INDERPRASTHA ENGINEERING COLLEGE,

GHAZIABAD
AFFILIATED TO CHAUDHARY CHARAN SINGH UNIVERSITY, MEERUT
(COLLEGE CODE-1249)
63 SITE-IV, SAHIBABAD INDUSTRIAL AREA, SURYA NAGAR FLYOVER ROAD
SAHIBABAD, GHAZIABAD – UP

NOTES – UNIT 2

Subject Name: Financial Accounting and Management

Subject Code: BCA 205
Faculty Name: Ms. Aashi Jain

2.1 CAPITAL EXPENDITURES

Capital expenditures (Capex) are funds used by a company to acquire, upgrade, and maintain
physical assets such as property, plants, buildings, technology, or equipment. CapEx is often
used to undertake new projects or investments by a company. Making capital expenditures on
fixed assets can include repairing a roof, purchasing a piece of equipment, or building a new
factory. This type of financial outlay is made by companies to increase the scope of their
operations or add some economic benefit to the operation.

Important Points:
i. Capital expenditure (CapEx) is a payment for goods or services recorded—or
capitalized—on the balance sheet instead of expensed on the income statement.
ii. CapEx spending is important for companies to maintain existing property and
equipment, and invest in new technology and other assets for growth.
iii. If an item has a useful life of less than one year, it must be expensed on the income
statement rather than capitalized (i.e., cannot be considered CapEx).

Capital expenditures can include the purchase of the following:

• A facility or factory, including an upgrade or expansion

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 • Vehicles, such as trucks used for the delivery of products
• Manufacturing equipment
• Computers
• Furniture

2.2 REVENUE EXPENDITURES

Revenue expenditures are short-term expenses used in the current period or typically within
one year. Revenue expenditures include the expenses required to meet the ongoing operational
costs of running a business and thus are essentially the same as operating expenses (OPEX).
Revenue expenditures also include the ordinary repair and maintenance costs that are necessary
to keep an asset in working order without substantially improving or extending the useful life
of the asset. Revenue expenses related to existing assets include repairs and regular
maintenance as well as repainting and renewal expenses. Revenue expenditures can be
considered to be recurring expenses in contrast to the one-off nature of most capital
expenditures.

Other examples of revenue expenditures include the following:

• Salaries and employee wages
• Any overhead expense, such as salaries for the corporate office, which typically fall
under selling, general, and administrative expenses (SG&A)
• Research and development (R&D)
• Utilities and Rent
• Business travel
• Property taxes

2.3 DIFFERENCE BETWEEN CAPITAL EXPENDITURE AND

REVENUE EXPENDITURE

Basis Capital Expenditure Revenue Expenditure

Definition Expenditure incurred for acquiring Expenses incurred for maintaining
assets, to enhance the capacity of an the day-to-day activities of a business

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 existing asset that results in
increasing its lifespan
Tenure Long term Short term
Value addition Enhances the value of an existing Does not enhance the value of an
asset existing asset
Physical Has a physical presence except for Does not have a physical presence
presence intangible assets
Occurrence Non-recurring in nature Recurring in nature
Availability of Yes No
capitalization
Impact on Do not reduce business revenue Reduce business revenue
revenue
Potential Long-term benefits for business Short-term benefits for business
benefits
Appearance Appears as assets in the balance Always appears in the income
sheet and some portion in the statement
income statement

2.4 CAPITAL GAINS

Capital gain refers to the increase in the value of a capital asset when it is sold Put simply, a
capital gain occurs when you sell an asset for more than what you originally paid for it. Almost
any type of asset you own is a capital asset whether that's a type of investment (like a stock,
bond, or real estate) or something purchased for personal use (like furniture or a boat). Capital
gains are realized when you sell an asset by subtracting the original purchase price from the
sale price.

Important Points:
i. A capital gain is the increase in a capital asset's value and is realized when the asset is
sold.
ii. Capital gains apply to any type of asset, including investments and those purchased for
personal use.
iii. The gain may be short-term (one year or less) or long-term (more than one year) and
must be claimed on income taxes.

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 iv. Unrealized gains and losses reflect an increase or decrease in an investment's value but
are not considered taxable capital gains.
v. A capital loss is incurred when there is a decrease in the capital asset value compared
to an asset's purchase price.

