Chapter 1
Proprietor has unlimited personal liability for
Business- a legally-recognized organizational entity existing
within an economically free country designed to sell goods
and/or provide services to consumers
Profit-oriented enterprise- aims to earn income or profit
through the provision of goods and/or services to consumers
Non-profit-oriented enterprise- aims to achieve socio-civic or
charitable aims
Forms of Business Enterprises (according to nature of
operations)
1. Service business or service concern- simplest form
of business and provides services to clients or
customers in exchange for fees, rent, interest or
royalties
2. Merchandising business or trading concern-
purchase goods from suppliers and, without altering
the state of the goods bought, sell the same at a
higher price than cost
3. Manufacturing business or manufacturing concern-
involves the most complex activities and actually
produces the goods that it sells to customers
LEGAL FORMS of Business/ Business Ownership
• Sole Proprietorship- most basic legal form of
business and has only one owner
Advantages:
1. Easier to form compared to partnerships and
corporations
2. Generally has uncomplicated transactions and
minimal regulatory requirements
3. Decisions can be arrives at in less time and
implemented faster
4. Proprietor enjoys all the profits earned by the
business
Disadvantages:
1. Proprietor faces financing problems because of
the enterprise’s limited ability to raise capital
once volume of business increases
2. Proprietor does not receive the benefit of
second opinion on decisions made
3. Proprietor bears the risks and losses which may
be incurred in the business
4.
the debts incurred by the business
• Partnership- an association of two or more persons
who bind themselves to contribute money, property,
or industry to a common fund with the intention of
dividing the profits among themselves
- Partnerships are governed by the Civil
Code of the Philippines
Advantages:
1. It is easier to organize compared to a
corporation
2. Burden of management is shared among
partners
3. More ideas are exchanged and brainstormed
which results in better decision-making
4. Can raise more capital than sole proprietorship
Disadvantages:
1. Depends on the capability of each partner to
invest resources into the business
2. Plurality of owners may result to disagreements
regarding ideas and management style,
hampering business operations
3. Life of partnership may be fragile –it may be
dissolved by agreement, by withdrawal of one
or more partners, or by the death of or
incapacity of partner
4. Partners have unlimited personal liability for
partnership debts
• Corporation- the most complex form of business
organizations
- Shareholder- a person who invests in a
corporation
- Certificate of stock- evidence of the number of
shares purchased
- Governed by the Corporation Code of the
Philippines
- Management of operations of the corporation is
centralized in the corporation’s board of
directors
Advantages:
1. Has the greatest capacity to raise capital
2. Can raise capital by selling shares of stock to the
public as a whole
3. Shareholders may transfer their shares without
the need to obtain the consent of other
shareholders
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 4. Corporations may exist for period no longer
than 50 years, subject to renewal
5. Limited liability of owners (shareholders are
liable to third parties for the losses of the
corporation only to the limit of their fully-paid
investments)
6. If corporation goes bankrupt, lenders cannot
take personal assets of the stockholders
Disadvantages:
1. The cost of forming and managing a corporation
is relatively high compared to sole
proprietorships and partnerships
2. Subject to greater scrutiny, regulation, control
and supervision by the government
3. Management is more complex
4. Has limited powers, as expressly stated in the
Corporation Code of the Philippines and its own
Articles of Incorporation
5. Subject to higher income tax rate
• Cooperatives- defined by International Cooperative
Alliance’s Statement on Cooperative Identity as
“autonomous associations of persons united
voluntarily to meet their common economic, social,
and cultural needs and aspirations through jointly
owned and democratically controlled enterprises”
Economic Decisions
Economic decisions- decisions which affect the resources it
controls and the obligations of the business to other
enterprises
Financial Information- a summary of all the transactions of
the business over a period of time. Most important financial
information comes from accounting
Accounting- 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
- Is 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
decisions
- Service function to management. It basically
processes raw data and converts them to
meaningful information that will be useful for
decision-making
- Is the process of identifying, measuring and
communicating economic information to permit
