INTRODUCTION TO ACCOUNTING

BASIC ACCOUNTING

Topic 1 – Introduction to Accounting, Principles, Concept and Accounting

Assumptions.

Topic 2 – Elements of Financial Statements – The Financial Position (Balance

Sheet and Income Statement

Topic 3. Accounting Equation and the Double Entry System

Topic 4 – Business Transactions and Changes in the Fundamental Accounting

Equation

Topic 5 – The Journal and the Ledger , Chart of Accounts and Trial Balance

Topic 6 – Adjusting the Accounts

Topic 7 – Preparation of Financial Statements – Statement of Financial Position,

and Income Statement for Service , Merchandising and Manufacturing entities.
Topic 1: Introduction to Accounting Concepts Concept and
Accounting Assumptions.
Accounting is a service activity. It main task is to provide quantitative financial information and
form as a basis for making economic decisions of business enterprises.

Accounting is the process of identifying, measuring, recording, classifying, summarizing

transactions and events which are monetary in nature and interpreting and communicating the
results to the different stakeholders.

Fundamental Accounting Concepts or Accounting Assumptions

Accounting Assumptions are the basic notion or fundamental premises on which the accounting
process is based. They serve as the foundation or bedrock of accounting in order to avoid
misunderstanding but rather enhance the understanding and usefulness of the financial
statements.

1. Entity Concepts – the business organization stands apart from other business organization
and the transactions for each and the transactions of the different business organization
should be accounted or evaluated separately.
2. Periodicity concept – an entity’s life can be meaningfully subdivided into equal time period
for reporting purposes. It allows the users to obtain timely information to serve as a basis on
making decision about future activities. The usual accounting period is one year but can
prepare monthly, quarterly or every six months.
3. Stable monetary unit concept –the use of stable monetary unit in recording accounting
transactions. A common unit of measure must be used and in the Philippines it’s the peso.
4. Accrual Accounting – that income is recognized when earned regardless of when received
and expense is recognized when incurred regardless of when paid.
5. Going concern or continuity - in the absence of evidence to the contrary the accounting
entity is viewed as continuing in operation indefinitely. The financial statements are
normally prepared on the assumption that the entity will continue in operation for the
foreseeable future. Assets are normally recorded at cost.

Basic Principles of Accounting:

In order to generate information that is useful to the users of financial statements,
accountants rely upon the following principles:
1. Objectivity principle –accounting records and statements are based on the most reliable
data available so that they will be accurate and as useful as possible. Reliable data are
verifiable where they can be confirmed by independent observers. Ideally, accounting
records are based on information that flows from activities documented by objective
evidence, not by whims and opinions.
2. Historical Cost- that acquired assets should be recorded at their actual cost and not at
what management thinks they are worth as a reporting date.
3. Revenue recognition principles – revenue is to be recognized in the accounting period
when goods are delivered or services are rendered or performed.
4. Expense recognition principles – expenses should be recognized in the accounting period
in which goods and services are used up to produce revenue and not when the entity pays
for the goods and services.
5. Adequate disclosure – requires all relevant information that would affect the user’s
understanding and assessment of the accounting entity be disclosed in the financial
statements.
6. Materiality –financial reporting entity is only concerned with information that is
significant enough to affect evaluations and decisions. It is material when the items are
significant enough to affect the evaluation, decision and fairness of the financial
statements. In other words information is material if its omission or misstatement could
influence the economic decision of the users taken on the basis of the financial
statements. Materiality is relativity, what is material for one entity maybe immaterial for
another. An error of P100, 000 in the financial statements of a multinational entity may
not be important but my be so critical for a small entity.
7. Consistency principle – the firm should use the same accounting method from period to
period to achieve comparability over time within a single enterprise. However changes
are permitted if justifiable and disclosed in the financial statements.
Branches of Accounting:

