UNIT-I
NEED FOR ACCOUNTING
It is a common experience of all of us that money must be spent carefully. If a person is careless
in spending money, a day will come when he will be left with no money. Same is true of a
business firm. A firm receives money from certain sources like sale of goods, interest on bank
deposits. It has to spend money on a number of items like salary, rent, electricity, water,
advertisement. The firm should manage its affairs in such a way as will enable it to receive more
than it spends. Otherwise, it will have to meet expenses from the original amount invested by the
owner for starting the business. For example, if X starts a firm with $, 5,00,000 and out of that
money the firm purchases goods for $ 2,00,000 and sells them for $ 180,000, it is apparent that
$2O000 the excess expenses over the sales, will have to be met out of $ 5,OO,000
Thus capital of the firm will be reduced to $ 4,80,000. When capital of the firm is reduced in this
way, we say that the firm has suffered a 1oss. In this case the loss is $ 20,000. If this process is
allowed to continue for a long time, the whole capital of the firm will be washed away.
If the firm arranges its affairs in an efficient way and it sells the same goods for $ 2,30,000
(instead of $ 1,80,000), it increases its capital to $ 5,30,000. When capital of a firm increases in
this way, we say that the firm has made profit. In this case the profit is $ 30,000. If the firm is
managed in this way year after year, it prospers and grows in size.’
Thus it can be said that profit increases the capital and loss reduces it. At this stage it should be
understood that in the above case profit or loss was the result of cost of goods and sales. In actual
practice, if a business is to be run at profit, it has to sell goods at such a price as will enable it to
meet out not only expenses on account of cost of goods sold but also other numerous expenses
like rent, salary, cartage, freight commission, electricity, etc. Thus for making a profit either
sales should be kept sufficiently high to meet out all expenses or expenses should be kept low so
that they are met out of sales. Besides business usually maintains certain properties like
furniture, building and land. similarly it borrows money from time to time. In order to keep
properties in good condition, to pay back debts in time, to keep down expenses and to increase
sales, it is necessary to keep a close watch on these items. In order to keep a close watch, it is
necessary that the proprietor of the business is kept well . informed of the behaviour of these
items. With a view to Supplying such an information the art of accounting was developed. To
emphasize the necessity of accounting, it can be said that accounting supplies the following
information to businessmen
1. The types and amount of earnings.
2. The types and amount of expenses.
3. The amount of loss, if any.
4. The amount, size and causes of increase or decrease of capital.
5. The nature and value of assets possessed by the business.
6. The nature and value of liabilities
7. Customers who owe to the business and the amount in each case.
1
, 8. Suppliers to whom the business has to make payments and the amounts in each case.
9. Other facts for filing various returns for external use, e.g income tax, sales tax, excise duty,
etc.
DEVELOPMENT OF ACCOUNTING
The particulars of transaction and financial relationships between different parties have been
written up in the form of financial records since the dawn of civilisation, examples being
Babylonian clay tablets and records from the Roman and Greek civilisations.
Our present system of accounting has its origins in Renaissance Italy. By the 12th century the
bustle and extent of the wide-ranging trading activities engaged in by the Italian city-states had
created the need for an effective system of financial recording which could accurately determine
the results of large volumes of transactions involving several parties. Consequently, the double-
entry system of book keeping, the basis of our modern accounting system, was developed.
During the renaissance, this system of accounting became known throughout Europe; by the 16th
century it was standard practise in England, Germany and Holland. The first published
description of the double-entry system appeared in Venice in 1494. Written by Luca Paciolo, it
was entitled Summa de Arithmetica Geometria et Proportionalita.
The 18th century saw the emergence of another factor that exerted considerable influence on the
development of accounting, namely the Industrial Revolution.
There was a tremendous increase in the nature and scope of manufacturing enterprises, trading
activities had become far more complicated and extensive and therefore effective methods of
planning and control were essential. These needs led to the emergence, out of cost accounting, of
management accounting, the specific function of which is to provide whatever financial
information may be required by the management of the enterprise for the purpose of planning
and control.
The influence of electronic data processing (EDP) on accounting has been of paramount
importance in the second half of the 20th century. It should be borne in mind, however, that EDP
is purely a technology that has produced a dramatic increase in the speed at which large volumes
of data can be processed. Although it has influenced the utilisation of accounting information, it
nevertheless has had no effect upon the theory. The computer has made accounting information
more effective chiefly in that it is now more complete, easier to understand and more readily
available.