informed judgement and decision by users of
the information
Basic purpose of accounting: to supply financial information
to users of the information to help them make informed
judgements and better decisions
Accounting is language of the business: used to communicate
financial information to interested parties. Through this,
different users of information understand what is happening
in the business enterprise
Bookkeeping- procedural or mechanical aspect of accounting
and involves set-up, update and maintenance of accounting
records. It can be done by properly trained non-accountants
Accounting- interpretation of information recorded under
bookkeeping. Practice of accountancy can be done only by
certified public accountants
The Accountancy Profession
Accounting is a profession because it has the attributes
required of a profession.
1. Mastery of particular intellectual skill, acquired by
training and education. Accounting requires
students to finish degree in Bachelor of Science in
Accountancy and pass government examination
administered by Professional Regulatory Board of
Accountancy
2. Adherence by its members to a common code of
values and conduct established by its
administrating body, including maintaining an
outlook which is essentially objective. The Code of
Ethics is mandatory for all CPAs
3. Acceptance of duty to society as a whole (usually in
return for restrictions in use of a title or in the
granting of qualification). Majority rely on CPAs for
sound financial accounting and reporting, effective
financial management and competent advice on a
variety of business and taxation matters
The Accountancy Act of 2004
Republic Act No. 9298, the Philippine Accountancy Act of
2004
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Objectives:
• Standardization and regulation of accounting
education
• Examination for registration of certified public
accountants
• Supervision, control, and regulation of the practice
of accountancy in the Philippines
Article II creates Professional Regulatory Board of
Accountancy which enforces the provisions of the Philippine
Accountancy Act. It is also granted the right to issue, suspend,
revoke or reinstate CPA certificates for the practice of the
profession
• The Board is composed if a chairman and 6
members, all of whom are appointed by the
President of the Republic of the Philippines
The CPA Board Exams
Any person applying for examination shall establish the
following requisites to the satisfaction of the Board that
he/she:
• Is a Filipino citizen
• Is of good moral character
• Is a holder of degree of Bachelor of Science in
Accountancy conferred by a school, college,
academy or institute duly recognized and/or
accredited by the CHED or other authorized
government offices
• Has not been convicted of any criminal offense
involving moral turpitude
Licensure examination for CPAs shall cover , but are not
limited to, the following subjects:
• Management Services
• Business Law and Taxation
• Theory of Accounts
• Auditing Theory
• Auditing Problems
• Practical Accounting Problems 1
• Practical Accounting Problems 2
• Economics
To be qualified as having passed the licensure exam,
candidate must obtain a general average of 75% with no
grades lower than 65% in any given subject. If candidate
obtains required rating or above in at least a majority of
subjects provided for in this Act, they will receive a
conditional credit for the subjects passed Such candidate will
take an examination in the remaining subjects within 2 years
from preceding examination and fails to obtain 75% and a
rating of at least 65% for the subjects re-examined, they will
be considered as having failed the entire examination
Candidates who fail 2 complete examinations shall be
disqualified from taking another exam unless they submit
evidence to the satisfaction of the Board that they enrolled
an completed at least 24 units of subject given in the
licensure examination
Sectors of Accounting Practice
1. Public practice- This sector includes individual
practitioners, small accounting firms, medium sized
and multinational accounting firms that render
independent professional accounting services to the
public. CPAs charge professional fees for these
services. Example of service are:
• Auditing- most common service provided by
CPAs and involves independent examination of
financial statements for the purpose of
expressing an opinion on the fairness of these
statements
• Tax services- includes the preparation of tax
returns for various clients, provision advice on
tax matters and representation of clients in tax
cases
• Management and consulting services- involves
providing advisory/consulting services on
matters of accounting, finance, business
policies, organization procedures, budgeting,
product costing and the conduct of operations
2. Commerce and Industry
Accountants are employed in various positions such
as: vice-president for finance, chief accountant, cost
accountant, internal auditor or budget officer. The