1. Auditing – can be external or internal auditing. External audit is the independent

examination that ensures the fairness and reliability of the reports that management
submits to user s outside the business entity. The result of the examination is embodied in
the independent auditor’s report. The external auditors’ job is to protect the interests of
the users of financial statements. Internal auditors are employees of the company, they
ensure the accuracy of business records, uncover internal control problems and identify
operational difficulties.
2. Bookkeeping- is a mechanical task involving the collection of basic financial data. The
data are first entered in the accounting records or the books of accounts, and then
extracted classified and summarized in the form of income statement, balance sheet and
cash flow statement. The bookkeeping procedures usually end when the basic data have
been entered in the books of accounts and the accuracy of each entry has been tested.At
that stage, the accounting function takes over.
3. Cost Accounting – deals with the collection, allocation, and control of the cost of
producing specific goods and services. The accumulative and explanation of actual cost
and prospective cost data is important to control current operations and to plan for the
future. It is now one of the main sub branches of management accounting.
4. Financial Accounting – is focused on the recording of business transactions and the
periodic preparation of reports on financial position and results of operations.
5. Financial Management–financial managers are responsible for setting financial
objectives, making plans based on those objectives, obtaining the finance needed to
achieve the plans, and generally safeguarding all the financial resources of the entity.
Financial managers are much more heavily involved in the management of the entity than
is generally the case with either financial or management accountants.
6. Management Accounting–incorporates cost accounting data and adapts them for specific
decision which management maybe call upon to make. Is the process of identifying,
analyzing, interpreting and communicating information to managers to help achieve
business goals.
7. Taxation – includes the preparation of annual income tax returns and determination of tax
consequences of certain proposed business endeavors.
 8. Government Accounting-concerned with the identification of the sources and uses of
resources consistent with the provision of city, municipal,provincial or national laws. The
government collects and spends huge amount of public funds annually so it is necessary
that there is proper custody and disposition of these funds.

Types of business activities:

1. Service – providing services through their field of specialization i.e.: Doctors, Lawyers,
Accountants, and Dentists etc.
2. Trader or Merchandiser – involves in buying and selling of products or finished goods
3. Manufacturer - involves in converting raw materials or aggregating components into
finished goods.

Forms of Business Organizations:

1. Sole proprietorship- has a single owner referred to as proprietor and most of the time also
the manager.
2. Partnership – owned and operated by two or more persons who bind themselves to
contribute money, property, or industry to a common fund, with the intention of dividing
the profit among themselves.
3. Corporation - an artificial being created by the operation of law, having the rights of
succession and the powers, attributes, and properties expressly authorized by law or
incident to its existence. The business is owned by the shareholders.

Phases of Accounting
1. Identifying – accounting process of recognition or non – recognition of business
activities as accountable events. Not all business activities are accountable. Eventsare
accountable if they can be quantified or expressed in terms of a unit of measure. They
are accounting transactions that are measurable. Example of non- accountable event:
hiring of employees; entering into contract.
2. Measuring – is the assigning of peso amounts to the accountable economic
transactions. Should have monetary amounts and the Philippine peso is the unit of
measuring accountable accounts.
3. Recording – or journalizing is the process of systematically maintaining a record of
all economic business transactions after they have been identified and measured.
4. Classifying is the sorting or grouping of similar and interrelated transactions into their
respective classes. It is accomplished by posting to the ledger. For instance, all
transactions involving sales figure or merchandise can be grouped into one total sales
figure.
5. Summarizing – is the preparation of financial statements which include the statement
of financial position, income statement, cash flow statement and statement of changes
in equity.
6. Communicating is the process of preparing and distributing accounting reports to
potential users of accounting information.

Pacioli’s Double Entry System

Pacioli introduced the double –entry accounting system from his book Summa in
which for every debit/debet dare (should give) there exists a credit/debet habere
(should have or should receive).
In Summa, the memorandum is the book where all transactions are recorded, in the
currency in which they are conducted, at the time they are conducted. The
memorandum, prepared in chronological order, is a narrative description of the
business’s economic events. The second book, the journal is the merchant’s private
book. The entries made here are in one currency, in chronological order, and in
narrative form. The last book, known as the ledger, is an alphabetical listing of all the
business‘s accounts along with the running balance of each particular account.

The above provides:

1. An accurate record of what has happened to a business over a specified period of time.
2. Information extracted from the system can help the owner or the manager operate the
business much more effectively
 Quantitative Characteristics of Useful Financial Information
1. Relevance – applicability – if the financial information is capable of making a
difference in the decisions made by users by helping the users to evaluate past,
present or future events, or conforming or correcting, their past evaluations.
a. Confirmatory value–it is used to confirm or correct the decision maker’s earlier
expectations. It is an analysis of the relationship between predictions and
outcomes. The information is used to assess how well management has performed
its function by comparing its achievements with expectations.
b. Predictive value – it is used to make predictions of, for instance future cash flows
or income. Historical information can be extrapolated to make predictions about
the future. For information to be relevant, it should assist in either the
confirmation of past predictions or in the making of new predictions.
2. Faithful representation –general purpose financial report represent economic
phenomena in words and numbers. To be useful, financial information must not only
be relevant, it must also represent faithfully the phenomena it purport to represent.
a. Completeness- all information necessary for a user to understand the phenomenon
being depicted, including all necessary descriptions and explanations...
b. Neutrality – free from bias. A neutral depiction is not slanted, weighted
emphasized, de-emphasized or otherwise manipulated to increase the probability
that financial information will be received favorably or unfavorably by users.
c. Freedom of Error – No errors or omission in the description of the phenomenon,
and the process used to produce the reported information has been selected and
applied with no errors in the process.

