Fundamentals of

Accounting
 Accounting Definition
• Recording
• Classifying
• Summarizing
• Analyzing
• Interpreting
• Communicating
Transactions & Events in Monetary Terms
Examples of Events/Transactions
o Received Loan from Uncle of Rs.8,00,000 through Cheque
o Opened Bank Account & deposited Cheque
o Purchased Land for Rs.4,00,000
o Given Advance for purchase of Godown Building Rs.75,000
o Bought a Motorcycle for Rs.50000
o Given loan to friend Rs.1,00,000
o Started small business by investing Rs.50000 for Tables/
Chairs/Furniture
o Purchased Goods for Rs.1,00,000
o Sold 80% of those Goods for Rs.1,20,000
o Friend repaid Rs.75,000 out of loan given by you within 1
month
o Paid Income Tax on Profit made during period
o Received Advance amount of Rs.50,000 from Customers to
whom you promised to supply after 1 month
 Recordin
g
• Process in which the financial transactions
and events that are identified are
recorded in Books
• These typically would be
– Cash Book/ Bank Book
– Purchase and Sales Books
– Bills Receivable and Bills Payable Books
– Purchase and Sales Return Books
– Journal Book (other than above)
 Classifying
• Process where transactions or entries of
one or similar nature are grouped.
• The book containing classified information
is called “Ledger”.
• For Example, there may be separate
account heads for Sales, Purchases, GST,
Salaries, Rent, Office Expenses, Taxes
Paid, Advertisement expenditure etc.,
 Summarizing
• Involves preparation and presentation of the
Classified Data in a manner useful to various
internal and external users.
• Leads to the preparation of the following
financial statements
o Trial Balance
o Profit and Loss Account
o Balance Sheet
o Cash-Flow Statement
 Analysis & Interpretation

• Includes analyzing and then interpreting

the financial data to make a meaningful
judgement of the profitability and financial
position of the business.
• The financial statement should explain not
only
– „what had happened‟ but also
– „why it happened‟ and also
– „what is likely to happen under
specified conditions‟
 Communicating

• It is concerned with the transmission of

analyzed and interpreted information to the
end-users to enable them to make rational
decisions
• This includes preparation and distribution of
accounting statements/Annual Reports
 Users of Financial information

INTERNAL USERS EXTERNAL

• Board of Directors USERS
• Partners • Investors
• Managers • Lenders
• Officers • Suppliers
• Employees • Government
• Customers
 Functions of Accounting
Measurement Measures past performance of the business entity
and depicts its current financial position

Forecasting Helps in forecasting future performance and financial

position of the enterprise using past data

Decision-making Provides relevant information to the users of

accounts to aid rational decision making

Comparison & Assesses performance achieved in relation to targets

which is important for predicting, comparing and
Evaluation evaluating the financial results

Control Defines weaknesses of the operational system and

provides feedbacks regarding effectiveness of
measures adopted to check such weaknesses

Govt. Regulation & Provides necessary information to the government to

exercise control on the entity as well as in collection
Taxation of tax revenues
 Basis of Accounting

Cash Basis Accrual Basis

 Comparison of Methods
CASH BASIS ACCRUAL BASIS
• Recognizes revenues when cash • Revenues and expenses are
is received and expenses when recorded when the are earned
they are paid. or Due, regardless of when the
• Does not recognize accounts money is actually is received
receivable or accounts payable or paid
• Beneficial in terms of tracking how • Gives a more realistic idea of
much cash the business actually income and expenses during a
has at any given time period of time, therefore
• Since the transactions are not providing a long term picture of
recorded until the cash is received the business that cash
or paid, the business‟s income is accounting can‟t provide
not taxed until it is in the bank • Most widely followed method,
mandatory for Companies etc.,
 DOUBLE ENTRY SYSTEM
OF BOOK KEEPING
• This is the system of Keeping the Books of
Accounts world wide and now India is also
following the same
• It is based on the principle that “every business
transaction has two accounts in opposite
directions and if a complete record is to be made
of each such transaction, it would be necessary
to Debit one account and Credit one Account.”
• So “every Debit has corresponding Credit and
every Credit has corresponding Debit with
equal amount”
 Classification
of Accounts

Personal Real Nominal

 Personal Accounts
• Natural personal accounts: The elements or
accounts which represent persons. E.g. Kumar‟s A/c,
Asha A/c etc.
• Artificial personal accounts: Personal accounts
which are created artificially by law, such as corporate
bodies and institutions, are called Artificial personal
accounts. Ex. Private Ltd Companies, LLPs, Clubs,
Societies/Schools etc.
• Representative personal accounts: Accounts which
represent a certain person or a group directly or
indirectly. E.g. Outstanding expense a/c, Prepaid
expense a/c
Golden Rule for “Personal Accounts”

Debit the Receiver

Credit the Giver

Example :
Paid M/s Mitra Agencies Rs.25,000 by Cheque

Accounts
Debit/Credit Rule Applied
Involved
• Mitra Agencies • Debit • Personal a/c-
A/c Debit the
Receiver
• To Bank • Personal a/c-
• Credit
Credit the
a/c Giver
 Real Accounts
• All assets of a firm, which are tangible or
intangible, fall under the category “Real
Accounts“.

