FUNDAMENTALS OF

ACCOUNTING

Introduction to
Accounting

Narmada Balasuriya
B.Sc. Accounting (Special) – USJ, CIMA (UK)
Department of Accounting and Finance
Faculty of Business
Your first thoughts on
Accountants and
Accounting?

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 Some interesting facts related to Accounting and Accountants

• The first recorded name 5000 years ago

• Bubble-gum inventor
• ‘Bookkeeping’ in accounting is the only English word to contain three sets of double
letters back-to-back!
• The father of accounting, Luca Pacioli taught Leonardo da Vinci

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Some interesting facts related to Accounting and Accountants

• Before a standard numbering system was created, ancient accountants kept track of
animals and grain with clay tokens
• Income tax was originally introduced as a temporary measure to finance the war against
France
• The words ‘debits’ and ‘credits’ in accounting come from the Latin words ‘debitum’ and
‘creditum’

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What is Accounting?
Introduction
“a language that provides information about the financial position of an
organization”

"the process of identifying, measuring and communicating economic information

to permit informed judgments and decisions by users of the information!

- American Accounting Association -

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Accounting Process

ACCOUNTING ACCOUNTING
INPUTS
PROCESS OUTPUTS

Identifying
Transactions
Financial
&
Recording Statements
Events
Classifying

Summarizing

Reporting

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Accounting Process

Source document Identifying

Day Books / Journals Recording

Ledger (Accounts) Classifying

Trial Balance
Summarising &
Reporting
Preparing Financial Statements

Analysis and Interpretation of Financial Statements

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Why do we need accounting?

Maintain records of transactions and events, report on them (prepare financial

statements) and communicate with relevant parties.

Financial statements provide useful information about the financial performance and
financial position etc. of a business to the interested parties.

The information will be used by the users/interested parties to make decisions and
judgements about providing resources to the business.

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Why do we need to accounting information?

Why would the following parties need/use information from financial statements or
through accounting?

Shareholders or owners
Banks and financial institutions
Employees
Management
Customer
Government
Suppliers

External auditors To give an opinion on the financial statements – reflect the true and fair view
of the business’s financial performance and position
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User needs in financial reporting process

Management Users

Prepare the Use the reports to make

decisions Use the reports for
Reports
investment/lending /
making decisions

Financial
Statements

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Players in Accounting Communication Process

Managers - Preparation

Independent Auditors - Verification

Information Intermediaries – Analysis and Advices

Government Regulators –Regulation

Users – Analysis and Decision

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Main Branches of Accounting
Accounting
FINANCIAL ACCOUNTING
• Focuses on recording and
reporting about business
transactions and events
• Provides information to a
wide range of outsiders.
MANAGEMENT ACCOUNTING
• Provides information on. for
internal decision making
processes of the
management.
• Involves analysis,
interpretation, budgeting,
forecasting, costing etc.
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Other Branches of Accounting

Cost
Accounting

Tax Auditing
Accounting

Accounting Forensic
Information Accounting
Systems

Accounting 13
Other Branches of Accounting
Cost Accounting
Cost accounting is used to calculate the cost of a product using different techniques to help managers make decisions about
determining the pricing a product, monitoring and controlling expenses, .

Auditing
Two types - Internal and external auditing
Internal auditors try to make sure that the right processes are in place, and whether agreed procedures are being followed
properly. They will also make suggestions and recommendations for improvement of procedures and policies.
External auditors are independent parties who will look at how the business is keeping accounting records- whether they have
followed the required standards, rules etc in accounting, any errors or frauds in the financial statements etc.

Tax Accounting
Involves preparing tax returns for clients, interpreting tax rules and regulations, tax planning and advisory services etc.

Accounting Information Systems (AIS)

Has everything to do with accounting systems and processes and their construction, installation, application and observation.
These systems allow collection, storage and processing of financial and accounting data used by internal users to report
information to investors, creditors, and tax authorities and others.

