Financial Accounting

Session No 1

Introduction to Accounting
Accounting

Language of business
Grammar of a language
Communication is the key
Communication using financial statements


Purpose of Accounting
Reporting financial position of an entity


Show how an entity has performed over a
particular period of time
Accounting is about accountability
Organization Objectives Accountable to
Private company -Making profit
- Creation of
Wealth
-Shareholder
-Stakeholder
Public Services -Provision of
public service
-High quality
and reliability of
services
-Govt. ministers
-Consumers
Users of Financial
Information
Internal Users - managers plan, organize and
run a business.
External Users -
Investors
Creditors
Others
Taxing authorities
Regulatory agencies
Customers
Labor unions
Economic planners
Questions Asked by Internal
Users
Is cash sufficient to pay bills?
What is the cost of manufacturing each unit
of product?
Can we afford to give employee pay raises
this year?
What product line is most profitable?
Is the company earning satisfactory
income?
How does the company compare in size and
profitability with competitors?
Will the company be able to pay its debts
when they become due?
Questions Asked by External
Users
Accounting and Financial
Reporting
Accounting refers to systematic recording,
classifying and summarizing of financial
transactions and interpreting the results thereof.
Thus, accounting encompasses financial
reporting.
Accounting starts with recording and ends with
presentation of financial information in a manner
that facilitates informed judgments and decisions
by users.
Types of accounting information
Financial Accounts
Management Accounts
Financial and Management
Accounting
The major distinction between financial and
management accounting is the users of the
information.
Financial accounting serves external users.
Management accounting serves internal users,
such as top executives, management,
and administrators within
organizations.
Financial Accounts Management Accounts
Performance of a business
over a specific period and the
state of affairs at the end of
that period
Helps management to record,
plan and control the activities
of a business and assist in the
decision-making process
Legally required to prepare
and publish financial
accounts
No legal requirement to
prepare management accounts
Format of published financial
accounts predefined by
several regulatory elements
No pre-determined format for
management accounts
Financial Accounts Management Accounts
Concentrate on the business
as a whole rather than
analyse the component as
parts of the business
Focus on specific areas of a
business activities. Eg
Products, Business Locations,
Markets, Departments/divisions
Most financial accounting
information is of a
monetary nature
Includes a wide variety of non-
financial information Eg:
Employees, sales volume,
Customer transactions
Presents a historic
perspective on the financial
performance of the
business
Focus on analysing historical
performance, but usually
includes forward-looking
elements eg : Sales Budget;
Cashflow forecast
Accounting as an Aid to
Decision Making
Fundamental relationships in the decision-
making process:
Event
Accountants
analysis &
recording
Financial
Statements
Users
Identify a transaction
Record in Primary
Books
Record in Secondary
Books
Prepare Trial
Balance
Prepare Financial
Statements
Accounting Trail
Recording
Reporting
The Recording Process
The sequence of steps in recording transactions:
Transactions Documentation Journal
Financial
Statements
Trial
Balance
Ledger
The Recording Process
1. Analyze business transactions
2. The transaction is recorded in a document
(Voucher) providing all the necessary details
of the transaction
3. Journalize the transactions
(The voucher is then analyzed in order to decide
which account should be debited/credited)
The Recording Process
4. Post to ledger accounts
(posted with debit or credit in the T accounts)
5. Prepare a trial balance
6. Journalize and post adjusting entries--
prepayments and accruals and prepare
adjusted trail balance
(Correct erroneous journal entries and describe
how errors affect accounts)
The Recording Process
7. Prepare Financial Statements
Income statement
Retained earnings statement
Statement of financial position

Recording of Transactions: The
Double Entry Principle
Each transaction has two aspects (or side): Debit
and Credit.
Every debit has an equal and opposite credit.
Each transaction should be recorded in such a
way that it affects two sides- debit and credit-
equally.
Thus, the first and foremost step in recording a
transaction is to identify the debit and credit
elements.
Accounting Principles
Accounting Principles are man-made
Can not be verified by experimentation or
observation
Are evolved overtime (they change as time
progresses)
Accounting standards give sufficient lee way to
the accountants while reporting a specific event
Accounting Criteria
Relevance meaningful, useful, timely
(information makes a difference in
decisions)

