CH 1: FUNDAMENTALS OF ACCOUNTING

Principles of Accounting ACCO 014 (Lecture)

2. Exchange
ACCOUNTING ○ The process of trading
● A service activity resources or obligations for
● It’s function is to provide quantitative other resources or obligations
information; ○ Exchange of services or trading
○ Can be measured in units, etc.
● Primarily financial in nature, about 3. Income Distribution
economic entities that is intended to be ○ The process of allocating rights
useful in making economic decisions to the use of output among
● A tool of communication individuals and groups in
● The language of business and the society
language of life ○ Example:
■ Group of people share a
capital to start a
ACCOUNTING AS A SCIENCE AND ART business to make a
● Accounting is a social science with a profit
body of knowledge which has been
systematically gathered, classified, and 4. Consumption
organized ○ Choose a robust platform that
● Influenced by, and interacts with can help with you objectives
economic, social, and political
environments 5. Investment
● A practical art which requires the use of ○ The process of using current
creative judgement inputs to increase the stock of
resources available for output
as opposed to immediately
ACCOUNTING AS AN INFORMATION consumable output
SYSTEM ○ Ex: Renting a building
● Accounting identifies and measures
economic activities, processes 6. Savings
information into financial reports and ○ The process by which
communicates these reports to individuals & groups set aside
decision makers rights to present consumption in
○ Decision makers are the users exchange for rights to future
● Most people makes a decision that ○ Setting aside for future benefit
relies on accounting information
○ Ex. Buying a car
BASIC PURPOSE OF ACCOUNTING

ECONOMIC ACTIVITIES AND THEIR ● Provide quantitative information about

CLASSIFICATION economic entities intended to be useful
in making economic decisions

1. Production
○ The process of converting TYPES OF INFORMATION PROVIDED BY
economic resources into ACCOUNTING
outputs of goods and services
that are intended to have 1. Quantitative Information
greater utility than the required ○ Expressed in numbers,
inputs quantities, or units
○ Example:
■ Raw -> Meat 2. Qualitative Information
Process -> Ham ○ Expressed in words or
descriptive form
■ Usually 20-30 pages
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3. Financial Information Measurement
○ Expressed in terms of money ● Process of assigning peso amounts of
numbers to the economic transactions
and events
ECONOMIC ENTITY VS BUSINESS ● Unit of measure of accounting in
ENTITY
money, expressed in prices
○ Measured in terms of money
Economic Entity ● Quantifiable
● A separately identifiable combination of
persons & property that uses or Communication
controls economic or scarce resources ● Process of preparing and distributing
to achieve certain goals or objectives accounting reports to potential users of
● Scarce resources have no significant accounting information and interpreting
characteristics the significance of this processed
● Can be a non-profit or business entity information
● Recording
➢ Not-for-profit or non-profit entity is one ○ Process of systematically
that carries out some socially desirable committing to writing business
needs of the community or its members transactions and events after
whose activities are not directed they have been identified and
towards making profit measured, in books of account
in a systematic & chronological
Business Entity manner according to accounting
● An entity that produces and distributes rules
goods or services primarily for profit ○ Recording the info by putting in
● For the purpose of creating or making a in the books of account
profit ● Classifying
○ Grouping of similar and
interrelated item into their
FUNCTIONS OF ACCOUNTING respective classes
● Summarizing
Identification ○ Putting together or expressing
● Process of recognition or in condensed or brief form the
recorded and classified
nonrecognition of business activities as
accountable events or whether has statements in financial
statements
accounting relevance
● This accounting reports to the users
● Accountable Events
○ One that has quantifiable and
has an effect on assets,
liabilities, and equity BRANCHES OF ACCOUNTING / AREA OF
○ AKA as economic activity SPECIALIZATION
■ The subject matter of
accounting
Financial Accounting
● Criteria for Accountable Event
