FABM 1

Definition of Accounting - Accounting is an

information system that measures, processes, The process of accounting underscores the
and communicates financial information about following functions:
an economic entity (Financial Accounting
Standards Board, 1978) 1. Identifying - involves assessing whether
transactions or events that merit recognition
American Accounting Association (AAA) - (recording) or not.
defines accounting as “the process of identifying, 2. Classifying - concerns with grouping together
measuring, and communicating economic similar types of business transactions in one place.
information to permit informed judgments and 3. Measuring - determines the monetary amounts at
decisions by users of the information. which the resources, debts, capital, income, or
expenses are to be recognized.
Accounting Standard Council (ASC) - defines 4. Recording – relates business transactions, in
accounting as “It is a service activity. Its function monetary terms, are recorded in an orderly manner in
is to provide quantitative information, primarily the books of original entry.
financial in nature, about economic entities, that 5. Summarizing – presents classified information in
are intended to be useful in making economic a form that is understandable and useful to users of
decisions. accounting information.
6. Analyzing - establishes the relationship between
American Institute of Certified Public the items in the financial statements.
Accountants (AICPA) - (AICPA) defines 7. Interpreting – concerns with explaining the
accounting as “an art of recording, classifying, meaning and significance of the relationship
and summarizing in a significant manner and in established by the analysis.
terms of money, transactions, and events which 8. Communicates – communicates results obtained
are, in part or at least, of a financial character from the summarized, analyzed, and interpreted
and interpreting the results thereof. information to the interested parties.