Enhancing Qualitative Characteristics

1. Comparability – information about a reporting entity is more useful it can be

compared with similar information about other entities and with similar information
about the same entity for another period or another date. It enables users to identify
and understand similarities in and differences among items.
2. Verifiability – help to assure users that information represents faithfully the economic
phenomena it purport to represent. It means that different knowledgeable and
independent observers could reach consensus, although not necessarily complete
agreement, that a particular depiction is a faithful representation.
3. Timeliness – that information is available to decision –makers in time to be capable
of influencing their decisions.
4. Understandability- classifying, characterizing and presenting information clearly and
concisely makes it understandable. Financial report are prepared for users who have
reasonable knowledge of business and economic activities and who review and
analyze the information with diligence.
Topic 11 – Elements of Financial Statements and the Accounting Equation

A) Elements of Financial Statements

1. Financial Position also refer to as the balance sheet showing its three elements: 1) Assets 2)
Liabilities 3) Equity. The balance sheet or financial position displays the company’s total
assets, and how these assets are financed, through either debt or equity. It can also be
referred to as a statement of net worth, or a statement of financial position

Assets – defined as resources controlled by the entity as a result of past transactions and
events and from which future economic benefits are expected to flow to the entity.

Assets may be:

 Used singly or in combination with other assets in the production of goods or

services to be sold by the enterprise;
 Exchange for other assets
 Used to settle a liability ; ,or
 Distributed to the owners of the enterprise.

Classification of Assets:

 Current Assets – Paragraph 66 of revised PAS 1 provides that an entity shall classify
an asset as current when:
a. The asset is cash or cash equivalent unless the asset is restricted from being
exchanged or used to settle a liability for at least twelve months after the
reporting period.
b. The entity holds the asset primarily for the purpose of trading.
c. The entity expects to realize the asset within twelve months after the reporting.
d. The entity expects to realize the asset or intends to sell or consume it within the
entity’s normal operating cycle.
Current Assets are usually listed in the order of liquidity:

 Cash and Cash Equivalent - The most liquid of all assets, cash, appears on the first
line of the balance sheet. Cash Equivalents are also lumped under this line item and
include assets that have short-term maturities under three months or assets that the
company can liquidate on short notice, such as marketable securities.
 Account receivables - This account includes the balance of all sales revenue still on credit,
net of any allowances for doubtful accounts (which generates a bad debt expense). As
companies recover accounts receivables, this account decreases and cash increases by the
same amount.

 Inventories -Inventory includes amounts for raw materials, work-in-progress goods, and
finished goods. The company uses this account when it reports sales of goods, generally
under cost of goods sold in the income statement.

 Prepaid Expenses represent the value that has already been paid for, such as
insurance, advertising contracts or rent.

Non- Current Assets – is a residual definition. An entity shall classify all other assets not
classified as current as non- current.
 Property plant and equipment -Property, Plant, and Equipment (also known as
PP&E) capture the company’s tangible fixed assets. This line item is noted net of
depreciation. Some companies will class out their PP&E by the different types of
assets, such as Land, Building, and various types of Equipment. All PP&E is
depreciable except for Land.
 Long-term investments -are securities that will not or cannot be liquidated in the
next year.
 Intangible assets -This line item includes all of the company’s intangible fixed
assets, which may or may not be identifiable. Identifiable intangible assets include
patents, licenses, and secret formulas. Unidentifiable intangible assets include brand
and goodwill.
 Other – non - current assets
Liabilities – defined as present obligation of an entity arising from past transactions or
events, the settlement of which is expected to result in an outflow from the entity of
resources embodying economic benefits.

Classifications of liabilities;

 Current Liabilities - Paragraph 66 of revised PAS 1 provides that an entity shall

classify liabilities as current when:
a. The entity expects to settle the liability within the entity’s normal operating cycle.
b. The entity holds the liability primarily for the purpose of trading.
c. The liability is due to be settled within twelve months after the reporting period.

Under PAS 1, Current Liabilities are listed in the statement of financial position
(balance sheet) as follows:

 Accounts payables - is the amount a company owes suppliers for items or services
purchased on credit. As the company pays off their AP, it decreases along with an
equal amount decrease to the cash account.
 Trade and other payables – include notes payable, accrued interest on notes payable,
dividends payable, and accrued expenses - Includes non-AP obligations that are due
within one year’s time or within one operating cycle for the company (whichever is
longest). Notes payable may also have a long-term version, which includes notes
with a maturity of more than one year.
 Current provisions - amounts set aside to cover a probable future expense, or
reduction in the value of an asset. Is an account which recognizes a liability of an
entity. Such liabilities are normally related to unpaid expenses. Example- Provision
for Bad Debts
 Short term borrowings – these are loans payable within one year.

