PRIACC160

Module 1 – Accounting and Its Environment, Users of Information, Types and Forms of
Business, Accounting Concepts and Principles

Objectives:
1. Define accounting and explain its role in business.
2. Identify and discuss the career opportunities open to accountants.
3. Differentiate the branches of accounting.
4. Distinguish between managerial accounting and financial accounting.
5. Define external and internal users.
6. Describe the information needed by each user.
7. Differentiate the types of business according to activities.
8. Differentiate the forms of business organizations.
9. Explain the fundamental accounting concepts and principles.
10. State the purpose of a conceptual framework.
11. Explain the objective of general-purpose financial statements and the stewardship of management.
12. Explain the qualitative characteristics of useful financial information.
13. Expound on the going concern assumption.
14. Identify the elements of financial statements.
15. Recognized the various bases for measuring the elements of financial statements.

DEFINITIONS OF ACCOUNTING

 Accounting 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. (Statement of Financial Accounting Standards No. 1)

 Accounting is an information system that measures, processes and communicates financial

information about an economic entity. (Statement of Financial Accounting Concepts No. 1)

 Accounting is the process of identifying, measuring and communicating economic

information to permit informed judgments and decisions by users of the information.
(American Accounting Association)

 Accounting is 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. (American Institute of Certified Public Accountants)

CAREER OPPORTUNITIES

1. Practice of Public Accountancy

Accountants who render services on a fee basis and staff accountants employed by them are
engaged in public practice. Public accountants, who practice individually or as members of
public accounting firms, should be certified public accountants (CPAs). They offer their
professional services to the public. Their work includes auditing, taxation and management
advisory services.

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 Sample Entry-level jobs: Audit Staff, Tax Staff Management Services/Consulting Staff;
Middle-level jobs: Audit Manager, Tax Manager, Consulting Manager; Advanced positions:
Partner, Senior Partner, Senior Consultant/Financial Advisor.

2. Practice in Commerce and Industry

Accountants employed in this area vary widely in their scope of activities and
responsibilities.

Sample Entry-level jobs: Financial Accounting and Reporting Staff, Management Accounting
Staff, Tax Accounting Staff, Internal Audit Staff, Financial Analyst, Budget Analyst, Credit
Analyst, Cost Accountant; Middle-level positions: Comptroller, Senior Information Systems
Auditor, Senior Fraud Examiner, Senior Forensic Auditor; Advanced positions: Chief Financial
Officer, Chief Information Officer.

3. Practice in Education/Academe

The primary goal of accounting education is “to produce competent professional

accountants capable of making a positive contribution over their lifetimes to the profession
and society in which they work.”

Accounting education guarantees the continued development of the profession by

endeavoring to clarify and address emerging issues through research and sharing the results
obtained with their colleagues. They painstakingly prepare candidates for the CPA Board
Exams. Other CPAs from the other sectors are encouraged to do part-time teaching to be
able to impart their workplace experiences.

Sample Entry-level jobs: Accounting Instructor; Middle-level positions: Senior Faculty,

Accounting Department Chair; Advanced positions: Vice President for Academic Affairs,
Dean.

4. Practice in Government

Accountants may be hired by the following: Congress of the Philippines, Commission on

Audit (COA), Department of Finance, Department of Budget and Management, Bangko
Sentral ng Pilipinas (BSP), Bureau of Internal Revenue (BIR), Bureau of Treasury and the local
government units.

Sample Entry-level jobs: State Accounting Examiner, State Accountant, LGU Accountant,
Revenue Officer, Audit Examiner, Budget Analyst, Financial Services Specialist; Middle-level
positions: State Accountant V, Director III and Director IV, Government Accountancy and
Audit, Financial Services Manager, Audit Services Manager, Senior Auditor; Advanced
positions: National Treasurer, Vice President for Finance/CFO (for GOCCs), Commissioner,
Associate Commissioner, Assistant Commissioner (COA, BIR, BOC)

BRANCHES OF ACCOUNTING

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1. Bookkeeping

Bookkeeping is a mechanical task involving the collection of basic financial data. 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.

