LESSON 1 HANDOUTS

Definition and Nature of accounting

• ACCOUNTING is a service activity, whose function is to provide quantitative information,
primarily financial in nature, about economic entities, that is intended to be useful in making
economic decisions. –ACCOUNTING STANDARD COUNCIL
“TO PROVIDE QUANTITATIVE INFORMATION PRIMARILY FINANCIAL IN NATURE”
EXAMPLE OF QUANTITATIVE INFORMATION THAT IS FINANCIAL IN NATURE

“ABOUT ECONOMIC ENTITIES”

Economic entities are either profit-oriented or non-profit oriented entities.
PROFIT ORIENTED ENTITIES= BUSINESS ENTITIES OR BUSINESS ENTERPRISES

NON-PROFIT ORIENTED ENTITIES

- A not-for-profit organization does not earn any profits for its owners. Instead, the organization donates
the money it receives to help fund the organization's objectives and goals. A not-for-profit might also
use received donations to stay up and running.

ALL PARTIES WHO HAVE INTEREST IN AN ENTITY ARE CALLED STAKEHOLDERS.

THESE STAKEHOLDERS WHO USE ACCOUNTING INFORMATION ARE GROUPED INTO TWO, NAMELY:
1. EXTERNAL USERS
- Indirect users.
- External users are those entities interested in the financial results of a business, but take no
part in operating the entity.
EXTERNAL USERS INCLUDE:
-Creditors, Investors, prospective creditors and investors, government, and the public.

2. INTERNAL USERS
- Direct users.
- Management personnel in all levels within an entity.
- They make decisions that affect the internal operations of the entity.
INTERNAL USERS INCLUDE:
- Owners, and Managers/the management.

THE FOLLOWING ARE SOME OF THE USERS OF FINANCIAL INFORMATION AND THE USE OF SUCH
INFORMATION IN THE DECISIONS THAT THEY MAKE.
EXTERNAL USERS
1. INVESTORS – They are concerned with risk inherent in, and return provided by, their
investment. They need information to help them determine whether they should make
additional investment, hold, or sell their investments. SHAREHOLDERS (owners or investor in a
corporation) need information that will enable them to assess the ability of the corporation to
pay dividends.

2. LENDERS − They are interested in information that enable them to determine whether their
loans, and interest attaching to them, will be paid when due.

3. SUPPLIERS AND OTHER TRADE CREDITORS − They are interested in information that enable
them to determine whether amounts owing to them will be paid when due.

4. CUSTOMERS – They are interested in information about the continuance of an entity. especially
when they have a long-term involvement with, or are dependent on, the entity.

5. 5. GOVERNMENT AND THEIR AGENCIES – They are interested in the allocation of resources and,
therefore, the activities of entities. They also require information so that they can regulate the
activities of entities, determine taxation policies and as the basis for national income and similar
statistics.

6. 6. PUBLIC – They are interested in information about the trends and recent development in the
prosperity of the entity and the range of its activities.

INTERNAL USERS

1. BUSINESS OWNERS – any persons, firms or corporation holding legal title to both intangible
and tangible property of a corporation.

2. BOARD OF DIRECTORS – is an elected group of individuals extended to represent shareholders

and establish and support the execution of management policies.

3. MANAGERIAL EXPERIMENT – these are a group of people who are in charge of managing the
expectation of a company, they are responsible for the planning, directing, and continuing the
function.

4. EMPLOYEES - They are interested in the information about the stability and profitability of
their employees. They are also interested in information that will enable them to assess the
ability of their employers to provide remuneration, retirement benefits and employment
opportunities.

MEASUREMENT PRINCIPLES
1. Cost Principle
-Dictates that the companies record assets at their cost. This is true not only at the time the
asset is purchased, But also the asset is held.
2. Fair Value Principle
-States that assets and liabilities should be reported at fair value *the price received to sell an asset or
settle a liability)

ASSUMPTION
1. Monetary Unit Assumption
The monetary unit assumption requires that companies include in the accounting records only
transaction data that can be expressed in money terms. This assumption enables accounting to qualify
(measure) economic events. The monetary units assumption is vital to applying the cost principle.
2. Economic Entity Assumption
The economic entity assumption requires that the activities of the entity be kept separate and distinct
from the activities of its owner and all other economic entities.

