Topic 1

Financial Accounting Meaning Scope Importance

Accounting-Introduction
American Institute of certified Public Accountants (AICPA) Accounting is the art of recording ,classifying & summarizing in significant manner and in terms of money, transactions & events which are, in part at least , of a financial character and interpreting the results there of
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Accounting-Introduction
Smith & Ashburne Accounting is the science of recording and classifying business transactions and events, primarily of a financial character, and the art of making significant summaries, analysis and interpretations of those transactions and events and communicating the results to persons who must make decisions or form judgment.
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Functions of Accounting
1.Recording 2.Classifying 3.Summarizing 4.Deals with Financial Transactions 5.Analysis and Interprets 6.Communicates
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Branches/Scope of Accounting
Financial Accounting Cost Accounting Management Accounting

Financial Accounting
Original form of accounting. Kohler in Dictionary for accountants, has defined financial accounting as the accounting for revenues, expenses, assets and liabilities that is commonly carried on in the general office of a business.

Cost Accounting
It involves classification, accumulation, assignment and control of costs. Purpose of cost accounting is to ascertain the cost of production, to enable the management fix the price of the product and to ensure cost reduction.

Management Accounting
Management Accounting is concerned with accounting information which is useful to the management in formulating policies and controlling the business operations.

Financial vs. Management Accounting

Financial & Cost Accounting Tracks Historical data Internal Data Used for External Reporting Governed by Law and Regulations Used by shareholders, lenders, suppliers, government agencies, etc. Management Accounting Uses Historical & Forecast Internal & External Data Used for Internal Reporting and Decision Making Free-format and changes according to users needs Exclusive use of managers at different levels

Importance of Accounting
1.Assistance to Management i)Planning ii)Decision Making iii)Controlling Management 2. Replacement of Memory 3. Comparative Study 4. Settlement of Taxation Liability 5. Evidence in court 6. Sale of Business 7. Assistance to an Insolvent Person

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Topic 2 Accounting Principles

Accounting principles may be defined as those rules of action or conduct which are adopted by the accountants universally while recording transactions. These principles can be classified into two categories: Accounting Concepts Accounting Conventions
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Continued--Accounting Concepts Basic assumptions or conditions upon which the science of accounting is based. Accounting Conventions Those customs or traditions which guide the accountant while preparing the accounting statements.
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Accounting Concepts
1. 2. 3. 4. 5. 6. 7. Separate Entity Going Concern Money Measurement Cost Dual Aspect Accounting period Periodic Matching of Cost & Revenue 8. Realization Concept

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Accounting Conventions
1. 2. 3. 4. Convention of Convention of Convention of Convention of Conservatism Full Disclosure Consistency Materiality

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Assignment No 1 Last date of submission Oct 04,2010 For Lateral Entries

Q1.

Define Accounting. Explain its scope and importance. Q2. state the persons who should be interested in accounting information. Q3. what are the accounting concepts and conventions? Explain them with examples.
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Accounting Terminology
1.Capital 2.Liabilities i) Long term Liability ii) Current Liability 3. Assets i) Fixed Assets ii) Current Assets 4. Revenue 5. Income 6. Gain 7. Expense

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Continued--8. Expenditure 9. Purchases 10. Sales 11. Stock 12. Debtors 13. Receivables 14. Creditors 15. Payables 16. Losses 17. Proprietor

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Continued--18.Drawings 19. Discount i) Trade Discount ii)Cash Discount

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Topic 3 Formation & Imp. of Accounting standards

Accounting standards may be defined as written statements, issued from time to time by institutions of accounting professionals, specifying uniform rules or practices for drawing the financial statements. Kohler defines accounting standards as a code of conduct imposed on accountants by custom, law or professional body.
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Nature
Lay down the norms of accounting policies Makes financial statements of different business unit comparable Prescribe a preferred accounting treatment Provide basis of financial statements and information to the users Set the limits within which accountant has to function.
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Importance
It improves the reliability and credibility of financial statements It ensures the consistency and comparability of financial statements It helps in resolving conflict It reduce the chances of manipulation and frauds Helpful to Auditors.

