Module I

Broad Structure of Financial Accounting Theory

Scope of the Module

This module consists of four lessons, namely:
Lesson 1. Basic Accounting Concepts
Lesson 2. Accounting Forms and Records
Lesson 3. Accounting Procedures
Lesson 4. Financial Statements

Overview of the Module

This module is designed to provide you with the nature of accounting concepts and
principles and different forms and documents which serve as evidence of business
transactions. It also covers the functions of debit and credit in recording transaction, the
procedures and techniques related to the accounting for the different kinds and
classification of assets, the recording of business transactions, and the steps in the
accounting cycle.
The nature of financial statements, types of financial statements, the different users
of financial statements and their particular needs for financial information, and the
limitations of financial statements are also discussed.

Objectives of the Module

After studying this module, you will be able to:
1. recognize the nature of accounting concepts and principles;
2. determine the different forms and documents which serve as evidence of
business transactions;
3. identify the functions of debit and credit in recording transaction;
4. record business transactions;
5. enumerate the steps in the accounting cycle;
6. prepare properly the different types of financial statements; and
7. recognize the different users of financial statements, their particular needs for
financial information, and the limitations of financial statements.

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Accounting 1
Module I
Lesson 1. BASIC ACCOUNTING CONCEPTS

Lesson Objectives:
After studying this lesson on basic accounting concepts, you will be able to:
1. trace the history of accounting;
2. recognize and show understanding of the nature of accounting concepts and
principles;
3. identify the different accounting concepts; and
4. determine the different accounting principles.

INTRODUCTION TO ACCOUNTING

Accounting – Present and Past.

The purpose of accounting is to provide a means of recording, reporting,
summarizing, and interpreting economic data. In order to do this, an accounting system
must be designed. A system design serves the needs of users of accounting
information. Once a system has been designed, reports can be issued and decisions
based upon these reports are made for various departments. Since accounting is used
by everyone in one form or another, a good understanding of accounting principles is
beneficial to all.
If you are an employee, for example, you may have to explain to your employer how
you spend your working time, or if you are a manager, you may have to report to the
Director the status of the business. In reporting, there is a need to know what happened
and what were the actions done. As it is not easy to remember the exact details, you
may need to keep some written record. Therefore, records are needed as this is the
basis of accounting system.

Definitions of Accounting.
 Accounting is the process of identifying, measuring, and communicating
economic information about an entity for decision making and informed judgments.
 Accounting is the art of recording, classifying and summarizing 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 is an information system that presents financial information about the
results of a business' performance and its economic position.

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Development of Accounting.
3000 BC Mesopotamians record tax receipts on clay tablets.
1494 Luca Pacioli published the first textbook describing a comprehensive double-
entry bookkeeping system,
1800’s The Industrial Revolution of the 19th century generated the need for large
amounts of capital to finance the enterprises that supplanted individual
craftsmen.
This need resulted in the corporate form of organization and the need to
provide investors with reports showing the financial position and the results of
operations.
1900’s Accounting professionals in this country organized themselves in the early
1900’s and worked hard to establish certification laws, standardized audit
procedures, and other attributes of a profession
1932-34 From 1932 to 1934 the American Institute Accountants and the New York
Stock Exchange agreed on five broad principles of accounting.
The Securities Act of 1933 and the Securities Exchange Act of 1934 gave the
Securities and Exchange Commission (SEC) the authority to establish
accounting principles for companies whose securities had to be registered
with the SEC.
1939-59 Although the SEC had the authority to establish accounting principles, the
standard-setting process had been delegated to other organizations over the
years.
The Committee on Accounting Procedure of the American Institute of
Accountants issued 51 Accounting Research Bulletins that dealt with
accounting principles.
1959 The Accounting Principles Board (APB) replaced the Committee on
Accounting Procedure as the standard-setting body.
The APB ultimately issued 39 Opinions on serious accounting issues, but it
failed to develop a conceptual underpinning for accounting.
1973 The FASB has issued 145 Statements of Financial Accounting Standards that
have established standards of accounting and reporting for particular issues.
The Financial Accounting Foundation (FAF) was created and it established
the Financial Accounting Standards Board (FASB) as the authoritative
standard-setting body within the accounting profession.
2002 The Sarbanes-Oxley Act of 2002 created a five-member Public Company
Accounting Oversight Board (PCAOB) which had the authority to set and
enforce auditing, attestation, quality control, and ethics standards for public
companies.

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 ASSUMPTIONS IN ACCOUNTING

The basic accounting concepts are the assumptions which have become the
foundations in laying down the Generally Accepted Accounting Principles (now
Philippine Accounting Standards or PAS). They are mere assumptions, so they should
not be taken as true all the time. Accounting principles have been developed over the
years through usage and practice. In this sense, they are not as authoritative as the
principles developed in physical sciences. The principles in accounting represent the
best guides in the practice of accounting. They enhance the usefulness and reliability of
accounting information and promote comparability of results of accounting transactions
as shown in financial statements.

