INTRODUCTION TO ACCOUNTING Define accounting The Accounting Standards Council defines accounting as follows: Accounting is a service activity.

Its function is to provide quantitative information, primarily financial in nature, abut economic entities, that is intended to be useful in making economic decision. The Committee on Accounting Terminology of the American Institute of Certified Public Accountants defines accounting as follows: 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. The American Accounting Association in its Statement of Basic Accounting Theory defines accounting as follows: Accounting is the process of identifying, measuring and communicating economic information to permit informed judgment and decision by users of information. What are the three important activities in accounting embodied in the accounting definition? The accounting definition provides three important activities in the accounting process, namely: a. Identifying b. Measuring c. Communicating Explain fully the identifying process of accounting Identifying means the recognition or non-recognition of accountable events. An event is accountable when it has an effect on assets, liabilities and equity. (Accountable events are frequently called business transactions) Explain briefly the measuring process of accounting. Measuring or 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 financial statements. The Philippine peso is the unit of measuring accountable economic transactions. Explain fully the communicating process of accounting. Communicating is the process of preparing and distributing accounting reports to potential users of accounting information. Actually, it is for this reason that accounting has been called the language of business.

INTRODUCTION TO ACCOUNTING Implicit in the communication process are the recording, classifying and summarizing aspects of accounting. Recording or journalizing is the process of systematically maintaining a record of all economic business transactions after they have been identified and measured. Classifying is the sorting or grouping of similar and interrelated economic transactions into their respective class. Actually, classifying is accomplished by posting to the ledger. Summarizing is the preparation of financial statements. What is the basic purpose of accounting? The basic purpose of accounting is to provide quantitative financial information about a business that is useful to statement users in making economic decisions. Enumerate the users of financial statements and their information needs. a. Investors the providers of risk capital and their advisers are connected with the risk inherent in and return provided by their investments. They are interested in information which enables them to assess the ability of the entity to provide return on their investment. b. Management managers of business use accounting information to set goals for the organization, to evaluate the progress made toward those goals, and to take corrective action if necessary. c. Employees are interested in information about the stability and profitability of the entity. They are interested in information which enables them to assess the ability of the entity to provide remuneration, retirement benefits and employment opportunities. d. Lenders are interested in information which enables them to determine whether their loans and interest thereon will be paid when due. e. Suppliers and other trade creditors these users are interested in information which enables them to determine whether amounts owing to them will be paid on maturity. f. Customers have an interest in information about the continuance of an entity especially when they have a long-term involvement with or are dependent on the entity. g. Government and its agencies require information to regulate the activities of the entity, determine taxation policies and as a basis for national income and similar statistics. h. Public financial statements may assist the public by providing information about the trends and recent developments in the prosperity of the entity and the range of its users. Enumerate and define the forms of business organizations. a. Sole proprietorship business organized by one person who usually acts as a manager. b. Partnership is a contract whereby two or more persons bind themselves to contribute money, property or industry into a common fund with the intention of dividing the profits among themselves. The persons owning this form of business are called partners.

INTRODUCTION TO ACCOUNTING c. Corporation is a body formed and authorized by law to act as a single person although constituted by one or more persons and legally endowed with various rights and duties. This is the more popular form of business organization today. Persons who put in capital in a corporation are called stockholders or shareholders. What are the types of business operation/activities? a. Service business is the simplest type of business which performs service, for a fee, to a client or customer. Examples are schools, airlines, travel agencies and the like. b. Merchandising business is one which buys and sells goods or merchandise. A good example of this is a bookstore which line of merchandise ranges from books and magazines to office supplies and school supplies. c. Manufacturing business buys raw material first and after changing the form sells the products to the customer or distributor. Examples of manufacturing businesses are the garment factories, shoe factories, drug laboratories and food processing companies. What are generally accepted accounting principles? Generally accepted accounting principles represent the rules, procedures, practice and standards followed in the preparation and presentation of financial statements. For an accounting principle to be generally accepted, it should receive authoritative support from regulatory bodies in accounting and government. What are the purposes of GAAP? The generally accepted accounting principles serve three basic purposes: a. Statement users are assured of relevant financial reports and reliable financial information since are assembled based on acceptable practices and rules and regulations set up by authoritative accounting bodies and government regulatory agencies. Relevance is the capacity of information to make a difference in the economic decision being made by the statement user. Reliability is the degree of confidence users have on the financial statements because they represent faithfully the economic substance of transactions, that they are what they purport to be, that they are not misstated or manipulated. b. They provide companies and accountants guidance on how to account for and report economic activities. c. They provide independent auditors of financial statements with basis for evaluating the fairness and completeness of those statements.