highest accounting officer of a business organization
is known as the controller. Accountants in commerce
and industry assist management in planning and
controlling a company’s operations
3. Education
This area employs accountants as professors,
reviewers or researchers. They take steps to clarify
and address emerging accounting issues
encountered by accountants in other sectors. They
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 share results of discussion and research with
colleagues in other sectors. Educators also prepare
aspiring CPAs for the Licensure Examinations
4. Government
Accountants may be hired as staff, auditor, budget
officer or consultant in government units like the
Commission on Audit, Bureau of Internal Revenue,
Department of Finance, Department of Budget and
Management, and the Securities and Exchange
Commission
Accounting –Then and Now
• Comes from Middle East Region, where as early as
8500 BC, tradesmen use clay objects to represent
commodities
• Ancient civilizations of Babylon, Greece and Egypt
also used clay tablets and later papyri to record
document wage payments, material requisitions and
costs of labor
• In 13th to 15th centuries, more systematic record-
keeping methods were developed with the growth
of trade and commerce
• Florentine, Venetian and Genoan merchants used
these methods to keep track of their business
• Double-entry records first appeared in Genoa in
1340 AD
Luca Pacioli and the Summa
• 1494, Friar Luca Pacioli wrote a book containing
discussions on the double-entry bookkeeping
system entitled Summa de Arithmetica, Geometria,
Proportioni et Proportionalita (Everything about
Arithmetic, Geometry, Proportions and
Proportionality), summary of the existing
mathematical knowledge at the time
• Considered as Father of Double-Entry Bookkeeping
The Industrial Revolution
• Cost accounting- specialized field of accounting
which deal with the allocation of costs to products
was developed during this period
Fields of Accounting
1. Financial accounting-focuses on preparation of
general-purpose financial statements with the aim of
meeting most of the needs of the external users
2. Management accounting- concerned with financial
reporting for internal users (management) and users
have control over the accounting system and can
specify precisely the type of reports needed for use
in decision-making
3. Cost accounting- measures a business’ costs to help
management in controlling expenses
4. Tax accounting- has two aims: compliance with tax
laws and minimizing the company’s tax bill through
legal means
5. Government accounting- encompasses the process
of analyzing, classifying, summarizing and
communicating all transactions involving receipt and
disposition of government funds and property and
interpreting the results thereof. Focus is the proper
custody, disposition and accounting for public funds
Chapter 2
Generally Accepted Accounting Principles
GAAP- comprises the accounting principles and processes,
standards and underlying assumptions that are used in
preparing financial statements
Financial Reporting Standards Council (FRSC)- official
accounting standard setting body in the Philippines. The
primary task of FRSC is to improve and establish accounting
standards that will be generally accepted in the Philippines
Philippine Financial Reporting Standards (PFRS)- The FRSC
issued this and this constitutes the generally accepted
accounting standards observed in the Philippines
-PFRS includes:
• Philippine Accounting Standards
• PFRS
• Philippine Interpretations developed by Philippine
Interpretations Committee
Basic Accounting Concepts
1. Business entity principle: business is considered
distinct and separate from the owner(s) of the
business
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 • Accounting entity- an organization accounted
for as a separate economic unit
2. Dual-effect of business transactions: whenever a
business transaction takes place, it is assumed that
the value receive is equal to the value given up (for
every value received, there is an equal value given
up) Debit-Credit
3. Matching principle: profit or loss is computed by
deducting the expenses incurred from the income
earned during an accounting period. Income
recorded and reported in one accounting period
should be matched against the expenses that
directly or indirectly contributed to the generation of
the income
4. Accrual basis: income is recognized when it is
earned, regardless of when cash is received.
Expenses are recognized when incurred, regardless
of when cash is paid
• If services have already been rendered to a
customer, income is recognized even if cash has
not been received from the customer
• If cash is received from customer before a
service is rendered or goods are delivered,
income is not yet earned because there is no
service or delivery of goods yet. The cash
received would be earned only upon rendering
of service or delivery of the goods
• If services have already been received by the