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Topic 4 Accounting Process

1. 2. 3. 4. 5. 6. Identification of Transactions Preparation of Vouchers Recording Classifying Summarizing Analysis and Interpretation

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Recording Journal and Subsidiary Books

Journal is that primary book of accounts in which transactions are originally recorded in a chronological (day to day) order. In case number of transactions are large, journal is categorized into various subsidiary books, namely Cash Book, Purchases Book, Sales Book, Sales Return Book, Purchases Returns Book, Bills Payable Book, Bills Receivable Book, and Journal Proper.
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Double Entry System

In all the business firms, transactions are recorded under the Double Entry System, which is derived from the basic concept of Dual Aspect of accounting. Dual Aspect of Accounting Assets = Liabilities + Capital

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Account
An account is a summarized record of relevant transactions at one place relating to a particular head.

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Accounts are of 3 types

1. Personal Account Relates to some person An individual - Ram A company - RIL Debtor, Creditor, Capital Account, Drawing Account. Rule of Double Entry System Debit the Receiver and Credit the Giver

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2. Real Account
Relates to tangible or intangible assets of the firm. Machinery, Plant, Land, Equipment, Building, Stock, Cash, goodwill, patents etc. Rule of Double Entry System Debit what comes in and Credit what goes out

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3. Nominal Account
Relates to expenses, losses, revenues and gains. Expenses and Losses Salaries Paid, Interest Paid, Loss by fire, Theft, etc. Revenues and Gains - Sales proceeds, Income from other sources, Profit earned. Rule of Double Entry System Debit all expenses & losses and credit all revenues & gains

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Guidelines for Debit and Credit Entries

Item Asset Expense Income Liability Increase in Value Decrease in Value Debit Debit Credit Credit Credit Credit Debit Debit
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Journal Entry
Date Description - Cash a/c Dr. To Ram L.F Debit 20,000 Credit 20,000

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Classifying Ledger
Entries are made in the journal in serial order as transactions take place. Transactions of one nature are posted in an account. All the accounts put together is known as Ledger

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Working of Ledger
A separate page is allotted to an individual A/c. Each account has two sides. Amount and details are brought to the account from the journal. This process is called Posting.

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A/c
Dr.
DATE PARTICULARS J.F Amt. ------- To -----------DATE PARTICULARS J.F ----------- By -------------

Cr.
Amt.

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Preparing a Trial Balance

1. When? At the end of an accounting period. 2. Why? Verification of the sum of debit and credit balances of the ledger accounts. 3. What? Is a statement of account balances and their totals.
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Topic 5 Depreciation

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Depreciation is the decrease or depletion in the value of an asset. Depreciation is a gradual decrease in the value of an asset from any cause Depreciation accounting is a system of accounting which aims to distribute the cost in a systematic manner. It is the process of allocation and not of valuation
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R.N. Carter Depreciation is the gradual and permanent decrease in the value of an asset from any cause Spicer & Pegler Depreciation is the measure of the exhaustion of the effective life of an asset from any cause during a given period

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Special Features
All fixed assets with certain exceptions (Land and Antiques) suffer depreciation Fall is of permanent nature. Gradual & continuing process. It is a process of allocation of the cost of an asset.

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Special Features Continued-- It is a non-cash expense. It represents only book value not mkt. value Used only in respect of fixed assets Is a charge against profits Is different from maintenance

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Causes
By Constant Use By Expiry of time By Expiry of legal rights By Obsolescence By Accident By Depletion
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Importance
For ascertaining the true profit or loss For showing the true and fair view of the financial position To ascertain the accurate cost of production To provide funds for replacement of assets To prevent the distribution of profits out of capital For avoiding over payment of income tax
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Factors Affecting
Total cost of the asset Estimated useful life of Asset Estimated scrap value

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Methods of Depreciation
Straight Line Method Written Down Value Method Annuity Method Depreciation Fund Method Insurance Policy Method Revaluation Method Depletion Method Machine Hour Rate Method
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Straight Line Method