Nature of Accounting

Accounting is a science. Accounting is based on

fundamental principles. It is a body of knowledge that
has been systematically gathered, classified, and
organized.
Accounting is an art. Art requires perfect
knowledge, interest, and experience to do work
efficiently.
Accounting is an information system because it is
used to identify and measure economic activities,
process the information into financial reports, and
communicate these reports to different accounting
information users.
Accounting is a means not an end. Accounting History of Accounting
provides a true and fair view of the financial position
and performance of the business. Accounting, just like other disciplines, has a
Accounting is the language of business. beginning. Egyptians refer to accountants as the “eye
Accounting has to be learned and practiced to and ear” of the kings. Romans used “daybook” to
communicate business events. Business activities record receipts and payments. Arabs used the
are expressed, interpreted, and communicated in the Islamic Accounting System and Chao Dynasty
financial statements. (1122-256 B.C.) used sophisticated government
Accounting is a profession. The accounting job accounts.
typically requires professional licensing and or
certification beyond the bachelor’s degree. Father of Accounting and Bookkeeping
Luca Pacioli ⇨ he was the first to describe the
Objectives of Accounting system of debits and credits, also known as a double
1. To maintain full and systematic records of business entry system, in journals and ledgers that is still the
transactions. basis of today’s accounting system.
2. To calculate the result of operations whether the
business earned a profit or Seven Key Accounting Ingredients
incurred a loss.
3. To ascertain the financial position of the business. 1. Private Property - Ownership of an asset can be
4. To facilitate rational decision making and transferred and there is a need to record the
communicate financial information transaction.
to users. 2. Capital - Recording of transactions is worthwhile
and cost-effective because wealth is productively
employed.
3. Commerce - The exchange of goods on an
extensive level and the volume of transactions
necessitate the need to devise a formally organized
accounting system.
4. Credit - The existence of buying and selling goods
on credit had created the need for an accounting
system that could be applied to record credit
transactions.
5. Writing - Recording of transactions are all in
writing.
6. Money - There is a need for a common
denominator for the exchange of transactions.
7. Arithmetic - Calculation is needed in a formal
system.
19th Century 6. Cost Accounting - refers to the systematic
A double-entry system was used instead of the recording and analysis of the cost of materials, labor,
single-entry system because it proved to be a better and overhead about the production of goods or
method for control purposes and it facilitated the rendering of service.
preparation of the final accounts. 7. Accounting Education - involves teaching
accounting, auditing, management advisory services,
In Colonial America accounting aspects of finance, business law, taxation,
Most records of this period relied on a single-entry and other accounting related subjects.
system method or was simply a narrative of accounts 8. Accounting Research- refers to the careful study
and transactions. and analysis of economic events and other variables
to understand their impact in making business-related
The Industrialized World decisions.
Accounting transactions become more complex
because of the rapid increase in businesses. External Users of Accounting
External users are users of financial information that
21st Century do not have the authority to demand financial reports
The Securities and Exchange Commission is a that are tailored to their specific needs because they
governing agency that sets accounting standards. are not directly involved in the management of the
business.
1. Investors and Stockholders - these users are
Branches of Accounting and External Users interested in whether they are going to buy, hold, or
of Accounting Information sell investments in the business.
2. Creditors/Lenders - they need accounting
Branches of Accounting: information to help them assess the business’ ability
1. Financial Accounting – is a branch of accounting to repay loans and interest when they fall due.
that focuses on periodic reporting of financial 3. Suppliers - these users need accounting
statements to users of financial information outside information to assess the business’s ability to pay the
the business organization. goods to be delivered or services to be rendered.
2. Management Accounting – focuses on internal 4. Government and its agencies - these are users
reporting and analysis of financial information such of financial information for taxation and licensing
as cost accounting, design, and evaluation of purposes.
internal processes, budgeting, and forecasting. 5. General Public - financial information may provide
3. Government Accounting - is a branch of the public with recent developments in the prosperity
accounting that focuses on the custody and of the business.
administration of public funds. 6. Customers - these users need the information to
4. Auditing - is a process of objectively evaluating assess whether the business will continue in
evidence and expressing an opinion between existence especially if these customers have long-
management assertions and established criteria. term involvement in the business.
5. Tax Accounting – refers to the preparation of tax
returns and rendering of tax service based on tax
laws and regulations, to be submitted to the
government.
Internal Users and their Accounting Information Accounting Concepts and Principles
Needs
Generally Accepted Accounting Principles
The internal users of financial information are those (GAAP) is a widely accepted accounting set of rules,
who are within the organization. They make decisions concepts, and principles. It has been developed by
based on the company’s financial information. They accounting professionals to guide preparers in
include: recording and reporting financial reports.
1. Owners – Owners provide capital for the business.
They want to know the condition of the business and Underlying Accounting Assumptions
on the returns of their investment. Accounting 1. Economic Entity Assumption - A business is
information allows them to assess and evaluate considered a distinct entity from the owner and
the future of the business and its ability to pay therefore all business transactions are treated
dividends. Accounting information helps the separately from the business owner’s transactions.
owners determine future decisions. 2. Accrual Basis Assumption - Regardless of the
2. Management – To run a business, owners hire time cash or its equivalent is received or paid,
managers. Managers are interested in knowing the revenue should be recorded in the period it is earned.
position of the company. Managers use financial 3. Going Concern Assumption - a company will
information to know whether the business under continue to exist to carry out its objectives and
their guidance is profitable or not. Managers commitment and will not liquidate in the foreseeable
evaluate the performance and position of the future.
organization to take necessary measures to bring 4. Monetary Unit Assumption - all recognizable
about improvements in terms of business results. events are measured and reported in Philippine peso.
3. Employees - Employees are hired by the 5. Time-Period Assumption – to provide periodic
management to perform tasks needed to support in reports on economic activities, financial statements
running a business. For employees to find out the are prepared at equal time intervals.
financial condition of the business and to
determine their job security, they need financial Basic Accounting Principles
information. Employees want to determine if they 1. Cost Principle - refers to the amount spent (cash
can demand wage rise, better retirement benefits, or the cash equivalent) when an item was originally
employment opportunities, and better working obtained, whether that purchase happened last year
conditions. or ten years ago; amounts are not adjusted upward
for inflation.
2. Full Disclosure Principle - the accountant should
include sufficient information to permit the
stakeholders to make an informed judgment
about the financial condition of the enterprise.
3. Matching Principle - revenues should have an
equivalent expense recorded in a given accounting
period to show the true profit of the business.
4. Revenue Recognition Principle - as soon as
goods have been sold (delivered to the customers) or
service has been rendered, regardless of when the
money is received, revenues are to be recognized.
5. Materiality Principle - to decide whether an The Accounting Elements
amount is significant or material requires professional Assets- these are the resources controlled by the
judgment and all business transactions that may business as a result of past transactions and events
affect the decision of the user of the financial from which future economic benefits are expected to
information and are considered important or material flow to the business.
and must be recorded properly. 2. Liabilities-These are the present obligations of an
6. Conservatism Principle - if a situation arises entity arising from past transactions or events.
wherein an accountant has two acceptable 3. Owner’s Equity-The owner’s equity contains the
alternatives for reporting an item, it guides the net difference between total assets and total
accountant to choose the alternative that will result in liabilities. The owner’s drawing account is used when
the less effect and/or less asset amount. the withdrawal is made by the owner to determine
7. Objectivity Principle - requires that bookkeeping total withdrawals for each accounting period.
and financial recording be performed with 4. Revenues-These are earnings arising from the
interdependence, that is free of bias and prejudice. main operations of the business.
5. Expenses-These are the costs being incurred by
Accounting Assumptions: the business in generating revenues and doing
1. Economic Entity Assumption mainline operations of the business.
2. Accrual Basis Assumption
3. Going Concern Assumption The Accounting Equation
4. Monetary Unit Assumption
5. Time-Period Assumption