business from its suppliers, expenses are
recognized even if these services have not yet
been paid for by the businessz
• If cash has already been paid by the business to
its suppliers, an expense is not recorded until it
is incurred
5. Cash basis of Accounting: income is recognized
when cash is received, and expenses are recognized
when cash is paid (extra concept sometimes used by
other businesses)
6. Stable monetary unit: it is concerned with
information which can be quantified and expressed
in terms of money. For business transactions to be
included in the accounting records and financial
statements of the enterprise, it must be expressed in
terms of a uniform means of measurement
7. Periodicity (Time Period Concept): operating life of
an enterprise may be conveniently divided into time
periods of equal length called accounting periods.
Normal accounting period is equal to 12 months or 1
year
8. Going Concern (Continuity Assumption): enterprise
is a going concern and will continue operation for
the foreseeable future. It is assumed that the
enterprise has neither the intention nor the need to
liquidate or curtail materially the scale of its
operations
Accounting Framework
• The Framework for the Preparation and Presentation
of Financial Statements sets out the concepts that
underlie the preparation and presentation of
financial statements for external users
• The Framework is not part of the PFRS and in case of
conflict, the requirements of the PFRS shall prevail
over those of the Framework
Purposes of the Framework
a) Assist the FRSC in developing accounting standards
that represent the GAAP in the Philippines
b) Assist the FRSC in its review and adoption of existing
International Financial Reporting Standards
c) Assist prepares of financial statements in applying
FRSC Philippine Financial Reporting Standards and in
dealing with topics that have yet to from the subject
of an FRSC statement
d) Assist the auditors in forming an opinion as to
whether financial statements conform with the
Philippine GAAP
e) Assist users of financial statements in interpreting
the information contained in financial statements
prepared in conformity with Philippine GAAP
f) Provide those who are interested in the work of the
FRSC with information about its approach to the
formulation of Philippine Financial Reporting
Standards
Scope of the Framework
a. Objective of financial statements
b. Underlying assumptions in the preparation of
financial statements
c. Qualitative characteristics that determine the
usefulness of information in financial statements
d. Definition, recognition and measurement of the
elements of the financial statements
e. Concepts of capital and capital maintenance
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Financial Statements
Financial statement- the means by which the information
accumulated in and processed by financial accounting is
communicated to users on a periodic basis and is the end-
product of the financial accounting process
Parts:
1. Statement of financial position or balance sheet
2. Statement of comprehensive income (income
statement)
3. Statement of changes in equity
4. Statement of cash flows
5. Notes to the financial statements
Users of Financial Statements
1. Investors- providers of risk capital and are
concerned with the risk inherent in and return
provided by their investments. They need
information to help them determine whether to buy,
sell or hold their investments. Info enables them to
assess enterprise’s ability to pay dividends
2. Employees- interested in information about the
stability and profitability of their employers. Info
enables them to assess the enterprise’s ability to
provide remuneration, retirement benefits and
employment opportunities
3. Lenders- determine whether their loans and the
interest attaching to them will be paid when due
4. Suppliers and other trade creditors- determine
whether the amounts owing to them will be paid
when due
5. Customers- information about the continuance of an
enterprise
6. Government and their agencies- interested in the
allocation of resources and, therefore, the activities
of the enterprise. They also require information to
regulate the activities of enterprise, determine
taxation policies and as the basis for national income
and similar statistics
7. The public- enterprises affect the members of the
public in a variety of ways
• Financial statements are primarily used for the use
of investors and creditors
Information Provided by Financial Statements
• Information about the financial position, financial
performance and cash flows of an entity
1. Financial Position
- Condition of a business, in monetary terms, as
of a given date or point in time and is primarily
provided in a statement of financial position or
balance sheet. Financial position is affected by
the economic resources controlled, financial
structure,, liquidity, solvency, and capacity to
adapt to changes in the environment in which
an enterprise operates
