Fundamentals of accounting

Module 1: INTRODUCTION TO FINANCIAL ACCOUNTING

INTRODUCTION

Accountants can now engage in exciting new development areas such as forensic accounting, e-commerce, financial planning, environmental accounting, and others, in addition to their traditional role as financial record keepers. It collects data and distributes economic information about the company to a wide range of users as an information system.

Definition of Accounting : 

Definition by the American Institute of Certified Public Accountants (The year 1961):

 “Accounting is the art of recording,  classifying and summarizing in a  significant manner and in terms of money, transactions and events which are, in part at least, of a financial character, and interpreting the result thereof”.

Definition by the American Accounting Association (the Year 1966): 

“The process of identifying,  measuring and communicating economic information to permit informed judgments and decisions by the users of accounting”.

Objectives of Accounting:

The main objectives of accounting are listed into 5 main heads and explained below.

1. Providing Information to the Users for Rational Decision-making.

2. Systematic Recording of Transactions

3. Ascertainment of Results of above Transactions

4. Ascertain the Financial Position of Business

5. To Know the Solvency Position.

1. Providing Information to the Users for Rational Decision-making.

Accounting's major goal is to give relevant information for decision-making to stakeholders including owners, management, creditors, and investors. The accounting process analyzes a variety of business outcomes such as costs, pricing, sales volume, value under ownership, return on investment, and so on. Stakeholders (owners, investors, creditors/bankers, and others) use all of these accounting measurement data in the course of corporate operations. As a result, accounting is referred to as the 'language of business.'

2. Systematic Recording of Transactions

To assure the accuracy and precision of accounting measurements, bookkeeping is used to keep a systematic record of all financial transactions of an organization. These financial records are categorized, summarized, and re-posted in the form of accounting measurements to accounting information users, i.e., stakeholders.

3. Ascertainment of Results of  Business Transactions 

Profit/loss is a core accounting measurement. It is measured by preparing a profit and loss account for a particular period. Various other accounting measurements such as different types of revenue expenses and revenue incomes are considered for this profit/loss account. The measure is used very frequently by stockholders for rational decision making. According to the Income Tax Act, every business must have an accounting system that can calculate taxable income and explain the nature and source of each item recorded on an income tax return.

4. Ascertain the Financial Position of Business

The financial position is identified by preparing a statement of ownership, i.e., assets and liabilities of the business as of a certain date. This statement is popularly known as a "balance sheet". Various other accounting measurements, such as different types of assets or liabilities, are considered for preparing the balance sheet. This statement may be used by various stakeholders for financing and investment decision.

5. To Know the Solvency Position 

The balance sheet and profit and loss account prepared as above give useful information to stockholders regarding concerns potential to meet its obligations in the short run as well as in the long run.

Functions of Accounting 

The main functions of accounting are as follows:

 (1)  Measurement:  

 Measurement means quantification (including estimates) of business transactions into financial terms by using the monetary unit, viz. rupees and paise as a measuring unit. 

Accounting quantifies events of financial nature into monetary terms and depicts the current financial status of a corporate entity by measuring its past performance.

 (2)  Forecasting:  

Using historical data, accounting aids in forecasting the future performance and financial status of a company.

(3)  Decision-making:  

Accounting delivers relevant information to account users to help them make sound decisions.

(4)  Comparison  &  Evaluation:  

Accounting evaluates performance against goals and reveals information on accounting policies and contingent liabilities, which are critical in predicting, comparing, and assessing financial results.

(5) Control:  

Accounting also reveals operational system weaknesses and offers feedback on the effectiveness of countermeasures taken to address those problems.

 (6) Government Regulation and Taxation:  Accounting provides the government with the information it needs to exercise control over the entity and collect tax revenues.