• Tangible real accounts are related to things that can be

touched and felt physically. Few examples of tangible
real accounts are Building, Machinery, Stock, Land etc.

• Intangible real accounts are related to things that can’t

be touched and felt physically.
Few examples of such real accounts are Goodwill,
Patents (new Invention), Trademarks (Brand
Name such as Chutneys, Chermas, Bata, Titan
etc.)
Golden Rule for “Real Accounts”

Debit what comes in

Credit what goes out

Example :Purchased Furniture for Rs.10,000 in cash

Accounts
Debit/Credit Rule Applied
Involved
• Furniture a/c • Debit • Real a/c-Debit
what comes in
• To Cash • Credit • Real a/c-Credit
a/c what goes out
 Nominal Accounts
• Accounts which are related to expenses, losses,
incomes or gains are called Nominal accounts.

• Nominal accounts do not really exist in physical form,

but behind every nominal account money is
involved.
E.g. Purchase A/c, Salary A/c, Sales A/c,
Commission paid A/c, Commission received A/c

• The final result of all nominal accounts is either profit

or loss which is then transferred to the capital account.
Golden Rule for “Nominal Accounts”

Debit all expenses and losses

Credit all incomes and gains

 Example : Paid Salaries of Rs.20,000 in cash

Accounts
Debit/Credit Rule Applied
Involved
• Salaries a/c • Debit • Nominal a/c-
Debit all
• To Cash • Credit expenses
• Real a/c-
a/c
Credit what
goes out
 Basic Accounting Rules

 Credit 

Debit
Expenditure
Income

 Liability  Asset

25
 Rules of Accounting
Type of Account Debit Credit

Personal The Receiver The Giver

Real What Comes In What goes out

Nominal All Expenses & All Incomes &

Losses Gains

26
 Flow of Accounting
Understanding the Transaction

Voucher Entry

Posting

Balancing

Trial
Balance
P&L Balance Sheet
Account 27
 Financial Statements
Financial Statements are Summary-level reports
about an organization's financial results, financial
position and cash flows.
Useful for:
• Determine the ability of a business to generate
cash, and the sources and uses of that cash.
• Determine whether a business has the capability
to pay back its debts.
• Track financial results on a trend line to spot
any profitability issues.
• Investigate the details of certain business
transactions
Standard contents of a set of financial statements:

• Balance Sheet : Shows the entity's assets, liabilities, and

shareholders' equity as of the report date.

• Income Statement : Shows the results of the entity's

operations and financial activities for the reporting period.
It includes revenues, expenses, gains, and losses.

• Statement of Cash Flows : Shows changes in the entity's

cash flows during the reporting period.

• Supplementary Notes : Includes explanations of various

activities, additional detail on some accounts, and other
items as mandated by the applicable accounting framework,
worldwide
 Structure of Accounting
Ledger Accounts

Credit

Debit
Asset

Liability Income Expenditure

P & L Account
Balance Sheet 30
 Profit and Loss Account(P&L)

• Financial statement that summarizes the

revenues, costs, and expenses incurred during a
specified period, usually a year or even Quarterly
(for Stock Exchange Listed Companies).
• This Statement provide information about a
company's ability or inability to generate profit by
increasing revenue, reducing costs, or both.
• P&L Management refers to how a company
handles its Profit or Loss through revenue and cost
management, by taking suitable decisions.
 Profit & Loss Account Group

Income Expenditure

Direct Income Direct Expenses

Indirect Income Indirect Expenses
Sales Accounts Purchase Accounts

33
 Balance Sheet
• A balance sheet is a financial statement that
reports a company's assets, liabilities and
shareholders' equity at a specific point in time,
and provides a basis for computing rates of
return and evaluating its capital structure.
• It is a financial statement that provides a snapshot
of what a company owns and owes, as well as
the amount invested by shareholders.
 Balance Sheet Group
Assets :
Liabilities :
Fixed Assets
Capital
Reserves & Surplus Investments
Loans (Liability) Current Assets
• Secured Loans – Bank
• Unsecured Loans Accounts
Current Liabilities
• Bank OCC/Bank
– Cash in
OD Hand
• Provisions – Sundry
• Sundry Creditors Debtors
– Deposit 35
 Manual Accounting Computerized Accounting

• It is a system of accounting • It is a system of accounting that

that uses physical account uses an accounting software for
books for keeping financial recording financial transactions
records. electronically

• All the calculation is • Only data input is required, the

performed manually. calculations are performed by
computer system.

• Entries are made in Book of • Entries are recorded in software

Original Entry. like Tally, Focus, Quick Books etc.

• The final result is to provide • The final result is to provide

the Financial Statements at Financial Statements at any time
the end of the year. given in a year.
 Cash Flow Statement

• Cash Flow Statement summarizes the amount

of cash and cash equivalents entering and
leaving a company during a particular period
of time

• The cash flow statement (CFS) measures how

well a company generates cash to pay its debt
obligations and fund its operating expenses.
 Annual Report

• An annual report is a publication that public corporations

must provide annually to shareholders to describe their
operations and financial conditions and contains detailed
financial and operational information.

• The intent of the required annual report is to provide

public disclosure of a company's corporate activities over
the past year.

• The report is typically issued to shareholders and other

stakeholders who use it to evaluate the firm's financial
performance.