Liquidity- availability of cash in the near future to cover
currently maturing liabilities or obligations
Solvency- availability of cash over the long term to meet
obligations when they fall due
Capacity for adaptation- ability of the enterprise to use its
available cash for unexpected requirements and investment
opportunities or simply called as emergency money
2. Performance or profitability
- Refers to whether a company is able to generate
profit or incur a loss during a particular
accounting period and is used for statement of
comprehensive income. 2 parts: profit/loss
portion and other comprehensive income
portion
Income statement- useful tool for evaluating management’s
stewardship of the resources of the enterprise and for
assessing the inflow and outflow of cash
3. Changes in financial position
- Information concerning changes about a
company’s financial position is useful in order to
assess its investing, financing and operating
activities during the reporting period. This
information provides users with a basis to assess
the enterprise’s ability to generate cash and
cash equivalents and the needs of the enterprise
to utilize those cash flows
Statement of changes in equity- shows balance of the
owner’s investment in the business at the beginning of the
accounting period, additional investments made by the
owner, withdrawals by the owner for personal use, the profit
or loss for the period, and the balance of the owner’s
investment at the end of the accounting period
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Statement of cash flows- summarizes cash activity for the
period, classified according to the nature of activity
4. Other supplementary information
- Additional information that is relevant to the
need of financial statement users. May include:
• disclosures about the risk and uncertainties
concerning the enterprise and any resources
and obligations not recognized in the statement
of financial position
• information about geographical and industry
segments
• effects on the enterprise of changing prices
General-Purpose Financial Statements
- financial statements that meet most of the
needs of other users
• Special-purpose financial statements- covered by
management accounting and auditing courses
Frequency of Preparation of Financial Statements
- Usually prepared annually
• Interim financial statements- shorter period financial
statements (monthly, quarterly or semi-annually)
Responsibility for Financial Statements
Management is responsible for:
• Preparation and presentation of the financial
statements of the enterprises
• Selecting and applying the accounting policies and
principles which are appropriate for the company
Underlying Assumptions in the Preparation of Financial
Statements
Underlying assumptions-concepts which are assumed to have
been applied in preparing financial statements
• Accrual basis
• Going concern
Elements of Financial Statements
A. Elements pertaining to financial position
1. Assets- resource owned and/or controlled by
the enterprise and expected to provide future
economic benefits to the enterprise. It is
acquired by an enterprise as a result of a past
transaction or event. The enterprise should have
the capacity to restrict or prevent other entities
from enjoying the economic benefits arising
from the use of the resource or item
• Cash- items considered as medium of
exchange in business transactions
• Accounts receivable- valid claims from
customers or clients arising from the
provision of services or delivery of goods in
the ordinary course of business where the
price for these services or goods have not
yet been paid
• Supplies on hand- supplies purchased by an
enterprise which are unused as of the
reporting date
• Merchandise inventory- goods which have
been bought from suppliers for resale to
customers at a higher price than cost
• Property , plant and equipment- long-lived
assets which have been acquired for use in
operation
2. Liabilities- present obligation of the enterprise
arising from past events, which are to be settled
in the future. It is required to be settled in the
future
• Accounts payable- amounts due to
suppliers for goods purchased or services
received on account
• Salaries payable- due to employees which
are unpaid as of the reporting date
• Utilities payable- due to utility companies
for electricity, heat, light and water charges
• Advances from customers- amounts
received from customers in advance for
delivery of goods or provision of services
• Loans payable- obligations of an enterprise
to lenders
3. Equity- claim; residual interest in the assets of
the enterprise after deducting all its liabilities
and arise from the original investment by an
owner into the business and increased by
additional investments by the owners and by
profit earned during a period
B. Elements pertaining to performance or profitability
1. Income- increase in economic benefits during
the accounting period in the form of inflows or