As noted above, capital gains represent the increase in the value of an asset. These gains are
typically realized at the time that the asset is sold. Capital gains are generally associated with
investments, such as stocks and funds, due to their inherent price volatility. But they can also
be realized on any security or possession that is sold for a price higher than the original
purchase price, such as a home, furniture, or a vehicle.

Capital gains fall into two categories:

▪ Short-term capital gains are those realized on assets that you've sold after holding them
for one year or less.
▪ Long-term capital gains are realized on assets that you've sold after holding them for
more than one year.

2.5 REVENUE
Revenue is the money generated from normal business operations, calculated as the average
sales price times the number of units sold. It is the top-line (or gross income) figure from which
costs are subtracted to determine net income. Revenue is also known as sales on the income
statement.

Important Points:
i. Revenue, often referred to as sales or the top line, is the money received from normal
business operations.
ii. Operating income is revenue (from the sale of goods or services) fewer operating
expenses.
iii. Non-operating income is infrequent or nonrecurring income derived from secondary
sources (e.g., lawsuit proceeds).

Revenue is money brought into a company by its business activities. There are different ways
to calculate revenue, depending on the accounting method employed. Accrual accounting will

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include sales made on credit as revenue for goods or services delivered to the customer. It is
necessary to check the cash flow statement to assess how efficiently a company collects money
owed. Cash accounting, on the other hand, will only count sales as revenue when payment is
received. Cash paid to a company is known as a "receipt." It is possible to have receipts without
revenue. For example, if the customer paid in advance for a service not yet rendered or
undelivered goods, this activity leads to a receipt but not revenue.
Revenue is known as the top line because it appears first on a company's income statement.
Net income, also known as the bottom line, is revenues minus expenses. There is a profit when
revenues exceed expenses.

2.6 DIFFERENCE BETWEEN CAPITAL RECEIPTS AND REVENUE

RECEIPTS

Basis Capital Receipts Revenue Receipts

Meaning Capital Receipts are the income Revenue Receipts are the
generated from investment and income generated from the
financing activities of the operating activities of the
business. business
Nature Non-Recurring Recurring
Term Long Term Short Term
Shown in Balance Sheet Income Statement
Received in Source of income Income
exchange for
Value of asset or Decreases the value of an asset or Increases or decreases the value
liability increases the value of liability. of asset or liability.

2.7 APPLICATION OF COMPUTER IN ACCOUNTING

What is a computer?
A computer is an electronic device that can perform a variety of operations by a set of
instructions called a program. It is a fast data processing electronic machine that helps us to
solve problems with speed and accuracy. It accepts data from the user, converts the data into

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information, and gives the desired result. In brief, a computer is an electronic digital machine
that accepts data, stores data processes data as desired, retrieves the stored data as and when
required, and prints the result in the desired format.

Characteristics of Computer
a) Speed: It can access and process data millions of times faster than humans can. It can
store data and information in its memory, process them, and produce the desired results.
It is used essentially as a data processor. All computer operations are caused by
electrical pulses and travel at the speed of light. Most modern computers are capable of
performing 100 million calculations per second.
b) Storage: Computers have a very large storage capacity. They have the capability of
storing vast amounts of data or information. Computers have a huge capacity to store
data in a very small physical space. Apart from storing information, today's computers
are also capable of storing pictures and sound in digital form.
c) Accuracy: The accuracy of the computer is very high and every calculation is
performed with the same accuracy. Errors occur because of human beings rather than
technological weakness; the main sources of errors are wrong programs by the user or
inaccurate data.
d) Diligence: A computer is free from tiredness and lack of concentration. Even if it has
to do 10 million calculations, it will do even the last one with the same accuracy and
speed as the first.
e) Versatility: The computer can perform a wide range of jobs with speed, accuracy, and
diligence. In any organization, often it is the same computer that is used for diverse
purposes such as accounting, playing games, preparing electric bills, sending e-mail,
and so on.
f) Communication: Computers are being used as powerful communication tools. All the
computers within an office are connected by cable and it is possible to communicate
with others in the office through the network of computers.
g) Processing Power: Computer has come a long way today. They began as mere
prototypes at research laboratories and went on to help business organisations, and
today, their reach is so extensive that they are used almost everywhere. In the course of
this evolution, they have become faster, smaller, cheaper, more reliable, and user-
friendly.

