Page |1 CHAPTER 1: Accounting and Business What is Accounting?

Accounting as the language of business Accounting involves the systematic recognition, measurement, reporting, and interpretation of data that are related to the financial activities of a natural or artificial person. Processing information in such a way that it would be useful is the primary core of accounting. Definitions of Accounting: I. Definition of Accounting Accounting is a service activity. Its function is to provide quantitative information, primarily financial in nature, about economic entities that is intended to be useful in making economic decisions, in making reasoned choices among alternative courses of action. Accounting is also defined as the process of identifying, measuring and communicating economic information to permit informed judgment and decision by users of the information. 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 financial character and interpreting the results thereof. The Distinction between Accounting and Bookkeeping Bookkeeping involves those mechanical and repetitive recording and classifying procedures related to the business activities of a natural or artificial person, until the voluminous financial information is summarized and reported in the form of financial statements. It is the clerical side of accounting. Accounting includes: The analysis and interpretation of financial statements, the income tax work, the design and installation of an accounting system, audits, and the preparation of forecasts, budgets, and feasibility studies. Objectives of a Business Enterprise Businesses are Formed to Make Profit 1. Profit-oriented/Business enterprise 2. Non-profit Organization not for profit but to render services and meet the needs of the members of the community. A common objective of all business is the desire to make income. (net income, net profit, earnings/return on investment) Business Solvency Sufficient amount of cash that is needed to settle their business obligations within a reasonable period of time. *insolvency inability to meet its obligations as they fall due Other Objectives of a Business (e.g. to provide jobs)

Types of Business Business/Business Enterprise exists when a person or group of persons makes an investment or contributes its resources in order to sell products or render services to others, for the ultimate purpose of making profit. Accounting 001: Fundamentals of Accounting (Mercedes Bartolome-Kimwell) Reviewer, JPIA

Page |2 1. Service Enterprise provides various forms of services, not tangible products, to its customers or clients. e.g. repair shops, banks, brokers, consultants 2. Merchandising Enterprise/Buy and Sell/Trading buys ready-to-use products and sells to endconsumers at higher prices. 3. Manufacturing Enterprise/fabricator/producer produces finished goods out of raw materials and supplies by applying labor and other manufacturing costs. Forms of Business Ownership 1. Single Proprietorship - These firms are owned by one person, usually they are individual who has day-to-day responsibilities for running the business. Sole proprietors own all the assets of the business and the profits generated by it. They also assume complete responsibility for any of its liabilities or debts. In the eyes of the law and the public, you are one in the same with the business. Business Entity Principle business enterprise is looked upon as an entity that is separate and distinct from that of the owner. 2. Partnership form of business with two or more owners called partners; requires some form of written or oral agreement between the partners. 3. Corporation a business that has its ownership capitalization divided into hundreds/thousands of transferable shares of stock - at least five owners/investors called stockholders/shareholders - At any time a stockholder may sell a part or all of his shares of stock without disrupting the operations or the existences of the corporation - Incorporators a group of people wanting to form new corporation must file an application for a corporate charter with the Securities and Exchange Commission when approved it becomes a legal entity (separate and distinct from its stockholders) Public Accounting A CPA is a professional who is licensed to perform an independent audit of business enterprises or to render other forms of special accounting services to his clients 1. Auditing- a service rendered by CPAs in public practice who examine records and statements and express an opinion regarding their fairness and reliability. Independence, integrity and technical competence of the CPA are important. 2. Tax Services- includes the preparation of tax returns that will be filed with the BIR and the consideration of the tax consequences of proposed business transactions. 3. Management Advisory Services thorough investigation of a certain business problem and recommends new policies and procedures that are needed as a solution. 4. Other Services Private Accounting may be employed by one particular enterprise to perform those routine tasks that are related to the accounting cycle. Need not to be a CPA. The chief accounting officer of a medium-sized or large business enterprise is usually called the controller. 1. Financial Accounting- is a branch of accounting that is primarily concerned with the measurement and communication of information that summarizes and reports the financial condition and operating results of a business enterprise. 2. Management Accounting the specific information needs of the internal data-users, principally the management, are provided by the internal reporting functions of the accounting system. 3. Internal Auditing - deals with determining the operational efficiency of the company regarding protection of the companys assets, accuracy and reliability of the accounting data, and adherence to prescribed managerial policies.