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 enhancements of assets or decreases of
liabilities that result in the increase of equity
other than those a relating to contributions
from equity participants
• Revenue- course of the ordinary activities
of an enterprise (sales, fees, dividends,
royalties and rent)
• Gain- other items that meet the definition
of income and may or may not arise in the
course of the ordinary activities of an
enterprise
2. Expenses- decrease in economic benefits during
the accounting period in the form of outflows or
depletions of assets or incidences of liabilities
that result in decreases in equity other than
those relating to distributions to equit
participants
• Losses- other items that meet the definition
of expenses and may or may not arise in the
course of the ordinary activities of the
enterprise
Recognition of the Elements of the Financial Statements
Recognition- process of incorporating in the statement of
financial position or statement of comprehensive income an
item that meets the definition of an element and satisfies the
criteria for recognition
Criteria:
1. It is probable that any future economic benefit
associated with the item will flow to or from the
enterprise
2. The item has cost or value that can be measured
with reliability
Examples:
• Asset is recognized when it is probable that the
future economic benefits will and asset has a cost or
value that can be measured reliably
• Liability recognized when it is probable that an
outflow of resources embodying economic benefits
will result from settlement of a present obligation
and it can be measured reliably
• Income is recognized when increase in future
economic benefits related to an increase in an asset
or a decrease of a liability has arisen that can be
measures reliably
• Expenses is recognized when a decrease in future
economic benefits related to a decrease in asset or
an increase of a liability has arisen that can be
measure reliably
Measurement of the Elements of the Financial Statements
- Process of determining the monetary amounts
at which the elements of the financial
statements are to be recognized and carried in
the financial statements
Measurement Bases
• Historical cost: assets are recorded at the amount of
cash or cash equivalents paid or the fair value of the
consideration given to acquire them at the time of
their acquisition
• Current cost: assets are carried at the amount of
cash or cash equivalent they would have to be paid if
the same or an equivalent asset was acquired
currently
• Realizable (settlement) value: assets are carried at
the amount of cash or cash equivalent that could
currently be obtained by selling the asset in an
orderly disposal
• Present value: assets are carried at the present
discounted value of the future net cash inflows that
the item is expected to generate in the normal
course of business
Qualitative Characteristics of Financial Statements
(Accounting concepts)
Qualitative characteristics- attributes that make the
information provided in financial statements useful to users
4 principal qualitative characteristics
1. Relevance- when it influences the economic
decisions of users by helping them evaluate past,
present or future events or confirming or correcting
past evaluations
a) Predictive role- if it is used to make predictions
of future cash inflows or income in future
periods
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 b) Confirmatory role- if it is used o confirm or
correct the earlier expectations of a financial
statement user
c) Materiality- if its omission or misstatement
could influence the economic decisions of users
taken on the basis of financial statements
2. Reliability- info should be free from material error
and bias and can be depended upon by users to
respect faithfully that which it either purports to
represent or could reasonably be expected to
represent
a) Faithful representation- information must
represent faithfully the transactions and other
events it either purports to represent or could
reasonably be expected to represent. The actual
effects of transactions should be properly
accounted for and reflected in the financial
statements
b) Substance over form- transactions and other
accountable events are accounted for and
presented in accordance with their substance
and economic reality and not merely their legal
form
c) Neutrality- financial statements must be free
from bias
d) Prudence (Conservatism)- inclusion of a degree
of caution in the exercise of judgement needed
in making the estimates required under
conditions of uncertainty, such that asset or
income are not overstated and liabilities and
expenses are not understated
e) Completeness- info must be complete within
the bounds of materiality and cost
3. Understandability- words and other accounting
terminology being used are those expected to be
known and understood by users of the financial
statements
4. Comparability
a) Intra-comparability- users must be able to
compare the financial statements of an
