ISTANA

Introduction to Accounting
Lecturer: Yusuf Hussein Mohamed

DEFINITION OF
ACCOUNTING
"Accounting

is

the

art

of

recording,

classifying and summarising in a significant

manner

and

in

terms

of

money;

transactions and events which are, in part

at least, of a financial character, and
interpreting the results thereof."
-American Institute of Certified Public Accountants
2

The age of Recordkeeping

Accounting emerged from an oral tradition of stewardship.

Recordkeeping was aimed at maintaining integrity and
discovering misappropriation.
Ancient records were on clay tablets dating from 2500BC
From the mid-fourteen century, written accounts and
knowledge of standard became more widespread as a
consequence, the control of stewardship become less direct.

The age of Recordkeeping

The concept of stewardship suits essentially decentralised

organisation.
stewardship and accountability still exists and is continues
area with accounting theory.
From the fourteen to the late fifteen century, written forms of
accounting become more common.
Then accounting become increasingly reliant
documentation rather than ceremonial oath-taking.

on

The age of Recordkeeping

Roman numerals in the fifteen century made calculations and
understanding more difficult.
Roman numerals had neither zero nor place values.
Audits were conducted by hearing. (the ward audit comes from
Latin Audire).

Recordkeeping era, performance and income concept were

disappeared.

The Birth of Double Entry Accounting

The earliest double entry records were seen in florence bank of
1211 and Books from Genoa of between 1340-1466 in Europe.

Littleton argued that double entry developed in Italy.

Nobes (1979) claim that double entry originated in India.

The technique of double entry was published by the Italian

person called Luca Pacioli 1494.

The Age of Scientific Accounting

Industrial revolution encountered the major accounting
problems of recognition, measurement and accountability.

the effect of IR and large scale of business was to demand

new practice of accounting.

By the end of nineteen century, railway companies and other

public utilities had resolved their accounting problems by
adopting the historical cost method and depreciation to value
assists.

The Age of Scientific Accounting

By the end of 1900, principles were employed, such as
accruals, matching, historical cost, going concern concept,
consistence and prudence.
During nineteen century, income statement
preferred method of determining income .

become the

Profit was calculated form the transactions recorded in the

nominal accounts.

The Age of Scientific Accounting

Railway legislators set out to regulate company profit
measurement.
The mid nineteen century, judiciary also supported driving
income from receipt and expenditure rather than balance sheet.
The first accounting standards in the UK appeared in 1943.

the concept of depreciation has always been a problem for

income tax authority.

OBJECTIVES OF
ACCOUNTING

The objectives or functions of

accounting are:
Maintaining Systematic Records
Financial Transactions an Events
Ascertaining Profit or Loss

of

Ascertaining Financial Position

Assisting the Management
Communicating Accounting Information
to Users
10

The Important Branches of Accounting and

Relationship of accounting with other disciplines
Accounting branches
Financial accounting,
Cost accounting.
Management accounting and,
Social accounting
Relationship of accounting with other disciplines
Accounting and economics
Accounting and mathematics
Accounting and statistics
Accounting and Law

ACCOUNTING PROCESS
Communicating to the
Users

Analysis and Interpretation

Summarizing
Trial Balance
Trading and Profit and Loss
Account
Balance Sheet.

Financial Transactions
or Events
1.
2.
3.
4.
5.
6.
7.
8.

Journal
Cash Book
Purchase Book
Sales Book
Purchases Return
Book
Sales Return Book
Bills Payable Book
Bills Receivable
Book
Journal Proper

Recording

Classifying (Posting
into Ledger)
12

BRANCHES OF
ACCOUNTING
Branches of
Accounting

Financial
Accounting

Cost
Accounting

Management
Accounting

13

USERS OF ACCOUNTING
INFORMATION
Internal Users

Owners

Management

Employees and Workers

External Users

Banks and Financial Institutions

Investors and Potential Investors

Creditors

Government and its Authorities

Researchers

Consumers

14

BASIS OF ACCOUNTING
1. Cash Basis Of Accounting
Cash Basis of Accounting is a method in
which
. income is recorded when cash is received, and
. expenses are recorded when cash is paid out
2. Accrual Basis of Accounting
System of accounting is based on 'accrual
concept'
. Revenue is recognized (recorded) when earned
. Expenses are recognized when incurred
Slide 15/39

SYSTEMS OF ACCOUNTING
The systems of recording transactions in
the books of accounts are classified into
two types:
(a) Double Entry System of Accounting
(b) Single Entry System of Accounting

Basic Assumptions for

Accounting
Entity Assumptions
Business is a separate entity from its owners

Going Concern Assumption

Expectations are that a business will remain in
operation

Monetary Unit Assumptions

Accounting records show only the monetary
security of the company

Time Period Assumption

Defines a specific period for which an entitys
reports are prepared

Principles for Accountin

Cost Principle
Market value is difficult to determine, always record
the purchase price of an asset