● The recording of transactions,
1. It must affect a financial
preparations of financial statements,
element of accounting
and communication of financial
(increasing or decreasing asset,
information to external user groups
liability, or equity)
○ From identifying to
2. It is a result of a past activity
communicating
3. Its cost can be measured
● Focuses on general purpose reports
reliably
● The general accountant (in the
● Accounting is analytic
company)
● Transaction
○ You have to know the details of
Auditing
what happened as it affects the
● Examination of financial statements by
measurement
independent certified public
accountant (third party) for the
purpose of expressing an opinion on
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the fairness of presentation of financial ● Accountant in different sectors of
statements government accounting
● Gives the opinion on financial
statements if it has been treated fairly Fiduciary Accounting
● Handling of accounts managed by a
Management Accounting person entrusted with the custody and
● Incorporates cost accounting data and management of property for the benefit
adopts them for specific decisions of another
which management may be called ● By trust
upon to make ● Accountant that finances a person’s
● A management accounting system assets
incorporates all types of financial and
non-financial information from a wide Social Responsibility
range of resources ● Reporting of programs and projects
● They help the management that have to do with the upliftment of
(company) make a wise decision the welfare of the people of a
● Management Accountant community or of the nation
○ Comparative
○ Investigates other entities Environmental Accounting
beyond its own in the industry ● Area of accounting that focuses on
to get information programs, activities, and projects that
are focused care for the Mother Earth
Financial Management ● Related to our environment
● Relatively new branch of accounting ● Accounting in entities that take care of
that has been grown rapidly over the the environment
last 35 years
● Financial Managers are responsible Price-level Accounting
for: ● Otherwise known as Accounting for
○ Setting objectives Hyperinflationary Economies
○ Making plans based on those ● Accounting that recognizes in the
objectives financial statement changes in the
○ Obtaining finance needed to purchasing power of money
achieve the plans ● Measure of the value or purchasing
○ Generally safeguarding all the power of money
financial resources of the entity ● Involves the erratic changes of money -
■ Budget inflation
● They are included in setting up the
financial objectives and goals of the
USERS OF ACCOUNTING INFORMATION
entity
○ Also makes analysis on what
goals they should set INTERNAL USERS
● They work hand-in-hand with other
departments [of the company], e.g., ➔ Those who make decisions directly
sales, etc. affecting the internal operations of the
business
Taxation / Tax Accounting ➔ Within the organization / entity /
● Involves the preparation of tax returns company
and rendering of tax advice, such as
determination of tax consequences of ❖ Managers
certain proposed business endeavors ➢ Directly involved in operation of
● Reporting of tax in monthly and annual the business
basis ➢ They need accounting data to
improve the efficiency and
Government Accounting effectiveness of the org
● Accounting for the national government ➢ Has to know what is happening
and its instrumentalities, focusing in the department
attention on the custody of public funds
and the purpose/s to which such funds
are committed
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❖ Employees ❖ Lenders
➢ Use financial data to assess ➢ Interested in info that enables
whether they are receiving the them to determine whether their
right compensation and to loans and their interest
check if they bargain for higher attaching to them will be paid
remuneration, retirement when due
benefits, and employment ➢ Wants to make sure that the
opportunities company will pay the loan
➢ Makes sure that compensation
is fair enough ❖ Suppliers and other trade creditors
➢ Interested in info that enables
❖ Officers them to determine whether
➢ Also called as company
amount owing to them will be
executives
➢ Interested to know if the paid when due
company is doing well in its
operations so they can plan for ❖ Customers
possible expansion or ➢ Interested in the quality of
