Accounting fundamentals and theory.

1. ACCOUNTING: MEANING,
SCOPE AND PRINCIPLES

2. In this unit, you will be able to:
 Appreciate the need of accounting
 Perceive the development of accounting
 Explain the meaning of accounting
 Name the persons interested in accounting disclosures
 Identify the objectives of accounting
 Explain the relationship of accounting with other disciplines
 Appreciate the role of the accountant in society
 Explain the meaning of accounting principles
 Differentiate between accounting concepts and conventions
 Appreciate the importance of different accounting concepts
and conventions
 Name the accounting standards issued by the Institute of
Chartered Accountants (esp. in India).
 Describe the different systems of accounting

3.  As the language of a business and as a means of
communication.
 Use of Accounting is nearly done by every sector of
society.
 Specifically crucial for a business man because he
knows:
I. What he owns
II. What he owes;
III. Whether he has earned a profit or suffered a loss on
account of running a business;
IV. What his financial position is..!!!!

5.  Owes its origin to Pacoili, who lived in Italy in the 18th century.
 The advent of the Industrial Revolution brought (esp. from the last
50 yrs.)
 Earlier accounting was considered simply a process of recording
business transactions and the role of accountant was that of record-
keeper. However, Accounting today is thus more of an information
system rather than a mere recording system.
 Technological changes have brought a huge change..!!!!
 Systematically writes the economic history of the organization.
 Now responsible for decisions affecting organization’s future.

6.  Three main definition sources:
 In 1941, the American Institute of Certified Public Accountants
(AICPA)
 In 1966, the American Accounting Association (AAA)
 In 1970, the Accounting Principles Board (APB) of AICPA
 Thus collectively, accounting may be defined as the process of
recording, classifying, summarizing, analyzing and interpreting
financial transactions and communicating the results thereof to
persons interested in such information.

7.  Recording ‫کردن‬ ‫ثبت‬
 Classifying ‫كردن‬ ‫بندي‬ ‫دسته‬/‫كردن‬ ‫بندي‬ ‫طبقه‬
 Summarizing ‫نمودن‬ ‫خالصه‬ ‫یا‬‫وموجزكردن‬ ‫مختصر‬
 Dealing with financial transactions
 Analyzing‫کردن‬ ‫،تحليل‬ ‫کردن‬ ‫تجزیه‬ and interpreting ‫ترجمه‬ ، ‫كردن‬ ‫تفسير‬
‫كردن‬
 Communicating

8. Bookkeeping Accounting
1. Bookkeeping is mainly concerned with
recording of financial data relating to
business operations in a significant and
orderly manner.
1. Accounting is primarily concerned with
designing systems for recording, classifying
and summarizing the recorded data and
interpreting them for internal and external
end-users.
2. A bookkeeper may be responsible for
keeping all the records of a business or
only of a minor segment, such as a
position of the Customers’ accounts in a
departmental store.
2. Accountants often direct and review the
work of the bookkeepers. The larger the
firm, the greater is the responsibility of the
accountant.
3. A substantial portion of the
bookkeeper’s work is of a clerical
nature and is increasingly being
accomplished through the use of
mechanical and electronical devices.
3. The work of an accountant in the
beginning may include some
bookkeeping. An accountant is required to
have a much higher level of knowledge,
conceptual understanding and analytical skill
than what is required for a book-keeper.
4. More of a Routine work…!! 4. At the end of the period..

9.  Any organized knowledge based on certain basic principles is a
‘science’. Accounting is also a science. It is an organized
knowledge based on scientific principles which have been
developed as a result of study and experience.
 Not a ‘perfect science’ but a ‘social science’ depending much on
human behavior and other social and economic factors. Thus,
perfect conclusions cannot be drawn.

10.  Art is the technique which helps us in achieving our
desired objective. Accounting is definitely an art.
 AICPA also defines it as an art.
 Accounting helps in achieving our desired objective of
maintaining proper accounts,i.e., to know the
profitability and the financial position of the business,
by maintaining proper accounts.