Matching Principle
Revenues and related expenses be recorded in the
same accounting period

Revenue Recognition Principle

Revenues are recognized when earned

Disclosure Principle
Companies must include information that may
impact decision of users of financial information

Constraints of Accounting
Materiality
Only record events that are significant enough to justify the
usefulness of the information

Cost-Benefit Relationship
Financial information provided by an organization is
beneficial enough to justify the cost of preparing it

Consistency Principle
Once an entity adopts a method of accounting, they must
use that same method for all subsequent events

Conservatism Principle
Select accounting methods that are least likely to overstate
assets (revenues) an understate liabilities (expenses) in the
current period

Accounting Equation

Assets = Owners Equity +

Liabilities
Items
of
value
owned
by the
busine
ss

The funds of a
business
provided
by
its owners and
the
profits
entitled to him

Debts
owed by
a
business
to
external
parties
such as

Assets = Owners Equity +

Liabilities
Building
Motor vehicle
Office Equipment
Fixtures
Stock (closing)
Cash in hand
Cash at bank

Capital

Creditors

Profits

Loan from bank

Other creditors

Assets = Owners Equity +

Liabilities
Every transaction will affect
2 items.
The equation will still
balance!

OE

TRANSACTION THAT AFFECTS BOTH

ASSET AND LIABILITY

ASSET

LIABILITY

ASSET

LIABILITY

TRANSACTION THAT AFFECTS BOTH

ASSET AND OWNERS EQUITY

ASSET

ASSET

OWNERS EQUITY
OWNERS EQUITY

OE

TRANSACTION THAT AFFECTS

ASSETS ONLY

ASSET ASSET
TRANSACTION THAT AFFECTS
LIABILITIES ONLY
LIABILITY

LIABILITY

BUSINESS ENTERPRISES
A business owned by one person is
generally a proprietorship (owners equity).
A business owned by two or more persons
associated as partners is a partnership
(partners equity).
A business organized as a separate legal
entity under corporation law and having
ownership divided into transferable shares
is called a corporation (shareholders
equity).

ASSETS AS A BUILDING BLOCK

Assets

are resources owned by

a business.
They are things of value used in
carrying out such activities as
production and exchange.

LIABILITIES AS A BUILDING BLOCK

Liabilities are claims against assets.
They are existing debts and obligations.

OWNERS EQUITY AS
A BUILDING BLOCK
Owners Equity is equal to total

assets minus total liabilities.

Owners Equity represents the
ownership claim on total assets.
Subdivisions of Owners Equity:
1. Capital
2. Drawings
3. Revenues
4. Expenses

INVESTMENTS BY OWNERS
AS A BUILDING BLOCK
Investments by owner are the
assets put into the business by
the owner.
These investments in the
business increase owners equity.

DRAWINGS AS A
BUILDING BLOCK
Drawings are withdrawals of
cash or other assets by the
owner for personal use.
Drawings decrease total
owners equity.

REVENUES AS A
BUILDING BLOCK
Revenues are the gross increases in
owners equity resulting from
business activities entered into for
the purpose of earning income.
Revenues may result from sale of
merchandise, performance of
services, rental of property, or
lending of money.
Revenues usually result in an
increase in an asset.

EXPENSES AS A
BUILDING BLOCK
Expenses are the decreases in
owners equity that result from
operating the business.
Expenses are the cost of assets
consumed or services used in the
process of earning revenue.
Examples of expenses include utility
expense, rent expense, and supplies
expense.

ILLUSTRATION

INCREASES AND DECREASES IN

OWNERS EQUITY
INCREASES
Investments
Investments
by
byOwner
Owner

Revenues
Revenues

DECREASES

Owners
Equity

Withdrawals
Withdrawals
by
byOwner
Owner

Expenses
Expenses

TRANSACTION ANALYSIS
Start decides to open a computer
programming service.

BANK

Softb
yte

TRANSACTION ANALYSIS

TRANSACTION 1
On September 1, he invests $15,000
cash in the business, which he names
Star Comapny.

There
There is
is an
an increase
increase in
in the
the asset
asset Cash,
Cash,
$15,000,
$15,000, and
and an
an equal
equal increase
increase in
in the
the
owners
owners equity,
equity, Ahmed,
Ahmed, Capital,
Capital,
$15,000.
$15,000.