branching out to widen its goods and services that they
geographical and demographic are getting from the entity
market
➢ Can see whether the company
➢ Involved in the decision-making
of the company is going downhill or uphill based
■ E.g., decides whether a on the quality of products &
certain segment needs services
to be shut down or ■ E.g., Poor quality =
expanded company doesn’t have
the budget and is going
❖ Internal Auditors
➢ Their role is to protect and downhill
safeguard the resources of the
company against fraud or ❖ Government and their agencies
irregularities ➢ Require info in order to regulate
➢ Makes sure that the policies the activities of the enterprise,
implemented are being utilized determine taxation policies, and
as a basis for national income
EXTERNAL USERS and similar activities
➔ Individuals or enterprises that have
financial interest in the business but ❖ Public
they are not involved in the day ➢ Assisted by info through
activities of the organization financial statements about the
➔ Outside the organization / entity trend & recent developments in
the prosperity of the enterprise
❖ Investors
➢ Providers of risk capital and the range of its activities
➢ Interested in information which
enables them to assess the
ability of the enterprise to pay FUNDAMENTAL CONCEPTS
dividends
➢ They need info on whether they Entity Concept (Business Entity / Separate
should buy, hold, or sell their Entity)
shares in
● Most basic concept in accounting
■ They buy the shares of
the company ● An organization or a section of an
■ Looks at the info of the organization that stands apart from
company to make sure if other organizations and individuals as
they should invest or not a separate economic unit
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● The transactions of different entities
BASIC PRINCIPLES
should not be accounted for together
● Each entity should be evaluated
separately ➢ Objectivity Principle
● Has a personal identity, separate from ○ Accounting records and
others statements are based on the
● Business transactions NOT personal most reliable data available so
transaction that they will be as accurate
and as useful as possible
Periodicity Concept ○ Reliable data are verifiable
● An entity’s life can be meaningfully when they can be confirmed by
subdivided into equal time periods for independent observers
reporting purposes ○ Accounting information and
● For the purpose of reporting to financial reporting should be
outsiders, one year is the usual independent and supported with
accounting period unbiased evidence
● Luca Pacioli ○ Aimed at making financial
○ First author of accounting text, statements more relevant and
1494 reliable
○ “Books should be closed each
year, especially in a ➢ Historical Cost
partnership, because frequent ○ States that acquired asset
accounting makes for long should be recorded at their
friendship” actual cost and not at what
● Reports in periods of times: Monthly, management thinks they are
quarterly, annually worth as at reporting date
● Compared periodically ○ All assets should be valued and
recorded based on actual
★ FISCAL PERIOD equivalent or original cost of
○ The 12-month period used by a acquisition
government and the business ○ Acquisition cost is the most
world for its record-keeping, objective basis
budgeting, revenue-collecting,
and other financial ➢ Revenue Recognition Principle
management purposes ○ The Philippine Peso is a
○ Starts in any month and ends reasonable unit of measure and
after 12 months. its purchasing power is
relatively stable
Stable Monetary Unit Concept ○ This is the basis for ignoring the
● The Philippine Peso is a reasonable effects of inflation in the
unit of measure and that its purchasing accounting records.
power is relatively stable ○ Recognize income
○ The basis for ignoring the ○ Revenues are recognized as
effects of inflation in the soon as goods are sold
accounting records
○ Local reporting ➢ Expense Recognition Principle
● In a multinational company, it can use ○ Expenses should be recognized
multiple currencies as unit of measure in the accounting period in
○ US Dollar which goods and services are
○ PH Peso, etc. used up to produce revenue &
ACCO 014 | FUNDAMENTALS OF ACCOUNTING
not when the entity pays for are recorded in the accounting records
those goods and services and reported in the financial statements
of the periods to why they relate.