Bookkeeping is a routine operation, while accounting requires the ability to examine a

problem using both financial and non-financial data.

2. Financial Accounting

Financial accounting is focused on the recording of business transactions and the periodic
preparation of reports on results of operations, changes in equity, financial position and cash
flow. Financial accountants accord importance to generally accepted accounting principles
(GAAP). Financial accounting is the more specific term applied to the preparation and
subsequent publication of general-purpose financial statements.

3. Management Accounting

Management accounting is a profession that involves partnering in management decision-

making, devising planning and performance management systems, and providing expertise
in financial reporting and control to assist management in the formulation and
implementation of an organization’s strategy. (Institute of Management Accountant)

Management accounting is the process of identification, measurement, accumulation,

analysis, preparation, interpretation and communication of information used by
management to plan, evaluate and control within an entity and to assure appropriate use of
and accountability for its resources. (Chartered Institute of Management Accountants)

Management accounting is an integral part of the management process. It provides

information primarily to internal management. It measures, analyzes and reports financial
and non-financial information which is then used by management for planning, control and
decision-making. Examples of non-financial information are as follows: percentage of
defects, number of customer complaints, warranty claims, budgeted hours, employee
satisfaction, customer satisfaction, product or service quality and reputation.

Managerial accounting and financial accounting are contrasted as follows:

Managerial Accounting Financial Accounting

Output Internal Reports Financial Statements
Primary Users Internal Users (like managers) External Users (like stockholders,
creditors and government
agencies)
Restrictions No mandatory rules for Must follow GAAP when
preparing reports preparing financial statements
Type of Financial and non-financial Financial information; objective
Information information; subjective information
information possible
Time Orientation Emphasis on the future (planning Historical orientation; past;
and decision-making); retrospective
prospective

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 Degree of Based on very detailed Information about the overall
Aggregation information; parts/segmented firm performance; more
aggregated
Timing of Reports As required Monthly, quarterly, annually

4. Cost Accounting

Cost accounting is the collection, allocation, and control of the costs to produce or supply a
product or service. This accumulation and explanation of actual and prospective cost data is
important to control current operations and to plan for the future.

5. Financial Management

Financial management can be defined as the management of the finances of an organization

to achieve the financial objectives of the entity. The widely accepted objective of the entity
is to maximize the value of the firm for its owners, that is, to maximize stockholders’ wealth.

Financial management decisions cover investment decisions, financing decisions, distributing

profits back to investors, and risk management. The functions of financial management
include:

a. Raising capital to support the organization’s operations and investments.

b. Managing the day-to-day cash flows.
c. Selecting the best projects to invest in.
d. Managing the entity’s exposure to risk.
e. Developing a governance structure capable of ensuring that managers act ethically
and in the owners’ or stockholders’ interests.

6. Government Accounting

Government accounting encompasses the process of analyzing, recording, classifying,

summarizing and communicating all transactions involving the receipt and disposition of
government funds and property, and interpreting the results thereof. Government
accounting shall aim to: (Presidential Decree 1445, Sec. 109)

a. Produce information concerning past operations and present conditions

b. Provide a basis for guidance for future operations
c. Provide for control of the acts of public bodies and officers in the receipt, disposition
and utilization of funds and property
d. Report on the financial position and results of operations of government agencies
for the information of all persons concerned.

There are three types of governmental organizational units in our country, namely: national
government, local government and government corporations. They maintain their own
accounting systems.

New Government Accounting System (NGAS). It is a simplified set of accounting concepts,

guidelines and procedures designed to ensure correct, complete and timely recording of
government financial transactions, and production of accurate and relevant financial
reports.

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 7. Auditing

Auditing is the accountancy profession’s most significant service to the public. An external
audit is the independent examination that ensures the fairness and completeness of the
financial statements that management submits to users outside the business entity.

External auditors are appointed from outside the entity. The external auditor’s job is to
protect the interests of the users of the financial statements.

