation Accounting 9.1 - 9.44
10. Reserves and Provisions 10.1 - 10.30
11. Capital and Revenue 11.1 - 11.8
12. Rectification of Errors 12.1 - 12.42
13. Introduction to Accounting Theory 13.1 - 13.4
14. Introduction to Accounting Standard 14.1 - 14.8
15. Final Accounts of Trading Concern 15.1 - 15.108
16. Manufacturing Accounts 16.1 - 16.12
17. Non-Profit Organisation 17.1 - 17.70
18. Incomplete Records 18.1 - 18.64
19. Consignment Accounts 19.1 - 19.58
20. Accounting for Sale on Approval 20.1 - 20.12
21. Self-Balancing Ledger 21.1 - 21.44
22. Insurance Claims 22.1 - 22.44
Suggested Answers to Short Questions S.1 - S.26
 Contents

Preface to the Fourth Edition v

Preface to the First Edition vii
Syllabus ix
Brief Contents xi

1. Introduction to Accounting 1.1 - 1.10

Meaning of Accounting 1.1
Objectives of Accounting 1.1
Advantages of Accounting 1.2
Limitations of Accounting 1.2
Meaning of Book-keeping 1.2
Distinction between Book-keeping and Accounting 1.3
Evolution of Accounting 1.4
Subfields of Accounting 1.4
Financial Accounting 1.4
Cost Accounting 1.5
Management Accounting 1.5
Social Accounting 1.5
Human Resource Accounting 1.5
National Accounting 1.5
Distinction between Financial Accounting and Management Accounting 1.6
Users of Accounting Information 1.6
Qualitative Characteristics of Financial Statements 1.7
Understandability 1.8
Relevance 1.8
Reliability 1.8
Comparability 1.9
Key Points 1.9
Theoretical Questions 1.9
Objective Questions 1.10
Guide to Answers 1.10

2. Double Entry System 2.1 - 2.10

Introduction 2.1
Features of Double Entry System 2.1
xiv Contents

Advantages of the Double Entry System 2.1

Disadvantages of the Double Entry System 2.2
Accounting Equation 2.2
Concept of Debit, Credit and Duality 2.2
Elements of Financial Statements 2.6
Definitions 2.6
Assets 2.7
Liability 2.7
Recognition of the Elements of Financial Statements 2.7
Recognition of Assets 2.7
Recognition of Liabilities 2.7
Recognition of Income 2.7
Recognition of Expenses 2.7
Measurement of Elements of Financial Statements 2.8
Key Points 2.8
Theoretical Questions 2.8
Objective Questions 2.8
Practical Questions 2.9
Guide to Answers 2.10

3. Accounting Cycle 3.1 - 3.44

Accounting Cycle 3.1
Source Documents 3.2
Invoices 3.2
Credit Note 3.2
Voucher 3.3
Features of a Voucher 3.3
Preparing a Voucher 3.3
Meaning of Transaction 3.5
Meaning of Event 3.5
Classification of Transaction 3.6
Rules for Determining Cash or Credit Transaction 3.6
Classification of Accounts 3.7
Modern Classification of Accounts 3.7
Traditional Classification of Accounts 3.9
Rules for Debit and Credit (Traditional) 3.10
Journal and Ledger 3.11
The Journal and its Nature 3.11
Ruling of a Journal 3.11
Simple and Compound Journal Entries 3.13
Subdivision of Journal 3.15
The Ledger 3.15
 Contents xv

Can Ledger suffice without a Journal? 3.15

Subdivisions of Ledger 3.16
Standard Form of Ledger Account 3.17
Running Balance form of Ledger Account 3.17
Sequence and Numbering of Ledger Accounts 3.17
Posting 3.18
The Mechanics of Posting 3.18
Balancing Ledger Accounts 3.18
Purchases Day Book 3.25
Trade Discount 3.26
Posting the Purchases Day Book into the Ledger 3.27
Sales Day Book 3.28
Procedure for Writing up the Sales Day Book 3.28
Sales Book with VAT Column 3.29
Posting the Sales Day Book into the Ledger 3.30
Purchases Returns Book 3.31
Posting the Purchases Returns into the Ledger 3.31
Debit Note 3.32
Credit Note 3.32
Sales Returns Book 3.33
Posting the Sales Returns into the Ledger 3.33
Journal Proper or General Journal 3.34
Opening Entries 3.34
Closing Entries 3.35
Transfer Entries 3.36
Rectification of Error Entries 3.36
Adjusting Entries 3.36
Credit Purchase of Assets 3.38
Credit Sale of Worn-Out or Obsolete Assets 3.38
Credit Purchase of Stationery 3.38
Key Points 3.38
Theoretical Questions 3.38
Objective Questions 3.39
Practical Questions 3.40
Guide to Answers 3.44