Accounting Principles
1.Cost Principle
2. Full Disclosure Principle
3. Matching Principle
4.Revenue Recognition Principle
5.Materiality Principle
6.Conservatism Principle
7.Objectivity Principle

Accounting Equation
Expanded Accounting Equation
In the expanded accounting equation, the equity
Each basic accounting element can be expressed in
account is split into four main elements: owner’s
an accounting equation:
capital, owner’s withdrawal, revenues, and
ASSETS = LIABILITIES + OWNER’S EQUITY (or
expenses.
STOCKHOLDERs EQUITY)
It also demonstrates the relationship between
the balance sheet and the income statement by
seeing how revenues and expenses flow through into
the equity of the business.
 Assets are resources controlled by the entity as a
result of past events and from which future economic
benefits are expected to flow to the entity. Assets are
owned and controlled by the business and are
expected to yield future economic benefits. The
normal balance for assets is debit.
Liabilities are the present obligation of the entity
arising from past events. The settlement of liabilities
is expected to result in an outflow from the resources
of the entity embodying economic benefits.The
normal balance for liabilities is credit.
Capital in a sole proprietorship is called the owner’s
equity. In a partnership business, capital is called a
partner’s equity and in a corporation, it is called
stockholder’s equity.The normal balance for
liabilities is credit.
Income is the money that the business earns from
selling a product or service, or from interest and
dividends on marketable securities. Income is
measured periodically and is ultimately included in
the capital account. The normal balance
for income is credit.
Expenses cause a decrease in economic benefits
during the accounting period in the form of outflows
or depletions of assets that result in the decrease of
an equity. The normal balance of an expense
account is debit.

Chart of Accounts
A chart of accounts is a list of all the accounts used
by the business with corresponding account codes
that the business will use in recording and posting in
the books of accounts and in reporting in the financial
statements.
Five Major Accounts
T-Account, Footing and Balancing
These accounts include assets, liabilities, owner’s
equity or capital, income, and expense.
An accounting device that helps facilitate transaction
analysis is called a T-account. It is in the form of big
There are two sides of an account.
letter T. A T-account has three parts: the account title
The left side of the account is called debit and the
or account name, the debit side on the left side and
right side of the account is called credit.
the credit side on the right side.
Accounts are classified using two approaches: the
traditional approach and modern approach.
After all the transactions are posted on the T-account,
the amount of each side is totalled. This process is
called footing.

Getting the difference between the debit footing and

the credit footing is called balancing. The balance of
an account is computed by deducting the smaller
footing from the larger footing and the resulting
balance is placed on the side with the larger footing.

General and Special Journals

Journals are referred to as books of original entry

or primary entry. Business transactions are first
General and Subsidiary Ledgers
recorded in the journals.
A ledger is often referred to as the book of secondary
The journal contains spaces for dates, account titles,
entry or the book of final entry. Transactions recorded
and concise explanation of a transaction, folio or
in this book have already been recorded in the
posting reference, and two money columns for debit
journal or the book of the original entry. A ledger is a
and credit entry.
source document that helps in the preparation of a
trial balance.

In the general ledger, all individual accounts needed

to record the company’s assets, liabilities, capital or
equity, income, and expenses are contained. The
process of transferring all entries to the ledger is
called posting.
A journal is subdivided into subsidiary books. All
cash receipts and payments are recorded in a cash A general ledger may vary from one company to
book. another, but usually it includes the following columns:
account name, account number, date, particulars,
Purchase Journal or Purchase Day Book is used for reference, debit, credit, balance, and totals.
credit purchases. Credit purchase of other assets is
not recorded in this book but the general journal.

Bills receivable book is used to record bills received

(receivable) from customers on credit.