Separate Entity Assumption.

The concept considers the business enterprise as distinct and separate from the
owner/s who supply its assets. The business will prepare its own balance sheet and
income statement while the owners will prepare separately their own. Without
distinction, it would be impossible to determine the business’ true performance and
current status. For example, an independent restaurant operator who makes personal
and family purchases from funds available in the cash register, without recording their
withdrawal, not only violates good business procedures but destroys the integrity of the
business as distinct from the owner’s personal affairs. Under this circumstance, it is
impossible to correctly determine the actual expenses and profit of the restaurant
because the funds withdrawn are never accounted for within the business.

Going Concern Assumption.

A basic assumption used in accounting is that a business will continue to operate for
an indefinite period of time. This means that liquidation of the firm is not reasonably
anticipated at any specific time in the future. This is not to imply, though, that a given
firm will exist long enough to effectively make use of its assets and to meet all
contractual commitments. Because of this concept, the balance sheet of a business
does not show the current market values of the assets which it owns, but rather the
historical cost of expected future benefits to be received by the firm as a result of
owning of this assets. To those who use accounting information, this concept
emphasizes the income-generating aspect of assets rather than the potential gain or
loss that might be incurred through their sale. This, in turn, permits the accountant to
allocate the cost of assets to the accounting periods during which benefits will be
received, rather than having to determine their present market values.

Stable Monetary Assumption.

All business transactions are recorded for accounting purposes in terms of the peso

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amounts involved. The underlying reason is, simply, that money is the common factor in
all business transactions and its use as a unit of measurement lends uniformity to
financial data. How else could one compare the benefits to the firm resulting, for
example, from the sale of 15 hotel rooms and 40 meals?
When we refer to money as a uniform unit of measure, we ignore all increases and
decreases in the purchasing power of the peso. Rather, the assumption is made that
today’s money is of the same value as it was ten years ago. Because of the significant
changes in the purchasing power of the peso, this assumption is being challenged.
Critics contend that the balance sheet assembles pesos of different values and sizes.
They thus maintain that the comparison of balance sheets from different periods have
lost their validity as changes in price levels have not been recognized.
Accountants are not blind to this deficiency but they differ as to which price level
adjustments are appropriate. Therefore, not all accounting statements would be
prepared in a manner that still lend themselves to comparability. A current accounting
technique includes supplemental financial statements which are adjusted for price level
changes, not necessarily on a uniform basis, but at least attempting to isolate the
effects of price level changes. With continued inflationary measures, this approach will
probably become generally accepted. But until a uniform and consistent basis is
available to adjust financial statements, those who use financial statements are
assembled under the stable peso assumption, and therefore, pesos of varying
purchasing powers have been combined.

Time Period Assumption

This basic concept considers that the life of the business enterprise is divisible into
smaller segments called time periods of one month, one quarter, or one year.
Otherwise, the first and last balance sheets will be prepared only when the unknown
end comes, and the first and last income statements will be prepared also only at the
same time. This time period assumption assures the readers of financial reports on a
periodical evaluation of performance and status because periodical statements will be
made available.

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Accounting 1
Module I, Lesson 1
SELF-PROGRESS CHECK TEST

Matching Type.
_____ 1. It enables the interested party to judge a. separate entity assumption
the true performance and financial b. time period assumption
status of a business enterprise. c. stable monetary
_____ 2. It serves as motivation for prospective assumption
investor or creditor. d. going concern assumption
_____ 3. It considers money as the most
convenient denominator in the
accounting of assets, liabilities,
revenues, and expenses.
_____ 4. It assures any interested party a
periodic comparison of balance sheets
and financial statements.
_____ 5. It permits business entities to adopt
practices best suited for their purposes
and which will present their statements
as fairly as possible.

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Accounting 1
Module I
Lesson 2. ACCOUNTING FORMS AND RECORDS

Lesson Objectives:
After studying this lesson on accounting forms and records, you will be able to:
1. identify the different forms and documents which serve as evidence of
business transactions:
2. determine the nature of journals; and
3. recognize and show understanding of the needs for ledgers in the accounting
process.

Accounting forms and records are the different technical tools for implementing the
generally-accepted accounting principles discussed in Lesson 1.
In actual practice, an initial record of each transaction, or a group of similar
transactions, is customarily evidenced by a business document such as a sales invoice,
an official receipt, a supplier’s bill or invoice, a voucher, etc. For audit purposes, when
the validity or objectivity of accounting data is questioned, the business documents
provide the primary evidence.

