INTRODUCTION:

Accounting is the process of collecting, recording, classifying, summarising and communicating financial information to
the users for judgment and decision-making.

Traditionally, accounting is a method of collecting, recording, classifying, summarising, presenting and interpreting financial data
aspect of an economic activity. The series of business transactions occurring during the accounting period and its recording is
referred to an accounting process/mechanism. An accounting process is a complete sequence of accounting procedures which are
repeated in the same order during each accounting period. Therefore, accounting process involves the following steps or stages:

1.Identification of Business transaction: In accounting, only business transactions are recorded. A transaction is an event which
can be expressed in terms of money and which brings change in the financial position of a business enterprise. An event is an
incident or a happening which may or may not being any change in the financial position of a business enterprise. Therefore, all
transactions are events but all events are not transactions. A transaction is a complete action, to an expected or possible future
action. In every transaction, there is movement of value from one source to another. For example, when goods are purchased for
cash, there is a movement of goods from the seller to the buyer and a movement of cash from buyer to the seller. Transactions
may be external (between a business entity and a second party, e.g., goods sold on credit to Hari or internal (do not involve second
party, e.g., depreciation charged on the machinery).

Illustration: State with reasons whether the following events are transactions or not to Mr. K. Mondal, Proprietor.
(i) Mr. Somkant started business with capital (brought in cash)Rs. 40,000.
(ii) Paid salaries to staff Rs. 5,000.
(iii) Purchased machinery for Rs. 20,000 in cash.
(iv) Placed an order with Sen & Co. for goods for Rs. 5,000.
(v) Opened a Bank account by depositing Rs. 4,000.
(vi) Received pass book from bank.
Solution: Here, each event is to be considered from the view point of Mr. Mondal’s business. Those events which will change the
financial position of the business of Mr. Mondal, should be regarded as transaction.
(i) It is a transaction, because it changes the financial position of Mr. Mondal’s business. Cash will increase by Rs. 40,000 and
Capital will increase by Rs. 40,000.
(ii) It is a transaction, because it changes the financial position of Mr. Mondal’s business. Cash will decrease by Rs. 5,000 and
Salaries (expenses) will increase by Rs. 5,000
(iii) It is a transaction, because it changes the financial position of Mr. Mondal’s business. Machinery comes in and cash goes Out.
(iv) It is not a transaction, because it does not change the financial position of the business.
(v) It is a transaction, because it changes the financial position of the business. Bank balance will increase by Rs. 4,000 and cash
will decrease by Rs. 4,000.
(vi) It is also not a transaction, because it does not change the financial position of Mr. Monal.
.2. Measuring the Identified transactions : accounting measures the transactions and events in terms of a common
measurement unit ,i.e., the currency of the country. In other words, financial transactions and events are measured in terms of
money. For examples, purchases of goods, say 10 tonnes of steel for 2,50,000 and 1000 bags of cement for 2,75,000 is measured
in terms of money,i.e.,5,25,000.
3. Recording the transaction: Accounting is an art of recording business transactions in the books of accounts .Recording is
process of recording business transactions of financial character in the books of original entry, i.e .,Journal. It may further be
divided into sub-journals as well which are also known subsidiary books such as cash book, purchases book, sales book, etc.
4. Classifying:
Accounting is the art of classifying business transactions. Classification means process of collecting similar transactions at one
place relating to a person, a thing, expenses, or any other subject under appropriate heads of accounts. The transactions recorded
in the Jornals are classified or posted to the main book of account known as Ledger. For example, in Rahul’s account in ledger ,all
the transactions connected with Rahul are posted so that what is ultimately due to Rahul or due from Rahul can be ascertained.
5.Summarising :
Summarising is the art of making the activities of the business enterprise as classified in the ledger for the use of management or
other user groups i.e. internal and external users. Summarisation helps in the preparation of Trading and Profit and Loss Account
and Balance sheet for a particular fiscal year, collectively known as Final accounts or Financial Statements.
6. Analysis and Interpretation:
The financial information or data as recorded in the books of account must further be analysed and interpreted so to draw useful
conclusions. Thus, analysis of accounting information will help the management to assess in the performance of business operation
and forming future plans also.
7. Communication :
The end users of accounting statements must be benefited from analysis and interpretation of data as some of them are the ‘stock
holders’ and other one the ‘stake holders’. Comparison of past and present statement and reports, use of ratio and trend analysis
are the different tools of analysis and interpretation. From the above discussion one can conclude that accounting is a art which
starts and includes steps right from recording of business transactions of monetary character to the communicating or reporting the
results thereof to the various interested parties.
Objectives of Accounting

