FINANCIAL ACCOUNTING
Accounting: It is a language of business. Purpose of this language is to communicate the financial
information.
It is a systematic process
Characteristic or Process of Accounting :
1. Identification of Financial Transaction and Event
2. Measuring the identified transaction (in monetary unit, e.g. Rs.) with the help of bills, cash-
memo, receipts etc.
3. Recording – Journal (Book of original entry)
I. Cash book
II. Purchase book
III. Sales book
IV. Purchases Return book
V. Sales Return Book
VI. Bill Payable Book
VII. Bill Receivable Book
VIII. Journal Proper
4. Classifying – Ledger (*Grouping of transaction,*Book of final entry, * Principal Book if A/c)
5. Summarizing (Summary of Ledger Account in more useful and understandable format)
I. Trial Balance
II. Trading and Profit & Loss A/c (P&L)
III. Balance Sheet
6. Analysis and Interpretation or draw conclusion
I. Accounting Ratio
II. Comparative Financial Statement
III. Common size Financial Statement
IV. Cash flow Statement
7. Communicating to users– Report
Branches :
1. Financial Accounting:
It is the branch of accounting which records, classifies the financial transaction
and events, summarizes and interprets them before communicating the
results to the users.
2. Cost Accounting:
It is the branch of accounting concerning with ascertaining cost of products,
operations, processes or activity, with an objective of reducing and controlling
cost.
3. Management Accounting:
It is the branch of accounting concern with generating information which helps
the Management in Decision making.
Accounting Ratio, budgeting, Break-even analysis, Cost Volume Profit (CVP)
analysis.
Objectives :
1. Maintaining Accounting Records ( in chronological order)
2. Determine Profit or Loss (with the help of Trading and Profit & Loss A/c)
3. Determine Financial position (with the help of Balance Sheet)
4. Facilitating Management
5. Providing Accounting Information to users
6. Protecting Business Assets
Limitations :
1. Accounting is not fully exact (involves estimation, e.g. estimating the depreciation)
2. Unrealistic Information (based on certain concepts or assumptions)
3. It ignores the qualitative elements (i.e. involves only monetary term)
4. Accounting ignores the effect of price level changes (records based on historical cost)
5. It may lead to window dressing (just to show the better position of enterprise by
manipulation)
Users :
1. Internal users :
I. Owner
II. Management
III. Employee & Workers
2. External Users :
I. Bank and Financial Institutions
II. Investors & Potential investors
III. Creditors
IV. Govt. and its authorities (for compiling national income account)
V. Researchers
VI. Public
Different terms :
1. Business Transaction: Financial transaction/ Economic Event entered into by two parties
involving transfer or exchange of goods or services.
E.g. Sales of goods, Purchased of goods, Receipt from debtors, Purchase or sale of fixed
assets.
Transaction :
Based on relationship:
o Internal Transaction (Depreciation on fixed asset, salary or wages)
o External Transaction (Business transaction)
Based on mode
o Cash transaction
o Credit transaction
2. Account: It is a record of transaction under a particular head of account. It shows the amount
of transaction and also their effect and direction.
Furniture Account
Dr. Cr.
Date Particulars J.F ₹ Date Particulars J.F ₹
2024, 2024,
April 1 To Cash A/c 1,00,000 April 30 By Balance c/d 1,00,000
1,00,000 1,00,000
May 1 To Balance b/d 1,00,000
Accounting: It is a process to make account and it is a language of business. It is a systematic
process of identifying, measuring, recording, classifying, summarizing, interpreting and
communicating financial information.
Accountancy: This is the systematic knowledge/ study of accounting.
3. Capital: Amount invested in enterprise by proprietor (in case of proprietorship firm) or
partners (in case of partnership firm) and shareholders (in case of company).
It is liability of the business towards the proprietor or partners or shareholders
of the business.
It is liability because under “business entity concept”, business is a separate
and distinct entity from its owners.
Capital is also known as “owners’ equity/ net worth”.
Capital = Asset – Liabilities (Accounting Equation)
4. Liabilities: Amount payable (owed) by the business
I. Internal Liabilities (Towards internal users)
II. External Liabilities (Towards external users)
Non-current Liabilities (> 12 months)
Current Liabilities (<= 12 months)
5. Assets: These are the properties owned by the entity (Tangible or Intangible).
This is economic resources that will enable the firm to get economic benefits in future.
