Chapter 30

accounting fundamental
By
Ram prasad parajuli, Ph D
 Management accounting
Management accounting is the process of preparing reports
about business operations that help  managers make short-
term and long-term decisions. It helps a business pursue its
goals by identifying, measuring, analyzing, interpreting and
communicating information to managers. It is the practice of
identifying, measuring, analyzing, interpreting, and
communicating financial information to managers for the
pursuit of an organization's goals. It varies from financial
accounting because the intended purpose of managerial
accounting is to assist users internal to the company in
making well-informed business decisions.
 Financial accounting
Financial accounting is a particular type of
accounting that includes a method of documenting,
summarising, and reporting the transactions arising
from business operations for a period of time. Such
transactions are outlined in the preparation of
accounts, including the balance
sheet, income statement, and cash flow statement,
which document the financial results of
the company over a particular period of time.
 Foundations of accounting or concept of
accounting
Double entry system- Double-entry bookkeeping, in accounting,
is a system of book keeping where every entry to an account
requires a corresponding and opposite entry to a different account.
The double-entry system has two equal and corresponding sides
known as debit and credit.
Accruals- The accrual principle is an accounting  that requires
transactions to be recorded in the time period in which they occur,
regardless of when the actual cash flows for the transaction are
received. The idea behind the accrual principle is that financial
events are properly recognized by matching revenues.
 Contd…….
money measurement concept -The money
measurement concept states that a business
should only record an accounting transaction if
it can be expressed in terms
of money. ... Examples of items that cannot be
recorded as accounting transactions because
they cannot be expressed in terms
of money include: Employee skill level.
Employee working conditions
 Cont…
Conservatism principle - The conservatism principle is the
general concept of recognizing expenses and liabilities as soon as
possible when there is uncertainty about the outcome, but to only
recognize revenues and assets when they are assured of being
received. The conservatism principle can also be applied to
recognizing estimates.
 Realization principle is the concept that revenue can only be
recognized once the underlying goods or services associated with
the revenue have been delivered or rendered, respectively. Thus,
revenue can only be recognized after it has been earned. ...
Advance payment for services
 Income statement
An income statement is a financial statement that shows you the
company’s income and expenditures. It also shows whether a
company is making profit or loss for a given period. The income
statement, along with balance sheet and cash flow statement, helps
you understand the financial health of your business. The income
statement is also known as a profit and loss statement, statement of
operation, statement of financial result or income, or earnings
statement. An income statement helps business owners decide
whether they can generate profit by increasing revenues, by
decreasing costs, or both. It also shows the effectiveness of the
strategies that the business set at the beginning of a financial period.
 Format of income statement
particulars amounts
Sales revenue xxx
Less- cost of sales (xxx)
Gross profit xxx
Less- overheads/ expenses (xxx)
Operating profit XXX
Less - interest (xxx)
Profit before tax xxx
Less- tax ( which is charge in (xxx)
profit before tax amount)
Profit for the year xxx
Less Dividends (XXX)
Retained profit xxx
 Find out the value of U,V,X,Y,Z
particulars amounts
Revenue (4000 units x $3) 12000
Cost of goods sold ($ 1 per unit) 4000
Gross profit U
Overheads/ expenses 3000
Operating profit V
Interest 1000
Profit before tax x
Corporate tax (20 % on profit before 800
tax)
Profit for the year Y
Dividend paid 1200
Retained profit Z
 STATEMENT OF FINANCIAL POSITION

Balance Sheet or Statement of Financial Position is one of

the  Financial Statements that report three main important
financial information of the entity at the end of the
balance sheet date. These three important information are
covering Assets, Liabilities, and Equity. Assets are
classified into two types of assets: Current and Non-
Current Assets based on nature. Same as assets, liabilities
also separated into two classifications: Current Liabilities
and Non-Current Liabilities. The equity section contains
the information that records about resources that owners
invested and to be invested into the entity with the
recording of gain or loss accumulation.
 Analysis of published accounts
Meaningful relationship between two
mathematical set or set of figure known as
ratio. Ratio analysis is a quantitative method of
gaining insight into a company's liquidity,
operational efficiency, and profitability by
studying its financial statements such as
the balance sheet and income statement. Ratio
analysis is a cornerstone of fundamental
equity analysis.
 Types of ratio
Liquidity Ratio- Liquidity ratios are an important class
of financial metrics used to determine a debtor's ability to
pay off current debt obligations without raising external
capital. Liquidity ratios measure a company's ability to
pay short term debt obligations and its margin of safety
through the calculation of metrics including the current
ratio, acid test ratio, With liquidity ratios, current
liabilities are most often analyzed in relation to liquid
assets to evaluate the ability to cover short-term debts
and obligations in case of an emergency.
 Formula for liquidity ratios
• Current ratio= Current assets/ current
liability
Standard form of current ratio is 1.5 to 2 : 1
Acid test ratio = current assets – inventory/
CL
1:1 is the appropriate standard of acid test
ratio. Acid test ratio also known as liquid
ratio.
 Profitability ratio
Profitability ratios assess a company's ability to
earn profits from its sales or operations, balance
sheet assets, or shareholders' equity. Profitability
ratios indicate how efficiently a company
generates profit and value for shareholders.
1. Net profit margin= Net profit/ sales x100
2. Gross profit margin= gross profit/sales x 100
Home work- activity No 30.5 and 30.6 from page
456 and 457
 Who Uses an Income Statement?

There are two different groups of people who use this

financial statement: internal users and external users.
Internal users like company management and the board of
directors use this statement to analyze the business as a
whole and make decisions on how it is run. For example,
they use performance numbers to measure whether they
should open new branch, close a department, or increase
production of a product. External users like investors and
creditors, on the other hand, are people outside of the
company who have no source of financial information
about the company 
 User of financial statements
• Management of the Company
• Investors
• Customers
• Competitors
• Government and Government Agencies
• Employees
• Investment Analysts
• Lenders
• Rating Agency
• Suppliers
 Question
• Revenue= 320
• Gross profit= 200
• Operating profit= 50
• Net profit= 20
• Current assets= 35.5( including inventory 10)
• Current liability = 30
• Calculate, net profit margin 6.25 , operating margin
15.62%, gross profit margin 62.5, current ratio
1.18:1 and acid test ratio 0.85:1
• Acid test ratio = 0.47:1 – 1:1
• Current ratio= 0.56:1 1.5- 2:1