enterprise across accounting periods
b) Inter-comparability- users must be able to
compare financial statements of different
enterprises in order to evaluate their relative
financial position
Constraints on Relevant and Reliable Information
1. Timeliness- if there is undue delay in the reporting of
information it may lose its relevance
2. Cost-benefit- cost of providing financial information
should not exceed the benefits of having these
information available for decision-makers
3. Balance between Qualitative characteristics-
relevance and reliability are not present
simultaneously as desired
Chapter 3
Business transaction- exchange of values involving two
parties or within the enterprise
External transactions- sale of goods to customers or the
provision of services to clients
Internal transactions- manufacture of goods for sale and
incurrence of losses by the company resulting from fire and
flood
Source Documents
- Original record of a business transaction (date
and nature of transaction amount and parties
involves)
Examples:
1. Sales invoice- issued to evidence a sale for cash
2. Delivery receipt- evidence the acceptance/receipt of
the goods delivered to the customer
3. Official receipt- issued to evidence the receipt of
cash from customers
4. Vendor’s invoice- issued to the enterprise by the
enterprise’s suppliers
5. Purchase requisition forms- evidences an
employee’s request for the purchase of needed
goods or suppliers
6. IOUs- note acknowledging indebtedness to the
enterprise
7. Promissory notes- unconditional promise in writing
made by one person to another
8. Bank statements- summary of all financial
transactions occurring over a certain period on a
bank account
9. Minutes of meetings- record of a meeting
10. Business letters- business correspondences
11. Job time tickets- time spent working at a particular
customer order
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 12. Certificates of stock-ownership of shares in a • Held for trading securities- temporary
corporation investments of excess cash which are primarily
13. Time records/timesheets- time-in and time-out of held for short-term gain
employees • Loans and receivables- trade receivables and
14. Check voucher- authorization of cash disbursement non-trade receivables and are claim against
transactions others which arise in the ordinary course of
15. Journal voucher- documents used for transactions doing business
and journal entries for which there is no other • Trade notes receivable- written promise from
source document the customer to pay a fixed amount of money
on a certain future date
Basic Accounting Equation
• Non-trade receivables- all other claims which
Assets= Liabilities + Equity are not trade
• Inventories- assets which are held for sale/ in
Net Assets-focuses on equity or the claim of owners to the the process of production/ in the form of
assets of the business materials and supplies
• Prepaid expenses-expenses paid for by the
Equity= Assets – Liabilities
business in advance. (e.g. prepaid insurance and
Possible effects of business transactions: prepaid rent)
• Long-term investments- asset held by an
a) Increase in assets= increase in liabilities enterprise for the accretion of wealth through
b) Increase in assets = increase in equity capital distribution for capital appreciation or
c) Increase in one asset= decrease in another asset for other benefits to the investing enterprise
d) Decrease in assets= decrease in liabilities • Property, plant and equipment- tangible assets
e) Decrease in assets= decrease in equity used in the production or supply of goods or
f) Increase in liabilities= decrease in equity services
g) Increase in equity = decrease in liabilities • Intangible assets- identifiable, non-monetary
h) Increase in one liability= decrease in another liability assets without physical substance
i) Increase in one equity= decrease in one equity 2. Liability Accounts
• Accounts payable- opposite of accounts
Expanded Accounting Equation
receivable
Assets= Liabilities + Equity + Income – Expenses • Notes payable- enterprise is the one who
promises to pay
Parts of: • Accrued liabilities- amounts owed to others for
unpaid expenses
• Financial Position: assets, liabilities and equity • Unearned revenues- enterprise receives
• Comprehensive Income: Income and expenses payments before providing its customers with
• Changes in Equity: capital, additional investments goods or services
and withdrawals • Mortgage payable- used for recording long-
• Cash flows: any activity that results in inflow or term debts of an enterprise
outflow of money or resources • Bonds payable- large sums of money are often
required by a business for working capital and
Common Examples of Account Titles Used
expansion purposes and is often obtained by
1. Asset Accounts floating bonds
• Cash- medium of exchange for business 3. Equity Accounts
transactions • Equity- used to record the original and
additional investments of the owner of the
business entity