A Journal Proper or General Journal is also called a

miscellaneous journal. Transactions that did not fit
in any other books are recorded here.
Rules of Debit and Credit
a. Pure personal transactions of the owner- under
All transactions in the accounting records are the accounting entity concept, the personal accounts
recorded under the double-entry system. In the of the business owner are distinct and separate from
double-entry system, each transaction is recorded in that of the business.
two parts: debit and credit. The term debit originated b. Issuance of a purchase order to a supplier-the
from the Latin term debere or debitum as is often act of placing an order or requesting of goods from
abbreviated as DR which means to the left. Credit the suppliers does not by itself create an asset and a
comes from the Latin term credere or creditum and liability.
is often abbreviated as CR which means to the right. c. Receipt of a sales order from a
customer-transfer of goods from the customer does
not happen yet.
d. The hiring of an employee- obligation to pay a
salary does not happen yet until an employee
renders his or her service.
e. Entering into a contract with third parties- there
is no obligation with the mere contract signing. It
Using the T-account, the left side of all the accounts does not establish an obligation unless one party
is the debit side while the right side of all accounts is performs his part of the contract.
the credit side. f. Winning in a court case- an appealed judicial
award shows only the possibility of a collection. It is
Nature Of Transactions In A Service Business not yet an asset.
g. Borrowing of a specific thing with an obligation
It is normal for businesses to standardize internal to return the same- the loan of a specific thing with
procedures in handling transactions. This is to ensure an obligation to return the same thing does not
accuracy and efficiency in the processing of the transfer ownership and therefore there is no control
transactions. This standardized procedure is called of the thing.
business processes. The execution of business h. Receipts of goods or property of the business-
processes normally uses business documents. These goods held by the business as an agent such as in
business documents serve as original records of the capacity of the consignee is not owned by the
the transactions. These documents are also business. Such goods are not recorded.
considered the primary sources of journal entries in
the accounting books. Recording of Business Transactions

These documents include, but are not limited to Journalizing – after an accountable event is
delivery receipt, official receipt, sales invoice, billing identified and analyzed, the next step is to record it in
statement, purchase order, and sales order. the journal by using a journal entry.

Business transactions that do not affect the assets, A simple journal entry contains a single debit and a
liabilities, capital or equity, income, or expenses of single credit. A compound journal entry contains
the business are considered as non- two or more debits and credits.
accountable events. Below are examples of
non-accountable transactions:
• Date-journal entries are recorded in the journal In the preparation of an unadjusted trial balance,
chronologically or are arranged according to the remember the following:
dates they are recorded. a. Write the heading.
• Account titles and amounts to be debited and b. List the titles of all the accounts in the general
credited-under the double-entry system, each ledger that have balances in the five major accounts:
transaction is recorded in the journal in two assets, liabilities, capital or equity, income, and
parts: debit and credit. expenses.
• Short description of the transaction -for future c. Prepare two columns on the right side of the
reference, a short description of the transaction is accounts titles. Write the heading “Debit” on the left
provided. column and “Credit” on the right hand column.
d. Transfer all balances from the ledger to the
Posting- the process of transferring data from the appropriate column on the trial balance.
journal to the appropriate accounts in the ledger. e. Sum up each column.
Posting is transferring the amounts of debits and f. Write a double bar underneath the debit and credit
credits in a recorded journal entry to the ledger columns if the total amounts are matched.
accounts.
Adjusting entries are journal entries recorded at the
Adjusting Entries end of the accounting period to adjust income and
expense accounts.
Ten steps in the accounting cycle.
Financial Statements
1. Identifying and Analyzing
2. Journalizing The end product of the accounting process are the
3. Posting financial statements. Information from the journal
4. Preparation of an Unadjusted Trial Balance and the ledger are meaningless to external and
5. Adjusting Entries internal users unless these are summarized and
6. Preparation of Adjusted Trial Balance communicated through the financial statements. The
7. Preparation of Financial Statements complete set of financial statements comprise:
8. Closing Entries
9. Post-closing Trial Balance a. Statement of Financial Position as at the end of
10 Reversing Entries the Period- shows information on assets, liabilities,
and equity
A trial balance is a list of all the balances in the b. Statement of Comprehensive Income for the
ledger accounts at a specific point of time such as Period – shows information on income and expenses,
month, quarter, or year. and consequently, the profit and loss for the period
A trial balance is usually prepared at the end of the c. Statement of Changes of Equity for the Period –
accounting period. It is the first step in the it summarizes the changes that occurred in owner’s
preparation of the financial statements. equity
d. Statement of Cash Flows for the Period – this
The types of trial balance are unadjusted trial statement provides information about the cash
balance, adjusted trial balance, and post-closing trial receipts and cash payments of an entity during the
balance. An unadjusted trial balance is prepared period. Statement of cash flows classifies cash
before any adjustments are made. receipts as inflows and cash payments as outflows.
Cash outflows are classified as operating, investing,
and financing. Cash inflows from operating activities
include, but not limited to receipts from sale of goods
and performance of services and receipts from
royalties.
e. Notes, comprising a summary of significant
accounting policies and other explanatory information
f. Statement of Financial Position as at the
beginning of the earliest comparative period

The preparation of the statement of financial position

or the balance sheet and the statement of
comprehensive income is greatly facilitated by the
worksheet.

The main purpose of the worksheet is to assist the

accountant in executing procedures leading to the
preparation of the financial statements.

armscs