11.  Proprietors ‫مالك‬ ،‫مالك‬
 Managers ‫مدیر‬
 Creditors (Money lenders, lenders) ‫طلبكار‬ ،‫بستانكار‬
 Prospective)potential) investors ‫بالقوه‬ ‫گذاران‬ ‫سرمایه‬
 Government ‫دولت‬
 Employees ‫کارمندان‬
 Citizen ‫شهروندان‬

12.  Accounting and economics
 Accounting and statistics
 Accounting and mathematics
 Accounting and law

13.  Basically classified into 2 categories:
1. Accountants in public practice
2. Accountants in employment

14. 1. Accountants in public practice:
 Accountants in public practice offer their services for conducting
financial audits, cost audits, designing of accounting systems and
rendering other professional services for a fee. Such accountants
are usually members of professional bodies. For example
 They are :
(i) the Institute of Chartered Accountants of India and
(ii) the Institute of Cost and Works Accountants of India.

15. 2. Accountants in Employment
 These are accountants who are employed in non-business entities or business
entities. Non-business entities like Educational Institutions, Government,
Churches, Museums, Hospitals, etc. Their object is not to earn profit.
 The accountants employed by business entities are frequently called
Management Accountants since they report to, and are the part of, the entity’s
management. These accountants provide information for the tax returns of the
business, budgeting, routine operating decisions, investment decisions,
performance evaluation and external financial reporting. Most of these
accountants are also members of a professional Accounting Body. ( which is not
necessary).

16. These are:
I. Maintenance of books of accounts
II. Auditing of Accounts
III. Taxation
IV. Financial services

17.  Maintenance of books of Accounts
a. Help to management
b. Replacement of memory
c. Comparative study
d. Acceptance by tax authorities
e. Evidence in court
f. Sale of business

18.  Auditing of Accounts
a. Statutory (external) audit
b. Internal audit
 Taxation
tax authorities of government.
 Financial services
investment strategies, consultancy services that include designing
of Management Information Systems, Corporate Planning,
Conducting of Feasibility Studies, Executive Selection
Services, etc.

19. Accounting
Financial Accounting
Management
Accounting
Cost Accounting

20. characteristics Financial Accounting Management Accounting
1. objective To supply and show info. To
external as well as internal
bodies.
To supply information only
internally.
2. Analyzing
performance
Portrays position of business
as a whole. Deals only with
aggregates.
Provides detailed analytical
data.
3. Data used Is concerned with monitory
record of past events. Past
data analysis.
Its concerned is with present
and future data analysis, as a
basis for management action.
4. Periodicity of
reporting
Quite long Comparatively short period

21. characteristics Financial Accounting Management Accounting
6. precision/
Accuracy
High Comparatively low bcz of
internal consumption.
7. Nature Objective bcz its based
on measurements.
Subjective as its based on
judgment.
8. Monitory
measurement
Monitory / quantitative
based only.
Monitory as well as both
non-monitory.
8. Legal
compulsion
Need high legal
authentication and
compulsion.
System installation
depends on organization.
9. Flexibility Quite rigid Highly flexible
10. Time frame How the business have
moved in the past?
How the business has to
move in the future?

22.  It keeps systematic records
 It protects business properties
 It ascertains the operational profit or loss
 It ascertains the financial position of the company.
 It facilitates rational decision making.

24.  Also termed as Accounting Standards
 Defined as those rules of action adopted by accountants
universally while recording accounting transactions.
 They are a body of doctrines commonly associated with the
theory and procedures of accounting , serving as an
explanation of current practices and as a guide for selection
of conventions or procedures where alternatives exists.

25.  Classification:
 Accounting concepts ( also termed as Accounting
Postulates)
 Accounting conventions

26.  Accounting concepts:
 The term “concepts” includes those basic assumptions
or conditions upon which the Science of Accounting is
based.
 Accounting convention:
 The term “conventions” includes those customs or
traditions which guide the accountant while preparing
the accounting statements.

27. Accounting Principles
Accounting Concepts
• Separate entity concept
• Going concern concept
• Money Measurement concept
• Cost concept
• Dual aspect concept
• Accounting Period concept
• Period matching of cost and revenue concept
• Realization concept
Accounting Conventions
• Convention of conservatism
• Convention of Full disclosure
• Convention of Consistency
• Convention of Materiality

28. 1. Separate entity concept:
 In accounting , business is considered to be separate
entity from the proprietor(s).
 The concept of separate entity is applicable to all forms
of business organizations, whether its partnership or
sole proprietorship, although they are not separate in
the eyes of law!