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Other Branches of Accounting

Forensic Accounting

A Forensic Accountant usually take on an investigator role.

Forensic Accountant has the ability to discover if a fraud had actually taken place, to identify the people or organizations
involved, to measure the money value of the fraud to ultimately present findings to the client and sometimes to a court.

This technique also helps in tracing, locating and discovering hidden assets in a given case. Forensic experts can identify
fraudulent financial reporting, which causes significant errors in the financial statements.

Fraudulent financial reporting can involve purposefully manipulating accounting records; omission of transactions, balances or
things that must be included in the financial statements; or inappropriately applying accounting standards.

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Major Business Entity Forms

• Sole Proprietorship

• Partnership

• Corporates

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Major Business Entity Forms – Sole Proprietorship

• Advantages of sole proprietorship:

• easy to set up
• owner has full control over business decisions
• All the profits and benefits can be enjoyed by the owner

• Disadvantages of sole proprietorship:

• no independent legal status,
• owner is liable for all the liabilities and risks of the business
• limited source of funds
• Limited knowledge and skills of the owner will limit the potential of the business

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Major Business Entity Forms -Partnerships

• Advantages of partnership:
• more capital, resources, knowledge and skills from more people (compared to a sole proprietorship
• easier to set up, manage, and control compared to a corporation

• Disadvantages of partnership:
• Partnership business is not considered as a separate legal entity in front of law
• Partnership will end due to any changes in the partners involved.
• Liability of partners is unlimited – Partners’ lability is NOT limited to the capital they invest.
• possibility of disagreements and conflicts between partners
• limited source of capital and limited growth potential compared to a corporation

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Major Business Entity Forms –Companies or Corporations

• Advantages of corporation:
• A separate legal entity from its owners
• shareholders' enjoy limited liability – Shareholders are liable only up to the capital they invest
• unlimited life – companies would not usually wind up its operations after the death, retirement or
disability of its owners.
• Many different sources of capital – more growth potential

• Disadvantage of corporation:
• Difficult and complex to set up the business – a lot of paperwork and rules apply
• Closely monitored and requires a lot of record keeping and reporting

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Financial statements

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Set of Financial Statements

• Income Statement
• Statement of Financial Position (Balance Sheet)
• Statement of Cash Flow
• Statement of Changes in Equity
• Notes to the Financial Statements

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Elements of Financial Statements

Assets Assets are the resources which are used by the business for its business activities (e.g. property,
equipment and cash).
Assets can be used to earn future economic benefits.
Current assets vs. Non-current assets

Liabilities Liabilities represent the debts of the business – i.e. what is owed by the business to others.
These may be short-term debts which are to be repaid soon (current liabilities) or long-term
debts (non-current liabilities) which may take many years to settle.

Capital/Equity Resources supplied to the business by the owner(s) of the (or equity) business. This capital
could be in the form of money or as other assets.

Income Earnings from goods sold or services provided by the business to customers (E.g. sales revenue
and service income)
Also includes other incomes and gains earned from transactions other than normal business
activities. These may include interest income, rent income, discounts received and other
income.

Expenses Expenses represent the benefits consumed by the business.

E.g.: rent, electricity, insurance, salaries and wages, purchases, stationary etc. 22
Income Statement (IS)

• Provides information to users of financial statements on how well a business is

performing.
• IS tells us whether the business is earning enough income (from main business activities or
from other means) to pay for the day-to-day business expenses and also to give back to the
owners of the business.
• IS shows the incomes and expenses and calculates the profit or loss for the period.

Income – Expenses = Profit or Loss

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Balance Sheet

• This is a summary of all the assets, liabilities and capital/equity of a business at a particular moment in time.
• Accounting equation Assets = Capital + Liabilities

What the business owns or Who provided them (Financial

controls side of the business)

• It is also known as the Statement of Financial Position.

• The total of assets must be equal to total of capital and liabilities  hence, the name Balance Sheet

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