4. The Trial Balance 4.1 - 4.18

Meaning of Trial Balance 4.1
Characteristics of a Trial Balance 4.2
Objectives of Drawing up a Trial Balance 4.2
Defects of a Trial Balance 4.2
Construction of a Trial Balance 4.2
xvi Contents

Errors Disclosed by a Trial Balance 4.6

Errors Not Disclosed by a Trial Balance 4.6
Steps to Detect Errors through a Trial Balance 4.7
Suspense Account 4.8
Preparation of the Trial Balance from Given Ledger Balances 4.8
Some Important Items 4.8
Closing Stock 4.8
Cost of Goods Sold 4.9
Carriage Inwards and Carriage Outwards 4.9
Returns Inwards and Returns Outwards 4.9
Correction of Trial Balance 4.10
The Adjusted Trial Balance (Recasting of a Trial Balance) 4.12
Key Points 4.14
Theoretical Questions 4.15
Objective Questions 4.15
Practical Questions 4.16
Guide to Answers 4.18

5. Bases of Accounting 5.1 - 5.14

Cash Basis of Accounting 5.1
Features 5.1
Advantages 5.1
Disadvantages 5.2
Computation of Net Income under Cash Basis 5.2
Accrual Basis of Accounting 5.2
Features 5.2
Advantages 5.3
Disadvantages 5.3
Distinction between Cash Basis and Accrual Basis 5.3
Computation of Net Income under Accrual Basis 5.3
Mixed Basis of Accounting 5.4
Features 5.4
Computation of Net Income under Mixed Basis 5.4
Conversion of Profit under Cash Basis into Profit under Accrual Basis 5.8
Conversion of Profit under Accrual Basis into Profit under Cash Basis 5.10
Journal Entries for Conversion of Cash Basis Accounting into Accrual Basis Accounting 5.12
Key Points 5.13
Theoretical Questions 5.13
Objective Questions 5.13
Practical Questions 5.14
Guide to Answers 5.14
 Contents xvii

6. Accounting Concepts and Conventions 6.1 - 6.8

Accounting Concepts and Conventions 6.1
Basic Concepts and Conventions 6.1
Business Entity Concept 6.1
Money Measurement Concept 6.2
Going Concern Concept 6.2
Historical Cost Concept 6.3
Realisation Concept 6.3
Accrual Concept 6.4
Periodicity Concept 6.4
Consistency Concept 6.4
Prudence (or Conservatism) Concept 6.5
Materiality Concept 6.5
Matching Concept 6.6
Full Disclosure 6.6
Substance over Form 6.6
Key Points 6.7
Theoretical Questions 6.7
Objective Questions 6.7
Guide to Answers 6.8

7. Revenue Recognition 7.1 - 7.10

Introduction 7.1
Objectives of Revenue Recognition 7.1
Accounting Standard [AS - 9: Revenue Recognition] 7.2
Scope 7.2
Definitions 7.2
Sale of Goods 7.3
Transfer of Legal Title 7.3
Rendering of Services 7.4
Proportionate Completion Method 7.4
Completed Service Contract Method 7.5
Interest, Royalty and Dividends 7.5
Disclosure 7.5
Specific Examples 7.5
Recognition of Expenses 7.8
Key Points 7.9
Objective Questions 7.9
Guide to Answers 7.10

8. Inventories 8.1 - 8.28

Introduction 8.1
Objectives of Accounting for Inventories 8.1
Effects of Errors in Valuing Inventory 8.2
xviii Contents