1. To keep systematic and complete record of financial transactions in the books of accounts according to specified principles and
rules to avoid the possibility of omission and fraud.
2. To ascertain the profit earned or loss incurred during a particular accounting period which further help in knowing the financial
performance of a business.
3. To ascertain the financial position of the business by the means of financial statement i.e. balance sheet which shows assets on
one side and Capital & Liabilities on the other side.
4. To provide useful accounting information to users like owners, investors, creditors, banks, employees and government
authorities etc who analyze them as per their requirements.
5. To provide financial information to the management which help in decision making, budgeting and forecasting.
6. To prevent frauds by maintaining regular and systematic accounting records.

Advantages of Accounting
1. It provides information which is useful to management for making economic decisions.
2. It help owners to compare one year’s results with those of other years to locate the factors which leads to changes.
3. It provide information about the financial position of the business by means of balance sheet which shows assets on one side
and Capital & Liabilities on the other side.
4. It help in keeping systematic and complete record of business transactions in the books of accounts according to specified
principles and rules, which is accepted by the Courts as evidence.
5. It help a firm in the assessment of its correct tax Liabilities such as income tax, sales tax, VAT, excise duty etc.
6. Properly maintained accounts help a business entity in determining its proper purchase price.

Limitations of Accounting
1. It is historical in nature; it does not reflect the current worth of a business.Moreover, the figures given in financial statements
ignore the effects of changes in price level.
2. It contain only those information which can be expressed in terms of money. It ignore qualitative elements such as efficiency of
management, quality of staff, customers satisfactions etc.
3. It may be affected by window dressing i.e. manipulation in accounts to present a more favourable position of a business firm than
its actual position.
4. It is not free from personal bias and personal judgment of the people dealing with it. For example different people have different
opinions regarding life of asset for calculating depreciation, provision for doubtful debts etc.
5. It is based on various concepts and conventions which may hamper the disclosure of realistic financial position of a business
firm. For example assets in balance sheet are shown at their cost and not at their market value which could be realised on their
sale.

Book Keeping – The Basis of Accounting

Book keeping is a part of Accounting being a process of recording of financial transactional and events in the books of accounts.
Thus book keeping involves:

1. Identifying financial transaction and events,

2. Measuring them in terms of money,
3. Recording of financial transactions and events relating to business in a significant and orderly manner,
4. Classifying recorded transactions and events, i.e., posting them into Ledger accounts.

Book Keeping should not be confused with accounting. Book keeping is the recording phase while accounting is concerned with the
summarizing phase of an accounting system. The distinctions between the two are as under.

Book keeping Accounting

1. It is the summarizing phase of an accounting

1. It is the recording phase of an accounting system.
system.

2. It is a Secondary Stage which begins where the

2. It is a primary stage and basis for accounting.
Book keeping process ends.

3. It is routine in nature and does not require any special 3. It is analytical in nature and required special skill
skill or knowledge or knowledge.

4. It is done by junior staff called book-keepers 4. It is done by senior staff called accountants.

5. It does not give the complete picture of the financial 5. It gives the complete picture of the financial
conditions of the business unit. conditions of the business unit.

Interested users/parties of Accountings information and their Needs

There are number of users interested in knowing about the financial soundness and the profitability of the business.

Users Classification Information the user want

Return on their investment, financial health of their

1. Owner
company/business.

To evaluate the performance to take various decisions.

2. Management

Internal

Profitability to claim higher wages and bonus, whether their dues

3. Employees
(PF, ESI, etc.) deposited regularly.

Externa 1. Investors and potential To know about Safety, growth of their investments and future of the
l investors business.

Assessing the financial capability, ability of the business to pay its

2. Creditors
debts.

3. Lenders Repaying capacity, credit worthiness.

4. Tax Authorities Assessment of due taxes, true and fair disclosure of accounting
information,
 To compile national income and other information. Helps to take
5. Government
policy decisions.

Customers, Researchers etc., may seek different in- formation for

6. Others
different reasons.

Basic accounting terms

Business Transaction
A financial transaction or event entered into by two parties and is recorded in the books of accounts. Or An Economic activity that
affects financial position of the business and can be measured in terms of money e.g., sales of goods ,purchases of goods,
expenses, dividend etc.

Account : Account refers to a summarized record of relevant transactions of particular head at one place. All accounts are divided
into two sides. The left side of an account is called debit side and the right side of an account is called credit side.