8. Taxation

Tax accounting includes the preparation of the relevant tax returns and the consideration of
the tax consequences of proposed business transactions or alternative courses of action.
Accountants with this specialization aim to comply with existing tax statutes but are also in
constant legal search for ways to minimize tax payments.

9. Accounting Education (already discussed)

10. Accountancy Research

Accountancy research is the systematic process of collecting and analyzing information to

increase one’s understanding of the functions of a professional accountant and contribute to
the solution of problems besetting the practice of the profession.

11. Forensic Accounting

Forensic accounting or fraud examination includes fraud detection, fraud prevention,

litigation support, business valuations, expert witness services and other investigative
services. Forensic accountants also work for investment and insurance companies, banks,
law firms, law enforcement agencies and other organizations.

12. International Accounting

International accounting is the study of standards, guidelines and rules of accounting,

auditing and taxation that exist within each country as well as comparison of those items
across countries.

USERS AND THEIR INFORMATION NEEDS

1. External users are individuals and others that have current or potential financial interest in
the reporting entity but are not involved in the daily operations of the entity. The
information needs of these users are diverse so that only the primary or the general-purpose
financial statements are provided. These users may include owners, stockholders, creditors,
customers, suppliers, government agencies, potential investors, brokers, trade associations
and the public.

2. Internal users include the board of directors, chief executive officers, chief financial officers,
vice presidents, internal auditors, business unit managers, plant managers and the
supervisors.

The users of accounting information and their information needs:

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  Employees are interested in information about the stability and profitability of their
employers. They are also interested in information which enables them to assess the
ability of the enterprise to provide remuneration, retirement benefits and employment
opportunities.
 Stockholders or Investors need information to help them determine whether they
should buy, hold or sell.
 Creditors or Lenders are interested in information that enables them to determine
whether their loans and the related interest will be paid when due.
 Customers have an interest in information about the continuance of an enterprise,
especially when they have a long-term involvement with, or are dependent on, the
enterprise.
 Suppliers and other trade creditors are interested in information that enables them to
determine whether amounts owing to them will be paid when due.
 Government and their agencies are interested in the allocation of resources and,
therefore, the activities of the enterprises. They also require information in order to
regulate the activities of the enterprises, determine taxation policies and as the basis for
national income and similar statistics.
 Public. Enterprises affect members of the public in a variety of ways. For example,
enterprises may make a substantial contribution to the local economy in many ways
including the number of people they employ and their patronage of local suppliers.
Financial statements may assist the public by providing information about the trends
and recent developments in the prosperity of the enterprise and the range of its
activities.

TYPES OF BUSINESS

Type Activity Structure Examples

Services Selling people’s time Hiring skilled staff and sellingSoftware
their time. development
Accounting
Legal
Trader Buying and selling products Buying a range of raw Wholesaler
materials and manufactured Retailer
goods and consolidating
them, making them available
for sale in locations near to
their customers or online for
delivery.
Manufacture Designing products, Taking raw materials and Vehicle Assembly
aggregating components and using equipment and staff to Construction
assembling finished products convert them into finished Engineering
goods. Electricity, Water
Food and drink
Chemicals
Pharmaceuticals
Raw materials Growing or extracting raw Buying blocks of land and Farming
materials using them to provide raw Mining
materials. Oil
Infrastructure Selling the utilization of Buying and operating assets Transport (airport
infrastructure (typically large assets); selling operator, airlines,

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 occupancy often in trains, ferries,
combination with services. buses)
Hotels
Telecoms
Sports facilities
Financial Receiving deposits, lending Accepting cash from Banks
and investing money depositors and paying them Investment house
interest; using the money to
provide loans to borrowers,
charging them fees and a
higher rate of interest than
the depositors receive.
Insurance Pooling premiums of many to Collecting cash from many Insurance
meet claims of a few customers; investing the
money to pay the losses
experienced by a few
customers. By understanding
the risk accepted and the
likelihood of a claim, more
premium income can be
earned than claims paid

FORMS OF BUSINESS ORGANIZATIONS

1. Sole Proprietorship – This business organization has a single owner called the proprietor who
generally is also the manager. Sole proprietorships tend to be small service-type businesses,
and retail establishments.