TRANSACTION ANALYSIS

TRANSACTION 2
Stare Company purchases computer
equipment for $7,000 cash.
Trans. #

(2)
Balance

Assets
Cash
Supplies
15,000
(7,000)
8,000 +

= Liabilities +
Owner's Equity
Accounts
M. Doucet,
Equipment
Payable
Capital
15,000 Investment
7,000
7,000 =
15,000

Cash
Cash is
is decreased
decreased $7,000,
$7,000, and
and the
the
asset
asset Equipment
Equipment is
is increased
increased
$7,000.
$7,000.

TRANSACTION ANALYSIS

TRANSACTION 3
Star company purchases computer paper and supplies expected
to last several months from Chuah Supply Company for $1,600 on
account.
Trans. #

Balance
(3)
Balance

Assets

== Liabilities
Liabilities ++
Owner's
Owner's Equity
Accounts
Accounts
M.
M. Doucet,
Cash
Supplies
Equipment
Equipment
Payable
Payable
Capital
8,000
8,000
7,000
7,000
15,000
15,000
1,600
1,600
8,000 +
1,600 +
7,000 =
1,600 +
15,000

The
The asset
asset Supplies
Supplies is
is increased
increased $1,600,
$1,600, and
and
the
the liability
liability Accounts
Accounts Payable
Payable is
is increased
increased
by
by the
the same
same amount.
amount.

TRANSACTION ANALYSIS

TRANSACTION 4
Star company receives $1,200 cash
from customers for programming
services it has provided.
Trans. #

Balance
(4)
Balance

Assets

= Liabilities +
Owner's Equity
Accounts
M. Doucet,
Cash
Supplies
Equipment
Payable
Capital
8,000
1,600
7,000
1,600
15,000
1,200
1,200 Service Revenue
9,200 +
1,600 +
7,000 =
1,600 +
16,200

Cash
Cash is
is increased
increased $1,200,
$1,200, and
and
M.
M. Doucet,
Doucet, Capital
Capital is
is increased
increased
$1,200.
$1,200.

TRANSACTION ANALYSIS

TRANSACTION 5
Star comapny receives a bill for $250 for
advertising its business but pays the bill on
a later date.
Trans. #

Balance
(5)
Balance

Assets

= Liabilities ++
Owner's
Owner's Equity
Accounts
M. Doucet,
Cash
Supplies
Equipment
Payable
Capital
9,200 +
1,600
1,600 +
7,000
7,000 =
1,600
1,600 ++
16,200
16,200
250
(250) Advertising Expense
9,200
1,600
7,000
1,850
15,950

Accounts
Accounts Payable
Payable is
is increased
increased
$250,
$250, and
and M.
M. Doucet,
Doucet, Capital
Capital is
is
decreased
decreased $250.
$250.

TRANSACTION ANALYSIS

TRANSACTION 6
Star company provides programming
services of $3,500 for customers and
receives cash of $1,500, with the balance
payable
on account.
Trans.
#
Assets
== Liabilities
Liabilities ++
Owner's
Owner's Equity
Balance
(6)
Balance

Cash
9,200
9,200
1,500
10,700

Account
Account
Accounts
Accounts
Receivable
Receivable Supplies
Supplies Equipment
Equipment
Payable
Payable
++
00 ++ 1,600
1,600 ++
7,000
7,000 ==
1,850
1,850
2,000
2,000
1,600
7,000
1,850

M.
M. Doucet,
Doucet,
Capital
Capital
15,950
15,950
3,500 Service Revenue
19,450

Cash
Cash is
is increased
increased $1,500;
$1,500; Accounts
Accounts
Receivable
Receivable is
is increased
increased $2,000;
$2,000; and
and M.
M.
Doucet,
Doucet, Capital
Capital is
is increased
increased $3,500.
$3,500.

TRANSACTION ANALYSIS

TRANSACTION 7
Expenses paid in cash for September
are store rent, $600, salaries of
employees, $900, and utilities, $200.
Trans. #

Balance
(7)

Balance

Cash
10,700
(600)
(900)
(200)
9,000 +

Assets
Account
Receivable
Supplies
2,000
1,600

2,000 +

= Liabilities +
Owner's Equity
Accounts
M. Doucet,
Equipment
Payable
Capital
7,000
1,850
19,450
(600) Rent Exp.
(900) Salaries Exp.
(200) Utilities Exp.
1,600 +
7,000 =
1,850 +
17,750

Cash
Cash is
is decreased
decreased $1,700
$1,700 and
and M.
M.
Doucet,
Doucet, Capital
Capital is
is decreased
decreased the
the
same
same amount.
amount.

