CHAPTER 2: THE ACCOUNTING PROFESSION
DEFINITIONS OF ACCOUNTING
 American Institute of Certified Public Accountants (AICPA) – the
art of recording, classifying and summarizing in a significant manner
and in terms of money, transactions and events which are in part at
least of financial character and interpreting the results thereof.
 Accounting Standards Council (ASC) – a service activity. Its function
is to provide quantitative information, primarily financial in nature,
about economic entities, that is intended to be useful in making
economic decisions.
 American Accounting Association (AAA) – the process of identifying
measuring, and communicating economic information to permit
informed judgements and decisions by users of the information
NATURE OF ACCOUNTING
 Discipline – a discipline that observes professional standards and
professional ethics as other fields of professions
 Service Entity – it is involved in providing professional services
particularly in performing tasks by making financial reports
regarding the financial activities of economic entities
 Art and Science – As an art, accounting is designed to perform its
service activity with utmost efficiency and in the best possible
manner without any wastage of time and money. As a science, it is
regulated by accounting rules, principles, postulates and theories.
 The Language of Business – it communicates the results of business
operations to various parties who are directly or indirectly
interested on the economic affairs of the business
 The Eyes of the Business – bookkeeping records, as the initial part
of accounting activities, enable the owner of a business to check on
his financial progress
FUNCTIONS OF ACCOUNTING
 To provide financial reports to various end-users for economic
decision-making
o Recording – employed to ensure that all business
transactions are recorded in a systematic manner in
property books of accounts. The recording is done in the
“JOURNAL BOOK”.
o Classifying – concerned with systematic analysis of
recorded business transactions and events. Done in the
“LEDGER BOOK”
o Summarizing – involves presenting the classified data in a
manner which is understandable and useful to the end-
users of accounting information.
o Analyzing and Interpreting – the recorded financial data are
analyzed and interpreted in a manner that the end-users
can make a meaningful judgement about the financial
condition and profitability of the business operations
o Communicating – done through the distribution of
accounting reports
o Protecting the property of business – it provides internal
control to secure them and ensure that unauthorized use of
business property shall not be made.
o Preparing legal requirements – the accounting records and
supporting documents serves as proofs of real transactions
as contained in the financial accounting reports
OBJECTIVES OF ACCOUNTING
 To ascertain the results of operations during a period – to
determine the overall profitability of the business over a set period
of time (Statement of Comprehensive Income)
 To ascertain the financial position – to know the financial health or
financial condition of the firm (Statement of Financial Position)
 To maintain control over assets
  To aid management in planning and performance evaluation –
accounting also provides significant information to management to
carry out its daily tasks and operations properly and efficiently.
 To provide information to government agencies and other legal
purpose – through financial reports, the government agencies could
check that the funds being raised by the business are from legal
sources
USERS OF ACCOUNTING INFORMATION
 The Management Group (internal Users)
 The Financing Group & Public Group (External Group)
o Investors – to assess the risk of investments portfolio,
investors need information to help them determine
whether they should buy, hold, or sell their investments
o Employees – workers are interested in the financial
statements to determine the employer’s stability and
profitability
o Lenders – to determine whether borrowers can pay their
loans and interest attached to them when due
o Suppliers and other trade creditors – they are interested in
the information that enables them to determine whether
debts owed to them will be paid when due
o Customers – to assess the latter’s continuity in business
o Government and its agencies – for statistics, income taxes,
and other regulatory policies
o Public – may assist the people by providing information
about the trends and recent developments in the prosperity
of the enterprise and the range of its activities
BOOKKEEPING, ACCOUNTING AND AUDITING
 Bookkeeping – it is primarily concerned with procedures in the
making and keeping of accounting records
 Accounting – it is the conceptual and logical part of the service
activity
 Auditing – it is performed after the accounting work ends
SPECIALIZED FIELDS OR BRANCHES OF ACCOUNTING
 Public Accounting
o External Auditing – centers on the critical examination of
financial statements by an independent CPA to express an
opinion regarding the fairness of the contents of the
