FINANCIAL

ACCOUNTING 1
CHAPTER ONE
DEVELOPMENT OF ACCOUNTING
PRINCIPLES AND PROFESSIONAL
PRACTICE

Lecturer: Abdirahman Awil

(MBA, BA in Finance & Accounting)

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COURSE OURLINE
1. Chapter one: development of accounting principles
and professional practice
2. Chapter two: accounting process: reparation of
journal, ledger and Trail balance
3. Chapter three: Preparation of profit and loss
account , Balance sheet
4. Chapter four: cash and short-term investments
5. Chapter five: receivables: accounts and notes
receivables
6. Chapter six: statement of cash flows

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WHAT IS ACCOUNTING
• Accounting is It is a systematic process of identifying,
recording, measuring, classifying, verifying,
summarizing, interpreting and communicating financial
information.
• Accounting is the process of systematically recording,
measuring, and communicating information about
financial transactions.

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DISTINCTION BETWEEN BOOK-KEEPING
AND ACCOUNTING
• Book-keeping is a part of accounting and is concerned with
the recording of transactions which is often routine and
clerical in nature, whereas accounting performs other
functions as well, viz., measurement and communication,
besides recording.
• An accountant is required to have a much higher level of
knowledge, conceptual understanding and analytical skill
than is required of the book-keeper.
• An accountant designs the accounting system, supervises
and checks the work of the book-keeper, prepares the
reports based on the recorded data and interprets the
reports. Nowadays, he is required to take part in matters of
management, control and planning of economic resources.
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 1.5 DISTINCTION BETWEEN ACCOUNTING
AND ACCOUNTANCY
• The word Accountancy is used for the profession of
accountants who do the work of accounting and are
knowledgeable persons.
• Accounting is concerned with recording all business
transactions systematically and then arranging in the form of
various accounts and financial statements. And it is a distinct
discipline like economics, physics, astronomy etc. The word
accounting tries to explain the nature of the work of the
accountants (professionals) and the word Accountancy
refers to the profession these people adopt.

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 IMPORTANCE OF ACCOUNTING
• Accounting plays a vital role in running a business because
1. it helps you track income and expenditures,
2. It Helps in Evaluating the Performance of Business
3. It Ensures Statutory Compliance
The accounting function will ensure that liabilities such as sales tax,
VAT, income tax, and pension funds, to name a few, are
appropriately addressed.
4. It Helps to Create Budget and Future Projections
5. It Helps in Filing Financial Statements

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 What
What isisAccounting?
Accounting?

Who Uses Accounting Data External

Users
Internal
Users Human Taxing
Resources Authorities
Labor Unions

Finance
Management Customers

Creditors

Marketing Regulatory
Agencies
Investors

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 INTERNAL USERS
• Some of the ways internal users employ accounting
information include the following:
1. Assessing how management has discharged its
responsibility for protecting and managing the company’s
resources
2. Shaping decisions about when to borrow or invest
company resources
3. Shaping decisions about expansion or downsizing

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EXTERNAL USERS
• Some of the ways external users employ accounting
information include the following:
1. Stockholders have the right to know how a company is
managing its investments
2. Federal and State Governments require tax returns and
other documents often prepared by accountants
3. Banks or lending institutions may use accounting
information to guide decisions such as whether to lend or
how much to lend a business
4. Investors will also use accounting information to guide
investment decisions

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 • SOME IMPORTANT TERMS AND DEFINITIONS
1. Assets : Assets mean what an organization owns. In other
words, anything which enables a business enterprise to get
cash or a benefit in future, is an asset. Classification of
assets
a) Intangible assets (Are intangible in nature e.g.,
b) Tangible assets (Are tangible in nature e.g., Plant,
Trademark, Goodwill, Machinery, Land, Building etc.)
c) Fixed Assets: Assets that are acquired for relatively long
periods for carrying on the business of the enterprise and
not meant for resale, e.g., land, building, plant, and
machinery etc.
d) Current Assets (CA): Assets which are either in the form of
cash or can be converted into cash within one year/short
period i.e., get converted into cash within one operating
cycle of business e.g., Cash, Inventories, Debtors, Bills
Receivable, etc
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 2. Liabilities: means what the organization owes. In other
words, it is an amount, which a business owes and has to
return or account for. For example, loan from banks, trade
creditors, etc.
3. Capital: It refers to the amount invested by the proprietor
in business enterprises. Revenue: It means income of a
recurring nature from any source related to business.
4. Revenue is the income that a business has from its normal
business activities, usually from the sale of goods and
services to customers.
5. Expenses is the money spent or cost incurred in an entity's
efforts to generate revenue. 

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• Creditor: Any person who gives credit is a creditor. The
supplier supplying goods on credit is creditor. Creditor is one
to whom the business owes. Owner is a creditor under
‘Separate Entity Concept’.
• Debtor: A person who owes money to the business is called
a debtor. He is a customer to whom goods are sold on credit.

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BRANCHES OF ACCOUNTING
• On the basis of information generated by accounting system,
there are three main branches of accounting:
1. Financial accounting system
2. Cost accounting system
3. Management accounting system.