INTRODUCTION TO ACCOUNTING What are the various accounting concepts? a. b. c. d. e. f. g. h. i. j. k. Accrual Assumption Going Concern Assumption Entity Assumption Time period assumption Monetary unit assumption Objectivity assumption Cost principle Disclosure principle Materiality Consistency Conservatism

(Discussion of Income realization principle and Matching principle can be found in the Introduction to Financial Statements) Explain fully the accrual assumption Accrual accounting means that income is recognized when earned regardless of when received and expense is recognized when incurred regardless of when paid. Under this basis, the effects of transactions and other events are recognized when they occur and not as cash or its equivalent is received or paid, and they are recorded in the accounting reports and recorded in the financial statements of the periods to which they related. The essence of accrual accounting is the recognition of accounts receivables, accounts payable, prepaid expenses, accrued expenses, deferred income and accrued income. Explain briefly the going concern assumption Going concern assumption means that the accounting entity is viewed as continuing in operation indefinitely in the absence of evidence to the contrary. This non liquidation assumption provides a conceptual basis for classifying assets and liabilities into current or non-current. This postulate is the very foundation of the cost principle. It is also known as the continuity assumption. Explain fully the accounting entity assumption Under this assumption, the business enterprise is separate from the owners, managers and employees who constitute the firm. Accordingly, the transactions of the enterprise should not be merged with the transactions of the owners.

INTRODUCTION TO ACCOUNTING The reason for this assumption is to have a fair presentation of financial statements. The personal transactions of the owners should not be allowed to distort the financial statements of the enterprise. Explain briefly the time period assumption The time period assumption requires that the indefinite life of an enterprise is subdivided into time periods or accounting periods which are usually of equal length for the purpose of preparing financial reports on financial position, performance and cash flows. The accounting period is one year or a period of twelve months. The one-year period is traditionally the accounting period because usually it is after one year that the government reports are required. The accounting period may be a calendar year or a natural business year. A calendar year is a twelvemonth period that ends on December 31. A natural business year (sometimes called fiscal year) is a twelve-month period that ends on any month when the business is at the lowest or experiencing slack season. Explain fully the monetary unit assumption The monetary unit assumption has two aspects, namely quantifiability and stability of the peso. The quantifiability aspect means that assets, liabilities, equity, income and expenses should be stated in terms of a unit of measure which is peso in the Philippines. The stability of peso assumption assumes that the purchasing power of the peso is stable or constant and that its instability is insignificant and therefore may be ignored. In todays world, the assumption that the peso is a stable measure over time is not necessarily valid. What is objectivity concept? This principle requires that all transactions must be evidenced by business documents free from personal biases and that independent experts can verify reports. What is cost principle? This principle requires that assets should be recorded initially at original acquisition cost. In other words, the financial statements should be based on historical cost rather that market value. The reason is that cost is objective and therefore reliable while market value is subjective. In a cash transaction, cost is equivalent to the cash payment. In a noncash or an exchange transaction, the cost is equal to the fair value of the asset given or fair value of the asset received whichever is clearly evident. In the absence of fair value, the cost is equal to the book value of the asset given. Explain the standard of adequate disclosure The standard of adequate disclosure means that all significant and relevant information leading to the preparation of financial statements should be clearly reported. The rule is that the accountant should 5

INTRODUCTION TO ACCOUNTING disclose a material fact known to him which is not disclosed in the financial statements but disclosure of which is necessary in order that the statements would not be misleading. Explain the concept of materiality Materiality is a practical rule in accounting which dictates that strict adherence to GAAP is not required when the items are not significant enough to affect the evaluation, decision and fairness of the financial statements. This concept is also known as the doctrine of convenience. When is an item material? There is no strict or uniform rule for determining whether an item is material or not. Very often, this is dependent on good judgment, professional expertise and common sense. However, a general guide may be given, to wit: An item is material if knowledge of it would affect or influence the decision of the informed users of the financial statements. Explain the principle of consistency. This principle requires that the accounting methods and practices should be applied on a uniform basis from period to period. However, consistency does not mean that no change in accounting method can be made. If the change will result to more useful and meaningful information, then such change should be made. Explain the concept of conservatism or prudence. Under conservatism, when alternatives exist, the alternative which has the least effect on equity should be chosen. Conservatism is applied as follows: a. If there is a choice between two acceptable asset values, the lower figure is selected. b. Contingent loss is recognized as a provision if the loss is probable and the amount can be reasonably estimated. (Technically it is not a contingent loss anymore) c. Contingent gain is not recognized but disclosed only. (The gain should be probable.)