financial statements
o Tax Service – deals with the accountant’s preparation of the
client’s income tax returns, business and transfer taxes
o Managerial Advisory Services – provides assistance to the
management
 Private Accounting (Commerce and Industry)
o Financial Accounting – primarily concerned with the
recording and classifying of business transactions
culminating in the preparation of general-purpose financial
statements
o Internal Auditing – deals with determining the operational
efficiency of the company regarding protection of the
company’s assets, accuracy and reliability of the accounting
data
o Tax Accounting – embraces the preparation of various tax
returns and tax planning necessary to minimize the impact
of taxes on the firm
o Cost Accounting – determining the inventory costs and/or
product costs of the manufactured goods and assisting in
product pricing activities
o Budgeting – covers the efficient management of cash by
anticipating or predicting monetary objectives in the future
o Accounting Systems Design – includes the evaluation of the
company’s control system to find out any area of
improvement
o International Accounting – encompasses special accounting
for international transactions, comparisons of accounting
 principles in different countries, and harmonization of 3. Corporation – a business registered as an artificial person under the
diverse accounting standards company does business operation of the law. Its existence is evidenced by its Articles of
o Not-for-Profit Accounting – the profits are usually left in Incorporation and Corporate By-Laws registered with the SEC
the organization and used for the benefit of the public
which they serve ADVANTAGES DISADVANTAGES
o Socio-economic Accounting – concerns the measurement  Most costly and difficult to
of the impact of business or governmental agency’s decision organize
on the public sector  Only the Board of Directors
 Government Accounting  Limited liability and other authorized
 Power of succession officers can bind the
 Accounting Education
 Unrestricted transfer of corporation in contracts
BUSINESS ORGANIZATIONS ownership  Shareholders have limited
 Greater source of resources access and control over
 Business – any economic activity conducted primarily for profit  Renewable and perpetual management and operations
life  Most stringent government
1. Sole Proprietorship – owned by one person
supervision and restrictions
 Corporations are taxed at a
ADVANTAGES DISADVANTAGES flat 30% income tax rate
 Easiest to start and set up PRIMARY ACTIVTIES OF BUSINESSES
 Unlimited liability
 Only one decides for the
 Limited resources
business  Servicing – this business renders services to clients in exchange for a
 All losses are borne by
 All profits are for the owner fee
owner
 The owner is taxed  Merchandising – engages in the “buying” and “selling” of goods
 Limited life
 Easy to dissolve  Manufacturing – converts raw materials into finished goods

2. Partnership – owned by two or more persons (Partners) who have

agreed to contribute money, property and industry to a common CHAPTER 3: ACCOUNTING CONCEPTS AND PRINCIPLES
fund with the intention of dividing the profits among themselves
 Accounting Concepts – important ideas which accountants assume
ADVANTAGES DISADVANTAGES in recording business transactions
 Easy to form (mere  Unlimited liability  Accounting conventions – accounting practices that practitioners
agreement)  All partners may be held accept because of their long existence and use
 Joint resources for partners liable for the action of one  Accounting Principles – those that have first importance, which
 Lesser government partner define broadly the actions that will best accomplish the objectives
supervision  Consensual and restricted of accounting
 Tax-exempt if professional transfer of ownership
partnership  Limited life
GENERALLY ACCEPTED ACCOUNTING PRINCIPLES
 Used uniformly by accountants in measuring, recording and
reporting financial activities of an entity
 MAIN OBJECTIVE: “to fairly present the financial statements... in
conformity with generally accepted accounting principles”
CONCEPTUAL FRAMEWORK FOR FINANCIAL REPORTING
 Establishes the ideas that bring about financial reporting
o Identifying the boundaries of financial reporting
o Selecting the transactions, other events, and circumstances
to be represented
o Recognizing and measuring
o Summarizing and reporting transactions and events
BASIC ASSUMPTIONS IN ACCOUNTING
 Economic Entity Assumption – a business enterprise as a separate
and distinct entity from the person or people who own and run it
(Separate entity concept, Entity concept, Accounting Entity, or
Business entity concept)
 Going Concern Assumption – assumes that the business entity will
continue operating indefinitely for a period of time
o Objectivity – all documents used in record keeping must be
evidenced by a source document that identifies the actual
cost incurred
o Historical Cost – helps to attain objectivity by considering
only the purchase price. Once recorded, it remains
unchanged.
