Accounting Defined
Accounting- a system of recording business transactions, preparing financial
statements, and showing how an entity’s economic resources are utilized in
accomplishing and its objectives in a given time period
Accountants follow professional accounting standards
This accounting function can be divided into two sub-functions:
- Financial accounting (FA)
- Management accounting (MA)
Financial accounting- provides information mainly to external parties such as
investors, bankers, regulators, tax authorities, stock markets, and others for
their decision-making purposes
Financial accounting is the language of business
All business transactions will eventually end up in financial statements
Accounting principles are used to classify, record, post, summarize, and report
the business transactions between various parties involved
Accountants apply their professional standards to analyze business
transactions, prepare estimations, and report business events
The output of financial accounting becomes an input to tax accounting
The reported revenues, expenses, and profits from the income statement are used
to prepare the income tax returns
Management accounting- provides information to internal managers and
executives for their decision-making purposes
One can think of MA and FA topics as the two sides of a coin because one side provides
,information to the other side, and each side shares some common information with
each other
Accounting Principles and Concepts
Accounting principles and concepts emphasize the “why” and “how” of accounting
performed within a company
The following are some important accounting principles:
● Business entity concept
● Cost concept
● Matching concept
● Materiality concept
● Accounting period concept
● Revenue recognition concept
Business Entity Concept:
Accounting is performed for an individual business unit for which financial data are
needed
The unit or entity must be identified so that the accountant can determine which
financial data should be analyzed, recorded, and summarized in reports
In other words, the business is viewed as an entity separate from its owners to
record the activities of the business only, not the personal activities, property, or
debts of the owner
The business entity concept assumes:
1) That the company will have a long life ahead (going concern concept)
2) That all business transactions and events can be measured in terms of
a common denominator, such as the dollar
Example- a business entity could be an automobile dealer, a department
store, or a grocery store
Cost concept
This historical cost concept is the basis for entering the exchange price or cost of an asset
,into
, accounting records
Use the cost concept involves two other important accounting concepts: objectivity
and the unit of measure
The objectivity concept requires that accounting records and reports be based
upon objective evidence
In exchanges between a buyer and a seller, both try to get the best price
Only the final agreed-upon amount is objective enough for accounting purposes
If the amounts at which properties were recorded were constantly being revised
upward and downward based on offers or appraisals, accounting reports would soon
become unreliable
The unit of measure concept requires that financial data be recorded in dollars
Matching concept
The matching concept, which is based on accrual accounting, refers to the
matching of expenses and revenues (net income) for an accounting period
Under the accrual basis, revenues are reported in the income statement in which
they are earned
Expenses are reported in the same period as the revenues to which they relate
Under the cash basis of accounting, revenues and expenses are reported in the
income statement for the period in which cash is received or paid
Materiality concept
The materiality concept implies that errors, which could occur during journalizing
and posting transactions, should be significant enough to affect the decision-
making process
All material errors should be discovered and corrected
Accounting- a system of recording business transactions, preparing financial
statements, and showing how an entity’s economic resources are utilized in
accomplishing and its objectives in a given time period
Accountants follow professional accounting standards
This accounting function can be divided into two sub-functions:
- Financial accounting (FA)
- Management accounting (MA)
Financial accounting- provides information mainly to external parties such as
investors, bankers, regulators, tax authorities, stock markets, and others for
their decision-making purposes
Financial accounting is the language of business
All business transactions will eventually end up in financial statements
Accounting principles are used to classify, record, post, summarize, and report
the business transactions between various parties involved
Accountants apply their professional standards to analyze business
transactions, prepare estimations, and report business events
The output of financial accounting becomes an input to tax accounting
The reported revenues, expenses, and profits from the income statement are used
to prepare the income tax returns
Management accounting- provides information to internal managers and
executives for their decision-making purposes
One can think of MA and FA topics as the two sides of a coin because one side provides
,information to the other side, and each side shares some common information with
each other
Accounting Principles and Concepts
Accounting principles and concepts emphasize the “why” and “how” of accounting
performed within a company
The following are some important accounting principles:
● Business entity concept
● Cost concept
● Matching concept
● Materiality concept
● Accounting period concept
● Revenue recognition concept
Business Entity Concept:
Accounting is performed for an individual business unit for which financial data are
needed
The unit or entity must be identified so that the accountant can determine which
financial data should be analyzed, recorded, and summarized in reports
In other words, the business is viewed as an entity separate from its owners to
record the activities of the business only, not the personal activities, property, or
debts of the owner
The business entity concept assumes:
1) That the company will have a long life ahead (going concern concept)
2) That all business transactions and events can be measured in terms of
a common denominator, such as the dollar
Example- a business entity could be an automobile dealer, a department
store, or a grocery store
Cost concept
This historical cost concept is the basis for entering the exchange price or cost of an asset
,into
, accounting records
Use the cost concept involves two other important accounting concepts: objectivity
and the unit of measure
The objectivity concept requires that accounting records and reports be based
upon objective evidence
In exchanges between a buyer and a seller, both try to get the best price
Only the final agreed-upon amount is objective enough for accounting purposes
If the amounts at which properties were recorded were constantly being revised
upward and downward based on offers or appraisals, accounting reports would soon
become unreliable
The unit of measure concept requires that financial data be recorded in dollars
Matching concept
The matching concept, which is based on accrual accounting, refers to the
matching of expenses and revenues (net income) for an accounting period
Under the accrual basis, revenues are reported in the income statement in which
they are earned
Expenses are reported in the same period as the revenues to which they relate
Under the cash basis of accounting, revenues and expenses are reported in the
income statement for the period in which cash is received or paid
Materiality concept
The materiality concept implies that errors, which could occur during journalizing
and posting transactions, should be significant enough to affect the decision-
making process
All material errors should be discovered and corrected