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Use of Computers in Accounting
The most popular system of recording accounting transactions is manual which requires
maintaining books of accounts such as Journal, Cash Book, special purpose books, ledger, and
so on. The accountant is required to prepare a summary of transactions and financial statements
manually. The advanced technology involves various machines capable of performing different
accounting functions, for example, a billing machine.
1. Spreadsheets: Electronic spreadsheets allow you to do anything that you would
normally do with a calculator, pencil, and columnar scratch pad. It takes its name from
the accountant's spreadsheet a sheet of paper with rules for rows and columns on which
such work was usually done. Spreadsheet programs are much faster, more accurate, and
easier to use than traditional accounting techniques. The programs are widely used on
personal computers for keeping sales, expense, and inventory records, and for
budgeting and forecasting future sales and expenses. As a result of these and many other
applications, computer spreadsheets have become the most important of all software
tools for modern businesses. A computer-generated spreadsheet is commonly used by
firms when presenting their accounts.
2. General Ledger: General Ledger is a labour-saving device for the preparation of
financial statements and for establishing multiple income and cost entries.
3. Accounts Receivable: An accounts receivable module prepares invoices and customer
accounts, adds credit charges where appropriate, handles incoming payments, flags
your attention to delinquent customers, and produces dunning notices. It allows you to
have daily cash control. You get out the bills on time, yet you avoid errors such as
billing a customer twice for the same item. The further advantage is that debits and
credits are posted automatically to the general ledger, order entry, and in some instances
inventory, once they are entered in accounts receivable.
4. Accounts Payable: Accounts payable, when computerized, will provide for purchase
order control, invoice processing, payment selection and handling, cheque writing and
control, cash-requirements forecasting, etc. It will also double-check the accuracy of
the vendor's invoice, and some software systems will cross-check it against the
purchase order and the inventory module.
5. Inventory Control: The Inventory Control module has multiple functions, including
tracking inventory for both costing and tax purposes, controlling purchasing, and
minimizing the investment in inventory. The payroll module prepares and prints payroll
checks, including all itemized deductions.

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 6. Point of Sale: The point of sale module captures all sales information at (or in place
of) the cash register, including salesperson, date, customer, credit information, items,
and quantity sold. It can produce sales slips or sales invoices, plus it reports on items,
customer, and salesperson activity.
7. Purchasing and Receiving: Purchasing and receiving module can represent an
invaluable addition. It can generate purchase orders and track their fulfilment. You can
find out which vendors are delivering on time saving you the expense of having to
follow up on partial and incomplete orders.
8. Time and Billing Module: The time and billing module reduces manual and clerical
work, simplifies the billing process, prompts you and your partners to bill on time,
reduces unbilled work-in-progress, minimizes unreported time, reduces unbilled time,
measures and analyses non-chargeable time and provides criteria to analyse staff
performance. Because a computerized accounting system is a computerized data
management system, the disposition of labour is almost the same. One staff member
must serve as a database manager and be in charge of setting up the chart of accounts,
establishing the interrelationships among the files, and establishing and maintaining an
audit trail.

The computerised accounting uses the concept of databases. For this purpose, accounting
software is used to implement a computerised accounting system. It does away with the
necessity to create and maintain journals, ledgers, etc., which are an essential part of manual
accounting. Some of the commonly used accounting software are Tally, Cash Manager, Best
Books, MYOB (Mind Your Own Business), etc.

Applications of Computer in Accounting

With the expansion of business, the number of transactions increased. The manual method of
keeping and maintaining records was found to be unmanageable. With the introduction of
computers in business, the manual method of accounting is being gradually replaced.
Computers are nowadays widely used by most large and medium-sized business enterprises for
accounting purposes. In general, every aspect of accounting is affected by computers. The most
common uses of computers in accounting are as follows:
a) Recording of Business Transactions: Business operations involve various and varied
transactions, i.e. purchasing, selling, receiving and making payments, incurring
expenses, etc. All these transactions are recorded using the application software