Accounting 001: Fundamentals of Accounting (Mercedes Bartolome-Kimwell) Reviewer, JPIA

Page |3 CHAPTER 2: Basic Accounting Concepts Financial Accounting Framework Generally Accepted Accounting Principles accounting principles and processes, standards of recognition, measurement methods, and basic assumptions that are used in preparation and presentation of the primary financial statements. Sources of Generally Accepted Accounting Principles Accounting Standards Council (ASC) / Financial Reporting Standards Council (FRSC) - is the accounting standard setting body created by the Professional Regulation Commission upon recommendation of the Board of Accountancy to assist the Board of Accountancy in carrying out its powers and functions provided under R.A. Act No. 9298. Basic Accounting Concepts 1. Accrual Basis Accounting the amount of net profit or loss is determined by deducting the total expenses incurred during the period from the total income earned for the same time frame. 2. Going Concern Assumption/Continuity Assumption the primary financial statements of a business enterprise are prepared on the assumption that the normal operations of the enterprise will continue indefinitely. 3. Other Concepts o Basic Entity Principle o Periodicity Concept the operating life of the business may be divided into timeperiods. o Concept of equality of the Value Received and Value Given up for every value received, there is an equal value given up o Monetary Concept business transaction can be objectively measured or quantified in terms of peso Fair peso value/acceptable substitute peso value transaction that do not involve cash o Matching Concept it is assumed that the results of business operations could be measured if there is a proper matching of income and expenses within a reporting period. Qualitative Characteristics of Financial Information 1. Understandability - readily understood by the data users 2. Relevance when its knowledge can make a difference in whatever decision the data-users will make. Feedback value exists if the reported information could be used to assess the outcome of past activities and transactions. Predictive Value exists if this could be used as a basis for forecasting what may happen in the future Timeliness must be available on time; must be ready before it loses its ability to influence decision makers 3. Reliability verifiable, neutral and if it represents that which it is intends to represent (representational faithfulness) Verifiability obtain basically the same results Neutrality recognition and measurement of the reported financial information are not intended to favour only chosen group of decision makers/data-users Accounting 001: Fundamentals of Accounting (Mercedes Bartolome-Kimwell) Reviewer, JPIA

Page |4 Faithful representation - not biased bias exists if the accountant did not use the measurement method properly to intentionally favour certain interest groups 4. Comparability allows the data users to assess the similarities and differences either for the same enterprise over different time periods or among different enterprises for the same period of time. Consistency use the same procedures, systems, and methods from one period to another. Constraints Encountered by an Accountant 1. Prudence/Conservatism choosing to apply the method that will tend to make profit smaller, thus, the method that has a less favourable effect on the balance of the owners equity. a. Ultraconservatism biased reporting, conflicts with the qualitative characteristics of reliability and comparability 2. Materiality important enough to have an effect on the data-users decision making process a. Immaterial considered to be of little or no consequence and are handled in the most practical and convenient manner without regard to the other theoretical accounting principles. 3. Costs Vs Benefits - The benefits of a given situation or business-related action are summed and then the costs associated with taking that action are subtracted. CHAPTER 3: Financial Reporting and the Balance Sheet Reporting Periods 1. Calendar year a one year reporting period that begins on January 1 and ends on December 31. 2. Fiscal Year one year reporting period that ends on a date other than December 31. Components of a Complete Set of Financial Statements 1. Balance Sheet as of a certain date 2. Income Statement during the reporting period 3. Statement of changes in the owners equity - during the reporting period 4. Statement of cash flows - during the reporting period 5. Notes to financial statements Objectives of the Financial Statements 1. General-Purpose Reports vs. Specific-Purpose Reports General-Purpose Reports intended to meet the diverse information needs of the wide range of data users. Specific-Purpose Reports prepared to meet the specific information needs of certain decision makers. Users of the Financial Statements 1. Management All these FS and internal reports serve as management s feedback tools, and at the same time aid the managers in making decisions as to what actions to take. 2. Investors - The providers of risk capital and their advisers are concerned with the risk inherent in, and return provided by, their investments. They need information to help them determine whether they should buy, hold or sell. Shareholders are also interested in information which enables them to assess the ability of the enterprise to pay dividends. 3. Trade Creditors - are interested in information that enables them to determine whether amounts owing to them will be paid when due. Trade creditors are likely to be interested in an enterprise over a shorter period than lenders unless they are dependent upon the continuation of the enterprise as a major customer. Accounting 001: Fundamentals of Accounting (Mercedes Bartolome-Kimwell) Reviewer, JPIA