Depreciation is charged evenly every year throughout the effective life of the asset. This method is also known as: Equal Installment Method Fixed Installment Method Original Cost Method
Straight-Line Depreciation Expense Asset Cost - Salvage Value = Useful Life
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On January 1, 2009, Monroe Inc. purchased oil pumping equipment for Rs. 62,000 cash. The equipment has an estimated useful life of 5 years and Monroe expects to sell the equipment at the end of its life for Rs.2,000 cash. Lets compute depreciation expense for the year ended December 31, 2006.
2009 Depreciation Expense Rs.62,000 - Rs.2,000 = 5 = Rs.12,000

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Merits Simplicity Equality of depreciation burden Assets can be completely written off Useful for those assets which get depreciated more on account of expiry of period e.g. lease hold properties, patents etc.

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Demerits Total charge for use of the asset goes on increasing Undue pressure in later years Unrealistic to written off the value to Zero Difficulty in determining of scrap value Does not take into account, the effective utilization of the assets.

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Written Down Value Method

Depreciation is charged on the Book Value of the asset each year. Book Value = Original Acquisition Cost Total Accumulated Depreciation This method is also known as Reducing Installment Method Diminishing Balance Method If depreciation rate is not given Depreciation Rate = 1-n net residual value acquisition cost 48

Merits Equal Charge Against Income No undue pressure in later years Balance of asset is never written off to zero Approved method by income tax authorities

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Straight Line Vs. Written Down

Amount of Depreciation Basis of calculation of depreciation Zero Level Combined effect of depreciation & repairs on P&L A/c Rate of Depreciation Approval of Income Tax authorities Suitability
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Annuity Method
Annuity method considers both the value of the asset and amount of interest which might have been earned, when this amount is used elsewhere. The interest is debited to asset account and is credited to profit and loss account.

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Depreciation Fund Method

This method provides funds for the replacement of the asset at the end of its servicing life. The amount of depreciation is credited to an account called depreciation fund account which is shown on the liabilities side of the balance sheet.

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Insurance Policy Method

In this method an insurance policy is purchased for the value of the asset. This policy is taken up for the life of the asset and it matures at a time when the asset is to be replaced.

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Revaluation Method
In this method the amount of depreciation is calculated by revaluing the asset at the end of each year. The difference between the value of the asset at the beginning and the end of the period is taken as depreciation.

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Depletion Method
This method is specially used for those assets which deplete with use. The cost of the assets is divided by total workable deposits. For e.g.:- If a mine has 2 lakh tons of coal and the value of mine is Rs. 5 lakhs, each ton of coal will cost Rs. 2.5 and the resultant figure will be the amount of depreciation.

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Machine Hour Rate Method

The life of the asset is estimated in hours. The value of the asset minus scrap value is divided by the estimated number of hours. In this way a machine hour rate is calculated. Machine hour rate determines the amount of depreciation per hour.

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Topic 6: Final Accounts of Non Corporate Entities Expenditure

Capital Expenditure Acquisition of Fixed Assets Expenses incurred on Acquisition Expansion of Fixed Assets Revenue Expenditure Daily routine expenses Up keep of Fixed Assets Purchase of stocks of Material Depreciation
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Final Accounts
Why ? To know about two essential facts. 1. Whether he has earned a profit or suffered a loss during a period Reply is Income statement (Trading Account and Profit and Loss Account) 2. Where does he stand now/what is the financial position Reply is Balance sheet
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Income Statement
Trading Account Gives the overall result of trading, i.e. purchasing & selling of goods and tells about Gross profit/Loss. Trading Account For the period ending XXXX
Particulars
To Opening Stock To Purchases Less: Returns To Direct Expenses -

Amt.

Particulars
By Sales Less: returns By Closing Stock -

Amt. 59

Important Points
Stock Opening stock Closing stock Purchases: Cash + Credit Sales: Cash + Credit Direct Expenses: wages, wages and salaries, customs and import duty, Freight, carriage and cartage, Royalty, Gas, electricity, water, fuel, Packing materials
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Profit and Loss Account

Gives the net result of the business after considering all other operating expenses and incomes.