Accounting Standard [AS-2 : Valuation of Inventories] 8.2

Meaning of Important Terms 8.2
Measurement of Inventories 8.2
Cost of Inventories 8.3
Cost of Purchase 8.3
Cost of Conversion 8.3
Joint Products and By-products 8.4
Excise Duty on Finished Goods 8.5
Cost Excluded from Inventories 8.5
Cost Formulas 8.6
Specific Identification Method 8.6
First In First Out Method (FIFO) 8.6
Techniques for the Measurement of Cost-Standard Cost Method and the Retail Method 8.7
Standard Cost Method 8.7
The Retail Method 8.7
Net Realisable Value (NRV) 8.7
Review Items Individually 8.7
Contract Price and Market Price 8.8
No Write Down when Finished Goods will be Sold at Cost or Above Cost 8.9
Disclosure 8.9
General Illustrations 8.10
Accounting for Inventories 8.13
Perpetual Inventory Method 8.13
Periodic Inventory Method 8.14
Recording Inventory Acquisitions and Sales 8.14
Recording Transaction in Stores Ledger/Stock Cards 8.15
Problems of Stock Taking 8.18
Key Points 8.24
Theoretical Questions 8.24
Objective Questions 8.24
Practical Questions 8.26
Guide to Answers 8.28

9. Depreciation Accounting 9.1 - 9.44

Nature of Depreciation 9.1
Concept of Depreciation 9.1
Accounting Standard AS-10 : Property, Plant and Equipment 9.2
Needs for Providing Depreciation 9.2
Factors in the Measurement of Depreciation 9.3
Meaning of Cost of the Asset 9.3
Element of Cost 9.3
 Contents xix

Useful Life of the Asset 9.3

Residual Value of the Asset 9.4
Methods of Computing Depreciation 9.5
Straight Line/Equal Instalment Method 9.5
Diminishing Balance Method 9.8
Distinction between Straight Line and Diminishing Balance Methods 9.9
Charges for Depreciation and Materiality Concept 9.11
Profit and Loss on Disposal of Fixed Assets 9.11
When no Provision for Depreciation Account is Maintained 9.11
When Provision for Depreciation Account is Maintained 9.16
Change in the Method of Depreciation 9.19
Change in Accounting Estimates 9.19
Sinking Fund Method or Depreciation Fund Method 9.26
Insurance Policy Method 9.29
Sum-of-the-Years’ Digits Method 9.30
Annuity Method 9.31
Revaluation Method 9.32
Depletion Method 9.33
Machine Hour Rate Method 9.34
Production Units Method 9.35
Depreciation and Repairs Fund Method 9.35
Revision of the Estimated Useful Life 9.37
Depreciation on Addition or Extension of the Asset 9.37
Change in the Historical Cost 9.38
Depreciation of Revalued Assets 9.38
Is Depreciation a Source of Fund? 9.39
Key Points 9.39
Theoretical Questions 9.39
Objective Questions 9.40
Practical Questions 9.41
Guide to Answers 9.44

10. Reserves and Provisions 10.1 - 10.30

Meaning of Reserve 10.1
Types of Reserves 10.1
Meaning of Reserve Fund 10.2
Distinction between Provisions and Reserves 10.2
Distinction between Capital Reserve and Revenue Reserve 10.2
Sinking Funds 10.3
Difference between a Sinking Fund to replace an Asset and
Sinking Fund to Repay a Liability 10.3
Meaning of Provision 10.3
xx Contents

Accounting for Provision for Bad Debts 10.4

First Method 10.5
Second Method 10.12
Provision for Discount on Debtors 10.15
Reserve for Discount on Creditors 10.18
Recovery of Bad Debts 10.19
Treatment of Bad Debt Recovery in the Books of the Buyer 10.19
Key Points 10.27
Theoretical Questions 10.27
Objective Questions 10.27
Practical Questions 10.28
Guide to Answers 10.30

11. Capital and Revenue 11.1 - 11.8

Meaning of Capital Expenditure 11.1
Meaning of Revenue Expenditure 11.1
Necessity for Distinction between Capital Expenditure and Revenue Expenditure 11.2
Distinction between Capital Expenditure and Revenue Expenditure 11.2
Rules for Determining Capital Expenditure 11.2
Examples of Capital Expenditure 11.3
Rules for Determining Revenue Expenditure 11.3
Examples of Revenue Expenditure 11.4
Capital and Revenue Receipts 11.4
Capital and Revenue Profits 11.4
Capital and Revenue Losses 11.5
Key Points 11.8
Theoretical Questions 11.8
Practical Questions 11.8
Guide to Answers 11.8