Page |5 4. Banks & Other Lenders provide the short-term and long-term financial needs of the borrower. A lender needs information that will help in assessing the safety of his investment, or the risk involved in his lending exposure. 5. Government and its Agencies - are interested in the allocation of resources and, therefore, the activities of enterprises. They also require information in order to regulate the activities of enterprises, determine taxation policies and as the basis for national income and similar statistics. 6. Employees and Labor Unions - are interested in information about the stability and profitability of their employers. They are also interested in information which enables them to assess the ability of the enterprise to provide remuneration, retirement benefits and employment opportunities. 7. Customers & Clients - have an interest in information about the continuance of an enterprise, especially when they have a long-term involvement with, or are dependent on, the enterprise. 8. General Public - Enterprises affect members of the public in a variety of ways. Financial statements may assist the public by providing information about the trends and recent developments in the prosperity of the enterprise and the range of its activities. Introduction to the Balance Sheet (Statement of Financial Position/Statement of Financial Condition) It shows the financial condition of a business enterprise, which is assumed to be going concern, as of a particular date. Accounting Elements in the Balance Sheet Assets = Liabilities + Equity of the owner *permanent/real accounts* 1. Assets economic resources, rights and property both tangible/intangible that are owned and/or controlled by either natural or a legal entity, or if it has the capacity to give the entity certain future economic benefits. o Cash o Investment in Stock ownership of shares in corporation o Investment in Bonds ownership of financial instruments evidencing an obligation of another entity o Accounts Receivable claims against customers/clients arising from the sale of goods or services, on credit basis. o Notes receivable - claims against customers/clients arising from the sale of goods or services, on credit basis. Which promissory note was received from the borrower o Loans Receivable claims from borrowers o Merchandise Inventory Goods that are acquired by a merchandising business for the primary purpose of reselling them to customers at higher prices o Prepaid Expenses - paid expenses but not yet incurred o Accrued Revenue Receivable earned but not yet collected o Land o Building o Machinery and Equipment o Delivery Equipment o Tools, patterns, molds and dies o Franchises cost paid for the right to use the brand, design... 2. Liabilities represent the present economic obligations of an entity that would require some form of future settlement. Liabilities = Assets - Equity of the owner o Accounts Payable obligations of the business enterprise to the suppliers as a result of buying Accounting 001: Fundamentals of Accounting (Mercedes Bartolome-Kimwell) Reviewer, JPIA

Page |6 goods/services, on credit basis o Notes Payable - obligations of the business enterprise to the suppliers as a result of buying goods/services, on credit basis to the suppliers as a result of buying goods/services, on credit basis, for which promissory note is given by the lender o Advances from customers Obligation to customers who have paid in advance o Loans Payable - obligations of the business enterprise to lenders as a result of borrowing of money o Unearned Revenues already collected but not yet rendered o Accrued Expense Payable incurred but not yet paid o Mortgage Payable - obligations of the business enterprise to lender, usually a bank, for long term borrowing wherein a land/building owned by the business is used as a collateral 3. Equity residual claim or the owner or owners over the business enterprise s assets. Original Investment + Additional Investments + Profit (Loss) during the reporting period Personal Withdrawals or profit distributions = Equity of the owner/ owners as of the end of the reporting period. Emilio Andres, Capital show the original and additional investments Emilio Andres, Drawing show the total withdrawals Introduction to the Statement of Changes in Equity Supports the balance sheet It explains why the balance of the owner s equity increased or decreased during the reporting period. Discloses the following: - Owners capital at the beginning - Additional Investments - Withdrawals - Profit/Loss - Gains/Losses - Owners capital at the end

Accounting 001: Fundamentals of Accounting (Mercedes Bartolome-Kimwell) Reviewer, JPIA