Capital: Amount invested by the owner in the firm is known as capital. It may be brought in the form of cash or assets by the owner.
It is a liability of the business towards the proprietor or partner which increases with further investments made in business and the
amount of profit earned.On the other hand, it decreases when it is withdrawn(draeings) or loss is incurred by the business.
Drawings: The money or goods or both withdrawn by owner from business for personal use, is known as
drawings. Example: Purchase of car for wife by withdrawing money from business.

Assets: Assets are the properties owned by a business. They are the economic resources of the business. In other words,
anything which will enable the firm to get cash or an economic benefit in the future or are useful in its operation, is an asset. Assets
can be broadly classified as:
1. Current Assets: Current Assets are those assets which are held for short period and can be converted into cash within one
year. For example: Debtors, goods are purchased with a purpose to resell and earn profit,etc.
2. Non-Current Assets: Non-Current Assets are those assets which are held by a business not with the purpose to resell but are
held either as investment or to facilitate business operationsThose assets are held by the business from a long term point of view.
For example: Land, Building, Machinery etc. They are further classified into:
(a) Tangible Assets: Tangible Assets are those assets which have physical existence and can be seen and touched. For Example:
Furniture, Machinery etc.
(b) Intangible Assets: Intangible Assets are those assets which have no physical existence and can be felt by operation. For
example: Goodwill, Patent, Trade mark etc.

Liabilities: Liabilities mean amount owed (payable) by thye business. Liabilities are obligations or debts that an enterprise has to
pay after some time in the future.
Liabilities can be classified as:

1. Current Liabilities: Current Liabilities are obligations or debts that are payable within a period of one year. For Example:
Creditors, Bill Payable, short term bank loan etc.
2. Non-Current Liabilities: Non-Current Liabilities are those obligations or debts that are payable after a period of one year.
Example: Bank Loan, Debentures etc.
RECEIPTS: Receipt is the amount received or receivable for selling assets, goods or services.Receipts are further categorised into:
1. Revenue Receipts: Revenue Receipts are those receipts which are occurred by normal operation of business like money
received by sale of business products.
2. Capital Receipts: Capital Receipts are those receipts which are occurred by other than business operations like money received
by sale of fixed assets.

Expenses: Costs incurred by a business for earning revenue are known as expenses. For example: Rent, Wages, Salaries,
Interest etc.
Expenditure: Spending money or incurring a liability for acquiring assets, goods or services is called expenditure. The expenditure
is classified as:
1. Revenue Expenditure: It is the amount spent to purcahse goods and services that are used during an accounting period is
called revenue expenditure. For Example: Rent, Interest etc.
2. Capital Expenditure: If benefit of expenditure is received for more than one year, it is called capital expenditure. Example:
Purchase of Machinery.
Profit : Profit means income earned by the business from its Operating Activities,i.e., the activities carried out by the enterprise to
earn profit.In other words, the excess of revenues over its related expenses during an accounting year is profit.
Profit = Revenue – Expenses

Loss: The excess of expenses of a period over its related revenues is termed as loss. It decreases the Owner’s Equity.

Loss = Expenses – Revenue

Goods: The products in which the business deal in. The items that are purchased for the purpose of resale and not for use in the
business are called goods.For an enterprise dealing in home appliances such as T.V., Fridge, A.C., etc are goods. Similarly, for a
stationer, stationary is goods.
Purchases: The term purchase is used only for the goods procured by a business for resale. In case of trading concerns it is
purchase of final goods and in manufacturing concern it is purchase of raw materials. Purchases may be cash purchases or credit
purchases.
Purchase Return: When purchased goods are returned to the suppliers, these are known as purchase return.
Sales: Sales are total revenues from goods sold or services provided to customers. Sales may be cash sales or credit sales.
Sales Return: When sold goods are returned from customer due to any reason is known as sales return.
Debtors: Debtors are persons and/or other entities to whom business has sold goods and services on credit and amount has not
received yet. The amount due is known as debt. In other words, Debtor is a person who owes amount to the enterprise against
credit sales of goods or services in its ordinary course of business. These are assets of the business.
Creditors: If the business buys goods/services on credit and amount is still to be paid to the persons and/or other entities, these
are called creditors. In other words, Creditor is a person to whom an enterprise owes amount against credit purchases of goods or
services taken.These are liabilities for the business.
Depriciation: Depriciation is a fall in the value of an asset because of usage or with afflux of time or obsolescence or accident.

Properietor: The person who makes the investment and bears all the risks associated with the business is called proprietor.