DEFINITION OF ACCOUNTING

• Accounting is the process of identifying, measuring and communicating economic information about an entity to permit informed judgments and decisions by users of the information (Anthony et al, 1995)

What economic information?

Examples• Assets of the entity• Liabilities of the entity• Expenses & income of the entity• Performance of the entity• Financial position of the entity• Liquidity position of the entity

Users of accounting information

• Management• Investors: Shareholders/owners & lenders• Creditors/ suppliers• Debtors/customers• Government• The public/ Community• Financial analysts• Employees

Branches of AccountingFinancial accounting Management accounting

1. Provides economic information useful to external users

1. Provides economic information useful to internal users

2.Generates general purpose financial statements

2. Generates specific purpose statements and reports

3. Reports on financial effects of past events

3. Set up for future oriented reports

4. Must conform to external standards

4. Not subject to external standards

5. Uses objective data 5. Uses subjective data.

Separate entity concept

• a business is treated as a distinct entity, or different persona separate from the owners who provided capital.

• transactions entered into by the business have to be dealt with from the point of view of the entity whose books are being done, not from the point of view of the owners.

Accounting equation

• flows from the separate entity concept• the assets of a business will always be equal to

the sum of its liabilities plus its owners’ equity. • Assets =Equity + Liabilities.• Equity = Assets – Liabilities.• Liabilities = Assets – Equity.

• Where:• Assets are resources controlled by an entity as a

result of past events and from which future economic benefits are expected to flow to the entity.

• Liabilities are present obligations of an entity arising from past events, the settlement of which is expected to result in an outflow from the entity of resources embodying economic benefits.

• Equity (or owners’ interest) is the net interest in the assets of the entity after deducting all its liabilities.

Double entry system of accounting

• Every financial transaction gives rise to two accounting entries;

• Each entry shows dual effect of the transaction on the accounting equation.

• Note: A transaction is an agreed upon transfer of value from one party to another which affects the amount, nature or composition of an entity’s assets, liabilities or equity.

• The double entry rule says :• For every debit entry there must be a

corresponding credit entry in the ledger.

• IN SHORT• Debit the receiver and credit the giver.

Books of Accounts

• Subsidiary books• Subsidiary books are those books where

transactions are recorded as information is extracted from the source documents. These books are also referred to as books of prime entry, books of original entry or books of first entry.

Subsidiary booksSubsidiary book use Source document

Cash book Cash transaction Receipts, bank deposit slips, cheque counterfoils bank statements

Petty cash book Small cash payments Petty cash voucher

Sales journal Credit sales Sales invoice

Purchases journal Credit purchases Purchases invoice

Sale returns journal Returns inwards/sales returns

Credit Note (C/N)

Purchases returns journal Returns outwards/ purchases returns

Credit Note (C/N)

General journal Any other transactions Depends with nature of transaction: invoice, C/N

Subsidiary books

• Subsidiary books are books in which entries are made prior to their posting to the divisions of the ledger. They are not part of double entry with the exception of the cash book. The purposes of subsidiary books are:

• To relieve the ledger of unnecessary detail by posting thereto only summarized data;

•

Subsidiary books

• To classify transactions and enable periodic totals to be posted to appropriate accounts in the ledger.

• General journal The typical uses of the general journal are to

record:• The sale, or purchase, of non-current assets on

credit;• The correction of errors;• Opening entries, i.e. entries to open the books of

the entity; • Other transfers.

The Ledger

• It is the main book of accounts• All transactions entered in subsidiary books are

posted to the ledger• Divisions of the ledger are:• The cashbook• Sales/debtor’s ledger• Purchases/creditor’s ledger• The General ledger

Divisions of the LedgerLedger Section Contents

Cash book Cash and bank accounts

Sales /debtors ledger Personal accounts of trade debtors

Purchases /creditors ledger Personal accounts of trade creditors

General ledger Proprietary accounts, loan capital accounts, asset accounts, income accounts and expense accounts.