2. Partnership – In a contract of partnership, two or more persons bind themselves to

contribute money, property, or industry to a common fund, with the intention of dividing
the profit among themselves.

3. Corporation – A corporation is an artificial being created by operation of law, having the

right of succession and the powers, attributes and properties expressly authorized by law or
incident to its existence.

A corporation is a business owned by its stockholders/shareholders. The stockholders are

not personally liable for the corporation’s debts. The corporation is a separate legal entity.

FUNDAMENTAL CONCEPTS

Entity Concept. An accounting entity is an organization or a section of an organization that stands

apart from other organizations and individuals as a separate economic unit. The transactions of
different entities should not be accounted for together. Each entity should be evaluated separately.

Periodicity Concept. An entity’s life can be meaningfully subdivided into equal time periods for
reporting purposes. This concept allows the users to obtain timely information to serve as a basis on

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making decisions about future activities. For the purpose of reporting to outsiders, one year is the
usual accounting period.

Stable Monetary Unit Concept. The Philippine peso is a reasonable unit of measure and that its
purchasing power is relatively stable. It allows accountants to add and subtract peso amounts as
though each peso has the same purchasing power as any other peso at any time. This is the basis for
ignoring the effects of inflation in the accounting records.

Accrual Basis. Accrual accounting depicts the effects of transactions and other events and
circumstances on a reporting entity’s economic resources and claims in the periods in which those
effects occur, even if the resulting cash receipts and payments occur in a different period.

BASIC PRINCIPLES

Objectivity Principle. Accounting records and statements are based on the most reliable data
available so that they will be as accurate and as useful as possible. Reliable data are verifiable when
they can be confirmed by independent observers.

Historical Cost. This principle states that acquired assets should be recorded at their actual cost and
not at what management thinks they are worth as at reporting date.

Revenue Recognition Principle. Revenue is to be recognized in the accounting period when goods
are delivered or services are rendered or performed.

Expense Recognition Principle. 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 those goods
and services.

Adequate Disclosure. Requires that all relevant information that would affect the user’s
understanding and assessment of the accounting entity be disclosed in the financial statements.
Materiality. Financial reporting is only concerned with information that is significant enough to
affect evaluations and decisions. Materiality depends on the size and nature of the item judged in
the particular circumstances of its omission.

Consistency Principle. The firms 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.

CONCEPTUAL FRAMEWORK FOR FINANCIAL REPORTING (IFRS FRAMEWORK

Objective of General-Purpose Financial Reporting

The objective of general-purpose financial reporting is to provide financial information about the
reporting entity that is useful to present and potential investors, lenders and other creditors, who
use that information to make decisions about buying, selling or holding equity or debt instruments
and providing or settling loans or other forms of credit.

Qualitative Characteristics of Useful Financial Information

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The qualitative characteristics of useful financial reporting identify the types of information are likely
to be most useful to users in making decisions about the reporting entity on the basis of information
in its financial report. The qualitative characteristics apply equally to financial information in
general-purpose financial reports as well as to financial information provided in other ways.

Fundamental Qualitative Characteristics

 Relevance. Relevant financial information is “capable of making a difference in the decisions

made by users.” Financial information is capable of making a difference in decisions if it has
predictive value, confirmatory value, or both. The predictive value and confirmatory value
of financial information are interrelated.

Financial information has a confirmatory value when “it provides feedback about (confirms
or changes) previous evaluations.”

Financial information has a predictive value when “it can be used as an input to processes,
employed by users to predict future outcomes.” To have predictive value, information need
not be in the form of an explicit forecast.

 Faithful Representation. General-purpose financial reports 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 purports to represent. This fundamental
characteristic seeks to maximize the underlying characteristics of completeness, neutrality
and freedom from error.

 Completeness. A complete depiction includes “all information necessary for a user to

understand the phenomenon being depicted, including all necessary descriptions and
explanations.”

 Neutrality. Free from bias or “unbiased in the selection or presentation of financial

information.” 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.