These days there are a large number of accounting software packages that are available to
individuals, small and medium size enterprises and large corporations. The type of enterprise and
internal operating systems will determine the type and size of accounting package that is used. In
2
NEED FOR ACCOUNTING
It is a common experience of all of us that money must be spent carefully. If a person is careless
in spending money, a day will come when he will be left with no money. Same is true of a
business firm. A firm receives money from certain sources like sale of goods, interest on bank
deposits. It has to spend money on a number of items like salary, rent, electricity, water,
advertisement. The firm should manage its affairs in such a way as will enable it to receive more
than it spends. Otherwise, it will have to meet expenses from the original amount invested by the
owner for starting the business. For example, if X starts a firm with $, 5,00,000 and out of that
money the firm purchases goods for $ 2,00,000 and sells them for $ 180,000, it is apparent that
$2O000 the excess expenses over the sales, will have to be met out of $ 5,OO,000
Thus capital of the firm will be reduced to $ 4,80,000. When capital of the firm is reduced in this
way, we say that the firm has suffered a 1oss. In this case the loss is $ 20,000. If this process is
allowed to continue for a long time, the whole capital of the firm will be washed away.
If the firm arranges its affairs in an efficient way and it sells the same goods for $ 2,30,000
(instead of $ 1,80,000), it increases its capital to $ 5,30,000. When capital of a firm increases in
this way, we say that the firm has made profit. In this case the profit is $ 30,000. If the firm is
managed in this way year after year, it prospers and grows in size.’
Thus it can be said that profit increases the capital and loss reduces it. At this stage it should be
understood that in the above case profit or loss was the result of cost of goods and sales. In actual
practice, if a business is to be run at profit, it has to sell goods at such a price as will enable it to
meet out not only expenses on account of cost of goods sold but also other numerous expenses
like rent, salary, cartage, freight commission, electricity, etc. Thus for making a profit either
sales should be kept sufficiently high to meet out all expenses or expenses should be kept low so
that they are met out of sales. Besides business usually maintains certain properties like
furniture, building and land. similarly it borrows money from time to time. In order to keep
properties in good condition, to pay back debts in time, to keep down expenses and to increase
sales, it is necessary to keep a close watch on these items. In order to keep a close watch, it is
necessary that the proprietor of the business is kept well . informed of the behaviour of these
items. With a view to Supplying such an information the art of accounting was developed. To
emphasize the necessity of accounting, it can be said that accounting supplies the following
information to businessmen
1. The types and amount of earnings.
2. The types and amount of expenses.
3. The amount of loss, if any.
4. The amount, size and causes of increase or decrease of capital.
5. The nature and value of assets possessed by the business.
6. The nature and value of liabilities
7. Customers who owe to the business and the amount in each case.
1
, 8. Suppliers to whom the business has to make payments and the amounts in each case.
9. Other facts for filing various returns for external use, e.g income tax, sales tax, excise duty,
etc.
DEVELOPMENT OF ACCOUNTING
The particulars of transaction and financial relationships between different parties have been
written up in the form of financial records since the dawn of civilisation, examples being
Babylonian clay tablets and records from the Roman and Greek civilisations.
Our present system of accounting has its origins in Renaissance Italy. By the 12th century the
bustle and extent of the wide-ranging trading activities engaged in by the Italian city-states had
created the need for an effective system of financial recording which could accurately determine
the results of large volumes of transactions involving several parties. Consequently, the double-
entry system of book keeping, the basis of our modern accounting system, was developed.
During the renaissance, this system of accounting became known throughout Europe; by the 16th
century it was standard practise in England, Germany and Holland. The first published
description of the double-entry system appeared in Venice in 1494. Written by Luca Paciolo, it
was entitled Summa de Arithmetica Geometria et Proportionalita.
The 18th century saw the emergence of another factor that exerted considerable influence on the
development of accounting, namely the Industrial Revolution.
There was a tremendous increase in the nature and scope of manufacturing enterprises, trading
activities had become far more complicated and extensive and therefore effective methods of
planning and control were essential. These needs led to the emergence, out of cost accounting, of
management accounting, the specific function of which is to provide whatever financial
information may be required by the management of the enterprise for the purpose of planning
and control.
The influence of electronic data processing (EDP) on accounting has been of paramount
importance in the second half of the 20th century. It should be borne in mind, however, that EDP
is purely a technology that has produced a dramatic increase in the speed at which large volumes
of data can be processed. Although it has influenced the utilisation of accounting information, it
nevertheless has had no effect upon the theory. The computer has made accounting information
more effective chiefly in that it is now more complete, easier to understand and more readily
available.
These days there are a large number of accounting software packages that are available to
individuals, small and medium size enterprises and large corporations. The type of enterprise and
internal operating systems will determine the type and size of accounting package that is used. In
2