TRANSACTION ANALYSIS

TRANSACTION 8
Star company pays its advertising bill
of $250 in cash.
Trans. #
Balance
Balance
(8)
Balance

Cash
Cash
9,000
9,000
(250)
8,750 +

AccountAssets
Receivable
Account
Supplies
Receivable
2,000
Supplies
1,600
2,000
1,600
2,000 +

1,600 +

Equipment
Equipment
7,000
7,000
7,000

= Liabilities
Accounts + M. Doucet,
Owner's Equity
Accounts
Payable
M.Capital
Doucet,
Payable
1,850
Capital
17,750
1,850
17,750
(250)
=
1,600 +
17,750

Cash
Cash is
is decreased
decreased $250
$250 and
and
Accounts
Accounts Payable
Payable is
is decreased
decreased
the
the same
same amount.
amount.

TRANSACTION ANALYSIS

TRANSACTION 9
The sum of $600 in cash is received from
customers who have previously been billed
for services in Transaction 6.

Trans. #

Balance

Assets
= Liabilities +
Owner's Equity
Account
Accounts
M. Doucet,
Cash
Receivable
Supplies
Equipment
Payable
Capital
8,750 +
2,000 +
1,600 +
7,000 =
1,600 +
17,750

Cash
Cash is
is increased
increased $600
$600 and
and
Accounts
Accounts Receivable
Receivable is
is decreased
decreased
by
by the
the same
same amount.
amount.

TRANSACTION ANALYSIS

TRANSACTION 10

Trans. #

Balance

Ahmed withdraws $1,300 in cash

from the business for his
personal use.
Assets

Cash
9,350

Account
Receivable
1,400

Supplies
1,600

= Liabilities +
Owner's Equity
Accounts
M. Doucet,
Equipment
Payable
Capital
7,000
1,600
17,750

Cash
Cash is
is decreased
decreased $1,300
$1,300 and
and
Ahmed,
Ahmed, Capital
Capital is
is decreased
decreased by
by
the
the same
same amount.
amount.

FINANCIAL STATEMENTS
After transactions are identified,
recorded, and summarized, four
financial statements are prepared
from the summarized accounting
data:
1. An income statement presents the
revenues
and expenses and
resulting net income or net
loss
of a company for a specific period of
time.
2. A statement of owners equity

FINANCIAL STATEMENTS
In addition to the income statement and
statement of owners equity, two
additional statements are prepared:
3. A balance sheet reports the assets,
liabilities, and
owners equity of a
business enterprise at a
specific date.
4. A cash flow statement summarizes
information
concerning the cash
inflows (receipts) and
outflows (payments) for a specific period

ILLUSTRATION 1-10
FINANCIAL STATEMENTS AND THEIR
INTERRELATIONSHIPS

Net income of $2,750 shown on the income statement

is added to the beginning balance of owners capital

ILLUSTRATION 1-10

FINANCIAL STATEMENTS AND THEIR

INTERRELATIONSHIPS

Net income of $2,750 is carried forward from the

income statement to the statement of owners
equity. The owners capital of $16,450 at the end of
the reporting period is shown as the final total of the

ILLUSTRATION 1-10

FINANCIAL STATEMENTS AND THEIR

INTERRELATIONSHIPS

Net income of $2,750 is carried forward from the

income statement to the statement of owners
equity. The owners capital of $16,450 at the end of
the reporting period is shown as the final total of the

ILLUSTRATION 1-10

FINANCIAL STATEMENTS AND THEIR

INTERRELATIONSHIPS
Owners
capital of
$16,450 at
the end of
the
reporting
period
shown in
the
statement
of owners
equity is
also shown
on the
balance
sheet.
Cash of

SOFTBYTE
Balance Sheet
September 30, 2002
Assets
Cash
Accounts receivable
Supplies
Equipment
Total assets

8,050
1,400
1,600
7,000
18,050

1,600

16,450
18,050

Liabilities and Owner's Equity

Liabilities
Accounts payable
Owner's Equity
M. Doucet, Capital
Total liabilities and owner's equity

ILLUSTRATION 1-10

FINANCIAL STATEMENTS AND THEIR

INTERRELATIONSHIPS
Cash of
$8,050 on
the
balance
sheet and
cash flow
statement
is shown
as the
final total
of the
cash
column of
the

SOFTBYTE
Cash Flow Statement
For the Month Ended September 30, 2002
Cash flows from operating activities
Cash receipts from customers
$ 3,300
Cash payments to suppliers and employees
(1,950)
Net cash provided by operating activities
Cash flows from investing activities
Purchase of equipment
$ (7,000)
Net cash used by investing activities
Cash flows from financing activities
Investments by owner
$ 15,000
Drawings by owner
(1,300)
Net cash provided by financing activities
Net increase in cash
Cash, September 1
Cash, September 30

$ 1,350

(7,000)

13,700
$ 8,050
$ 8,050

USING THE INFORMATION IN THE

FINANCIAL STATEMENTS
Annual Reports
Non-financial
information
Financial
information