Principles of Accounting

accounting entitiy theory

the activities of a business are seperate from the actions of the owner. all transactions are recorded from the point of view of the business.

acounting period

the life of a business is divided into regular time intervals.

accrual basis of accounting

business activites that have occurred, regardless of whether cash has been paid or received, should be recorded in the relevant accounting period.

consistency theory

once an accounting method is chosen, this method should be applied to all future accounting periods to enable meaningful comparisons

going concern

a business is assumed to to have an indefinate economic life unless there is credible evidence that it may close down.

historical cost

transactions should be recorded at their original cost.

matching theory

expenses incurred must be matched with income earned in the same period to determine the profit for that period.

materiality theory

a transaction is considered material if it makes a difference to the decision making process.

monetary theory

only business transactions that can be measured in monetray terms are recorded.

objectivity

accounting information recorded must be supported by relaiable and verifiable evidence so that financial statements will be free from opinions and biases.

prudence theory

the accounting treatment chose should be the one that least overstates assests and profit and least understates liabilities and loses.

revenue recognition theory

revenue is earned when goods have been delivered or services have been provided.

role of accountant

accountants prepare and provide accounting information for decision making.

professional ethics

• integrity

• objective

accounting cycle

• identify and record

• adjust

• report

• close

accounting information system

• source document

• journel

• ledger

• trial balance

• financial statement

use of trial balance

• for arithmatic accuracy

• help facilitate preparation of financial statements

source documents

• receipt

• invoice

• credit note

• debit note

• remittance advice

• payment voucher

• bank statement

remittance advice

informs credit supplier that payment by cheque has been made for specific invoice.

payment voucher

process payment to credit suppliers

• must be approved by authorised personnel; and

• must be supported by original supplier’s invoice

bank statement

checks and tallies against the business records of its cash at bank account.

assests

resources a business owns or controls that are expected provide future benfits.

liabilities

obligations owed by a business to others that are expected to be settled in the future

equity

claim by the owner(s) on the net assets of a business

retained earnings

accumulation of profits and loses that has not been distributed to shareholders yet since operation.

dividends meaning

a portion of retained earnings that is distributed to shareholders

basic accounting equation

assets = liabilities + equities

expended accounting equation

assets = liabilities + capitol + income - expenses - drawins

trade discount

• a reduction to the list price

• used to encourage customers to buy in bulk

cash discount

• a reduction to the invoiced price

• used to encourage credit customers to pay early, within a specified time

reasons for dishonoured cheque

• cheque has expired

• cheque is post-dated

• information on cheque is inconsistent

• information on cheque is incomplete

• payer’s bank account does not have enough money/ is closed/ is frozen

internal control

• segregaton of duties

• custody of cash

• authorisation

• bank reconciliation

capital expenditure

• costs to buy and bring the NCA to their intended use

• costs to enhance the NCA

• provide benefits for more than one year

• recorded as NCA

revenue expenditure

• costs to operate, repair and maintain the NCA in working condition

• provide benefits which will be used in one year

• recorded as expense

causes of depreciation

• usage

• wear and tear

• obsolescence

• legal limits

straight-line method (performance)

( cost - scrap value ) x %

reducing balance (performance)

( cost - accumulated depreciation ) x %

owner’s equity

contributions + profits ( or - losses) - drawings

shareholders’ equity

share capital + profits (or - losses) - dividends

share capital

total number of shares issued x issued price per share

dividends formula

total number of shares issued x declared dividends per share

stakeholders

• customers

• government

• lenders

• suppliers

• owners and shareholders

• employees

• competitors

• managers

mark up on cost (profitability)

(gross profit / cost of sales) x 100

units: percentage

if its high

• sell higher selling price or buying at lower cost

gross profit margin (profitability)

(gross profit / net sales revenue) x 100

units: percentage

if its high

• sell higher selling price or buying at lower price

profit margin (profitability)

(profit / net sales revenue) x 100

units: percentage

if its high

• this shows business more efficient at managing expenses

return on equity (profitability)

(profit / avg equity) x 100

units: percentage

if its high

• more efficient at generating profit for shareholders

investability

the business with better return on equity is better to invest in

improve profitability

• increase selling price of goods

• buy from cheaper supplier without compromising quality

• lower operating expenses by negotiating for lower rental

current ratio (liquidity)

current asset/ current liabilities

quick ratio (liquidity)

current asset - inventory - prepaid/ current liabilities

compare liquidity over the years

current ratio/ quick ratio has improved/ worsen from ___ in 2020 to ___ in 2021. therefore, liquidty has improved/ worsened over the years.

compare liquidity between 2 businesses

current ratio/ quick ratio is better/ worse in business A at ___ than business B at ___. therefore, liquidty in business A is better/ worse then business B.

improve liquidity

• sell excesss NCA for cash

• owner can contribute more capital in cash

• obtain a bank loan

rate of inventory turnover (inventory managment)

cost of sales/ avg inventory

units: times

day sales in inventory (inventory management)

( avg inventory/ cost of sales ) x 365

units: days

compare inventory managment over the years

rate of inventory turnover/ day sales in inventory has improved/ worsen from ___ in 2020 to ___ in 2021.

as there is a higher rate/ lower days

• this shows thats the business is becoming more efficient at managing inventory

• this shows that the business is selling inventory at a faster rate

compare inventory management between 2 companies

rate of inventory turn over/ day sales in inventory is better/ worse in business A at ___ than business B at ___.

as there is a higher rate/ lower days for business A

• this shows thats the business is more efficient at managing inventory than business B

• this shows that the business A is selling inventory at a faster rate than business B

improving inventory management

• advertise to make products more attractive to customers

• lower selling price of slow moving goods

• provide trade discount to encourage buying in bulk

rate of trade receivable turn over ( trade receivable management )

net sales revenue / avg trade receivables

units: times

trade receivables collection period ( trade receivable management )

( avg trade receivable/ net sales revenue) x 365

units: days

compare trade receivable mangement over the years

rate of trade receivable turnover/ trade receivables collection period has improved/ worsen from ___ in 2020 to ___ in 2021.

as there is a higher rate/ lower days

• this shows thats the business is becoming more efficient at managing trade receivables

• this shows that the business is collecting trade receivables at a faster rate

compare trade receivable management between 2 businesses

rate of trade receivable turn over/ trade receivable collection period is better/ worse in business A at ___ than business B at ___.

as there is a higher rate/ lower days for business A

• this shows thats the business is more efficient at managing trade receivable than business B

• this shows that the business A is selling trade receivable at a faster rate than business B

improving trade receivable management

• provide cash discount to encourage faster payment

• give frequent reminders to customers who delay payment

• sell on credit to customers who are financially stable