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 • Withdrawals- when proprietor withdraws cash
or other assets for non-business use
• Income summary- temporary account used to
summarize all income and expenses for a given
period
4. Income Accounts
• Service income or fees income- revenues
earned by performing services for customers
• Sales- revenues earned as a result of sale of
merchandise
5. Expense Accounts
• Cost of sales- cost incurred to purchase or to
produce the products sold to customers during
the period
• Salaries and wage expense- payments as a
result of an employer-employee relationship
• Utilities expense- expenses related to use of
communication facilities, the consumption of
water and electricity
• Rent expense- expense for leased office space,
equipment or other assets rented from others
• Supplies expense- account used for recording
the usage of supplies in the normal course of
business
• Insurance expense- portion of premiums paid
on insurance coverage which has expired
• Depreciation expense- the portion of the cost of
a tangible asset allocated or charged as expense
during as accounting period
• Bad debts expense- amount of receivables
estimated to be uncollectible and charged as
expense during an accounting period
• Interest expense- expense related to borrowed
funds
Double-Entry Accounting System
1. For every debit entry, there must be a corresponding
credit entry and accounting equation must always be
maintained
2. Each transaction affects at least two accounts
3. Total debit for a transaction must equal total credits
4. An account is debited when an amount is entered on
the left side of the account and credited when
amount is entered on the right side
5. The account type determines how increases or
decreases in it are recorded
Account Balances
- Difference between the total debits and the
total credits of each account
Debit balance- if total debits are greater than the total credits
Credit balance- if the total credits are greater than the total
debits
Normal balance- usual balance of an account assuming
proper accounting has been made
Chapter 4
Steps in Accounting Cycle:
1. Analyzing business transactions through source
documents
2. Journalizing, or the recording of transactions in a
journal
3. Posting or transferring of the entries from the
journal to the ledger
4. Preparing the trial balance
5. Preparing the 10-column worksheet and making the
necessary adjusting journal entries
6. Preparing the financial statements based on
adjusted account balances
7. Recording adjusting entries to the journal and
posting the same to the ledger
8. Recording and posting of closing entries
9. Ruling and balancing real and nominal accounts
10. Preparing post-closing trial balance
11. Preparing reversing entries
Journal- book where transactions are initially recorded in a
systematic and chronological order; also called the book of
original entry
Simple journal entry- one account debited and one account
credited
Compound journal entry- more than one account is involved
in a single entry
Memorandum entry- an entry which has no debit or credit,
which shows only the date and a brief explanation or
reminder
Chart of accounts- list of all accounts of the business and
their respective account numbers. Use of this would reduce
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confusion as to the choice of account titles and permits
uniformity in recording routine transactions

Ledger- group of accounts and known as the book of final

entry

Trial balance- list of all accounts and their balances and

indicated whether total debit equals total credit. It does not
guarantee that all transactions have been recorded. It is
commonly taken every month-end

Footing- adding all the debits and credits

Open account- when in trial balance, there is a balance either

on the debit or credit side

Closed account- if the debit equals credit

Reasons Why Trial Balance may not be Balance:

1. Error in footing the debit and credit columns

2. Error in transferring from the ledger to the trial
balance
3. Error in posting (e.g. posting debit to credit side of
account)
4. Error in journalizing
5. Error of omission

Working-Back Method

1. Check if amount is doubled on debit or credit side

2. Transplacement error- e.g. 1M -> 100,000
3. Transposition error- when position of numbers are
mixed (e.g. 535,700 -> 553,700)

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