29. 2. Going concern concept:
 The business will continue for a fairly long time to
come.
 The life of the business is considered to be indefinite.
 No liquidation of business in near future
 The accountant does not take into account the forced
sale value of assets
 Depreciation is being charged on the basis of expected
lives of fixed assets rather than on their market value.

30. 3.Money Measurement Concept:
 Recordings are made on monetary basis
 Monetary transactions have only place in the
books of accounts.
 Based on the concept of materiality.

31. 4. Cost concept:
 Closely related to going concern concept
 Accordingly;
a) An asset is ordinarily entered in the accounting records at the price paid to
acquire it
b) The cost is the basis for all subsequent accounting for the assets
 It means that an asset is recorded at cost at the time of its purchase , but
it may systematically be reduced in its value by charging depreciation
 Its major advantage is that it brings objectivity in the preparation and
presentation of financial statements, thus preventing subjective views
of individuals.

32. 5. Dual aspect concept:
 Basic concept of accounting
 According to this concept, every business transaction has a dual
effect. For example;
 Capital (Equities) = Cash (Assets)
10,000 = 10,000
 Liabilities + Capital= Assets OR
 Capital Rs. 10,000 + Bank Loan Rs. 30,000 =
Cash Rs. 35000 + Furniture Rs. 5000
 the term “Accounting equation” is also used to denote the
relationship between of equities to assets. The equation can be
technically stated as “ for very debit, there is an equivalent credit”.
 As a matter of fact the entire system of double entry bookkeeping is
based on this concept.

33. 6. Accounting period concept:
 According to this concept, the life of the business is divided into
appropriate segments for studying the results shown by the business after
each segment.
 It is, therefore, absolutely necessary that after each segment or time interval
the businessman must “stop” and “see back”, how things are going. In
accounting such a segment or time interval is called an “Accounting
period”. It is usually of a year.
 At the end of each period an Income Statement and a Balance Sheet are
prepared.
 While preparing these statements proper distinctions have to be made
between capital and revenue expenditure.

34. 7. Periodic matching of cost and revenue concept:
 This is based on the accounting period concept.
 The term “matching” means appropriate association of related revenues
and expenses. In other words, income made by the business during a
period can be measured only when the revenue earned during a period is
compared with the expenditure incurred for earning that revenue.
 On account of this concept, adjustments are made for all outstanding
expenses, accrued incomes, prepaid expenses and unearned incomes,
etc.., while preparing the final accounts at the end of accounting period.

35. 8. Realization concept:
 According to this concept, revenue is recognized
when a sale is made.
 Sale is considered to be made at the point when
the property in goods passes to the buyer

36. 1. convention of conservatism:
 Common rule is “ to anticipate no profit but for
provide all possible losses” .
 Accountant follows the policy of “playing safe”.
 Mostly against the convention of full disclosure.
Not common nowadays.!

37. 2. Full disclosure:
 The company should honestly, fully and fairly disclose
the financial data.
 The convention is gaining more importance because
most big businesses are run by joint stock companies
where ownership is divorced from management.

38. 3. Consistency:
 Accounting practices should remain unchanged from
one period to another.
 The organization should adopt a suitable accounting
system and standards and remain stick to that.

39. 4. Materiality:
 Material (specific) details should be focused while
minute details should be excluded.
 The term “materiality” is a subjective term, depends
upon accountant how to incorporate it.

40.  Bookkeeping is the art of recording business
transactions in a regular and systematic manner. This
may be done according to any of the following two
systems:
 Single entry system
 Double entry system

41. 1. Single entry system:
 An incomplete double entry system can be termed as a
single entry system.
 According to Kohler, “It is a system of bookkeeping in
which as a rule only records of cash and personal
accounts are maintained, it is always incomplete double
entry, varying with circumstances”.
 Meant only to keep only some essential records.
 Since all records are not kept, the system is not reliable
and can be used only by small firms.

42. 2. Double entry system:
 It is believed to have originated with the venetian
merchants of the fifteenth century. It is the only system
of recording the twofold aspect of the transaction.
 Closely related with “dual aspect concept”.
 The system recognizes that every transaction have a
two fold effect.