Journals
On the basis of the evidence provided by the business documents, the transactions
are first entered in chronological order in a record (registered with the Bureau of Internal
Revenue) called the journal or book or original entry. In its simplest form, the journal has
only two money columns, one for the debits and the other for the credits. This is called
the general journal.
When special journals are used, the general journal is used only for recording non-
recurring transactions. Adjusting entries, closing entries, reversing entries, write-off of
bad accounts are examples of non-recurring transactions which are recorded in the
general journal. Repetitive transactions like sales, purchases, cash receipts and cash
disbursements are recorded in special journals to save time writing over the same
accounts many times.

Ledgers
All entries in the journals are subsequently transferred to another book (also
registered with the BIR) called the ledger or book of final entry. In its simplest form, the
ledger looks like a letter T, with two money columns only. There will be as many ledger
accounts as there are balance sheets and income statement accounts. In a medium-
sized company, it is desirable to have both general and subsidiary ledgers for some
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accounts like accounts payable, accounts receivable, inventories and even suppliers.
The subsidiary ledgers for the accounts payable would be composed of the individual
accounts of creditors or suppliers. The sum of all the subsidiary accounts should tally
with the total of the accounts payable in the general ledger. If journals furnish the
chronological record of the effect of the individual transactions on the financial
statements, ledger accounts provide the classification and summarization of the
cumulative effects of all transactions on the individual assets, liabilities, capital,
revenues, and expenses.

Worksheet
Worksheet is a working paper used to assist in the preparation of financial
statements. It is also the informal presentation of the financial statements for a certain
period of time. It is usually a multi-column paper starting with the trail balance lifted from
the ledger. If there are transactions which were not yet journalized or not posted when
the ledger was summarized, these are post scripted in the next pair of money columns
(the transactions: provision for bad debts, depreciation, accruals, consumption of
prepayments, expiration of prepayments, zeroing out of pre-collections). An adjusted
trial balance follows from which the informal income statement and informal balance
sheet are prepared.

SAMPLE FORMS

Two-column general journal:

Date Description Posting Debit Credit
Reference *

*You may also use: Post. Ref., PR, or LF (Ledger Folio)

Sales journal:
Date Invoice Account Debited PR Accounts Sales*
No. Receivable*
Debit Credit

*It may be preferable to put only the last two columns in one column such as: Accounts Receivable – Debit;
Sales – Credit

Purchases Journal:
Date Account Credited PR Purchases Accounts Sundry Accounts – Debit
Payable Account PR Amount
Debit Credit

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Four-column cash receipts journal:

Date Account Credited PR Sundry Sales Accounts Sales Cash

Accounts Receivable Discount
Credited Credit Credit Debit Debit

Cash payments or disbursement journal:

Date Check Account PR Sundry Accounts Purchase Cash
No. Debited Accounts Payable Discount
Debit Debit Credit Credit

Three-column Accounts receivables (customers’) ledger:

Date Item PR Debit Credit Balance

Four-column accounts receivables (customer’s) ledger:

Date Item PR Debit Credit Balance
Debit Credit

Three-column accounts payable (supplier’s) ledger:

Date Item PR Debit Credit Balance

Four-column accounts payable (supplier’s) ledger:

Date Item PR Debit Credit Balance
Debit Credit

Eight-column worksheet:
Account Title Trial Balance Adjustments Income Statement Balance Sheet
Debit Credit Debit Credit Debit Credit Debit Credit

Ten-column worksheet:
Account Trial Balance Adjustments Adjusted Income Balance Sheet
Title Trial Balance Statement
Debit Credit Debit Credit Debit Credit Debit Credit Debit Credit

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Accounting 1
Module I, Lesson 2
SELF-PROGRESS CHECK TEST

Matching Type.
_____ 1. Provide the primary evidence in meeting a. special journals
the requirement of validity or objectivity b. general journal
of accounting data. c. BIR
_____ 2. It is the book of original entry. d. journal
_____ 3. It is a government agency where the e. business documents
books of accounts of a business must
f. worksheet
be registered.
g. two
_____ 4. It records non-recurring transactions of
h. T
a business.
i. ledger
_____ 5. It is where repetitive transactions are
recorded.
_____ 6. Entries in the journal are transferred to
another book called the (___).
_____ 7. It is also called the book of final entry.
_____ 8. The simplest form of a ledger looks like
(___).
_____ 9. The simplest ledger form has (___)
money columns.
_____ 10. A working paper used to assist in the
preparation of financial statements.

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Accounting 1
Module I
Lesson 3. ACCOUNTING PROCEDURES

Lesson Objectives:
After studying this lesson on accounting procedures, you will be able to:
1. identify the functions of debit and credit in recording transaction;
2. record business transactions; and
3. enumerate the steps in the accounting cycle.

