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Definition of Accounting
Accounting is defined by the American Accounting Association (AAA) in its
Statement of Basic Accounting Theory as the process of identifying, measuring and
communicating economic information to permit informed judgment and decision by users
of the information.
Based on the above definition, three important activities in the accounting process
can be pointed out namely: identifying, measuring and communicating.
Identifying involves the recognition or non-recognition of business activities as
accountable events. When an item is recognized, it is recorded in the books of accounts
and presented in the financial statements as assets, liabilities, equity, income or expenses.
Transactions and events are recognized only if they have effects on assets, liabilities and
owner’s equity.
There are business activities which are not accountable. These activities cannot
be quantified into monetary amounts. Hiring office secretary of searching for a supplier
of goods are activities or events that are not recorded in the books of accounts.
Measuring involves the assigning of monetary amounts to the accountable
economic transactions and events. Assets, liabilities, equity, income and expenses are
presented in the financial statements not in terms of number of pieces or kilos but in
terms of monetary value. Measuring is the technical component of accounting.
The unit of measure is usually the currency of a country where the business was
organized and where the financial statements are submitted to the regulatory agencies. In
the Philippines, the unit of measure is Philippine peso.
Accounting is primarily concerned with the recognition and measurement of
economic resources and economic obligations.
Communicating involves the preparation and distribution of accounting reports
to potential users of accounting information. This is the formal component of
accounting.
Accounting information must be communicated to the end users like the investors,
owners, creditors and government so that they could make informed judgment and
appropriate decisions. Financial reports enable users to determine the financial condition,
performance and cash flow of an organization. Without communicating the accounting
reports to the end users, the identifying and measuring process will be futile. It is through
this communicating process that accounting is considered as the language of business.
Accounting is defined by the Committee on Accounting Terminology of the
American Institute of Certified Public Accountants (AICPA) as an art of recording,
classifying, and summarizing in a significant manner and in terms of money, transaction,
and events which are in part, at least, of a financial character, and interpreting the results
thereof. Based on the above definition, there are four mechanical phases in the
accounting process namely: recording, classifying, summarizing and interpreting.
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Recording, popularly known as journalizing, involves the routine and mechanical

process of committing to writing business transactions and events on the books of
accounts in a chronological sequence in accordance with established rules and
procedures.
Classifying involves the sorting or grouping of similar items into their respective
kinds. This is done through the process of posting the information from the journal to the
ledger. This process will facilitate the reporting of a single amount for a specific account
in the financial statement. For example, the posting of all purchases transactions to the
purchases account will facilitate the determination of a single purchase figure in the
financial statement.
Summarizing involves the determination of the balances of each account in the
ledger and the preparation of financial statements such as Income Statement, Statement
of Comprehensive Income, State of Financial Positions, Statement of Changes in Equity
and the Statement of Cash Flows.
Interpreting, the analytical phase of accounting, involves giving meanings to the
amount, ratios, trends and other information derived from the financial statements. The
information may be used to predict future outcome or confirm previous expectations. By
using relevant economic and accounting information, interested parties may be able to
decide whether they will increase or decrease their investments, extend loans to the
company, expand the business operations or discontinue some operations.
Accounting is defined by the Philippine Accounting Standard Council (ASC) as 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
decision.

Importance of Accounting
Accounting is very important in our daily lives. Every person is involved with
accounting. At one’s home or place of work or recreation, budgeting and fund
accountability are involved.
Professions like law, agriculture, engineering, education, medicine, architecture,
medical technology and other fields need accounting in order that proper decisions can be
made. These professionals earn income and incur expenses. They need basic knowledge
of accounting so that they can properly allocate funds and assess whether their decisions
would increase their income. Application of their knowledge of accounting can reduce
wastage of assets and incurrence of unnecessary liabilities. Proper decisions can be made
when professionals have a working knowledge of accounting.
In business, accounting is playing a major role in the attainment of the company’s
goals and objectives. The attainment of these goals and objectives is dependent on
various factors especially on the decisions of the management. Proper decisions can only
be made if the needed information is available. Accounting system generates the much
needed financial information for decision making. These data are processed and
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summarized in the form of financial statements. Management analyzes this information

and develops trends when applicable.
Nature of Accounting
The basic features of accounting are as follows:
1. Accounting is a process. A process is composed of multiple steps that lead to a
common end goal. Accounting is a process because it performs the functions of
identifying, measuring and communicating economic events with the end goal of
providing information to internal and external parties.
2. Accounting is an art. Art refers to a way of performing something. It entails
creativity and skills to help us attain some objectives. Accounting is the art of
recording, classifying, summarizing and interpreting financial data. Accounting is a
combination of techniques and its application requires applied shills and expertise.
This is the reason why accounting can be considered as an art.
(Accountingtheory.com).
3. Accounting deals with financial information and transactions. Accounting deals
only with quantifiable financial transactions. These are the only events identified by
the accountant, recorded in the books, and communicated to different parties. Non-
financial transactions are not the focus of the accounting process. However, non-
financial date may be used to interpret and better estimates some financial data.
4. Accounting is a means and not an end. Accounting is a tool to achieve specific
objectives. It is not the object itself.
5. Accounting is an information system. Accounting is recognized and characterized
as a storehouse of information. As a services function, it collects, processes and
communicates financial information of any entity. This discipline of knowledge has
been evolved out to meet the need of financial information required by different
interested groups. (Accountingtheory.com)