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 accurately and promptly. A logical scheme is implied for the codification of accounts
and transactions. Every account and transaction are assigned a unique code. The
grouping of accounts is done in the first stage. This process simplifies the work of
recording the transactions.
b) Preparation of Trial Balance and Financial Statements: After the recording of the
transaction, the data is transferred into the Ledger account automatically by the
computer. The Trial Balance is prepared by the computer to check the accuracy of the
records. With the help of trial balance, the computer can be programmed to prepare
Trading. Profit and Loss Account and Balance Sheet
c) Payroll Accounting: Payroll accounting means working out wages, salaries, bonuses,
and other benefits leave records, etc. of employees It also includes making various
deductions from the salaries of the employees. Computerised accounting ensures
accuracy, uniformity, and promptness in the proper calculation and accounting of
payrolls for business accounting.
d) Accounting of Debtors: Computers are very much effective in the maintenance of
customer's accounts. With the computerised debtors accounts prompt and periodic
debtors’ reports can easily be taken regarding the outstanding debts, which enables to
sending of printed periodic reminders to the parties. These reminders help in the
collection of debts at an early date.
e) Stores Accounting: Stores accounting is the record of receipt and issue of items kept
in the stores. Store accounting through a computer is very significant, as it provides
immediate information regarding the stock in hand of each item in quantity and value.
It helps the management in framing effective stock policy.
f) Preparation of Accounting Documents: The computer helps in preparing accounting
documents like Cash memos, Bills, Invoices, etc., preparing accounting vouchers, and
maintaining personnel records.

Advantages of Computerised Accounting

1. Handling Numerous Transactions: The computerised accounting system is capable
of handling a large number of transactions with speed and accuracy
2. Speed: Data entry onto the computer with its formatted screens and built-in databases
of customers and supplier details and stock records can be carried out far more quickly
than any manual processing.

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 3. Instant Reporting: The computerised accounting system is capable of offering quick
and quality reporting because of its speed and accuracy. The computerised accounting
offers automatic updating of records so account balances will also be up-to-date. The
computer can extract a trial balance and produce the trading and profit and loss account
as well as the balance sheet almost instantaneously, based on the data already inputted.
4. Automatic Document Production: The computerized ledger system is fully
integrated. This means that when a business transaction is inputted on the computer it
is recorded in several different accounting records at the same time. This helps to make
fast and accurate invoices, credit notes, purchase orders, printing statements, and
payroll documents are all done automatically.
5. Reduction in Paper Work: A manual accounting system requires large physical
storage space to keep accounting records/books and vouchers/ documents. The
requirement of stationery and books of accounts along with vouchers and documents is
directly dependent on the volume of transactions beyond a certain point. There is a dire
need to reduce the paperwork and dispense with large volumes of books of accounts.
This can be achieved by introducing computerised accounting system.
6. Flexible Reporting: The reporting is flexible in computerised accounting system as
compared to the manual accounting system. The reports of a manual accounting system
reveal balances of accounts periodically while computerised accounting system is
capable of generating reports of any balance when required and for any duration which
is within the accounting period.
7. Accounting Queries: There are accounting queries that are based on some external
parameters. For example, a query to identify customers who have not made a
permissible credit period within the payments will be easily answered by using the
structured query language (SQL) support of database technology in the computerised
accounting system. However, such an exercise in a manual accounting system is quite
difficult and expensive in terms of manpower used. It will still be worse in case the
credit period is changed.
8. Online Facility: Computerised accounting system offers an online facility to store and
process transaction data to retrieve information to generate and view financial reports.
9. Scalability: Computerised accounting systems are fully equipped to handle the
growing transactions of a fast-growing business enterprise. The requirement for
additional manpower in the Accounts department is restricted to only the data operators

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 for storing additional vouchers. There is no additional cost of processing additional
transaction data.
10. Accuracy: The information content of reports generated by the computerised
accounting system is accurate and therefore quite reliable for decision-making.
Computers are less likely to make errors. In a manual accounting system, the reports
and information are likely to be distorted, and inaccurate and therefore cannot be relied
upon. It is so because it is being processed by many people, especially when the number
of transactions to be processed to produce such information and reports is quite large.
11. Security: Under a manual accounting system, it is very difficult to secure such
information because it is open to inspection by any eyes dealing with the books of
accounts. However, in a computerised accounting system, only authorised users are
permitted to have access to accounting data. Security provided by the computerised
accounting system is far superior compared to any security offered by the manual
accounting system.
12. Management Information: Computerized accounting programs can provide instant
reports for management.
13. Performance Analysis: Once the data has been inputted, it is possible to manipulate
the existing data to produce variations in the firm's overall performance. Even a simple
spreadsheet can be manipulated to consider different scenarios. For example, a firm
may wish to see the effects of an increase in sales on the overall profit level. A range of
forecasted accounts can be generated to see how well the firm could expect to produce
in the future.
14. The data can be manipulated into accounting ratios automatically, which allows
managers to assess the overall performance. For example, the profits can be related to
sales, capital, or assets to see how effectively the firm is operating.
15. Job Satisfaction: The use of computers in accounting will free up time for the
accountant to concentrate on more wide-ranging tasks. This means that there is likely
to be increased job satisfaction within the firm. Studies suggest that if workers are more
satisfied or more motivated in the workplace, they are likely to be more productive in
their output.