Objectivity not influenced by personal
bias/ judgment

Feasibility implemented without undue
complexity or cost
Accounting Principles
2 categories :
Accounting Concepts and
Accounting Conventions


Basic Accounting Concepts
An understanding of accounting concepts is vital
to understand the process of accounting.
Accounting concepts underlying the recording of
transactions:
Entity Concept
Money Measurement Concept
Accrual Concept
Cost Concept
Basic Accounting Concepts
Accounting concepts underlying financial
reporting:
Going Concern Concept
Periodicity Concept
Matching Concept
Accounting Concepts: Entity and
Money Measurement
Entity Concept:
A business entity is an economic unit distinct from its
owner(s). Such entity owns its assets and has its own
obligations. Only those transactions and events which
affect the financial position of the business entity will be
recorded in its books of accounts.
Money Measurement Concept:
Only transactions and events which are measurable in
monetary terms should be recorded.

Economic Entity Assumption

Monetary Unit Assumption
Accounting Concepts: Accrual and
Cost
Accrual Concept:
Income and expenses should be recognised as and when
they are earned and incurred, irrespective of whether
money is received or paid in connection thereof. An
alternative of accrual basis of accounting is cash basis
where transactions are recorded only when cash is
received or paid.
Cost Concept:
Assets and liabilities should be recorded at historical cost.
The recent trends in accounting show that policy makers
favour fair value accounting in place of historical cost
accounting.
Accounting Concepts: Going Concern and
Periodicity
Going Concern Concept:
An entity is said to be a going concern if it has
neither the intention nor the necessity of liquidation
or of curtailing materially the scale of the operations.
The valuation principles of assets and liabilities
depend on this concept.
Periodicity Concept:
Accounts are prepared for a defined accounting
period. Such period could be a quarter, half year, a
year or, in exceptional circumstances, more than one
year. This concept is essential to measure financial
performance.
Accounting Concepts: Matching
and Prudence
Matching Concept:
While measuring periodic financial results, revenue
earned during an accounting period is matched with
expenses incurred (to earn the revenue) in the same
accounting period.
Prudence Concept:
This concept suggests that all possible expenses and
losses should be estimated and recorded, but
anticipated gains should be ignored. This concept is
also called the concept of conservatism.
Accounting Conventions
Convention of Conservatism
Convention of Full Disclosure
Convention of Consistency
Convention of Materiality
Accounting Standards
Need
Function
Formation
Scope of Accounting Standards
Procedure for Issuing an Accounting
Standards
Type of Accounting Standards
List of Accounting Standards (AS)
Accounting standards issued by the ICAI.
Disclosure of Accounting Policies (AS 1)
Valuation of Inventories (AS 2)
Cash Flow Statement (AS 3)
Contingencies and Events occurring after the Balance Sheet
date (AS 4)
Net Profit or Loss for the periods, Prior Period items and
Changes in Accounting Policies (AS 5)
Depreciation Accounting (AS 6)
Construction Contracts (AS 7)

List of Accounting Standards (contd.)
Revenue Recognition (AS 9)
Accounting for Fixed Assets (AS 10)
The Effects of Changes in Foreign Exchange Rates (AS 11)
Accounting for Government Grants (AS 12)
Accounting for Investments (AS 13)
Accounting for Amalgamations (AS 14)
Accounting for Retirement Benefits in the Financial Statements
of Employers (AS 15)
Borrowing Costs (AS 16)
Segment Reporting (AS 17)
Related Party Disclosures (AS 18)
Leases (AS 19)
List of Accounting Standards (Contd.)
Earning Per Share (AS 20)
Consolidated Financial Statements (AS 21)
Accounting for Taxes on Income (AS 22)
Accounting for Investments in Associates in Consolidated
Financial Statements (AS 23)
Discontinuing Operations (AS 24)
Interim Financial Reporting (AS 25)
Intangible Assets (AS 26)
Financial Reporting of Interests in Joint Ventures (AS 27)
Impairment of Assets (AS 28)
Provisions, Contingent Liabilities and Contingent Assets (AS
29)
List of Accounting Standards (Contd.)

Financial Instruments :Recognition and
Measurement (AS 30)
Financial Instruments : Presentation (AS 31)
Financial Instruments : Disclosures (AS 32)