Users of Financial Information

Users of financial information are classified into primary users and other users.
1. Primary users of financial information are the parties to whom general purpose
financial reports are primarily directed. Unlike the management, these users cannot
require reporting entities to provide information directly to them. Thus, they rely on the
general purpose financial reports. The primary users and their information needs are:
a. Existing and potential investors. The investors or the providers of risk capital are
concerned with the risk inherent in and return provided by their investments.
They need the information to help them determine whether they should buy, hold
or sell their investments. Stockholders are also interested in information which
enables them to assess the ability of the entity to pay dividends.
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b. Lenders or other creditors. Lenders, potential lenders, and other trade creditors
are interested in the information that enables them to determine whether their
loans as well as the related interest can be collected by them when due.
2. Other users are users of financial information other than the primary users. Other
users are parties that may find the general purpose financial reports useful but the reports
are not primarily directed to them. Other users and their information needs are:
a. Employees. Employees and their respective groups are interested in information
about the stability and profitability of their employers so that they can assess the
ability of the enterprise to provide remuneration, retirement benefits and
employment opportunities.
b. Customers. They are interested about the continuance of the enterprise, especially
when they have a long-term involvement with, or are dependent on the enterprise.
c. Government and their agencies. They need information so that they can regulate
the activities of the enterprise and determine appropriate policies like taxation
policies. Data derived from various enterprise can be used to determine the
national income and various national statistical information.
d. Public. Financial statements may assist the public by providing information about
the trends and range of activities of organization.

Basic Accounting Principles

1. Historical Cost Principles
All properties and services acquired by the business must be recorded at its
original acquisition cost. Example: INJAP Enterprise purchased equipment at a price of
P100,000. The same equipment is being sold in Iloilo at P95,000. Injap Enterprise
should record the equipment at P100,000 rather than at P95,000.
2. Liability Recognition Principle
A liability is recognized when it is probable that an outflow of resources
embodying economic benefits will be required for the settlement of a present obligation
and the amount of the obligation can be measured reliably. The settlement of the
obligation require payment of cash, other assets, or services.
3. Income Recognition Principle
Income should be recognized when earned rather than when cash is received.
Example: JAS Marketing sold canned goods to Jose costing P2,000 on December 31,
2019. Jose made a promissory note that she will pay on January 5, 2020. In this regard,
income should be recorded on December 31, 2019 when the goods were transferred to
Jose rather than on January 5, 2020 when cash will be received.
4. Matching Principles
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All cost and expenses incurred in earning revenue should be reported in the same
period. Example: JAS Marketing purchased canned goods costing P800 on December 1,
2019. It sold the canned goods to Maria for P900 on January 19, 2020. Sales of 100
should be recorded in 2019 and the corresponding cost of P800 will be recorded as cost
of goods sold in 2019.
5. Accrual Principle
Income should be recognized at the time it is earned such as when goods are
delivered or when services have been rendered. Likewise, expenses should be recognized
at the time they are incurred such as when goods and services are actually used and not at
the time when the entity pays for those goods and services.
Example: Jane Cruz, a secretary had worked for the company from December 29
to December 31, 2019. The pay day is January 2, 2020. His total wages for 3 days is
P900. When will the company record wages expense?
The wages expense will be recorded in 2019. It is in 2019, that the company
incurred the expense. Under the accrual basis of accounting, expenses is recorded when
incurred rather than when expense is paid.
6. Materiality
Financial reporting is only concerned with information significant enough to
affect decisions. This refers to the relative importance of an item or event. An item is
considered significant if knowledge of it would influence prudent users of the financial
statements.
7. Consistency
Approaches used in reporting must be uniformly employed from period to period
to allow comparison of results between time periods. Any changes must be clearly
explained.
Example: If the straight line method of depreciation is being used by the
company, then the method should be uniformly used by the company in computing its
annual depreciation.
8. Objectivity principles
All business transaction that will be entered in the accounting records must be
duly supported by verifiable evidence.
Example: Payment must be supported by official receipts and bank deposits must
be supported by deposit slips.

Accounting Assumptions or Postulates

Accounting assumptions are the basic notions or fundamental premises on which
the accounting process is based. Accounting assumptions serve as the foundation of
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accounting in order to enhance understanding and usefulness of the financial statements.