➢ Adequate Disclosure (Full Disclosure) ○ Transaction is recognized
○ Requires that all relevant info immediately the moment it
that would affect the user’s happens
understanding and assessment ● In short, transactions are recognized
of the accounting entity be when “Revenue as they earned, even
disclosed in financial not yet received and; Expenses as they
statements incurred, even not yet paid”
○ Users can’t usually read the info ➔ In Cash Basis accounting,
therefore it must be explained ○ However, does not record a
thru narrative transaction until cash is
received or paid
➢ Materiality ○ Generally, cash receipts are
○ Financial reporting is only treated as revenues and cash
concerned with info that is payments as expenses
significant enough to affect
evaluations and decisions Going Concern (Assumption)
○ Depends on the size & nature ● Financial statements are normally
of the item judged in the prepared on the assumption that an
particular circumstance of its enterprise is a going concern and will
omission continue in operation for a foreseeable
■ Depends on the size of future
the entity ● It is assumed therefore that the
■ Transaction enterprise has neither the intention nor
○ Depends on the judgment of the the need to liquidate its operations
accountant ● A business entity is assumed to remain
in existence for an indeterminate period
➢ Consistency Principle of time
○ The firms should use the same ● Reflects assumption that business will
accounting method from period continue operating instead of being
to period to achieve closed or sold
comparability over time within a
single enterprise
BUSINESS ORGANIZATION
○ However, changes are AND ITS FORMS
permitted if justifiable and
disclosed in financial
Sole Proprietorship
statements
● This business organization has a single
owner called the proprietor
UNDERLYING ASSUMPTIONS/CONCEPT ○ Also, the manager
● It tends to be small service-type (e.g.,
Accrual Basis physicians, lawyers and accountants)
● Financial statements are prepared on business, and retail establishments
the accrual basis of accounting and not ● The owner receives all profits, absorbs
as cash or its equivalent is received or all losses and is solely responsible for
paid all debts of the business
● Under this assumption, the effects of ● From the accounting viewpoint, the
transactions and other events are sole proprietorship is distinct from its
recognized when they occur and they proprietor
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○ Thus, the accounting records ● They buy raw materials, convert them
do not include the proprietor's into products, and sell the products to
personal financial records other companies or to final consumers
● Examples:
Partnership ○ Paper Mills
● A business owned and operated by ○ Steel mills
two or more persons ○ Car manufacturers
● These people bind themselves to ○ Drug manufacturers
contribute money, property or industry
to a common fund, with the intention of
MICRO, SMALL, AND MEDIUM
dividing the profits among themselves ENTERPRISES (MSME)
● Each partner is personally liable [and
taxed] for any debt incurred by the
Micro Enterprises
partnership, except limited partnership
● Those with assets, before financing of
P3M or less
Corporation
● Not more than 9 workers
● A business owned by its stockholders
● It is an artificial being created by
Small Enterprises
operation of law, having the rights of
● Above P3M to P15M
succession and the powers, attributes
● 10-99 workers
and properties expressly authorized by
law or incident to its existence
Medium Enterprises
● Corporation has its own identity and
● Above P15M to P100M
entity from its stockholders
● 100-199 workers
● The stockholders are not personally
liable for the corporation
ACTIVITIES IN BUSINESS
ORGANIZATIONS
PURPOSE OF BUSINESS
ORGANIZATIONS
Operating Activities
❖ The principal activities of the enterprise
Service Companies
❖ They are the transactions and events
● Perform services for a fee
that enter into the determination of
● Examples:
profit and loss
○ Law firms
❖ Example:
○ Accounting firms
➢ Sale of services
○ Stock brokerage
➢ Purchase of supplies
○ Beauty salons
➢ Payment of various expenses
○ Recruitment agencies
like:
■ Salaries & other benefits
Merchandising Companies
to employees
● Purchase goods that are ready for sale
■ Utilities
and then sell these to customers
■ Taxes
● Examples:
■ Repairs & maintenance
○ Car dealers
■ Insurance
○ Clothing stores
■ Transportation &
○ Supermarkets
gasoline expenses.
Manufacturing Companies
Investing Activities
❖ The acquisition and disposal of
long-term assets and other investments
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❖ Examples:
➢ Purchase of equipment,
furniture, automobile, and land
➢ Cost of developing and
constructing office or building
➢ Sale of used fixed assets
➢ Loans and advances to other
parties
➢ Investments in equity or debt
instruments

Financing Activities
❖ Activities that result in charges in the
size and composition of the contributed
equity and borrowings of the enterprise
❖ Examples:
➢ Cash proceeds from issuing
shares of stocks by a
corporation
➢ Cash proceeds and repayment
of bank loans and other
long-term borrowings