Chart of Accounts
 The Basic Accounting Equation

Assets = Liabilities + Owner’s Equity

The Basic Accounting Equation

All the process in an accounting system must observe the equality of the accounting equation, which is
basically an algebraic equation.
Assets – are the economic resources you control that have resulted from past events and can provide
you with economic benefits.
Liabilities – Are your present obligations that have resulted from past events and can require you to give
up economic resources when settling them.
Owner’s Equity – is simply assets minus liabilities. Other terms for equity are “capital,” “net assets,” and
“net worth.”
Record the following transactions in the basic accounting equations:

1. Gracie Ryan invests 17,000 pesos to begin a real estate office.

2. The real estate office buys 600 pesos of computer equipment from Wal-Mart for cash.
3. The real estate company buys 800 pesos of additional computer equipment on account from
Circuit City
Solutions

ASSETS = LIABILITIES + OWNER’S EQUITY

Cash + Computer Equipment = Accounts Payable + Gracie Ryan, Capital

+₱17,000 + ₱17,000 1.

17,000 = 17,000 Balance

-600 +600 2.

16,400 + 600 = 17,000 Balance

+ +800 = +800 3.

₱16,400 + ₱1,400 = ₱800 + ₱17,000 Ending Balance

₱17,800 = ₱17,800
The Extended Accounting Equation
ASSETS = LIABILITIES + OWNER’S CAPITAL – OWNER’S DRAWINGS + REVENUES - EXPENSES

Notice that income is added while expenses are deducted in the equation. These are because income
increases in liabilities, that result in increases in equity while expenses decrease equity.

Revenue – is increases in economic benefits during the period in the form of increases in assets, or
decreases in liabilities, that result a in increase in equity, excluding those relating to distributions to
the business owner.

Expenses – are decreases in economic benefits during at the period in the form of decreases in assets
or increases in liabilities, that result in any decrease in equity, excluding those relating to distributions
to the business owner.

Record the following transactions into the expanded accounting equation for the Bing Company. Note
that all the titles have a beginning balance.
1. Received cash revenue 4,000 pesos
2. Billed customers for services rendered, 6,000 pesos
3. Received a bill for telephone expenses (to be paid next month) 125 pesos
4. Bob Bing withdrew cash for personal use, 500
5. Received 1,000 from customers in partial payment for services performed in transaction 2.
6.
The Extended Accounting Equation with beginning balance

Without beginning balance

PUT UP IN YOUR MIND

• In accounting, amounts in parentheses are negative amounts.

• Always remember the double rule.

• The equality of the accounting equation must be maintained in all the accounting process of
recording, classifying and summarizing. If the accounting equation doesn’t balance, there is
something wrong!

Financial Statement
- The financial statements are the end product of the accounting process.

Objective: To provide information about the financial position, financial performance and cash
flows of an entity that is useful to a wide range of users in making economic decisions.

1. Income statement

Also known as statement of profit or loss shows information on income and expenses, and
consequently, the profit or loss for the period.
Component of an income statement
The income statement may have minor variations between different companies, as expenses and
income will be dependent on the type of operations or business conducted. However, there are several
generic line items that are commonly seen in any income statement.

REVENUE
is the total amount of income generated by the sale of goods or services related to the company's
primary operations.
EXPENSES
- It is when cash or some other valuable object goes from a person or company to another person or
company.
-Decreases in assets or increases in liabilities that result in decreases in equity.

2. Owner’s Equity Statement

portrays changes in the capital balance of a business over a reporting period.

For example, a business has $100,000 of capital at the beginning of a reporting period. The entity earns
$15,000 of income, and the owner withdraws $5,000 from the capital account. The resulting statement
of owner's equity reveals the following information:

$100,000 Beginning capital balance

+15,000 Income
- 5,000 Draw

= $110,000 Ending capital balance

The report may also be described as the statement of changes in owner's equity.

3. Balance Sheet

- Also known as statement of financial position, shows information on assets, liabilities, and
equity.
Asset
is what the company owns
Current are all the assets of a company that are expected to be sold or used as a result of standard
business operations over the next year.
Non current is the residual definition of current assets

Liability
is what the company owes
Current liabilities are a company's debts or obligations that are due to be paid to creditors within one
year.
Non current liability is a long term liability or obligation which are payable for a period of time longer
than 1 year.
Owner’s Equity
is It's what's left over for the owner after you've subtracted all the liabilities from the assets.
4. Statement of Cash flows

-A cash flow statement is a financial statement that summarizes the amount of cash and cash
equivalents entering and leaving a company. Measures how well a company generates cash to pay its
debt obligations and fund its operating expenses.
As a result, there are two methods of calculating cash flow: the direct method and the indirect method.

Direct Cash Flow Method

The direct method adds up all the various types of cash payments and receipts, including cash paid to
suppliers, cash receipts from customers, and cash paid out in salaries.

Indirect Cash Flow Method

With the indirect method, cash flow from operating activities is calculated by first taking the net income
off of a company's income statement.