o Liquidating Concern – if the business has the intention to
liquidate
 Monetary Unit Assumption – assumes that money is the common
denominator in measuring economic activity (supports the going
concern assumption)
 Periodicity (or Time Period) Assumption – assumes that the life of
the enterprise is divided into several period
o Accounting Period – Calendar Year (January 1 - December
31), Fiscal year (composed of twelve months but starts from
any month other than January), or Interim Period (business
period within an accounting period)
 Accrual Basis Assumption – the net profit of a business enterprise is
the difference between the revenues and expenses for an
accounting period
BASIC PRINCIPLES OF ACCOUNTING
 Measurement Principles
o Cost Principle (Historical Cost Principle) – business entities
should account for and report many assets and liabilities on
the basis of acquisition price
o Fair Value Principle – the amount for which an asset could
be exchanged, a liability could be settled, or an equity
instrument granted could be exchanged between
knowledgeable and willing parties in an arm’s length
transaction
 Revenue Recognition Principle
o Earlier Recognition – revenue can be recognized before the
time of sale
o Later Recognition – applicable when the collections for the
payments of services rendered or goods delivered are
doubtful even if the goods are already delivered or the
services have been rendered
 Cash or profit recovery method
 Cost recovery method
 Installment method or Hybrid Method
 Expense Recognition Principle
o Expenses – outflows or other “using up” of assets or
incurring of liabilities during a period as a result of
delivering or producing goods and/or services
 o Matching Principle – states that all costs that were incurred
to generate the revenue appearing on a given period’s SCI
 Associating Cause and Effect
 Systematic and Rational Allocation
 Immediate Recognition
 Full-Disclosure Principle – requires that financial statements should
report all relevant information bearing on the economic affairs of a
business enterprise
o Parenthetical comments
o Disclosure notes
o Supplemental Financial statements
ACCOUNTING CONSTRAINTS
 Cost Constraint – suggests that the benefits of accounting for and
reporting information should outweigh the costs
 Materiality Constraint – concerns an item’s impact on an entity’s
overall financial operations
QUALITATIVE CHARACTERISTICS OF ACCOUNTING INFORMATION
 Decision-usefulness – to choose which among the acceptable
accounting methods could provide the most useful information for
decision-making purposes
 Relevant-disclosure – to determine the amount and types of
accounting information to disclose
 Reporting format – to use the appropriate presentation and
contents of reporting consistent to the financial reporting objective
FUNDAMENTAL QUALITIES OF ACCOUNTING
 Relevance – accounting information must be capable of influencing
or making a difference in an economic decision.
o Predictive Value – accounting information should be helpful
to decision-makers when it has inputs to increase their
ability to forecast the outcome of future events
o Confirmatory Value – should be helpful to decision-makers
who are validating, making updates, adjustments, or
corrections to past predictions
 Faithful Representation – to achieve public trust and confidence in
the financial statements
o Completeness – the financial reports must contain all
necessary information that would influence an economic
decision
o Neutrality – information is neutral when it is fair or free
from bias toward a desired result or behaviour
o Free from Error – financial information must be free from
material error to faithfully embody the representation
contained therein
ENHANCING QUALITIES OF ACCOUNTING
 Understandability – accountants provide understandable financial
accounting information by presenting data that can be understood
by users of the information
 Verifiability – the information as shown in the financial reports
should be checked and corroborated to prove their faithful
representation
o Direct Verification – independent auditors conduct actual
physical inspection and count of inventory and confirm the
correctness of inventory amount
o Indirect Verification – simply checking the inputs (quantity
and cost) and recalculating the outputs
 Timeliness – accounting information must be available on time
when needed if it is to influence decisions
 Comparability – enables users to identify similarities and
differences between two or more sets of economic circumstances
BASIC FINANCIAL STATEMENTS
 Financial Statements – the formal reports prepared by accountants
 o Statement of Financial Position (Balance Sheet) – shows
the financial condition of the business entity (Assets,
Liabilities, and Equity)
o Statement of Comprehensive Income (Income Statement)