The new conceptual framework for financial reporting mentions one assumption namely
going concern. Implicit accounting are the basic assumptions of accounting entity, time
period and monetary unit.
1. Going concern or continuity
In the absence of evidence to the contrary, the accounting entity is viewed as
continuing in operation indefinitely. It is assumed that the business is going to operation
for an indefinite period of time.
Example, Corona Merchandising purchased land for P1,000,000 with the
intention of selling it next year. Corona Merchandising shall record the land in the books
of the company at P1,000,000 rather than at an estimated selling price next year.
2. Economic Entity or Accounting Entity
Under this assumption, the business is treated as a separate entity from that of its
owners, managers and employees who constitute the entity. Accounting entity is the
specific business organization. An accounting entity is an organizational unit for which
financial and economic data are gathered and processed. A business is considered as an
accounting entity and is therefore considered as a unit separate and distinct from that of
its owner or owners.
Supposed Pia Grey owns personal assets and a business. Business transactions
like the sale of merchandise, payment of employee salaries and of utilities expenses
should be recorded in the books of the business. Personal transactions like payment of
tuition fees of her children and purchase of food for the family should not be recorded in
the books of the business.
3. Monetary Unit
The monetary unit assumption requires entities to include in their accounting
records only transaction data that can be measured in terms of money. Payment of
liabilities amounting to P5,000 can be recorded in the journal because the transaction is
quantifiable. The hiring of additional employees is not recorded in the books of accounts
because the transaction is not quantifiable or cannot be measured.
4. Time period or periodicity
This is the concept behind the preparation of financial statements for a specific
time period. This requires that the indefinite life of an entity be subdivided into time
periods or accounting periods for the preparation of the periodic financial reports. The
basic accounting period is 12 months of one year.
The accounting period could be:
a. Calendar Year – A twelve-month period that starts January 1 and end
December 31.
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b. Fiscal Year – A twelve-month period that starts at any month of the year other
than January and ends twelve months after the start period. The fiscal year of
an educational institution may start June 1 and ends May 31.

Summative
Assessment

I. Identification. Place your answers on the spaces provided before the number.

__________________ 1. The fundamental premise on which accounting process is based.

__________________ 2. The language of business.
__________________ 3. The process of identifying, measuring and communicating
economic information to permit informed judgment and decision by users of the
information.
__________________ 4. The process of assigning pesos amounts to the accountable
economic transactions and events.
__________________ 5. It is a systematic and chronological recording of business
transactions and events.
__________________ 6. A twelve month period that starts at any month of the year other
than January.
__________________ 7. A method of accounting which emphasized that income is
recorded when earned and expenses is recorded when incurred.
__________________ 8. The principle that requires assets to be recorded initially at
original acquisition cost.
__________________ 9. The principle stating that all costs and expenses incurred in
earning revenue should be reported in the same period.
__________________ 10. Users of financial information to who general purpose
financial reports are primarily directed.
__________________ 11. It involves the sorting or grouping of similar items into their
respective kinds.
__________________ 12. The analytical phase of accounting which involves giving
meaning to the amount, ratios, trends and other information derived from the financial
statements.
__________________ 13. It involves the preparing and distribution of accounting reports
to the potential users of accounting information.
__________________ 14. Popularly known as journalizing.
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__________________ 15. It involves the determination of the balances of each account

in the ledger and the preparation of financial statements

II. True or False. Write true if the statement is correct, otherwise write false. Write
your answers on the space provided before the numbers.

______ 1. Accounting is a services activity that provides quantitative information useful

in making economic decisions.
______ 2. Accrual basis of accounting requires the recording of transactions everytime
cash is received.
______ 3. Accounting is the recording of business transaction and events in a
chronological manner.
______ 4. Accounting is a largely a mechanical process and does not involve any
analysis of the financial transactions, but rather the recording of them.
______ 5. In double-entry accounting system, two entries of each transaction are carried
to the ledger; one to the debit side, and one to the credit side, of the corresponding
account.
______ 6. Entity concepts means that the accounts for the business must be kept separate
from those of the owner (s).
______ 7. Going concern concept assumes that the business will be in operation on a
definite period of time.
______ 8. Generally accepted Accounting Principles (GAAP) refers to a common set of
accounting principles, standards and procedures that companies use to compile their
financial statements.
_______ 9. Recording involves the preparing and distribution of accounting reports to the
potential users of accounting information.
_______10. Classifying is done through the process of posting the information from the
journal to the ledger.

III. Discussion

1. Do you agree: “Accounting is vital to the success of a business?” Explain.

2. Give five examples in which accounting is used in making business decisions.

Explain the role accounting plays in these decisions.

3. Do you think that non-financial information is still useful in the accounting process?
Why or why not? Explain.

4. Give a concrete example on how you can use accounting in your daily life.
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5. Give some limitation of accounting.