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Profit and Loss Account For the period ending XXXX

Particulars To Rent To Salaries To General Expenses To Discount To Insurance To Net Profit (B/F) Amt. Particulars By Gross Profit By Interest By Discount Amt. -

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Important Points
Gross Profit or Gross Loss Operating Expenses/Incomes: Salaries, Interest, Commission, Trade expenses, Printing and Stationery, Advertisement, Bad debts, Depreciation, Discount.

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Balance Sheet
Balance sheet is a statement containing the assets and liabilities of a business on a particular date. It is a classified summary of the various remaining accounts. It has two sides Left hand side represents Liabilities Right hand side represents Assets

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Balance sheet as on -----Liabilities Capital A Add Net Profits Less Drawings Long term loan Sundry creditors Bills payble Bank overdraft Amt. - Assets Goodwill Land Building Plant and Machinery Furniture Closing Stock Debtors Bills Receivable Prepaid Expenses Cash at bank/hand Amt. 65

 Assets: all rights or properties which a business owns Current Assets: acquired with the intention of converting into cash during normal business operation period Liquid Assets: immediately convertible Fixed Assets: acquired for relatively long periods for carrying on the business and are not meant for resale Intangible Assets: which cannot be seen and touched Fictitious Assets: not represented by tangible 66 possession or property

Liabilities: claims against the assets of a firm whether those of owners or of the creditors Current Liabilities: payable within a year Fixed Liabilities: other than current liabilities Owners Liability/Equity: capital+Profits

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Adjustment Entries
Closing Entries: are required to transfer the balances of accounts which are supposed to transfer in Trading a/c or P&L a/c. Say all income and expenses a/c Closing stock:
closing stock a/c To Trading a/c Dr.

The stock at the end appears in the Balance Sheet. If the value of the stock is given in the Trial Balance
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Outstanding Expenses
become due during the accounting period but have not been paid Expenses a/c Dr. To Outstanding Expenses a/c Liabilities side of balance sheet. Will be added in the expense in the Debit side of the P&L a/c

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Prepaid Expenses
which have been paid in advance Prepaid Expense a/c Dr. To Expense a/c Asset side of Balance Sheet Will be deducted from Expense in the debit side of P&L a/c

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Outstanding Incomes
which has become due during the accounting year but which has not so far been received. Outstanding Income a/c Dr. To Income a/c Asset side of Balance Sheet Will be added in Income in the credit side of P&L a/c.

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Accrued Income:
earned but which has not yet become due Accrued Income a/c Dr. To Income a/c Asset side of Balance Sheet Will be added in Income in the credit side of P&L a/c.

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Income Received in advance

has been received before it being earned Income a/c Dr. To Income Received in Advance a/c Deducted from the Income in Credit side of P&L a/c. Liabilities side of P&L a/c

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Depreciation
Decrease in the value of asset due to wear and tear, lapse of time, and accident. Depreciation a/c Dr. To Fixed Asset a/c Debit side of P&L a/c Deducted from the asset in the assets side of the Balance Sheet.

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Bad Debts
Bad debts occur when there are credit sales. It is a loss to the business and a gain to the debtor. Bad Debts a/c Dr. To Debtors Personal a/c Debit side of P&L a/c Deducted from the asset in the assets side of the Balance Sheet.
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Provision for Bad Debts

A firm makes provision at the end of the accounting year for likely bad debts which may happen during the course of the next year Profit and Loss a/c Dr. To Provision for Bad Debts a/c Deducted from debtors in the Balance Sheet Charged from the P&L a/c
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Interest on Capital
In order to determine the true profit, it is necessary that the profit should be determined after deducting interest on such funds, which the proprietor could have earned otherwise. Interest on Capital a/c Dr. To Capital a/c Debit side of P&L a/c Will be added in capital in the liabilities side
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Interest on Drawings
It is usual practice to charge interest on drawings in case interest is allowed to the proprietor on his capital. Capital a/c Dr. To Interest on Drawings a/c Credit side of P&L a/c Will be deducted from the capital in the liabilities side
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