Different sectors in society are interested in financial reports of business

organizations. Their needs for information vary. Some of these needs refer to decisions
to be made of investment, credit-accommodation, taxation and policy formulation in the
case of the government, employment and others. There is, therefore, a critical need for
financial information to be reliable, understandable, and verifiable, among others. To
enhance the usefulness of accounting information, accountants observe certain
accounting procedures.

The Firm as a Separate Entity

The business and the owners must be taken separately. As such, the firm’s activities
and the changes in what it owns (assets), what it owes (liabilities), and owner’s claim on
the business equity must be recorded in the firm’s book rather than in the personal
records of the owner or owners.

Transaction
A transaction is an economic event which involves the exchange of value received
with a value parted with. The value would either be money, property or service. For
example, in buying a typewriter for cash, the value received is the typewriter and value
parted with is cash or money.

Accounting Equation
Any transaction effects either assets, liabilities or capital also termed owner’s equity.
The effect is shown as: Assets = Equities
The assets refer to anything of value owned by the firm, while equities are claims
against the assets of the firm. The claims can refer to creditor’s or owner’s claim.
Hence, the equation can be expanded as:
Assets = Liabilities + Owner’s Equity

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 Or the equation can be stated variably as:
Assets – Liabilities = Owner’s Equity
It is helpful to understand at this point that capital or owner’s equity is affected by the
following: 1) investments, either original or additional; 2) income or losses; 3) costs and
expenses; 4) withdrawal of assets or payment of dividends.

Rules on Debit and Credit

Transactions are recorded in the books using the rules on debit (abbreviated Dr.)
and credit (abbreviated Cr.)
Debit Credit
Increase in asset Decrease in asset
Decrease in liability Increase in liability
Decrease in capital or Owner’s equity due to: Increase in capital or owner’s equity due to:
Withdrawal of assets Investments
Payment of dividends Decrease in expenses
Increase in expenses Decrease in losses
Increase in losses Increase in income

The increase or decrease in assets, liabilities or capital are summarized in an

accounting device called “Account” and each account is given a title. Therefore,
increases or decreases, for instance, in the cash column, which is an asset, are
summarized in the “Cash” account. In like manner, increases or decreases in a liability
maybe summarized in an account which can be titled “Accounts Payable.” Similarly,
transactions which increase capital may be summarized as revenue but further
categorized as: sales; fees earned; fares earned; etc. Decreases in capital may be
summarized under cost and expenses but further categorized as: purchases; salaries;
supplies; insurance; etc. Another deduction from capital which is not an expense called
“Drawings” may summarize return of part of earnings or capital.
The simplest form of an account is the T- account which is called as such because it
looks like a “T,” as shown below:

Account Title
Left side Is debit Right side is credit

The rules on debits and credits are herein illustrated. [Increase – (+);Decrease – (-)]:
Transaction Account Affected Classification Effect Debit Credit
Owner invested cash into his Cash Asset + Dr.
business Capital Capital + Cr.
Explanation: Asset Account increased, therefore it is debited; Capital Account increased, therefore it is
credited.

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 Transaction Account Affected Classification Effect Debit Credit
Purchased equipment in cash Equipment Asset + Dr.
Cash Asset - Cr.
Explanation: Asset Account-Equipment increased, therefore it is debited. Asset Account-Cash
decreased, therefore it is credited.

Transaction Account Affected Classification Effect Debit Credit

Purchased merchandise in Purchases Cost + Dr.
cash Cash Asset - Cr.
Explanation: Purchases Account is a cost; it reduces capital, therefore it is debited. Cash, an Asset
Account, decreased, therefore it is credited.

Transaction Account Affected Classification Effect Debit Credit

Purchased merchandise on Purchases Cost + Dr.
account Accounts Payable Payable + Cr.
Explanation: Purchases – see above explanation. Accounts Payable is a Liability Account, therefore it is
credited.

Transaction Account Affected Classification Effect Debit Credit

Sold merchandise for cash Cash Asset + Dr.
Sales Revenue + Cr.
Explanation: Cash – see above explanation. Sales increased Capital, therefore it is credited.

Transaction Account Affected Classification Effect Debit Credit

Sold merchandise on account Accounts Asset + Dr.
Receivable
Sales Revenue + Cr.
Explanation: Accounts Receivable is an Asset Account; it increased, therefore it is debited. Sales – see
above explanation.

THE ACCOUNTING CYCLE

The accounting cycle refers to a series of sequential steps or procedures performed

to accomplish the accounting process. It begins with the analysis and the journalizing of
transactions and ends with the reversing of entries. The most significant output of the
accounting cycle is, of course, the financial statements.
An understanding of all phases of the accounting cycle is essential as a foundation
to a further study of accounting principles and the uses of accounting data by
management. The following are the basic phases of the cycle:
1. Transactions are analyzed.
2. Transactions are journalized and posted to the ledger.
3. Trial balance is prepared.