Limitations of a Computer and Computerised Accounting

1. Cost of Installation: The cost of a computer and any associated software packages can
be a significant item of expenditure for small firms. Besides, computer hardware and

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 software need to be updated from time to time with the availability of new versions. As
a result, heavy cost is incurred to purchase new hardware and software from time to
time.
2. Cost of Training: To ensure efficient use of computers in accounting, new versions of
hardware and software are introduced. This requires training and cost is incurred to
train the staff personnel. However, this problem is becoming less important as newer
software packages have become increasingly 'user-friendly".
3. Self-Decision Making: The computer cannot decide human beings. It is to be guided
by the user.
4. Maintenance: The computer requires to be maintained properly to help maintain its
efficiency. It requires a neat, clean, and controlled temperature to work efficiently.
5. Zero IQ Level: Computer systems are dumb devices with zero intelligence quotient
(IQ). They have to be directed to perform each action through programs.
6. Computers do not possess decision-making power: They cannot decide on their own
due to a lack of wisdom and evaluation power.
7. Reliability: Computers are generally very reliable but problems do occur. If the
computer hardware (the physical computer and other devices used in the system) or the
software develops a fault, then it is likely that the whole system will not be able to be
used until the fault can be addressed. This could be very problematic if the fault takes
time to find and correct.
8. Inability to Check Unanticipated Errors: Since computers cannot judge, they cannot
detect unanticipated errors as human beings do. This is because the software to detect
and check errors is a set of programs for known and anticipated errors.
9. Breach of Security: Computer-related crimes are difficult to detect as any alteration of
data may go unnoticed. The alteration of records in a manual accounting system is
easily detected at first sight. Fraud and embezzlement are usually committed on a
computerised accounting system by alteration of data or programs. Hacking of
passwords or user rights may change the accounting records. This is achieved by
tapping telecommunications lines, wiretapping, or decoding programs. Also, the people
responsible for tampering with data cannot be located which in a manual system is
relatively easier to detect.
10. Dangers for Health: Extensive use of computers may lead to many health problems
such as muscular pain, eyestrain, backache, etc. This affects adversely the working
efficiency and increases medical expenditure.

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Accounting Software
Accounting software is used to implement computerised accounting. The computerised
accounting is based on the concept of database. There are accounting software packages that
can be purchased by a firm that will perform many, if not all of the tasks that would normally
be manually entered by the person responsible for the firm's accounts. These packages will be
able to produce many of the accounting records that were previously produced by hand.
Transactions may be entered into the computer package and many will produce double-entry
records based on this one entry. Although the exact capabilities of each package will vary, it is
possible that most, if not all of these packages will be able to produce invoices for purchases
and sales. They calculate VAT returns, discounts, and all the other areas of the accounting
information system. Logically, these packages will also produce the final accounts for the
business when required.

2.8 DIFFERENCE BETWEEN MANUAL ACCOUNTING AND

COMPUTERISED ACCOUNTING

Basis Manual Accounting Computerised Accounting

Recording Recording of financial transactions The data content of these
is through books of original entry. transactions is stored in a well-
designed database.
Classification Transactions recorded in the books No such data duplication is made.
of original entry are further To produce ledger accounts stored
classified by posting them into transaction data is processed to
ledger accounts. This result and appear as classified so that the same
transaction data duplicity. is presented in the form of a report.
Summarising Transactions are summarised to The generation of a ledger account
produce a trial balance by is not a necessary condition for trial
ascertaining the balances of balance.
various accounts.
Adjusting Adjusting entries are made to There is nothing like making
adhere to the principle of adjusting entries for errors and
matching. rectification.

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 Financial The preparation of financial The preparation of financial
statements assumes the availability statements is independent of
of a trial balance. producing the trial balance.

2.9 DOUBLE ENTRY SYSTEM OF ACCOUNTING

According to Kohler, “A single entry system is a system of book-keeping in which as a rule

only records of cash and personal accounts are maintained.”

It is always an incomplete double entry, varying with circumstances.

This system sounds economical but it is less detailed and less accurate. The only real system is
the Double Entry System. It is a scientific and methodical system of recording business events
and transactions. This system is universally followed throughout the world.