(Land, building, furniture, debtors, goodwill, copyright, trade mark etc.)
I. Non-current Asset: Which can’t be converted into cash within 12 months. E.g. Loan,
land, machinery
II. Current Asset: Which can be converted into cash within 12 months. E.g. Stock (bought
by firm for short term), debtors, bill receivable.
III. Fictitious Asset: This benefits in long run. E.g. advertisement, discount given during
issuance of debentures.
6. Receipts: It is amount received or receivable for selling assets, goods or services.
I. Revenue Receipts: Against sale of goods or rendering of services (normal course of
activities, it is recurring in nature) (shown in Trading and P&L A/c)
II. Capital Receipts: Receivable not the normal course of activities (sale of fixed asset, it
is not recurring in nature) (shown in Balance sheet)
7. Expenditure: Amount spent incurred for acquiring assets, goods or services.
I. Capital Expenditure: On acquiring assets or improving the existing asset (shown in
Balance sheet)
II. Revenue Expenditure: Benefits of which is consumed within accounting period. E.g.
Salary, wages, rent, buying raw material (shown in Trading and P&L A/c)
III. Deferred ( talna in hindi) Revenue Expenditure: It is a type of revenue expenditure
but is written off (charged) in more than one accounting period because it is estimated
that benefits of such expenditure will accrue in more than one financial year. E.g.
Advertisement
8. Trade Receivable:
Amount receivable for sale of goods/ services rendered in ordinary course of
business.
Amount due from customers of enterprise
T. R. = Debtor + Bill Receivable
Debtor: Person/ Entity who owes amount to the enterprise against credit sales
of goods/ service rendered
Bill Receivable: Bill of exchange accepted by debtor, amount of which will be
received on specific date.
9. Trade payable:
Amount payable for purchase of goods/ services rendered in ordering course
of business.
Amount due to seller of goods by enterprise
T. P. = Creditor + Bill payable
Creditor: Person/ Entity whom an enterprise owes amount against credit
purchases of goods/ service rendered
Bill Payable: Bill of exchange accepted by enterprise, amount of which will be
payable on specific date.
10. Expense:
Cost incurred for generating revenue
Value which has expired during the accounting period
Shows on the debit side of Trading A/c and P&L A/c)
E.g. salaries, wages, rent, depreciation, bad debts, etc.
Expenditure: For longer period of time, for acquiring fixed asset
Expense: for shorter period of time
Prepaid Expense: Paid in advance (current asset)
Outstanding Expense: Paid after getting services (current liabilities)
11. Profit: Income earned by the business from its operating activities. E.g. Profit earned from
sale of goods/ rendering of services.
I. Gross Profit (Trading A/c)-
Revenue from sales of Goods/ service rendered – Direct cost
II. Net Profit (P&L A/c)-
Total Revenue – Total Indirect expense
12. Income: Profit earned during an accounting period.
Income = Revenue – Expenses
It is broader term than the term “Profit” and includes profit from activities
other than its operational Activities (non-operating activities)
13. Revenue from Operations: It is earned by an enterprise from its operating activities.
E.g. Sale of goods/ services (interest earned, dividend received for financial enterprise)
14. Stock/ Inventory: It is a tangible asset held by an enterprise for the purpose of sale in the
ordinary course, purpose of using it in the production of goods meant for sale.
I. Raw material
II. Work in progress
III. Stock/ Inventory of goods (finished product)
15. Discount: Reduction in price of goods/ amount to be paid to customer by enterprise
Trade discount: Reduction in price by seller to purchaser of goods when they
buy goods of certain quantity/ value
Net sales = Sales – Trade discount
Net purchase = Purchases – Trade discount
Cash discount: Discount allowed for timely payment of due amount
16. Rebate: Reduction in price allowed by seller of goods after the goods have been sold. (e.g.
poor quality of goods during checking by purchaser)
17. Bad Debt: Amount owed to business that is written off because it has become irrecoverable
loss to business
debited to P&L A/c
18. Depreciation: Fall in value of asset because of usage or obsolescence or accident.
19. Entity: Economic unit which perform economic activities
20. Insolvent: Person/ Enterprise which is not in a position to pay its debts
21. Solvent: Person/ Enterprise which is in a position to pay its debts
22. Working capital: Excess of current asset over current liabilities