– shows the operating performance of the business entity
for a given period (Revenues and Expenses)
o Statement of Changes in Equity – shows the movements in
the various elements of the owner’s equity or capital
(Investments, Profit or Loss, Withdrawals, and period
adjustments)
o Cash Flow Statement – explains the changes of cash and
cash equivalents
 Cash Equivalent – a short-term, highly liquid
investment that is easily convertible to cash
 Operating – the inflows and outflows of cash from
the normal operating activities of the business
 Investing – the inflows and outflows of cash from
the sale or purchase of assets other than inventory
 Financing – the inflows and outflows of cash from
the owners and creditors of the enterprise
o Notes to the Financial Statements – part of the basic
financial statements to achieve proper understanding of the
financial reports
ELEMENTS OF FINANCIAL STATEMENTS
 Statement of Financial Position
o Assets – resources owned or controlled by an entity
resulting from past events and from them, future economic
benefits are expected to flow to the entity
o Liabilities – existing obligations of the entity arising from
past events
o Equity – the residual interest in the assets of the entity after
deducting all its liabilities
 Statement of Comprehensive Income
o Revenues – increases in assets or decreases in liabilities
arising from business operation during an accounting period
that result to increase owner’s equity
o Expenses – decreases in assets or increases in liabilities
arising from business operations during an accounting
period that result to the decrease in owner’s equity
RECOGNITION OF THE ELEMENTS OF FS
 Recognition – the process of recording an item in the books of
accounts or reporting the elements of financial statements
o Probability of Future Benefit – it is probable that any future
economic benefit associated with the item will flow to or
from the entity
o Reliability of Measurement – the item has a cost or value
that can be measured with reliability
LIMITATIONS OF FINANCIAL STATEMENTS
 Use of Estimates – some accounting data contained in the financial
statements are based on estimates
 Use of Historical costs – actual costs signifies faithful
representation, but it does not show the current value of assets,
liabilities and equity
 Non-inclusion of developed intangible assets – when a business
entity self-develops its intangible assets, accounting principles do
not permit their reporting as part of assets because their cost
cannot be objectively determined
DEFINITIONS, CLASSIFICATIONS AND EXAMPLES OF ACCOUNTS
 Real Accounts – reported in the SFP. They are not closed at the end
of the accounting period
o Assets – resources or things of value owned by an
enterprise
 Current Assets
  Cash  Service Income
 Accounts Receivable  Professional Fees
 Notes Receivable  Interest Income
 Accrued Interest Receivable  Rent Income
 Inventories  Gain on Sale of other Assets
 Prepaid Supplies o Expense – costs incurred in conducting the business
 Noncurrent Assets activities
 Land  Cost of Sales
 Building  Supplies Expense
 Furniture and Fixture  Salaries and Wages Expense
 Insurance Expense
 Equipment
 Taxes and Licenses Expense
 Contra-Valuation Accounts
 Estimated Expenses:
 Allowance for Doubtful Accounts – it is
 Doubtful Accounts Expense – estimated
credited to serve as a contra-account for
amount of losses from uncollectible
the related receivable
accounts arising from credit sales of the
 Accumulated Depreciation
current period
o Liabilities – present obligations to pay cash or cash
 Depreciation Expense – represents the
equivalents by an entity
current periodic cost for using depreciable
 Current Liability
plant assets
 Accounts Payable
 Notes Payable CHAPTER 4: ACCOUNTING INFORMATION SYSTEM
 Accrued Interest Payable
 SSS Premium Payable THE DOUBLE-ENTRY SYSTEM VS. SINGLE-ENTRY SYSTEM
 Withholding Tax Payable
 Double-entry System – based on the dual aspect concept that for
o Owner’s Equity – the residual amount after deducting
every change in financial set up (transaction), there would always
liabilities from assets
be a two-sided effect to the extent of the same amount in the
 Drawing – temporary account used to record
accounting books
initially the amount taken by the owner from the
 Debit – the value received in a business. The place of debit in the
business
equation is on the LEFT SIDE
 Nominal Accounts – they are closed or put to zero balance at the
 Credit – the value parted with or value given in a transaction. The
end of accounting period
place of credit is on the RIGHT SIDE
o Revenue – represents the earning of the business from
 Single-entry System – employed commonly when the business
sales of goods or service rendered
records are complete
 Sales
THE ACCOUNT AND THE BOOKS OF ACCOUNTS
 Account – an accounting form of record in which the effect of