4. Financial accounting (or financial accountancy) is the field

of accounting concerned with the summary, analysis and
reporting of financial transactions related to a business.[1]
 This involves the preparation of financial statements 

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BRANCHES OF ACCOUNTING
• Financial accounting is a specialized branch of accounting that
keeps track of company's financial transactions by Using
standardized guidelines, the transactions are recorded,
summarized, and presented in a financial report
or financial statement such as an income statement or a
balance sheet.
2. Management accounting is branch of accounting which
deals with all those information, which helps in decision-
making process i.e. planning and controlling financial
activities
3. Cost accounting is a branch of managerial accounting that
aims to capture a company's total cost of production by
assessing the variable costs of each step of production as
well as fixed costs, such as a lease expense.
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Generally accepted accounting
principles (GAAP)
• Generally accepted accounting principles (GAAP) refer to a
common set of accounting principles, standards, and
procedures issued by the Financial Accounting Standards Board
(FASB).
• Public companies in the United States must follow GAAP when
their accountants compile their financial statements.
• GAAP is a combination of authoritative standards (set by policy
boards) and the commonly accepted ways of recording and
reporting accounting information.
• GAAP aims to improve the clarity, consistency, and
comparability of the communication of financial information.

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International Financial Reporting
Standards (IFRS) 
• International Financial Reporting Standards (IFRS) set common
rules so that financial statements can be consistent,
transparent and comparable around the world.
• IFRS are issued by the International Accounting Standards
Board (IASB). They specify how companies must maintain and
report their accounts, defining types of transactions and other
events with financial impact.
• IFRS were established to create a common accounting
language, so that businesses and their financial statements
can be consistent and reliable from company to company and
country to country.

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Accounting Concepts
1. Separate Business Entity Concept
2. Money Measurement Concept
3. Dual Aspect Concept
4. Going Concern Concept
5. Accounting Period Concept
6. Cost Concept
7. The Matching Concept
8. Accrual Concept
9. Realization Concept

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Accounting Concepts
1. Separate Business Entity Concept.
• The entity concept assumes that the financial statements and
other accounting information are for the specific business
enterprise which is distinct from its owners
• All the books of accounts records day to day financial
transactions from the view point of the business rather than
from that of the owner.
2. Money Measurement Concept.
• This concept assumes that only those business transactions
are recorded which can be expressed in terms of money. In
other words, a fact or transaction or happening which cannot
be expressed in terms of money is not recorded in the
accounting books

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Accounting Concepts
3. Dual Aspect Concept.
• Financial accounting records all the transactions and events
involving financial element. Each of such transactions requires
two aspects to be recorded.
• The recognition of these two aspects of every transaction is
known as a dual aspect analysis. According to this concept every
business transactions has dual effect
4. Going Concern Concept.
• Accounting assumes that the business entity will continue to
operate for a long time in the future unless there is good
evidence to the contrary.
• The enterprise is viewed as a going concern, that is, as continuing
in operations, at least in the foreseeable future. In other words,
there is neither the intention nor the necessity to liquidate the
particular business venture in the predictable future.
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Accounting Concepts
5. Accounting Period Concept.
• This concept requires that the life of the business should be
divided into appropriate segments for studying the financial
results shown by the enterprise after each segment
6. Cost Concept:
• The cost concept requires that assets be recorded at the exchange
price, i.e., acquisition cost or historical cost. Historical cost is
recognized as the appropriate valuation basis for recognition of
the acquisition of all goods and services, expenses, costs and
equities.
7. Matching concept
• The matching concept is an accounting practice whereby firms
recognize revenues and their related expenses in the same
accounting period. Firms report "revenues," that is, along with the
"expenses" that brought them. 
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Accounting Concepts
• The purpose of the matching concept is to avoid misstating earnings
for a period. Reporting revenues for a period without stating all the
expenses that brought them could result in overstated profits.
8. Accrual concept
The Accrual concept is the most fundamental principle of accounting
which requires recording revenues when they are earned and not
when they are received in cash, and recording expenses when they are
incurred and not when they are paid.
9. Realization Concept
• According to realization concept revenue is recognized when sale is
made.
• Sale is considered to be made at the point when the property in
goods passes to the buyer and he becomes legally liable to pay. This
implies that revenue is generally realized when goods are delivered
or services are rendered
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BASIS OF ACCOUNTING
• The following are the main systems (basis) of recording business
transactions:
1. Cash basis.
• Under this system, actual cash receipts and actual cash payments are
recorded. Credit transactions are not recorded at all until the cash in
actually received or paid.
• This system does not make a complete record of financial
transactions of a trading period as it does not record outstanding
transactions like outstanding expenses and outstanding incomes.
• The system being based on a record of actual cash receipts and
actual cash payments will not be able to disclose correct profit or
loss for a particular period and will not exhibit true financial position
of the business on a particular day.

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2. Accrual basis
• Under this system all transactions relating to a period are recorded in the books
of account i.e., in addition to actual receipts and payments of cash income
receivable and expenses payable are also recorded.
• This system gives a complete picture of the financial transactions of the
business as it makes a record of all transactions relating to a period.
• The system being based on a complete record of the financial transactions
discloses correct profit or loss for a particular period and also exhibits true
financial position of the business on a particular day.

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Financial Statements
• There are three key financial statements generated by your
records.
1. The income statement provides you with information
about the profit and loss
2. The balance sheet gives you a clear picture on the
financial position of your business on a particular date.
3. The cash flow statement is a bridge between the
income statement and balance sheet and reports the
cash generated and spent during a specific period of
time.

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Double-entry system
• At the heart of accounting is the double-entry bookkeeping method
• The double-entry system of accounting or bookkeeping means that
for every business transaction, amounts must be recorded in a
minimum of two accounts.
• The double-entry system also requires that for all transactions, the
amounts entered as debits must be equal to the amounts entered as
credits.

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Accounting Equation
• The accounting equation is considered to be the foundation
of the double-entry accounting system.
• The accounting equation shows on a company's balance
sheet whereby the total of all the company's assets equals
the sum of the company's liabilities and shareholders'
equity..
Assets = Liabilities + Capital
or
Assets = Liabilities + Owner’s Equity + Revenue – Expenses – Drawings

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