12. Rectification of Errors 12.1 - 12.42

Introduction 12.1
Types of Errors 12.1
Errors of Omission 12.2
Errors of Commission 12.2
Rectification of Errors before the Preparation of the Trial Balance 12.3
Rectification of errors after the preparation of Trial Balance but
before the Preparation of Final Accounts 12.5
Suspense Account 12.5
Rectification of errors after Preparation of Final Accounts 12.26
Key Points 12.36
Theoretical Questions 12.36
 Contents xxi

Objective Questions 12.36

Practical Questions 12.37
Guide to Answers 12.42

13. Introduction to Accounting Theory 13.1 - 13.4

Introduction 13.1
Generally Accepted Accounting Principles (GAAP) 13.1
Capital Maintenance Concepts 13.2
Limitations of Historical Cost Accounting 13.3
Fair Value Accounting 13.3
Introduction 13.3
Definition 13.3
Features 13.4
Advantages 13.4
Limitations 13.4
Current Practice in India 13.4
Theoretical Questions 13.4

14. Introduction to Accounting Standard 14.1 - 14.8

Introduction 14.1
Nature 14.1
Scope 14.2
Purposes 14.2
Accounting Standard Board (ASB) 14.3
Procedure for Issuing Accounting Standards 14.3
National and International Accounting Authorities 14.3
Adoption of International Financial Reporting Standard (IFRS) 14.4
Obligation to Comply with Indian Accounting Standards (Ind AS) 14.6
Benefits of Achieving the Convergence with IFRSs 14.6
List of Current Accounting Standards 14.7
Theoretical Questions 14.8

15. Final Accounts of Trading Concern 15.1 - 15.108

Introduction 15.1
Trading Account 15.2
Features of Trading Account 15.2
Needs of Preparing Trading Account 15.2
Style of a Trading Account 15.2
Trading Account Items 15.3
Closing Entries 15.3
Some Important Items 15.6
Carriage Inwards/Carriage Outwards 15.6
Production Wages and Office Salaries 15.6
xxii Contents

Discount 15.6
Profit and Loss Account 15.7
Features of a Profit and Loss Account 15.8
Advantages of Profit and Loss Account 15.8
Profit and Loss Account Items 15.10
Closing Entries 15.14
Balancing the Profit and Loss Account 15.14
Balance Sheet 15.15
Functions of a Balance Sheet 15.15
Balance Sheet and Profit and Loss Account—Relationship 15.15
Uses of the Balance Sheet 15.16
Limitations of the Balance Sheet 15.16
Distinction between Profit and Loss Account and the Balance Sheet 15.16
Balance Sheet Formats 15.16
Horizontal (Traditional) Format 15.16
Arrangement of Assets and Liabilities 15.16
Vertical Format 15.17
Balance Sheet—A Statement of Assets, Liabilities and Capital 15.18
Assets and their Classification 15.18
Liabilities and their Classification 15.20
Capital—A Liability of Business 15.21
Adjustments 15.21
Goods Distributed as Free Samples 15.21
Income Tax 15.21
Advance Tax 15.22
Interest on Advance Tax 15.22
Drawings Made by the Proprietor 15.22
Mutual Indebtedness 15.23
Debtors Arising Out of Dishonour of Cheques or Bills 15.23
Abnormal Loss of Stock by Accident [E.g., By Fire] 15.23
Goods Sent on Approval Basis 15.23
Goods Received on Approval Basis 15.24
Interest on Loan—Not yet Paid—Fully or Partly 15.24
Interest on Capital 15.24
Interest on Drawings 15.25
Goods and Services Tax (GST) 15.25
Provident Fund 15.25
Closing Stock 15.26
Suggested Steps for Preparation of Final Accounts 15.28
Advanced Adjustments 15.56
Pre-payment and Outstanding 15.56
Inventories 15.57
Depreciation 15.58
 Contents xxiii

Commission to Manager 15.59

Stationery Included in Opening Stock and Closing Stock 15.60
Loss or Profit on Sale/Exchange of an Asset 15.60
Goods Sent on Consignment 15.61
Profit/Loss on Joint Venture 15.62
Petty Cash 15.64
Key Points 15.93
Theoretical Questions 15.93
Objective Questions 15.93
Practical Questions 15.95
Guide to Answers 15.108

16. Manufacturing Accounts 16.1 - 16.12

Introduction 16.1
The Cycle of Production 16.1
Elements of Cost 16.2
Types of Cost in Manufacturing Account 16.2
The Format of a Manufacturing Account 16.2
Valuation of Stocks in Manufacturing Account 16.3
Distinction between Trading Account and Manufacturing Account 16.3
Manufacturing Account Showing Manufacturing Profit 16.6
Elimination of Unrealised Profit in Closing Stock 16.7
Key Points 16.8
Theoretical Questions 16.8
Objective Questions 16.9
Practical Questions 16.10
Guide to Answers 16.12