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 4. Data needed to adjust the accounts are assembled.
5. Worksheet is prepared.
6. Financial statements are prepared.
7. Adjusting entries are journalized and posted to the ledger.
8. Closing entries are journalized and posted to the ledger.
9. Post-closing trial balance is prepared.
10. Reversing journal entries are journalized and posted to the ledger.

Transaction Analysis.
The analysis of transactions should follow these four basic steps:
1. Identify the transaction from source documents.
2. Indicate the accounts – either assets, liabilities, equity, income or expenses –
affected by the transaction.
3. Ascertain whether each account is increased or decreased by the transaction.
4. Using the rules of debit and credit, determine whether to debit or credit the
account to record its increase or decrease.

Journalizing.
There is a great variety in both the design of journals and the number of different
journals that can be employed by an enterprise. However, the two-column journal is still
widely used. It also serves as a valuable device in analyzing transaction. while the
ledger is a bound or loose leaf type book that contains various records called accounts.
Each account represents individual assets, liabilities and forms of capital. Changes in
the various accounts are recorded as debit and credit entries. Thus, recording
transactions in both the journal and ledger duplicate work.
Journalizing is the first step in the accounting cycle. It is a process of recording
transactions in a journal.
A journal is a book of accounts wherein business transactions are recorded for the
first time in a chronological order. It is also called the book of original entry. There are
two kinds of journals – the general journal and the special journal. Cash receipts journal,
cash payments journal, sales journal, purchase journal and some other forms of
combination journals are special journals. The type of journal to be used depends on
the size and need of the business.
There are various kinds of journals. The number and the type used in a particular
business will depend upon the case of the business and the nature of its operations.
The simplest form of journal has only two amount columns and may be used for
recording all transactions of the business in chronological order.
The General Journal is the simplest form of journal wherein the two-column form
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may be used.
A sample of two-column journal is shown below:
On January 1 of the current year, Mr. Galasinao invested P 30,000 cash in the trucking business.

General Journal Page 1

Date Description PR Debit Credit
2011 Cash 30,000
Jan. 1 Galasinao – Capital 30,000
Initial Investment

The process of recording a transaction in a journal is called journalizing.

The procedures followed in journalizing are as follows:
1. The word General Journal should be written at the center, and the page no.
must be at the upper right corner of a journal.
2. Year is inserted at the top only of date column of each page except when the
year is changes.
3. Month is inserted at the first line only of date column of each page, except
when the month date changes.
4. Day is inserted in the date column on first line used for each transaction
regardless of number of transaction during the day.
5. Write the Description
6. Write the Posting Reference
7. Write the Debit
8. Write the Credit
Note:
 Title of account to be debited is inserted at the extreme left of the
description column and amount is in the debit column.
 The account to be credited is inserted below the account, debited
moderately indented and the amount is in the credit column.
9. A brief explanation should be written below each entry, moderately indented
upon journalizing.
Since it is technically possible to record transactions directly in the ledger, why
bother to maintain a journal? The answer is that the unit of organization for the journal is
the transaction, whereas the unit of organization for the ledger is the account. By having
both a journal and a ledger, we achieve several advantages which would not be
possible if transaction were recorded directly in the ledger accounts.
The journal shows all information about a transaction in one place and also provides
an explanation of the transaction. In a journal entry, the debits and credits for a given
transactions are recorded together, but when the transaction is recorded in the ledger,
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the debits and credits are entered in the different accounts. Since a ledger may contain
hundreds of accounts, it would be very difficult to locate all the facts about a particular
transaction by looking in the ledger. The journal is the record which shows the complete
story of a transaction in one entry.
The journal provides a chronological record of all the events in the life of a business.
If we want to look up the facts about a transaction of some months or years back, all we
need is the date of the transaction in order to locate it in the journal.
The use of a journal helps to prevent error. If transactions were recorded directly in
the ledger, it would be very easy to make errors such as omitting the debit or the credit,
or entering the debit twice or the credit twice. Such errors are not likely to be made in
the journal, since the off-setting debits and credits appear together for each transaction.
There are several types of Special Journals:
1. Purchase Journal – records purchase of merchandise and other items on
account.
2. Cash Payment Journal – records all cash payments.
3. Sales Journal – records all sales of merchandise on account.
4. Cash Receipts Journal – records cash received regardless of source, such as
sale of merchandise, equipment or supplies.

Posting to the ledger.