similar business transactions are grouped or classified
 Journal – “Books of Original Entry”, used to initially record business
transactions and events
 Ledger – an accounting book in which the accounts and their
related amounts recorded in the journal are posted and
summarized periodically
STEPS IN JOURNALIZING A TRANSACTION
 Journalizing – the process of recording the effects of economic
transactions in the journal
THE LEDGERS
 Ledger – refers to the accounting book in which the accounts and
their related amounts as recorded in the journal are posted
periodically
o General Ledger – a grouping of all accounts used in
preparing the financial statements
o Subsidiary Ledger – a group of like accounts that contains
the independent data of a specific general ledger
THE TRIAL BALANCE
 Trial Balance – a device used to periodically test the equality of
debits and credits as recorded in the ledger accounts
OPEN AND CLOSED ACCOUNTS
 Closed Accounts – when the debit total and the credit total of an
account are equal
 Open Accounts – when the debit total and the credit total of an
account are not equal
 Account Balance – the difference between debit and credit of an
open account
TRIAL BALANCE OUT-OF-BALANCE
 Out-of-Balance – the trial balance totals are not equal
 HINTS FOR LOCATING ERRORS:
o A difference of P.01, P.10, P1, P10, P100 suggests that an
error has been made in addition or subtraction
o A difference of P9 or a multiple of 9 indicates
TRANSPOSITION, meaning the order of figures is reversed
o A difference divisible by 2 indicates an error in posting to
the wrong column of the trial balance, as when a credit
balance of an account is transferred to the debit column of
the trial balance
o A difference divisible by 9 or 99 indicates a slide or
misplacement of decimal point
FLOWS OF ACCOUNTING ACTIVITIES
1. Identifying – the accounting function that is concerned in
determining the economic activities affecting the assets, liabilities,
capital, revenues and expenses of the business
2. Measuring - an accounting function that involves assigning
monetary value to the business economic activities
3. Communicating – involves the process of preparation and
distribution of accounting reports to various interested users
4. Recording – refers to the putting in writing of economic
transactions in chronological order after they have been identified
and measured
5. Classifying – the process of grouping into a specific category various
economic transactions which are similar and identical in nature
6. Reporting – concerns summarizing the total financial information
for a given period in order that economic transactions can be read
and understood in a condensed format
a. Interpreting – analytical phase of accounting
CHAPTER 5: ANALYZING AND SUMMARIZING BUSINESS TRANSACTIONS 1. General Journal Entries – the original recording of transactions and
events in the general journal during the accounting period.
RULES OF DEBIT AND CREDIT 2. Correcting Entries – designed to rectify erroneous entries made
1. Rule 1 Assets – Debit to increase, Credit to decrease previously in the general journal and general ledger
2. Rule 2 Liabilities – Credit to increase, Debit to decrease 3. Adjusting Journal Entries – journal entries made after the
3. Rule 3 Owner’s Equity – Credit to increase, debit to decrease preparation of an unadjusted trial balance intended to bring the
4. Rule 4 Revenue – Credit to increase, debit to decrease assets, liabilities, revenues and expenses up-to-date at the end of
5. Rule 5 Expense – Debit to increase, Credit to decrease the accounting period
4. Closing Entries – these journal entries are recorded after the
WORKING CAPITAL financial statements are prepared
5. Reversing Entries – made at the beginning of the next accounting
 Working capital – the difference of business current assets and
period and are exactly the reverse of some adjusting entries
current liabilities
6. Memorandum Entries – intended to provide information regarding
CHAPTER 6: RECORDING BUSINESS TRANSACTIONS specific transactions or events which do not have monetary effect
to the elements of accounting but may have future financial
THE RECORDING PROCESS implication to the business

1. Identifying the accountable accounting transactions

2. Verifying the correctness of source documents
3. Analyzing the accounting elements affected by the accountable
transactions
4. Recording the debit and credit entry order in the book of original
entries (Journal)
5. Transferring (posting) the debit and credit values from the journal
to the book of final entries (Ledger)

FORMS OF JOURNAL ENTRY

 Simple Journal Entry – a journal entry with one debit account and
one credit account
 Compound Journal Entry – an entry with more than one debit or
more than one credit or both

CLASSIFICATIONS OF JOURNAL ENTRIES