Basic Concepts

of
Financial Accounting
 Introduction to Accounting
It is a process of identifying, measuring and communicating the
economic information of an organization to its users who need the
information for decision making.
Conti…
• Identifying the transactions and events:- Accounting identifies transactions and events of a
specific entity. A transaction is an exchange in which each participant receives or sacrifices
value.

• Measuring the identified transactions and events :- Accounting measures the transactions
and events in terms of a common measurement unit, that is the ruling currency of a country.

• Recording:-It is concerned with the recording of identified and measured financial

transactions in an orderly manner, soon after their occurrence in proper books of accounts.

• Classifying:- It is concerned with the classification of the recorded transactions so as to group

the transactions of similar type at one place.
Conti…
• Summarising :- It is concerned with the summarisation of the classified transactions in a
manner useful to the user.

• Analysing:- It is concerned with the establishment of relationship between various items

or group of items taken from balance sheet. Its purpose is to identify the financial
strengths and weakness of the enterprise

• Interpretation:- It is concerned with explaining the meaning and significance of the

relationship so established by the analysis.

• Communicating :- It is concerned with the transmission of the summarized, analyzed

and interpreted information to the users to enable them to make reasoned decision.
Usefulness of accounting
• Short Term Creditors:- Short term creditors need information to determine whether the
amount owing to them will be paid when due.

• Long Term Creditors:- they need information to determine whether the principals and the
interest thereof will be paid when due and hether they should extend , maintain or restrict
the flow of credit to an enterprise.
• Present Investors- They need information to judge prospects for their investments and to
determine whether they should buy hold and sell their shares.

• Potential Investors -They need information to judge prospects of an enterprise and to

determine whether they should buy the shares.
• Management-
Management needs information to review the firm’s.

• (a) short term solvency

• (b) long term solvency
• (c) activity
• (d) profitability in relation to turnover
• (e) profitability in relation to investments and to decide upon the
course of action to be taken in future.
• Employees:- Employees and their representative groups are
interested in information about the stability and profitability of
the employers.

• Tax Authorities:- Tax authorities need information to assess the

tax liabilities of an enterprise.
Branches of Accounting

Branches of
Accounting

Social
Financial Management
Cost Accounting Responsibility
Accounting Accounting
Accounting
• Financial Accounting:- It is the process of identifying, measuring, recording, classifying,
summarising, analysing, interpreting and communicating the financial transactions and
events.

• Cost accounting:- It is the process of accounting and controlling the cost of a product,
operation or function. The purpose of this branch of accounting is to ascertain the cost , to
control the cost and to communicate the information for decision making.

• Management Accounting :- It is the application of accounting techniques for providing

information designed to help all levels of management in planning and controlling the
activities of business enterprise and in decision making. The purpose of this branch of
accounting is to supply any and all information that management may need in taking
decision and to evaluate the impact of its decisions and actions.
Conti….

• Social Responsibility Accounting:- It is the process of identifying,

measuring and communicating the social effects of business decisions to
permit informed judgment and decisions by the users of information's.
Management is held responsible for what it contributes to the social well
being and progress. Accounting for environment and ecology is part of social
responsibility accounting.
Basic Accounting terms
1.Entity 9. Drawings 17. Net Loss

2. Events 10. Trade debtors

3. Transaction 11. Trade Creditors

4. Voucher 12. Receivables

5. Entry 13. Payables
6. Assets 14. Revenue

7. Liabilities 15. Expenses

8. Capital 16. Net Profit
Entity- Entity formed to conduct business transactions

Transaction- Economic activity of business that changes its financial position

Event- Consequence or result of a transaction

Account- Is a record of all business transactions relating to a particular person

Entry- Recording of an event in accounting form

 ASSETS
 Assets refer to tangible objects or intangible rights of an enterprise
which carry probable future benefits.
 They are things of value used in carrying out such activities as
production and exchange.
 Tangible Assets- Land & Buildings, Plant & Machinery, Computer &
Laptops, Motor Vehicles, Stock, Furniture

 Intangible Assets- Goodwill, Patents, Trade Marks, Copyrights,

Software, Prepaid Expenses
 LIABILITIES

 Liabilities refer to the financial obligations of an enterprise other

than owner’s fund.

