Accounting Concepts

Role of Accounting in Business

Provides financial information to stakeholders for decision-making.

Users and Uses of Accounting

 Internal (managers, employees) and external (investors, creditors, government) users rely on accounting for planning, control, investment, lending, and regulation.

Ethics in Accounting

Ensures trust, transparency, and integrity in financial reporting.

Generally Accepted Accounting Principles (GAAP)

A framework of rules (like the cost principle, which records assets at their purchase cost) ensuring consistency in financial statements.

Monetary Unit Assumption

Transactions are recorded in a stable currency.

Economic Entity Assumption

Business transactions are separate from personal transactions of the owner.

The Accounting Equation

Assets = Liabilities + Owner’s Equity

Assets

Resources owned (e.g., cash, inventory)

Liabilities

Obligations owed (e.g., loans, accounts payable)

Owner's Equity

Owner’s residual interest after liabilities

Transaction Analysis

Determines how transactions affect the equation.

Accounts

Individual records of assets, liabilities, equity, revenues, or expenses.

Debits and Credits

 Debits increase assets/expenses, decrease liabilities/equity; credits do the opposite.

Recording Process

1. Analyze the transaction

2. Journalize

3. Post to ledger

Journal Entries

Record of a transaction in the journal.

Posting

Transferring journal data to the ledger.

Trial Balance

Ensures debits equal credits, helping catch errors.

Matching Principle

Expenses matched to related revenues.

Time Period Assumption

Divides business life into periods (monthly, quarterly).

Accrual Basis

Revenues/expenses recorded when earned/incurred, not when cash changes hands.

Adjusting Entries

Update accounts at period-end (e.g., for accrued revenues/expenses).

Adjusted Trial Balance

Ensures all accounts are updated before preparing financial statements.

The Accounting Cycle

1. Analyze transactions

2. Journalize

3. Post to ledger

4. Prepare trial balance

5. Adjust entries

6. Prepare adjusted trial balance

7. Prepare financial statements

8. Close the books

9. Prepare post-closing trial balance
   

Closing the Books Purpose

Reset temporary accounts (revenues, expenses, dividends) for next period.

Post-Closing Trial Balance

Lists only permanent accounts.

Sections

Assets (current, long-term), Liabilities (current, long-term), Equity

Correcting Entries

Adjust errors in previously recorded entries.

Merchandising vs. Service Companies

Merchandisers sell goods; service companies sell time/expertise.

Perpetual Inventory System

Continuously updates inventory after each purchase/sale.

Journalizing Purchases and Sales

Record inventory and revenue changes.

Multiple-Step Income Statement

Shows gross profit, operating income.

Single-Step Income Statement

Summarizes revenues and expenses in one step.

Gross Profit

Sales Revenue – Cost of Goods Sold (COGS)

Cost of Goods Sold (COGS)

Beginning Inventory + Purchases – Ending Inventory

Inventory Valuation Methods

FIFO, LIFO, Weighted Average

Lower-of-Cost-or-Market

Write down inventory if market value < cost.

Inventory Errors

Impact income statement and balance sheet.

Inventory Turnover Ratio

 COGS ÷ Average Inventory

GAAP vs. IFRS

GAAP allows LIFO; IFRS does not.

Internal Control

Safeguards assets, enhances reliability.

Principles

Segregation of duties, documentation, physical controls, etc.

Cash Receipts/Disbursements

Controls prevent theft/errors.

Petty Cash Fund

Small cash for minor expenses.

Bank Reconciliation

 Matches book and bank records of cash.

Cash Reporting

Shows liquidity position on balance sheet.

Accounts Receivable Types

Accounts, Notes, Other receivables

Recognition

Record when revenue is earned.

Valuation

Use allowance method for uncollectibles (contra asset).

Disposition

Sell or factor receivables.

Notes Receivable

Include interest; record and dispose as needed.

Presentation

Listed under current assets if due within a year.

Cost Principle

Record assets at purchase cost.

Depreciation

Systematic expense of asset cost over time.Methods: Straight-line, Declining balance, Units-of-production

Revisions

Update estimates prospectively.

Expenditures:Revenue

Short-term; expensed

Expenditures:Capital

Long-term; capitalized

Disposals

Remove asset and record gain/loss.

Natural Resources

Use depletion (like depreciation).

Intangible Assets

Patents, trademarks, amortized if finite.

GAAP vs. IFRS

Slight differences in asset revaluation and impairment.

Current Liabilities

Obligations due within one year (e.g., notes payable, salaries).

Contingent Liabilities

Depends on future event; recorded if probable and measurable.

Presentation

Clearly separated on balance sheet under current liabilities.

Corporation

Legal entity; ownership through shares.

Paid-in Capital

From shareholders

 Retained Earnings

Accumulated earnings

Common Stock

Ownership; record at par/stated value.

Treasury Stock

Repurchased shares; contra equity.

Preferred Stock

Has priority over common in dividends/assets.

Stockholders’ Equity Section

Summarizes all equity accounts.

Book Value per Share

(Equity – Preferred) ÷ Common shares

Transactions

Affect equity and require journal entries.

Dividends

Reduce retained earnings.

Retained Earnings Statement

Beginning RE + Net Income – Dividends

Comprehensive Equity Section

Includes all components of stockholders’ equity.

Income Statement

Shows company profitability.

Earnings Per Share (EPS)

Net income ÷ Weighted avg. common shares