Accounting Concepts and Conventions/ Accounting Principles

This is a set of accounting rules which ensure that users can have confidence in the information with
which they are provided.

Accounting Cycle
This is the sequence of events and processes used to create the financial records of a business.

Stages of the Accounting Cycle

1. Source documents collection
2. Entry of key details in the Books of Original Entry.
3. Posting from books of original entry to the ledger accounts. (Double entry)
4. Checking and control systems to ensure arithmetic accuracy.
5. Summarising information in the financial statements (Income Statement, Balance Sheet, etc.)

Books of Original Entry

In these books, transactions are listed prior to being posted to double entry records. These are
sometimes called books of prime (first entry).
Ledger
This is a book in which accounts are kept.
TYPES OF BUSINESS
Businesses are organisations which provide goods and services to make a profit.
1. Sole Trader: An individual owns and controls the business. All profit and loss are earned/ borne
by the owner.
2. Partnership: There are two or more owners. Control, profits and losses are shared among
partners.
3. Limited Liabilities Companies: These businesses are owned by shareholders; however, in most
cases are controlled by directors. When operations are successful, the shareholders receive
dividends (profit) for the amount they have invested. However, if the business is unsuccessful
and bankrupt, the amount lost will be limited to the amount invested and no personal
possessions like sole traders and partnership.
4. Co-operatives: These organisations are owned and controlled by members. They run to provide
good and services to their members rather than making a profit. When successful, members
may be rewarded with shares of the surplus, which are usually reinvested in the organisation.
 5. Non-profit Organisation: These are clubs or societies formed by members for particular
activities. Although they do not aim for a profit, they have to financially viable to survive.

MAIN FINANCIAL STATEMENTS

1. Statement of Profit or Loss or Income Statement (consists of the trading account) is the
chief source of information about the profit or loss of a sole trader, partnership or company.
For cooperatives and NGOs, an income and expenditure account provides information about the
surpluses and deficits.
2. Statement of Financial Position provides details of the resources owned by a business to
reach its commitment.
NB. This can be used in conjunction with the Income Statement to reveal how successful or
otherwise the resources have been used by managers and owners.
3. Statement of Cashflow: This is a requirement of Limited Liability Companies. This document
provides the main sources of cash in the previous year and how they were used.
EXAMPLES OF FINANCIAL STATEMENTS:
1. Income statement ·
2. Cash flow statement ·
3. Balance sheet ·
4. Note to Financial Statements ·
5. Statement of change in equity.
TECHNOLOGY AND ACCOUNTING PROCESS
The same principles are applied to both manual and technological processing and recording.
ACCOUNTING SOFTWARE
Features of Most Accounting Software:
1. Automatic Processing
Once the necessary details from source documents have been entered into the software, ledgers
are automatically updated. Trial balances, Income Statements and Balance sheets can be
produced at any time.
2. Integration of Functions
Accounting software integrates information from one source to many other documents e.g. a
purchase will update the purchase day book, purchase ledger and inventory records.
3. Management Information
These provide information that can assist in the effective running of the business. For instance,
‘an age receivable analysis’ can assist in chasing slow payers.

From an Employee’s Point of View

Some employees are excited about learning new skills and engage in training along with
increased salary for new skills.
However, some do not want to learn new skills, afraid of losing their job, concerned about
health and safety issues.

SPECIAL FEATURES OF COMPUTERISED ACCOUNTING SYSTEM

Functions:
1. Inventory Control: Purchase, sales and return transactions can automatically update
inventory records which can then be checked against the physical stocks.
2. Credit Control: Reports on when to pay payables and the availability of cash/bulk discount.
 3. Payroll: Details information about wage and salary calculations, pay slips, payroll register,
etc.
4. Management Reports: Accounting systems can include trial balance, financial statements,
ratio analysis and audit trails.
OTHER ASPECTS OF COMPUTERISATION
Useful Facilities:
1. Spreadsheets: Use to perform calculations, make changes automatically without redoing
everything; prepare budget and forecast.
2. Databases: Store data under various headings decided by the users; hold vast amount of
information; produce comprehensive finance records.
3. Internet: Provides an extensive range of facilities for buying, selling and banking.
MAIN BENEFITS OF COMPUTERISED ACCOUNTING PROCESSES
1. Greater accuracy not absolute accuracy;
2. Greater speed in calculation and updating;
3. Simultaneous updating;
4. Improved accessibility;
5. More information available;
6. Possible reduction in staff;
POTENTIAL DISADVANTAGES OF COMPUTERISED ACCOUNTING PROCESSES
1. Initial investment cost may be high for both software and hardware;
2. Training cost;
3. Risk of data loss due to virus and crashes;
4. Maintenance and support costs;
5. Period of transition, i.e., running an old/manual system alongside with the computerised one to
ensure a smooth transition of transactions.
INTRODUCTION TO STATEMENT OF FINANCIAL POSITION (SOFP)
ASSETS
These are resources owned and controlled by the business.
Assets are current or non-current.
Current Assets
These are assets that are very liquid and will be converted to cash in 12 or less months.
Examples: Inventory, Trade Receivables, Cash in Bank, Cash in Hand
Non-Current Assets
These assets benefit the business for a longer period of time and last for more than 12 months.
Example: Premises, Fittings and fixtures, Vehicles
NOTE: Employees are not assets.
Liability
This is the amount owed by a business to other businesses/ individuals.
Current
Liabilities that will be settled in the near future, 12 or less months.
Examples: Short-term loans, Overdraft, Payables, Accruals.
Non-current Liabilities
This represents balance due which will be paid in the future financial period, more than 12 months.
Examples: Bonds, Debentures, Bank loans
Trade Receivable vs Trade Payable
Trade receivables commonly called debtors are persons/businesses that owe the business and are
therefore considered as an asset.
Trade Payables are suppliers owed by the business for goods and services and are therefore considered
as a liability.
CAPITAL
This is the investment made by the owner(s) of the business. It equates to the net value of the business.