 They are existing debts and obligations.

Long-term Liabilities

Current Liabilities
Capital- Amount invested by Proprietor in business entity
Drawing- Cash or value of goods withdrawn by the Owner
Sales- Transfer of ownership of goods or services to customers for a price
Sales Return- Return of goods sold
Purchases- Purchase of goods in which business deals
Purchase Returns- Purchased goods returned to suppliers
Debtors- Persons or firms to whom goods have been sold or services rendered on credit
for which payment has still not been received
Creditors- Persons or firms from whom goods have been bought or services taken on
credit for which payment has not been made
Stock- Value of goods lying unsold at the end of accounting period
Profit- Excess of revenues over expenses
Loss- Excess of expenses over revenues
 Balance Sheet
 reveals the financial position of an entity.

 sets out the assets, liabilities and owners’ capital of an entity as on a certain date

 prepared on a particular date and is true only on that date

 prepared only after preparing the profit and loss account

 two sides of the balance sheet must have the same total

 useful to both investors and lenders

 Statement of Profit and Loss
• Prepared to show the amount of profit earned or loss suffered by an
entity during a period.

• Shows the various items of income and expenditure, grouped under

different heads, relating to an accounting period.

• Generally prepared in different sections.

Let’s play scramble…….
The financial statement that is described as a
"snapshot" of a company’s financial position is AELBCNA
the ______________ SHEET.
Land is an asset that is not
____________________. ETDPDRCAEIE
An asset's book value is its cost minus its
UDTCAMALUCE
__________________ depreciation.
Assets = Liabilities + Stockholders’ Equity is
known as the basic accounting UETOIANQ
________________.
 The component of stockholders' equity that
serves as a link to the corporation's income GRSENANI
statement is _______________.
The financial statement that reports the revenues and expenses for a period of time
such as a year or a month is the

a. Balance Sheet
b. Income Statement
c. Statement Of Cash Flows
The financial statement that reports the assets, liabilities, and stockholders'
(owner's) equity at a specific date is the

1.Balance Sheet
2. Income Statement
3. Statement Of Cash Flows
Resources owned by a company (such as cash, accounts receivable, vehicles) are
reported on the balance sheet and are referred to as __________
Assets minus liabilities equals __________
Assets are usually reported on the balance sheet at which amount?
1.Cost
2. Current Market Value
3. Expected Selling Price
Obligations (amounts owed) are reported on the balance sheet and are
referred to as __________
Thank you….
Accounting Principles
and Concepts
Accounting Principles
and Concepts
• In order to maintain uniformity and consistency in
preparing and maintaining books of accounts, certain rules
and assumptions have been evolved.

• These assumptions, concepts and conventions of accounting

are followed universally.

• These principles satisfy the criteria of relevance,

consistency and uniformity.

• In India, these are called Indian accounting standards (IAS)

and are made by ASB-Accounting Standard Board of
Institute of Chartered Accountants of India.
•  International Financial Reporting Standards (IFRS) – as the name implies
– is an international standard developed by the International Accounting
Standards Board (IASB). U.S. 

• Generally Accepted Accounting Principles (GAAP) is only used in the

United States. GAAP is established by the Financial Accounting Standards
Board (FASB).

• IFRS is used in more than 110 countries around the world, including the
EU and many Asian and South American countries.

• GAAP, on the other hand, is only used in the United States.

 Basic Accounting Concepts
• Business entity concept
• Money measurement concept
• Going concern concept
• Time period concept
• Cost concept
• Dual aspect concept
• Conservatism
• Matching
• Consistency
• Accrual
• Materiality
• Realization
Business/ Separate / Economic entity
concept
• Entity concept means that business entity is
considered separate from the existence of owners.

• It tells you that the business and the owner are two
separate entities.

• Accounts are kept for the entity as distinct from

owners.
Money Measurement Concept

• Only business transactions that can be expressed in

terms of money are recorded in accounting (ex: RIL,
Wipro)

• Moreover, a currency is specified for the reporting

of financial statements.

• It doesn’t consider change in the value of money.

 Going Concern Concept

• In accounting, a business is expected to continue for a fairly long

time and carry out its commitments and obligations. 

• There should not be an end as its continuing to operate until and

unless any winding up of the company.