 Current portion of long term debts - is specifically the portion due within this year of
a piece of debt that has a maturity of more than one year. For example, if a company
takes on a bank loan to be paid off in 5-years, this account will include the portion of
that loan due in the next year.
  Current tax liability – income tax payable during the year but still outstanding.

Non -Current Liabilities –Under paragraph 66 of revised PAS 1 – is a residual definition.

An entity shall classify all other liabilities not classified as current as non- current.

 Non – current portion of long term debts - This account includes the total amount of
long-term debt (excluding the current portion, if that account is present under current
liabilities). This account is derived from the debt schedule, which outlines all of the
company’s outstanding debt, the interest expense, and the principal repayment for
every period.
 Mortgage payable – this account records long term debt of the business entity for
which the business entity has pledged certain assets as security to the creditor.
 Bonds payable - This account includes the amortized amount of any bonds the
company has issuedThe bond is a contract between the issuer and the lender
specifying the terms of repayment and the interest to be charged.

Equity – is the residual interest in the assets of the entity after deducting all its liabilities.
Equity means net assets or total assets minus liabilities. It is increased by profitable
operations of the business. The terms used in reporting the equity of an entity
depending on the form of the business operations are:

a. Owners’ equity in a proprietorship;

 Capital – this account is used to record original and additional investments of

the owner of the business entity. It is increased by the amount of profit earned
during the year or is decreased by a loss.
 Withdrawal – when the owner takes cash or other assets out of the business,
such are recorded in the drawing or withdrawal account rather than directly
reducing the owners’ equity account.

b. Partners’ equity in partnership:

  Capital – this account is used to record original and additional investments of
the owner of the business entity. It is increased by the amount of profit earned
during the year or is decreased by a loss.
 Withdrawal – when the owner takes cash or other assets out of the business,
such are recorded in the drawing or withdrawal account rather than directly
reducing the owners’ equity account.

c. Stockholders’ equity or shareholders’ equity in a corporation,

 Share Capital - This is the value of funds that shareholders have invested in the
company. When a company is first formed, shareholders will typically put in
cash. For example, an investor starts a company and seeds it with $10M. Cash
(an asset) rises by $10M, and Share Capital (an equity account) rises by $10M,
balancing out the balance sheet.
 Retained Earnings -This is the total amount of net income the company decides
to keep. Every period, a company may pay out dividends from its net income.
Any amount remaining (or exceeding) is added to (deducted from) retained
earnings.

2. Income Statement-A financial document generated monthly and/or annually that reports
the earnings of a company by stating all relevant revenues (or gross income) and
expenses in order to calculate net income. Also referred to as a profit and loss
statement.The income statement is a simple and straightforward report on a business'
cash-generating ability. It's an accounting scorecard on the financial performance of your
business that reflects quantity of sales, expenses incurred and net profit. It draws
information from various financial categories, including revenue, expenses, capital (in the
form of depreciation) and cost of goods).

Income:
Sales income – revenues earned by performing services for a customer or client; for
example, accounting services by a CPA firm, laundry services by a laundry shop;

Sales- revenues earned as a result of sale of merchandise; for example, sale of building
materials by a construction supplies firm.

Expenses;

Cost of Sales- the cost incurred to purchase or to produce the products sold to customers
during the period ; also called as the cost of goods sold;

Marketing, Advertising, and Promotion Expenses - expenses related to selling goods and/or
services. Marketing, advertising, and promotion expenses are often grouped together as
they are similar expenses, all related to selling.

General and Administrative (G&A) Expenses -containsall other indirect costs associated
with running the business. This includes salaries and wages, utilities expense (tel., water,
electricity) rent, supplies or office expenses, insurance, travel expenses, depreciation and
amortization, uncollectible account expense (bad debts), interest expense ( related to
borrowed funds), along with other operational expenses.
 References

Ballada, W and Ballada, S. (2012). Basic Accounting. Dome Dane Publishers & made
Easy Books, 17th Edition.

Inigo, C. and VeronJr, E. (1999). Accounting 1. Centro Escolar University Publisher,

RecisedEdition .

Valix, C. and Peralta, J. (2008). Financial Accounting Volume 1, GIC Enterprises &
Co., Inc. Manila, Philippines.

Balance Sheets Definitions and Examples: Accessed Sept 2, 2020

https://corporatefinanceinstitute.com/resources/knowledge/accounting/balance-
sheet/

What is Balance Sheet? Definitions and Examples. Accessed September 2, 2020.-

https://www.freshbooks.com/hub/accounting/balance-sheet

Income Statement Definition –Accessed September 2,

2020(https://www.entrepreneur.com/encyclopedia/income-statement).