 Freedom from Error. “There are no errors or omissions for the reported information.” Or,
“there are no errors or omissions in the description of the transaction and other events, and
no errors have been made in selecting and applying an appropriate process to produce the
reported information.” In this context, free from error does not mean perfectly accurate in
all respects.

Enhancing Qualitative Characteristics

 Comparability. Comparability “enables users to identify and understand similarities in, and
differences among, items.” Information about a reporting entity is more useful if it can be
compared with similar information about other entities and with similar information about
the same entity for another period or another date.

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 Consistency, although related to comparability, is not the same. Consistency refers to the
use of the same methods for the same items, either from period to period within a reporting
entity or in a single period across entities. Comparability is the goal; consistency helps to
achieve that goal.

 Verifiability. Verifiability helps “assure users that information represents faithfully the
economic phenomena it purports to represent.” Verifiability means that “different
knowledgeable and independent observers could reach consensus, although not necessarily
complete agreement, that a particular depiction is a faithful representation.”

 Timeliness. Timeliness means that “information is available to decision-makers in time to be

capable of influencing their decisions.” Generally, the older the information is, the less
useful it is.

 Understandability. “Classifying, characterizing and presenting information clearly and

concisely” makes it understandable. While some phenomena are inherently complex and
cannot be made easy to understand, to exclude such information would make financial
reports incomplete and potentially misleading. Financial reports are prepared for users who
have a reasonable knowledge of business and economic activities and who review and
analyze the information with diligence.

Underlying Assumption

 Going Concern. The financial statements are normally prepared on the assumption that an
enterprise is a going concern and “will continue in operation for the foreseeable future.” It
is assumed that the enterprise has “neither the intention nor the necessity of liquidation or
curtailing materially the scale of its operations.”

Elements of Financial Statements

Financial statements portray the financial effects of transactions and other events by grouping them
into broad classes according to their economic characteristics.

 The elements directly related to the measurement of financial position in the balance sheet
are assets, liabilities and equity.
 The elements directly related to the measurement of performance in the income statement
are income and expenses.

Measurement of the Elements of Financial Statements

Measurement is the process of determining the monetary amounts at which the elements of the
financial statements are to be recognized and carried in the balance sheet and income statement.
This involves the selection of a particular basis of measurement. A number of these are used to
different degrees and in varying combinations in financial statements. They include the following:

 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.

Liabilities are recorded at the amount of proceeds received in exchange for the obligation, or
in some circumstances, at the amounts of cash or cash equivalents expected to be paid to
satisfy the liability in the normal course of business.

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  Current Cost. Assets are carried at the amount of cash or cash equivalents that would have
to be paid if the same or an equivalent asset was acquired currently. Liabilities are carried at
the undiscounted amount of cash or cash equivalents that would be required to settle the
obligation currently.

 Realizable (Settlement) Value

o Realizable Value. Assets are carried at the amount of cash or cash equivalents that
could currently be obtained by selling an asset in an orderly disposal.
o Settlement Value. Liabilities are carried at the undiscounted amounts of cash or
cash equivalents expected to be paid to satisfy the liabilities in the normal course of
business.

 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. Liabilities are
carried at the present discounted value of the future net cash outflow that are expected to
be required to settle the liabilities in the normal course of business.

Concepts of Capital and Capital Maintenance

 Financial Concept. A financial concept of capital is adopted by most enterprises in preparing

the financial statements. Invested money or invested purchasing power, capital is
synonymous with the net assets or equity of the enterprise. A profit is earned only if the
financial (or money) amount of the net assets at the end of the period exceeds the financial
(or money) amount of the net assets at the beginning of the period, after excluding any
distributions to and contributions from owners during the period.

 Physical Concept. Under a physical concept of capital, such as operating capability, capital is
regarded as the productive capacity of the enterprise based on, for example, units of output
per day. A profit is earned only if the physical productive capacity (or operating capability)
of the enterprise (or the resources or funds needed to achieve that capacity) at the end of
the period exceeds the physical productive capacity at the beginning of the period, after
excluding any distributions to and contributions from owners during the period.

***END OF MODULE 1***

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