• This assumption does not imply the permanent existence of a

business.

• It simply assumes stability and continuity for a period of time long

enough to carry out present plans and commitments.
Accounting Period Concept

• Accounting Period refers to the fixed time period during which all
accounting transactions are recorded for and profit is calculated to be
presented to the investors.

• The period for which income is measured is called Accounting Period.

• It helps to track and compare the overall performance of the company for
each time period.

• Listed companies are required to disclose their financials every three

months under Sebi regulations.
Cost Concept
Assets are always shown at their Cost and not at
their current Market Value

Ex A Land Purchased for Rs.5 Lacs will be recorded

only at Rs.5 Lacs even though market value may
be lower say Rs.4 Lacs or higher Rs.6 Lacs than the
cost price
Dual Aspect Concept
The Value of the Assets owned by the business is
equal to the claims on the Assets.

Ex: If Owners Equity is 600000 and Liabilities are

400000, then Total Asset = 1000000

Asset Owner’s Equity +

Liabilities
Liabilities Assets – Owner’s
Equity
Owner’s Equity Assets - Liabilities

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Consistency Concept

The Accounting Policies and methods followed by the

company should be the same every year
Ex 1. Period should not be changed frequently from
Jan-Dec to Apr-Mar

Ex 2. Inventory Valuation change from FIFO to LIFO or

Weighted Average not permitted frequently

Ex 3. Changing Depreciation Policy from Straight Line

to Reducing Balance Method frequently

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 Accrual Concept

• According to accrual concept, revenue and expenses are

recorded when revenue is earned and expenses are
incurred .
• And not when money is received for the revenue event or
money is given for expense event.

• Ex: Salary Payable to employees (March salary paid in

April),

• Dividend Receivable on shares,

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Realization Concept
• According to this concept revenue is recognize when the sale is
made. The sale of goods or services is considered to be complete
when the ownership or property are transferred from seller to the
buyer.

• Revenues are recognized when they are earned or realized. 

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Conservatism Concept

• Anticipate no Profits but provide for all

possible losses.

• Accountants are by nature Conservative

and also to protect the interest of the
Shareholders and Creditors it is required to
provide for all losses.
Matching Concept

When an Event affects both the revenues and

expenses, the effect on each should be
recognized in the same accounting period.

EX : Insurance Premium paid for Jan- Dec whereas

your accounting period closes on March. In this
case only three months premium need to be
treated as Expense and balance 9 months treated
as advance premium paid as an asset

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Disclosure

•Financial statements should be ‘fairly presented’.

•Additional disclosures, beyond those required by IASs, should be

made when necessary to achieve a fair presentation.

•Statements should be presented in accordance with the stated

accounting policies of the enterprise, in a manner which provides
relevant, reliable, comparable and understandable information.
Materiality
•Similar items should be aggregated together, but information that is
material should not be aggregated with other items.

• Information is material if its non-disclosure could influence the

economic decisions of users.
Quiz time…
The __________ entity assumption results in
business transactions being kept separate
from a sole proprietor's personal
transactions.

IOCENOCM
The __________ concern assumption is
that an enterprise will continue on long
OGIGN
enough to carry out its objectives and
commitments.
The personal assets of the owner of a company will not appear on the company's
balance sheet because of which principle/guideline?
• Cost
•  Separate Entity
•  Monetary Unit
Which principle/guideline is associated with the assumption that
the company will continue on long enough to carry out its
objectives and commitments?
• Economic Entity
•  Going Concern
•  Time Period
 Accounting Standards
• An accounting standard is a selected set of accounting policies or broad
guidelines regarding the principles and methods to be chosen for the purposes of
Financial Reporting

• The main objective of accounting standard is to harmonize the diverse accounting

policies and practices
Fundamental Accounting
Assumptions
As per Accounting Standard 1 issued by ICAI:
• Going Concern Concept
• Consistency Concept
• Accrual Concept
 Importance of Accounting Standards

• The adoption and application of accounting standards ensures uniformity,

comparability and qualitative improvement in the preparation and presentation
of financial statements.