43. It’s the basis of double entry system.
 Assets = Equities (the right to properties)
 Assets = Liabilities + Capital
 Assets – Liabilities = Capital

44.  Transaction 1: Masood starts business with a capital of Afg.
100,000.
Assets Afg. L.F. Capital and Liabilities Afg.
Cash 100000 Capital 100000

45.  Transaction 2: Masood purchases furniture for cash worth Rs
2000. The position of his business will be as follows:
Assets Afg. L.F
.
Capital and
Liabilities
Afg.
Cash
Furniture
80000
20000
Capital 100000

46.  Transaction 3: Masood purchases cotton bales from Akbar for
Afg. 50,000 on credit. He sells for cash cotton bales costing Afg.
3000 for Rs 4000 and Rs 10,000 for Rs 15000 on credit to Ahmad.
Assets Afg. L.F
.
Capital and
Liabilities
Afg.
Cash ( 80000+40000)
Stock of cotton bales
Debtor (Ahmad)
Furniture
120000
10000
15000
20000
------------
1,65000
------------
Creditor (Akbar)
Capital (100000+15000
profit)
50000
1,15000
----------------
1, 65000
---------------

47.  Transaction 4. Masood withdraws cash of Afg. 10,000 and cotton
bales of Rs 2000 for his personal use. The amount and the goods
withdrawn will decrease relevant assets and Masood’s capital. The
position will be now as follows:
Assets Afg. L.F
.
Capital and
Liabilities
Afg.
Cash ( 1,20000 –
10,000)
Stock of cotton bales
(10,000 – 2000)
Debtor (P)
Furniture
110,000
8000
15000
20,000
------------
153,000
------------
Creditor (B)
Capital
(1,15000 – 12000)
50,000
103,000
----------------
153,000
---------------

48.  Illustration 2.1. Mustafa made the following transactions. Use an
accounting equation to show their effect on his assets, liabilities and capital:
Afg.
1. Started business with cash 500,000
2. Purchased goods on credit 40000
3. Purchased goods for cash 10000
4. Purchased furniture 5000
5. Withdrew for personal use 7000
6. Paid rent 20000
7. Received Interest 1000
8. Sold goods costing 50,000 on credit for 70000
9. Paid to creditors 40000
10. Paid for salaries 60000
11. Further capital invested 100,000
12. Borrowed from Ameen 100,000

49. characteristics Double entry system Single entry system
1. Recording of
transaction
Dual aspect concept is
completely followed.
1. Only single aspect.
2. Maintenance of
books
Various subsidiary
books viz. sales book,
purchases book, returns
book, cash book etc.
are maintained.
No subsidiary books
except the cash book
is maintained.
3. Maintenance of
books of Accounts
All major
accounts real, nominal
and personal, are
maintained.
Only personal
accounts are
maintained.

50. Characteristics Double entry system Single entry system
4. Preparation of
trial balance
trial balance is prepared to
check arithmetical accuracy of
the books of account.
No trial balance and no
accuracy of accounts
5. Accuracy of
profits and
financial position
Trading and Profit and Loss
Account gives the true profit
of the business while Balance
Sheet shows the true and fair
financial position of the
business.
A rough estimate of profit
or loss can be made. The
Statement of Affairs
prepared in single entry
system also does not show
the true financial position
of the business.
6. Utility / usage No utility at all. Used by some small
business.

51.  These are basically two:
1. Cash system of Accounting
2. Mercantile or Accrual system of Accounting

52. 1. Cash System of Accounting:
 It is a system in which accounting entries are made only when cash is
received or paid. No entry is made when a payment or receipt is
merely due.
 Government system of accounting is mostly on the cash
system.
 Certain professional people record their income on cash basis, but
while recording expenses they take into account the outstanding
expenses also. In such a case, the financial statement prepared by
them for determination of their income is termed as Receipts and
Expenditure Account.

53. 2. Accrual system of Accounting:
 It is a system in which accounting entries are made on the basis of
amounts having become due for payment or receipt.
 This system recognizes the fact that if a transaction or an event has
occurred, its consequences cannot be avoided and therefore, should be
brought into books in order to present a meaningful picture of profit
earned or loss suffered and also of the financial position of the firm
concerned.
 The ‘mercantile system’ is considered to be better since it takes into
account the effects of all transactions already entered into. This system is
followed by most of the industrial and commercial firms.