This system owes its origin to an Italian merchant named Lucas Pacioli. This system
recognizes the fundamental fact that a transaction is a double-sided affair. It is to be noted that
every transaction involves a two-fold aspect
(1) a receiving aspect and
(2) a giving aspect.
This system records both these aspects of a transaction. The debit and credit aspects of a
transaction form the basis of a double-entry system. In technical language, instead of using
receiving and giving aspects, we say that every business transaction affects two accounts in
opposite directions and, therefore, to have a complete record of the transaction, its record must
be made in both accounts. For example, if the furniture is bought from Durga, this transaction
affects the furniture account and Durga's account so entries will be made in opposite directions
in these two accounts. As for each transaction entries are made in two accounts simultaneously,
this system is called a Double Entry System

In terms of debit and credit, the theme of this system is that 'for every debit, there is credit and
for every credit there is debit', i.e., for every transaction equal debit and credit entries are made
in this system. If a transaction affects more than two accounts, the sum of debit entries must be
equal to the sum of the credit entries.

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Advantages of Double Entry System
1. It keeps a complete record of business transactions. In a double-entry system, not only
personal accounts are kept but impersonal accounts are also opened to record all those
transactions that involve assets, gains, or losses.
2. It provides full information concerning the business. The information available from
the double entry system is not limited to the debtors and creditors only as in the single
entry system. It also provides information concerning the property and assets of the
business, and the various gains and losses.
3. It provides a check on the arithmetical accuracy of the books of accounts. As every
debit has a corresponding credit, the total of the debit balances at any time must equal
the total of the credit balances. This accuracy is tested by preparing a Trial Balance.
4. It discloses the result of operations, i.e., the profit or loss for any given period. For this
purpose, a Trading and Profit and Loss Account is prepared. This Account also reveals
the nature of income and expense items
5. It makes possible a comparison of the stock, purchases, sales, expenditure, income, etc.
of the current year with those of previous years, thus enabling a businessman to evaluate
the progress of his business and also to control and regulate his business to maximize
his profits.
6. A comparison of the amount expended under various heads with similar items of the
preceding period helps to trace the causes of fluctuations in net trading results and also
serves to indicate in what directions there has been extravagance, if any.
7. It enables a businessman to ascertain at any given moment the financial position of the
business. This is made possible by preparing a Balance Sheet.
8. It reduces to the minimum the opportunities for committing fraud. Detection of errors
and frauds is also facilitated in this system
9. Past details concerning any account are easily and accurately obtainable in this system.
Thus, it facilitates reference to the details of any account.
10. This system is flexible enough to adjust according to the specific needs and capacity of
a business unit.

Disadvantages of the Double Entry System

This system, though very methodical, scientific, and accurate, is not free of shortcomings. The
biggest shortcoming is that this method fails to detect mistakes of the following types:

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 1. It is not possible to discover a transaction, which is not recorded at all in the books of
original entry.
2. If the amount of a transaction is wrongly recorded, e.g., Rs. 66.60 recorded as Rs. 6.66,
there is no way of detecting this error.
3. A compensatory error is also not detected by this system.

2.10 JOURNAL
A journal is a book of prime entries or a book of original entries in which transactions are first
recorded in chronological order i.e., in the sequence they are entered. The journal is also called
the Book of Original Entry since all transactions are initially posted in the journal.

“A Journal is a book, employed to classify or sort out transactions in a form convenient for
their subsequent entry in Ledger.”
~ Cropper

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2.11 LEDGER
It is defined as “a book which contains, in a summarized and classified form a permanent
record of all transactions.”
The ledger is divided into separate sections, called ledger accounts. A ledger account may be
defined as a statement in which all transactions of one specific class, have taken place during

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the given period. Each account in the Ledger is divided into two equal parts by two vertical
lines drawn closely. The left-hand side of an account is known as the debit side and the right-
hand side is the credit side. The abbreviations 'Dr.' and 'Cr.' are placed at the top left-hand and
right-hand corners respectively. On each side, there are columns for date, particulars, journal
folio, and amount.
A Ledger is the principal book of account, which contains all information regarding business
transactions. In a ledger, there are separate ledger accounts for different parties and heads and
so the information regarding every account is collected in one place. This facilitates
ascertaining the current position of every account at a glance.
(a) Personal accounts in a Ledger show how much money the firm owes to the creditor and
the amounts it has to recover from its debtors.
(b) The real accounts show the values of the firm's properties and also of stock.
(c) Nominal accounts show the sources of income and various items of the expenses and
losses.
Further, Ledger Accounts facilitates the preparation of Trial Balance from which the
arithmetical accuracy of the accounts can be checked. Ledger Accounts also facilitate the
preparation of financial statements.