17. Non-Profit Organisation 17.1 - 17.70

Introduction 17.1
Formation of a Non-Profit Organisation 17.1
The Constitution of the Organisation 17.2
Composition of Management Committee 17.2
Characteristics of a Non-profit Organisation 17.2
Accounting Records 17.3
Non-accounting Records 17.3
Distinction between Non-Profit Organisation and Profit-seeking Organisation 17.4
Financial Statements 17.4
Receipts and Payments Account 17.4
Income and Expenditure Account 17.5
Distinction between the Receipts and Payments Account and
the Income and Expenditure Account 17.6
xxiv Contents

Distinction between the Income and Expenditure Account and

the Profit and Loss Account 17.6
Balance Sheet 17.7
Terminology Used in Accounts of Non-Profit Organisations 17.7
Capital Fund 17.7
Donation 17.7
Legacy 17.7
Subscriptions 17.7
Sectional Subscriptions 17.7
Life Membership 17.7
Honorarium 17.8
Sources of Income of Non-profit Organisations 17.8
Treatment of Few Items used in the Accounts of Non-profit Organisations 17.8
Membership Subscriptions 17.8
Donation 17.11
Entrance or Admission Fee 17.11
Life Membership Fee 17.11
Legacy 17.12
Restaurant or Bar Trading 17.13
Other Club Activities 17.13
Fund Based and Non-Fund Based Accounting 17.13
Special Kinds of Funds 17.13
Preparation of Income and Expenditure Account and Balance Sheet
when Trial Balance and other Information are Given 17.14
Preparation of Income and Expenditure Account and Balance Sheet
when Receipts and Payments Account and other Information are Given 17.16
Preparation of Income and Expenditure Account and Balance Sheet
from Incomplete Records 17.45
Preparation of Receipts and Payments Account, Income and Expenditure
Account and Balance Sheet when Ledger Balances and other Information are Given 17.49
Preparation of Receipts and Payments Account when Income and
Expenditure Account, Balance Sheet and other Information are Given 17.52
Preparation of Opening and Closing Balance Sheets when Receipts and
Payments Account and Income and Expenditure Account are Given 17.55
Key Points 17.58
Theoretical Questions 17.58
Objective Questions 17.59
Practical Questions 17.59
Guide to Answers 17.70

18. Incomplete Records 18.1 - 18.64

Introduction 18.1
Features of Incomplete Records (Single Entry System) 18.1
Limitations of Incomplete Records (Single Entry System) 18.2
Difference between Double Entry System and Single Entry System 18.2
Ascertainment of Profit or Loss 18.2
 Contents xxv

The Transaction Approach 18.2

The Balance Sheet Approach 18.3
Final Statement of Affairs 18.5
Difference between Statement of Affairs and Balance Sheet 18.5
Single Entry System as Applied to Partnerships 18.11
Preparation of Final Accounts from Incomplete Records 18.14
Calculation of Missing Figures 18.15
Key Points 18.53
Theoretical Questions 18.53
Objective Questions 18.53
Practical Questions 18.54
Guide to Answers 18.64

19. Consignment Accounts 19.1 - 19.58

Introduction 19.1
Economics of Consignment 19.1
Distinction between Sale and Consignment 19.1
Procedure for Consignment Transactions 19.2
Entries in the Books of the Consignor 19.3
Cost Price Method 19.4
Incomplete Consignment and Valuation of Closing Stock 19.6
Valuation of Unsold Stock 19.6
Entries in the Books of the Consignee 19.9
Credit Sales and Del Credere Commission 19.11
Treatment of Discount on Bills in Consignment Account 19.14
Advance Made by the Consignee 19.14
When an Advance is not given as a Security 19.14
When an Advance is given as a Security of the Goods 19.15
Loss of Goods on Consignment 19.17
Normal and Abnormal Losses Simultaneously 19.20
Overriding Commission 19.27
Return of Goods from the Consignee 19.30
Invoice Price Method 19.31
Invoice Price—Memorandum Column Method 19.35
Correction of Errors 19.49
Key Points 19.52
Theoretical Questions 19.52
Objective Questions 19.53
Practical Questions 19.53
Guide to Answers 19.58