It has been discussed previously that T-accounts were constructed in the simplest
form possible. While such a form provides the basic elements of the account, it is
primarily for illustrative purposes.
Shown below is the standard form of the account. A group of accounts is called the
ledger or the book of final entry.
Account: Cash Account No. 11
Date Item PR Debit Date Item PR Credit

All entries in the journal are ultimately recorded in the ledger. The process by which
the entries in the journal are transferred to accounts in the ledger is called posting. For
this reason, the ledger is often times called the book of final entry. Both sides of the
account are identical except the left side is used for debits and the right side is used for
credits. The columns on each side provide for:
1. the date;
2. brief explanation, if it is desired;
3. the page reference to the journal in which the transaction was recorded; and
4. the amount.
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 The following are the procedures in Posting.
1. The date and the amount in the journal entry are recorded in the
corresponding ledger account. If the item appears as a debit in the journal,
the posting will be to the debit side of the account; if it appears as a credit, the
posting will be to the credit side of the account. The system of recording dates
(year, month, and day) is similar to that employed in the journal.
2. The number of the journal page from which the posting is made is recorded in
the posting reference column of the accounts.
3. The number of the account to which the posting has been made is recorded
in the posting reference column of the journal. This procedure serves two
purposes: first, it indicates that the item has been posted; and second, it
completes the cross reference between the journal and the ledger.
If recorded formally in a two-column journal and posted to the corresponding
accounts in the ledger, we can have the following illustration.
General Journal Page 1
Date Description PR Debit Credit
2011 Cash 11 30,000
Jan. 1 Galasinao – Capital 31 30,000
Initial Investment

Account: Cash Account No. 11

Date Item PR Debit Date Item PR Credit
2011 Initial
Jan. 1 Investment GJ 1 30,000

Account: Galasinao – Capital Account No. 31

Date Item PR Debit Date Item PR Credit
2011
Jan 1 Initial Investment GJ 1 30,000

The Trial Balance.

Trial Balance is a list of accounts with open balances in the general ledger. It is a
summary listing of the balances and the titles of the accounts. It is a proof of equality of
debits and credits in the general ledger.

Procedures in the preparation of trial balance:

1. Write the heading of the trial balance. The heading of the trial balance
includes the following:

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 a. The name of the business or the owner
b. Title of the list or trial balance
c. Date of the trial balance
2. Provide a column for the accounts and two money columns – a debit and a
credit.
3. The accounts should be written in just one column arranged in the following
sequence:
a. Assets
b. Liabilities
c. Capital
d. Income/Revenue
e. Expenses
4. Write the amounts opposite the corresponding accounts under the debit
money column if the account is a debit balance and under the credit money
column if the account is a credit balance.
5. Foot the money columns. Double rule the totals.
 What do foot and crossfoot mean?
Accountants use the word foot to mean adding a column of numbers. To crossfoot means
to verify that the sum of the totals in various columns also agrees to a grand total.
For example, assume you have a table of numbers that shows the sales of five items for
the past week. Column A consists of the names of the five items. Columns B through H
show the sales of each item for the days Sunday (Column B) through Saturday (Column
H). Column I reports each item's total sales for the week. After footing each of the eight
columns B through I, a good accountant will verify that the total of the totals in Columns B
through H agrees to the total of Column I. This last step is known as crossfooting.
http://www.accountingcoach.com/blog/foot-crossfoot, 2015.
 Underlining in Accounting
Single underlining in accounting is generally used to indicate a subtotal. For example, in an
annual financial statement, the sales for the first quarter would be single underlined, as
that amount is going to be added to the sales for the second, third and fourth quarters to
ultimately come up with an annual total for the bottom line.
Double underlining in accounting is typically used to indicate a grand total. Double
underlining only appears in the figure at the bottom of a column of a financial statement or
the like, and indicates the completion of that specific accounting procedure.
http://www.ehow.com/info_11368429_use-double-underlining-accounting.html, 2015

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Accounting 1
Module I, Lesson 3
SELF-PROGRESS CHECK TEST

I. True or False.
_____ 1. In journalizing, year is inserted at top only of the date column of each page
except when the year changes.
_____ 2. Title of account to be credited is inserted below the account debited
moderately indented and the amount is entered in the debit column.
_____ 3. Post reference column is used to indicate the account number in the
ledger to which the entry is being transferred.
_____ 4. Place the page of the journal where the information transferred is located
in the post reference column of the ledger account.
_____ 5. In journalizing, the explanation of transaction is optional.
_____ 6. The journal provides a chronological record of all the events in the life of a
business.
_____ 7. The name of the account to be debited is written on the first line of the
entry and is customarily placed at the extreme left next to the date column.
The amount of the debit is entered on the same line in the left hand money
column.
_____ 8. A term journalizing refers to the process of recording transaction to the
ledger.
_____ 9. The order of the accounts in the ledger should agree with the order of the
items on the balance sheet and the income statement.
_____ 10. The trial balance provides a complete proof of the accuracy of the ledger.