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2.12 TRIAL BALANCE
After posting the transactions in the accounts and balancing them, a statement is prepared to
show separately the debit and the credit balances, known as the Trial Balance.

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The total of the debit side of the Trial Balance should be equal to the total of the credit side.
Thus, to check periodically the equality of the debit and credit balances in the Ledger, a
statement is prepared which is known as a Trial Balance. A Trial Balance may thus be defined
as a statement of debit and credit balances of the ledger accounts (including Cash Book)
prepared to test their arithmetical accuracy. The Trial Balance is a useful device. The agreement
of the debit and credit totals of the Trial Balance gives assurance that:
(a) Equal debits and credits have been recorded for all transactions.
(b) The debit or credit balance of each account has been correctly computed.
(c) The balances of ledger accounts have been transferred properly to the respective
columns of the Trial Balance.
(d) The totals of the debit and credit columns of the Trial Balance have been properly
struck.

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2.13 FINAL ACCOUNTS
Final Accounts mean the Financial Statements prepared after the Trial Balance is prepared.
Financial Statements include:
1. Trading and Profit and Loss Account (Income Statement), and
2. Balance Sheet.
The first, also known as the Income Statement, discloses the profit made or loss incurred by
the concern during a definite period whereas the second indicates the financial position of the
concern on a given date. As these two statements are prepared to give the final results of the
business, both these are collectively called final accounts.

A. Trading Account
A Trading Account is prepared by merchandising concerns, i.e., concerns that purchase and sell
finished goods, to know the gross profit earned or gross loss incurred by them from buying and
selling merchandise during a particular period. Gross Profit or Gross Loss is the difference
between the cost of the goods sold and the proceeds of their sale. If the sale proceeds exceed
the cost of goods sold, gross profit is made. Conversely, gross loss is incurred.

B. Profit And Loss Account

This account is prepared to ascertain the "Net Profit" or "Net Loss" resulting from the trading
operations of the period. It is debited with gross loss (if any) from the Trading Account and
with indirect expenses (i.e., establishment, administrative, selling, distribution, and financial
expenses) and losses connected with the business for the period and is credited with the gross
profit (if any) from the Trading Account and with any miscellaneous gains made (e.g., interest,
commission, discount, and rent received). Personal expenses incurred or personal incomes
earned by the proprietor must be ignored. The difference between the two sides of this account
is either a net profit or a net loss. If the total of the credit side exceeds the total of the debit side,
the difference represents net profit. In the opposite situation, the difference will represent a net
loss. This difference (i.e., net profit or net loss) is transferred to the capital account of the
proprietor. Net profit increases the capital and net loss decreases the capital.

C. Balance Sheet
After the balances of various nominal accounts have been transferred to the Trading and Profit
and Loss Account, a statement, called Balance Sheet is prepared from the remaining ledger

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balances of the Trial Balance. These ledger balances represent either assets or liabilities. The
main purpose of preparing this statement is to show the financial position of the business on a
certain fixed date. "A statement is drawn up on a given date, generally at the end of each
accounting year, to measure the exact financial position of a business, setting forth the various
assets and liabilities of the concern as at this date".

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2.14 DIFFERENCE BETWEEN TRIAL BALANCE AND BALANCE
SHEET

Basis Trial Balance Balance Sheet

Objective It is to test the arithmetical It is prepared to show the
accuracy of ledger posting. financial position of the business
at a particular date.
Period It is prepared frequently, It is usually prepared at the end of
usually monthly. each accounting year.
Headings “Particulars” is used as “Liabilities and Assets” headings
headings of item columns. are used respectively on the left
and right sides of item columns.
Nature of Accounts It contains balances of all types It contains balances of personal
of accounts. and real accounts only.
Nature of Balances It shows absolute figures of It shows adjusted figures of
ledger accounts. ledger accounts.
Compulsion It is not necessary to prepare It is necessary to prepare the
the trial balance, since it is balance sheet of a business
prepared to test the arithmetical concern.
accuracy of the posting.
Closing Stock Generally, in the trial balance It contains the figures of closing
the closing stock is not shown. stock.

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