20. Accounting for Sale on Approval 20.1 - 20.12

Introduction 20.1
Economics of Sale or Return 20.2
Accounting Record 20.2
When the Business Sends Goods Casually on Sales or Return 20.2
xxvi Contents

When the Business Sends Goods Frequently on Sale or Return 20.7

When the Business Sends Goods Numerously on Sale or Return 20.8
Key Points 20.10
Theoretical Questions 20.10
Objective Questions 20.10
Practical Questions 20.11
Guide to Answers 20.12

21. Self-Balancing Ledger 21.1 - 21.44

Classification of Ledgers 21.1
Sectional Balancing System 21.2
Temporary Adverse Balances 21.3
Purposes of Using Control Accounts 21.3
Self-Balancing System 21.8
Books of Original Entry used for Self Balancing Debtors Ledger 21.9
Books of Original Entry used for Self-balancing Creditors Ledger 21.10
Advantages of Self-Balancing Ledger 21.11
Distinction between Self-Balancing Ledger and Sectional Balancing Ledger 21.11
Temporary Adverse Balances 21.15
More than One Debtors Ledger 21.17
Transfer between Subsidiary Ledgers 21.19
Rectification of Errors Relating to Self-Balancing System 21.31
Balancing and Reconciling Control Accounts 21.33
Key Points 21.36
Theoretical Questions 21.36
Objective Questions 21.36
Practical Questions 21.38
Guide to Answers 21.43

22. Insurance Claims 22.1 - 22.44

Introduction 22.1
Types of Claims 22.1
Loss of Stock Policy 22.2
Ascertainment of the Value of Stock on the Date of Fire 22.2
Ascertainment of Actual Amount of Claim to be Lodged 22.3
Average Clause 22.6
Poor Selling Goods 22.15
Loss of Profit Policy 22.27
Some Important Terms/Expressions 22.28
Procedures to Ascertain Amount of Claim 22.29
Key Points 22.38
Theoretical Questions 22.39
Objective Questions 22.39
Practical Questions 22.39
Guide to Answers 22.43
Suggested Answers to Short Questions S.1 - S.26
 1
Introduction to Accounting
Meaning of Accounting
Accounting may be defined as the process of collecting, recording, summarising and communicating financial
information. Accounting is an art of recording, classifying and summarising 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.
Accounting Principles Board (APB) defines accounting in the following words : ‘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 decisions in making reasoned choices among
alternative courses of action. Accounting includes several branches, e.g., financial accounting, manage-
rial accounting and government accounting’.
Accounting accumulates, measures and communicates numbers and measurable quantities of economic
information about an enterprise. Accumulation refers to recording and classifying data in journals and ledgers.
Measurement refers to the quantification of business transactions that have occurred, or that may occur.
Communication refers to supply of reliable information to users of accounting information.

Objectives of Accounting
The objectives of accounting are :
(i) To keep a systematic record of financial transactions that affect the business enterprise.
(ii) To ascertain the profits earned or losses incurred by the business unit during a particular accounting
period.
(iii) To ascertain the financial position of the business unit at the end of the accounting period.
(iv) To exercise control over business assets and properties.
(v) To facilitate business decision-making.
1.2 Introduction to Accounting

Advantages of Accounting
The advantages of accounting are :
(i) It provides information useful for making economic decisions.
(ii) It serves primarily those users who have limited authority, ability or resources to obtain information
and who rely on financial statements as their principal sources of information about an enterprise’s
economic activities.
(iii) It provides information useful to investors and creditors for predicting, comparing and evaluating
potential cash flows in terms of amount, timing and related uncertainty.
(iv) It supplies information useful in judging the management’s ability to utilise enterprise resources
effectively in achieving primary enterprise goals.
(v) It provides factual and interpretative information about transactions and other events which are useful
for predicting, comparing and evaluating the enterprise’s earning power.

Limitations of Accounting
The limitations of accounting are :
(i) Accounting is historical in nature, it does not reflect the current financial position or worth of a
business.
(ii) The Profit and Loss Account tends to match current revenues with historical costs (expenses) rather
than current costs.
(iii) Accounting statements do not show the impact of inflation.
(iv) The Profit and Loss Account does not reflect those increases in net asset values which are not
considered to be realised.
(v) Accounting principles are not static ----alternative accounting procedures are often equally acceptable.
Therefore, accounting statements do not always present comparable data.