• The users of the financial statements need an assurance that the entities
preparing their financial statements follow the accepted standards while
presenting their financial information in the financial statements.
 Accounting Standards Board of India

• The Institute of Chartered Accountants of India, recognizing the need to

harmonize the diverse accounting policies and practices at present in use in India,
constituted Accounting Standard Board (ASB) on 21 april, 1977.
• The main function of ASB is to formulate accounting standards so that such
standards may be established by the council of the Institutive in India.
• The Institute is one of the members of the IASC and agreed to support the
objectives IASC.
• The council of Institute of Chartered Accountants of India has so far issued 32
accounting standards.
AS No. Title Recommendatory or Mandatory from
mandatory

AS-1 Disclosure of accounting Policies Mandatory 1.4.1991

AS-2 Valuation of Inventories Mandatory 1.4.1999

AS-3 Cash Flow Statements Mandatory 1.4.2001
AS-4 Contingencies and Events Mandatory 1.4.1995
Occurring after the Balance Sheet
date
AS-5 Prior Period and Extraordinary Mandatory 1.4.1996
items and changes in accounting
policies
AS-6 Depreciation Accounting Mandatory 1.4.1995
AS-7 Accounting for Construction Mandatory 1.4.2003
Contract
AS-8 Accounting for R&D (withdrawn Mandatory 1.4.1991
from 1.4.2003)
AS-9 Revenue Recognition Mandatory 1.4.1991
AS No. Title Recommendatory or Mandatory from
mandatory

AS-10 Accounting for Fixed Assets Mandatory 1.4.1991

AS-11 Accounting for the effect of Mandatory 1.4.2004
changes in Foreign Exchange rates

AS-12 Accounting for Govt Grants Mandatory 1.4.1995

AS-13 Accounting for Investments Mandatory 1.4.1995
AS-14 Accounting for Amalgamation Mandatory 1.4.1994
AS-15 Accounting for Employee benefits Mandatory 7.12.2006

AS-16 Borrowing cost Mandatory 1.4.2000

AS-17 Segment reporting Mandatory 1.4.2001
AS-18 Related party disclosure Mandatory 1.4.2001
AS-19 Leases Mandatory 1.4.2001
AS No. Title Recommendatory or Mandatory from
mandatory

AS-20 Earning per share Mandatory 1.4.2001

AS-21 Consolidated Financial Statement Mandatory 1.4.2001

AS-22 Accounting for taxes on Income Mandatory 1.4.2001

AS-23 Accounting for investments in Mandatory 1.4.2002

associates
AS-24 Discontinuing operations Mandatory 1.4.2004
AS-25 Interim financial reporting Mandatory 1.4.2002
AS-26 Intangible assets Mandatory 1.4.2003
AS-27 Financial reporting of interest in Mandatory 1.4.2002
joint venture
AS-28 Impairment of Assets Mandatory 1.4.2004
AS No. Title Recommendatory or Mandatory from
mandatory

AS-29 Provisions, Contingent Liabilities Mandatory 1.4.2004

and Contingent Assets

AS-30 Financial Instruments: Recommendatory 1.4.2009

Recognition & Measurement
AS-31 Financial Instruments: Recommendatory 1.4.2009
Presentation
AS-32 Financial Instruments: Disclosures Recommendatory 1.4.2009
 International Financial Reporting Standards- IFRS

• Developed by International Accounting Standards Board

• Set of high quality, understandable and enforceable global accounting standards

• Are Principle-based standards and have a distinct advantage that the transactions can not be
manipulated easily
Convergence with IFRS- International Financial Reporting Standards

• India in process to converge with IFRS

• 40 Indian Accounting Standards have been notified
• Phase 1- starting 1st April 2016
Companies with net worth of 500 crores or more- whether
Listed or Unlisted. Their subsidiaries, joint ventures and
associated companies.

Phase 2- starting 1st April 2017

All listed companies or in the process of listing
Unlisted companies with net worth of 250 crores or more

Exemptions-
Comapnies listed in SME exchanges
Insurance/Banking/NBFC companies
Benefits of Convergence

• Same language
• Cross border investments leading to economic growth
• Comparability of financial statements of any two companies
anywhere in the world
• Globalisation of economy and world trade
• Growth opportunities for Indian companies for- access to
world capital, global market for products
• MNCs in India- Ease and standardisation in accounting and
reporting. Can lead to more Mergers and Acquisitions