II. Identification.
Identify whether the account is to be debited or credited.
_____ 1. Increase in asset
_____ 2. Decrease in liability
_____ 3. Increase in capital
_____ 4. Increase in sales
_____ 5. Increase in expenses

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Accounting 1
Module I
Lesson 4. FINANCIAL STATEMENTS

Lesson Objectives:
After studying the lesson on financial statements, you will be able to:
1. discuss the nature of financial statements;
2. differentiate the types of financial statements;
3. prepare properly the different types of financial statements;
4. enumerate the different users of financial statements and their particular
needs for financial information; and
5. explain the limitations of financial statements.

Financial statements are the financial reports which constitute the finished products
of financial accounting. Normally, financial statements are prepared at yearly intervals.
However, it is not uncommon for business to prepare also monthly, quarterly or
semiannual statements. These are called “interim statements.” A sole proprietorship
and a partnership have two principal financial statements. These are the balance sheet
and the income statement, but these are usually accompanied by a third which is the
capital statement. The corporation usually prepares a balance sheet, income statement,
statement of retained earnings, and statement of changes in financial position. Another
statement, the cash flow, is now considered a necessary statement.

Balance Sheet.
This report lists down the asset resources the business has, including the
outstanding liabilities as of a special date. The liabilities, when subtracted from the
assets, measure the remainder that belongs to the owner or owners. Using the so-
called account format, the assets are placed on the left, while the liabilities and
owner’s equity are placed on the right side. Using the report format, the assets are
placed on top, while the liabilities are placed below. The owner’s equity immediately
follows with its total added to the liabilities to balance the total of the assets above.
Assets are usually arranged according to their liquidity (nearness to cash); the liabilities
are arranged usually according to their expected due dates.

Income Statement.
This is the report that summarizes all the revenue and income the business has
generated including sidelines and also the expenses and losses the business has
incurred for a certain period of time (one month, one quarter, one year). The difference
is computed to determine the net income or loss for one period for one time. Using the
Accounting 1 – Principles of Accounting
23
multiple-step format, sub-totals like gross profit, net operating income, net income
before tax, etc. are determined. The expense accounts are usually arranged according
to their size or magnitude with sundry items or miscellaneous items always placed last
regardless of size.

Statement of Changes in Equity.

This statement reflects the changes in the capital of a single proprietorship or
partnership which have occurred during a specific period of time. It presents first the
beginning capital then adds net income and deducts from it losses and withdrawals. The
balance at the end of the period is carried to the balance sheet under the “capital”
section.

Cash Flow Statement.

Another statement which is attracting the interest of both management, investors
and creditor’s is the cash flow statement. In fact, this is now considered a must because
of its significance and usefulness in decision making. The statements reports cash
receipts and cash payments during a period of time. These are usually classified
according to: operating; investing; and financing activities.

Considering the Needs of the Users.

The primary function of accounting is to prepare financial reports which will serve as
the basis for management action. Different reports have been introduced earlier. The
users of financial statements are perhaps best classified in terms of their specific needs.
The five users of financial statements and their primary concerns are the following:
1. Owner – How can I make more profit?
2. Creditor – Should I make a loan?
3. Manager – Is my performance up to expectations?
4. Government agencies – Is the tax reported correctly?
5. General public – Will it continue to benefit the community?
Owners and potential owners or investors are concerned with making decisions
in managing their investments. In making an investment decision, the investor uses
historical financial statements to determine the probable financial performance in future
periods of time. Once the investment is made, the owner monitors the performance of
the business as revealed by its financial statements. An owner is vitally concerned with
its success and, in order to maximize benefits, there are certain decisions which must
be made at appropriate times. It is imperative that owners or potential owners
understand thoroughly the fundamentals of financial statement preparation and
presentation. The income statement is the primary source of information about sales,
expenses, and profitability of the business. The decision needs of owners and potential
Accounting 1 – Principles of Accounting
24
investors are thus satisfied primarily by financial statements.
Creditors, particularly short-term creditors, are very much interested in the balance
sheet because it enables them to analyze the potential for loan repayment or payment
of account. In the past, creditors and potential creditors, both long and short-term, were
almost exclusively interested in the balance sheet. They felt that a strong balance sheet
provided the best indication of security for loans. Today, creditors realize that
(particularly for long term loans) the ability of a business to generate profit is more
significant to the future repayment of loans than the strength of the balance sheet. This
is not to say that the current financial condition of a company is not considered anymore
in making loans, but rather than the overall evaluation, profitability is the index of the
company’s repayment potential.
Managers use financial data as a basis for making operating decisions. When
evaluating performance of over-all operation and developing plans for future activities,
historical financial data are compared against pre-determined standards which are
usually spelled out in terms of budgets. Expenses with unusually large variances are
investigated, the soonest, so that remedial steps can be undertaken.
Governmental agencies are vitally interested in the condition and performance of a
business. Included in this category are the public taxing agencies, such as the Bureau
of Internal Revenue and the various municipal tax agencies. Also, the Securities and
Exchange Commission is ever watchful for restraint of practices and inaccurate or
insufficient investor information. The type of decisions with which various government
agencies are involved include imposing fines and possible imprisonment in case of non-
compliance with required actions, the restrictions of particular laws or regulations, and
issuance or withdrawal of particular licenses or authorities under which an enterprise
operates.
The general public is one of the most important users of financial statements. Labor
unions are becoming increasingly interested in the financial statements of entities. To a
large extent, and particularly in times of highly profitable operations, labor unions base
their wages and fringe benefit demands on the company’s profitably as reported in its
financial statements. Residents of an area may have interest in the information
presented in a local business’ financial statements since they are interested in its
stability, success and future growth, and the effect these factors may have upon the
economy of the area.

