Basic Financial Literacy

Essential Skills for Business Careers

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Father of Accounting

Luca Pacioli
 The purpose of Accounting

• How much profit or loss has the business made?

• How much money do I owe?

• Will I have sufficient funds to meet my commitments?

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 Financial accounting comprises two stages:
• Book-keeping, which is the recording of day-to-day business
transactions; and
• Preparation of financial statement, which is the preparation of
statements from the book-keeping records; these statements
summarize the performance of the business usually over the
period of one year
- Trading, profit and loss account (income statement)
- Statement of financial position (balance sheet)
- Cash flow statement (funds flow statement)

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 Users of accounting information
• Equity investors (shareholders, proprietors, buyers)
• Loan creditors (banker and other lenders)
• Employees
• Analysts/ advisers
• Business contacts (creditors and debtors)
• The government
• The public
• Management (board of director)

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Internal & External Users of Accounting Information
 The Accounting Cycle
Source
documents

Statement of
Original entry
financial position

Income
Double entry
Statement

Check arithmetic

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The Accounting Cycle
 Cycle 1 – Source Documents

• Sales and purchases invoices

• Debit and credit notes for returns

• Bank pay-slip and cheque counterfoils

• Receipts for cash paid out and received

• Correspondence containing other financial information

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 Cycle 2 – Original Entry
Classified and then entered in books of prime entry

• The cash books

• Sales and purchases day books

• Returns inwards and outwards day books

• The journal

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 Cycle 3 – Double entry

• General ledger – real and nominal accounts

• Sales ledger – debtors’ accounts

• Purchases ledger – creditors’ accounts

• Cash books – cash book and petty cash book

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 Cycle 4 – Check arithmetic

• Checking the arithmetical accuracy of double entry

accounts

• Producing Trial Balance

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 Cycle 5 – Profit or loss

• Calculation of profit or loss for the accounting period

• Trading, profit and loss account

• Also called income statement

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 Cycle 6 – Closing financial position

• Financial statement showing liabilities, assets and

capital at the end of the accounting period

• Statement of financial position

• Also called balance sheet

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 Five Distinct Accounting Groups

• Revenue

• Expenses

• Capital

• Assets

• Liabilities

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 Revenue

• Major revenue – sales

• Other revenue – discount received, interest received,

rent received

• Increase the company’s net profit

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 Expenses

• Major expenses – purchases for resale

• Other expenses – wages, light and heat, rent, petrol,

office expenses

• Reduces the company’s net profit

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 Capital
• Owner’s personal investment in the business

• Anything that the owner injects – Capital

• Anything that the owner withdraws - Drawings

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 Assets
• Things of value which the business owns

• Fixed assets – more than one year use and

not for resale

• E.g. premises, vehicles, furniture

• Current asserts – use for trading

purposes and constantly circulate

• E.g. cash, bank, debtors, stock

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 Liabilities
• Things of value that the business owes
• Current liabilities – expected to be repaid within one
year
• E.g. creditor from purchases, accrued electricity bill
• Long-term liabilities – expected to be repaid over
longer than one year
• E.g. bank loan, mortgage loan, debenture

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Introducing Financial Statements

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 Double Entry Transaction
1. British Approach (UK)

2. Accounting Equation Approach (American)

 Double Entry Transaction

Accounting Equation Approach

British Approach (UK) (American)
• Real account: Debit what comes
in and credit what goes out

• Personal account: Debit the

Assets = Capital + Liabilities
Debit Nature Credit Nature
receiver and credit the giver

• Nominal account: Debit all

expenses & losses and credit all
incomes
 Double Entry Transaction
1. Assets Debit Credit
ü Current Assets Debit Credit
ü Fixed Assets Debit Credit
2. Liabilities Credit Debit
ü Current Liabilities Credit Debit
ü Non-Current Liabilities Credit Debit
3. Capital (Equity) Credit Debit
4. Income Credit
5. Expense Debit
 Examples for Double entry
• Introduction of capital - $5,000
• Purchase of building in cash - $3,000
• Purchase of goods in cash - $600
• Purchase of goods on credit from Thomas - $500
(Creditor)
• Sales of goods on credit to Rosy - $100 (Debtor)
• Sales of goods in cash - $50
• Cash payment to creditor (Thomas) - $200
• Cash receipt from debtor (Rosy) - $100

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 Balancing the accounts
1. Add up both sides to find out their totals. Note: do not
write anything in the account at this stage.
2. Deduct the smaller total from the larger total to find the
balance.
3. Now enter the balance on the side with the smallest
total. This now means the totals will be equal.
4. Enter totals on a level with each other.
5. Now enter the balance on the line below the totals on the
opposite side to the balance shown above the totals.

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 Trial Balance

There is no record in the

accounting books of the value of
this unsold stock. The only way
that Swift can find this figure is
by stocktaking at the end of the
accounting period on 31
December 2005.
It’s assume that this is $300.

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 Depreciation of Fixed Assets
• Depreciation
– These assets are wearing out as they are used in the
business. An estimate of this wearing out must be
calculated and shown in the income statement and the
balance sheet as depreciation.
– The estimates of useful life and scrap value (if any) are
judgements made by business managers and their
accountants.
There are three elements to the calculation of depreciation:
• An estimate of the useful working life of the asset in the
business
• An estimate of the scrap or residual value of the asset at
the end of its useful life
• A choice of depreciation method
 Depreciation of Fixed Assets

• the loss of value of a fixed asset over time due to

wearing-out, obsolescence etc. from providing goods and
services over time

• to spread the cost of a fixed asset over its expected useful

life

• Two commonly-used methods are:

- Straight-line method of depreciation

- Reducing-balance method of depreciation

 Straight-line Method

• It divides the cost of an asset equally over its working

lifetime.

• In practical terms, it can be calculated as:

𝐂𝐨𝐬𝐭%𝐒𝐜𝐫𝐚𝐩 𝐕𝐚𝐥𝐮𝐞
• Depreciation per annum =
𝐔𝐬𝐞𝐟𝐮𝐥 𝐋𝐢𝐟𝐞
 Example 1
1 January 2009 buy motor van $ 500, useful life 4 years,
scrap value $ 100.

4567 %689:; <:=>?

Annual depreciation=
>6?@>= =A@?

500 − 100
=
4 𝑦𝑒𝑎𝑟𝑠
= $ 100 𝑝𝑒𝑟 𝑎𝑛𝑛𝑢𝑚
Year Depreciation Accumulated
Depreciation
31 Dec 2009 $ 100 $ 100
31 Dec2010 $ 100 $ 200
31 Dec 2011 $ 100 $ 300
31 Dec 2012 $ 100 $ 400
 Reducing-Balance Method

• It applies a fixed percentage to net book value.

• It can be calculated as:

• Depreciation for one year = net book value

*Depreciation %
• Net Book Value = Cost – Accumulated Depreciation
 Example

1 January 2009 buy motor van $ 500, useful life 4 years,

depreciation 20%.
Depreciation for one year = net book value *Depreciation %

NBV (Cost – Accumulated Depreciation) × Depreciation %

31 December 2009 = ($ 500 - $ 0) = 500 (NBV) × 20% = $ 100

31 December 2010 = ($ 500 - $ 100) = 400 × 20% = $ 80

31 December 2011 = ($ 500 - $ 180)= 320 × 20% = $ 64

31 December 2012 = ($ 500 - $ 244) = 256 × 20% = $ 51.2

• Balance B/D – is the balance brought down as
opening balance of a ledger pulled from the previous
accounting period.
• Balance C/D – is the balance carried down as the
closing balance of a ledger pushed to the next
accounting period
Any Questions?

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