Meaning of Book-keeping
Book-keeping is an activity concerned with the recording of financial data related to business operations in a
significant and orderly manner. Book-keeping is the record-making phase of accounting. Accounting is based
on a careful and efficient book-keeping system.
The main purpose of accounting for business is to ascertain profit or loss for the accounting period. In an
accounting period, there may be numerous financial transactions involved in the business. Without a proper
method of recording transactions, it is not possible to remember the various financial receipts and payments
taking place during a period of time.
The essential idea behind maintaining book-keeping records is to show correct position regarding each head
of income and expenditure. A business may sell goods on credit as well as in cash. When the goods are sold
on credit, a record must be kept of the person owing money. The owner of the business may like to know, from
time to time, what amount is due on credit sales and from whom.
Likewise, a business makes several payments on account of various expenses at regular intervals. If proper
record is not maintained, it is not possible to get details of the transactions in regard to the expenses.
At the end of the accounting period, the owner wants to know how much profit has been earned or loss has
been incurred during the course of the period. For this, a lot of information is needed which can be gathered
from a proper record of the transactions. Therefore, book-keeping, the proper maintenance of books of account,
is indispensable for any business.
The main objectives of book-keeping are to :
1. have a permanent record of each transaction of the business and to show its financial effect on the
business.
2. ascertain the combined effect of all the transactions made during an accounting period upon the
financial position of the business as a whole.
 Financial Accounting - I 1.3

Accountancy and Accounting

The word ‘accountancy’ signifies, more or less, a branch of knowledge, which may be referred to as a
subject of study. Accountancy is often used merely as a substitute for accounting, but it is technically
incorrect. Accountancy is the activity of preparing the financial records and statements of organisations.
Accounting is the subject of the process of recording and analysing financial information so as to maximise
the value of the information produced. Accountancy is the art, occupation or profession of the accountant,
whereas accounting refers to the process or system of accounting. Although accountancy may refer to the
entire aspect of theory and practice, it is less frequently used. On the other hand, accounting is the practical
application of those principles and techniques, contained in the broad framework of accountancy with
preferred usage.
From the above, it can be observed that while accounting is mainly the application of the theory,
accountancy covers the dual aspect of theory and practice. Therefore, accountancy is a whole of which
accounting is a part.

Distinction between Book-keeping and Accounting

Book-keeping should not be confused with accounting. Persons with little knowledge of accounting may fail
to understand the difference between book-keeping and accounting. Therefore, it is useful to make a distinction
between the two. Accounting is a broad subject. It calls for a greater understanding of records obtained from
book-keeping and an ability to analyse and interpret the information provided by book-keeping records.
Book-keeping is a small part of the field of accounting and probably the simplest part, just as arithmetic is a
small part of the broad discipline of mathematics.
The main distinction between the two is that where book-keeping is the recording phase, accounting is
concerned with the summarising phase of an accounting system. Therefore, the process of accounting begins
where the book-keeping process ends. Accounting includes not only the maintenance of accounting records,
but also the preparation of the following two financial statements:
1. Trading, and Profit and Loss Account. (How well did the business do during an accounting period ?).
2. Balance Sheet. (How does the business stand on the last day of the accounting period ?).
The distinction between the two are as follows :
Book-keeping Accounting
1. It is the recording phase of an accounting system. 1. It is the summarising phase of an accounting
system.
2. It is the basis of accounting. 2. It is the basis for financial data.
3. Persons responsible for book-keeping are called 3. Persons responsible for accounting are called
book- keepers. accountants.
4. It does not require any special skill or knowledge. 4. It requires special skill and knowledge.
5. Personal judgement of the book-keeper is not 5. Personal judgement of the accountant is essential.
required. For example, at the time of making provision for
bad debts, personal judgement is necessary.
6. Financial statements are not prepared from book- 6. Fin an cial statements are prepared from
keeping records. accounting records.
7. It does not give the complete picture of the 7. It gives the complete picture of the financial
financial condition of the business unit. condition of the business unit.
8. It does not help in complying with legal 8. Legal formalities can be complied with the help
formalities. of accounting.
9. It does not provide any information for taking 9. It provides information for taking managerial
managerial decisions. decisions.
10. It has no branch. 10. It has several branches, e.g., financial accounting,
cost accounting, management accounting, etc.
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