Limitations of the Financial Statements.

The various concepts, principles and procedures that govern the preparation of
financial statements for external reporting purposes have created limitations on these
statements. These limitations can be summarized thus:
1. that the financial statements are not absolutely accurate; much of the data are
estimates based on the personal judgment of the accountant;
Accounting 1 – Principles of Accounting
25
 2. that the financial statements ignore the purchasing power of the peso, making
impossible a meaningful comparison of performance and financial standing;
and
3. that the financial statements do not provide all the information needed by
anyone; only the financial data of the business are the concern of accounting.
These limitations, however, do not mean the end of the financial statements. The
owner, the creditor, the manager, the government, and the general public will continue
patronizing them for whatever purpose. The profit motive remains the main objective of
everyone; only accounting information reflected in the financial statements can provide
the stepping stone for further actions.

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Accounting 1
Module I, Lesson 4
SELF-PROGRESS CHECK TEST

I. Matching Type.
_____ 1. estimates in a. accounting is applied statements to an individual
financials economic unit
_____ 2. business b. means selecting the alternative which presents
transactions lower net income or value of the asset
_____ 3. consistency c. entries in accounting records must be based on
_____ 4. accounting evidence which can be verified objectively
procedure d. some monetary values in the financial statements
_____ 5. general are arrived at based on objective estimates
acceptance e. an item received is debited and value parted with
_____ 6. entity is credited
assumption f. the happening of an economic event which must
_____ 7. objectivity be recorded
_____ 8. stability of the g. a conglomeration of assumptions, concepts
peso principles and procedures which serve as the
_____ 9. accounting foundation of accounting practice.
theory h. following this concept, generally accepted
_____ 10. conservative accounting principles must be applied consistently
approach i. a criterion for determining the usage of an
accounting concept
j. accounting ignores changes in the purchasing
power of the peso

II. True or False.

_____ 1. The balance sheet is dated as of a specific date like Dec. 31, 2011.
_____ 2. The income statement is dated as of a specific date like Dec. 31, 2011.
_____ 3. The statement of changes in equity is dated as of a specific date like Dec.
31, 2011.
_____ 4. The statement of changes in financial position covers a time period usually
one year.
_____ 5. The three types of business (sole proprietorships, partnerships, and
corporations) prepare the same type of financial reports for external
reporting.
_____ 6. The account format of the balance sheet has the assets on the right side
while liabilities and owner’s equity are on the other side.
Accounting 1 – Principles of Accounting
27
_____ 7. The multiple-step income statement format is suited for the two types of
business, merchandising and manufacturing.
_____ 8. The income statement pictures the result of business operations for a time
period.
_____ 9. The balance sheet pictures the financial standing of the business as of a
specific date.
_____ 10. Total assets must always be equal to total liabilities and owner’s equity;
likewise, total revenues must always be equal to total expenses.

III. Enumeration.
What are three practical benefits of financial statements to the following?
1. Owners
2. Government
3. Business community

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Accounting 1
Module I
ANSWER KEYS TO THE SELF-PROGRESS CHECK TESTS

LESSON 1

1. b 2. d 3. c 4. b 5. a

LESSON 2

1. e 2. d 3. c 4. b 5. a 6. i 7. i 8. h 9. g 10. f

LESSON 3

I.
1. T 2. F 3. T 4. T 5. F 6. T 7. F 8. F 9. T 10. F
II.
1. D 2. D 3. C 4. C 5. D

LESSON 4

I.
1. d 2. f 3. h 4. e 5. i 6. a 7. c 8. j 9. g 10. b
II.
1. T 2. F 3. F 4. T 5. F 6. F 7. T 8. T 9. T 10. F
III.
1. a. for making investment decisions
b. for assessing present and future performance of the business
c. for monitoring performance of the firm
2. a. to enable government to analyze the firm’s potential for growth
b. to be able to compute correct taxes due the government
c. to be able to monitor the performance as well as the financial status of the
business for the protection of the public
3. a. for analyzing investment opportunities
b. for analyzing profitability of the firm
c. for determining ability of the firm to sustain its operation and contribute overall
business prosperity

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