ACCOUNTING EQUATION
Assets = Capital + Liabilities
John invested $20,000 in a business and has assets of $45,000. Determine the liabilities.
Assets: $45,000 Capital= $20,000 Liabilities=?
$45,000 = $20,000 + Liabilities
$45,000 - $20,000 = $25,000 (Liabilities)
 PREPARING A SIMPLE STATEMENT OF FINANCIAL POSITION
(HORIZONTAL LAYOUT)
1. Categorise assets as current or non-current and list them in order of permanence (non-current to
current assets) or in order of liquidity (current to non-current) → Left hand
2. Similarly, categorise liabilities as current and non-current. → Right hand
3. State the amount of capital invested and any profit reinvested → Right hand
SAMPLE: Order of Permanence

SAMPLE: Order of Liquidity

 Transactions
A transaction is a financial activity or event.
Cash Transaction
A financial activity that involves the use of money (notes, coin, cheques, credit/debit card, online
payment).
Credit Transaction
A financial activity where the payment or receipt of money is delayed.
EFFECTS OF TRANSACTIONS ON A STATEMENT OF FINANCIAL POSITION
(BALANCE SHEET)

This is a two-sided form used to record, in a simple way, transactions affecting a particular aspect of a
business’s financial activities.
There are two methods of working out the rule of double entry
1. Classifying accounts as assets, liabilities or capital.
2. The receiving value in (Debit)/ Giving value out (Credit)
Effects of Transactions:
Cash purchase of NON-CURRENT assets e.g., furniture
Increase in furniture (Dr Furniture) Decrease in Cash (Cr Cash)

Credit purchase of NON-CURRENT assets e.g., furniture

Increase in furniture (Dr Furniture) Increase in Liabilities (Cr Payables)

Payment to Trade Payables

Decrease in Payables (Dr Payables) Decrease in Cash (Cr Cash)

Payment by Trade Receivables

Increase in Cash (Dr Cash) Decrease in Assets (Cr Trade Receivables)

Drawings in cash

Decrease in capital (Dr Capital) Decrease in Cash (Cr Cash)

NOTE:
❖ An increase in assets is debited (Dr.) while a decrease is credited (Cr).
❖ An increase in liabilities and capital is credited (Cr.) while a decrease is debited (Dr).
USING EXPENSES, PURCHASES, SALES
Expenses are payments made for the purchase of goods or services to run the business that are of short-
term benefit to the business.

How to Record Expenses

Dr Expenses Cr Bank/Cash/Payables
How to Record Purchases (Inventory)
Dr. Purchases Cr. Bank/Cash/Payables
How to Record Sales of Inventory
Dr. Cash/Bank/Trade Receivables Cr Sales
 TRIAL BALANCE
This is a summary of all the balances on all the accounts in the business’s books of accounts that
provides a check on the accuracy of double entry records.
How to prepare a trial balance:
 1. List all the accounts in the system.
2. Calculate the net value of the accounts.
3. Record the net balance in the trial balance. (If the Debit is more than credit, the difference is
recorded as a debit in the trial balance and vice versa).
4. Total the balance of the trial balance.
If equal, there is reasonable assurance that double entry was recorded for all transactions. However,
there can still be errors.
 PREPARING SIMPLE INCOME STATEMENTS
Gross Profit/Trading Profit
This is the difference between the income from goods sold and expenditures on goods sold (cost of
sales).
Net Profit/Profit
This is the difference between the income from goods sold and expenditures on goods sold (cost of
sales) and expenses.

BALANCING AND CLOSING ACCOUNTS

Balancing Accounts
This is the process of working out the net amount left in an account and clearly stating this as a debit
or credit balance at the beginning of the next accounting period.
Closing Accounts
This is the process of completing an account that does not have a balance.
Steps in Balancing Accounts
1. Calculate the sum of the debit and credit side of the account.
2. Find the difference of the debit and credit total.
3. If the debit is greater than credit side, carry down c/d the difference to the credit side to balance
the account. Then bring down (b/d) the difference to the debit side for the next period.

4. If the credit is greater than debit side, carry down c/d the difference to the debit side to balance
the account. Then bring down (b/d) the difference to the credit side for the next period.

CLOSING ACCOUNTS
Only revenue, expense, and dividend accounts are closed—not asset, liability.
Closing accounts are not carried down to the next financial period.

NOTE:
Manual and automated accounting result in the same outcome.