Financial Accounting-Nikita Keshan.pptx

Bhagwan Mahavir College of Commerce and
Management Studies
Course : F.Y. B.B.A. Sem 1
Subject : Financial Accounting
Chapter : Introduction to Financial Accounting and its Concepts
Prepared By : Ms. Nikita Keshan
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1.1 Meaning, Functions and Limitations of financial Accounting -
1.1.1 Meaning
1.1.2 Functions :
a) Identifying
b) Systematic Recording
c) Classifying
d) Analysing and Summarising
e) Interpreting
f) Communicating
g) Meet legal requirements
1.1.3 Limitations :
a) Historical in nature
b) Ignores non-monetary transactions
c) Ignores price level changes
d) Permits alternative treatments
e) Affected by personal judgements
f) No clear idea about operating efficiency
g) Provides information about the entire organization as a whole
h) Does not disclose the exact area and cause of weakness
i) Not helpful in price fixation
j) Does not provide adequate information for reporting
k) Does not provide standards to assess the performance 2
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3
1.2 Meaning of various accounting concepts and conventions –
1.2.1 Accounting Concepts :
a) Business Entity
b) Money Measurement
c) Going Concern
d) Cost
e) Dual Aspect
f) Accounting Period
g) Matching
h) Realisation
i) Accrual
1.2.2 Accounting Conventions :
a) Consistency
b) Full Disclosure
c) Conservatism
d) Materiality
1.3 Nature of Accounts and Rule of Debit and Credit –
Golden Rules of Accounting :
a) Real Account = Debit what comes in, Credit what goes out
b) Personal Account = Debit the receiver, Credit the giver
c) Nominal Account = Debit the expenses or losses, Credit the income or gain
1.4 Fundamental Accounting Assumptions, Fundamental Accounting Equation and Difference
between Book keeping and Accountancy –
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1.4.1 Fundamental Accounting Assumptions :
a) Going Concern
b) Consistency
c) Accrual
1.4.2 Fundamental accounting equation :
Assets = Liabilities ₊ Shareholders' Equity
1.4.3 Difference between Book keeping and Accountancy :
a) Definition
b) Decision making
c) Preparation of Financial Statement
d) Analysis
e) Persons Involved
f) Determining Financial Position
g) Level of Learning
h) Objective
i) Supervision
j) Period
k) Stage
l) Nature of task
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UNIT 1 : INTRODUCTION TO
FINANCIAL ACCOUNTING AND
ITS CONCEPTS -
PRESENTED BY – Ms. Nikita Keshan
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1.1 Meaning , Functions and Limitations of Financial
Accounting :-
1.1.1. MEANING OF FINANCIAL ACCOUNTING :
 Accounting is the information system that
 Measures business activities,
 Processes data into reports, and
 Communicates results to decision makers.
PRESENTED BY – Ms. Nikita Keshan 6
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Financial Accounting is measurement, processing and
communication of financial information
about a business organization
to the owner, investor, creditor and all related parties.
Accountant Owner and Investor
Financial
Accounting
focuses
Government
agencies
Investors
Banks
Suppliers
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Accounting is first step
Accounting is an
art and science
Accounting is a
process
Deals with financial
transactions
Historic in nature
Records Actual
Cost
Nature / Characteristics of Financial
Accounting
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1.1.2. FUNCTIONS OF FINANCIAL ACCOUNTING :
a) Identifying
b) Systematic Recording
c) Classifying
d) Analysing and Summarising
e) Interpreting
f) Communicating
g) Meet Legal Requirements
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a) Identifying :- Identification of the transactions relating to the business
directly is the primary function of financial accounting from the root
documents.
a) Systematic Recording :- The main function is to make systematic
records of the financial transactions of the business. Systematic record
means the use of the standard of the financial accounts and the
nation’s government guidelines to record each and every financial
transaction of the business enterprise.
b) Classifying :- Various business transactions recorded in Journal are
further classified based on their nature. Their posting follows similar
items in another book called Ledger. Journal entries simply record
various business transactions without any differentiation. Whereas, the
Ledger posting is done after classifying each entry under the
appropriate head transactions without any differentiation. Whereas,
the Ledger posting is done after classifying each entry under the
appropriate head.
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d) Analysing and Summarising :- After recording the financial transaction
of the business in a systematic way, the team financial accounting has
to analyze and summarises the whole transaction to show the correct
financial position of the business. The team will analyze it in Trail
Balance and summarise it in the final account to know the profit or
loss of business enterprises in a particular financial year.
e) Interpreting :- Interpretation is the essential function of financial
accounting. It is helpful for the management in the decision-making
process and formulating a future business strategy concerning growth,
expansion, and diversification. Other stakeholders also benefit from
such data in taking decisions from their perspective.
f) Communicating :- The Team of Financial Accounting has to
communicate the results of the business's financial position of a
particular financial year to all the parties.
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g) Meet legal requirements :- The team of Financial Accounting has to
meet the legal requirements like auditing the books of the particular
financial year from an external auditor and paying tax liabilities as per
taxation system of the country law.
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Advantages
of Financial
Accounting
Maintain
business
record
Prevention
and Detection
of fraud
Present true
financial
position Helps in
preparing
financial
statements
Acts as legal
evidence
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1.1.3. LIMITATIONS OF FINANCIAL ACCOUNTING :
a) Historical in nature
b) Ignores non-monetary transactions
c) Ignores price level changes
d) Permits alternative treatments
e) Affected by personal judgements
f) No clear idea about operating efficiency
g) Does not provides information about entire
organization as a whole
h) Does not disclose the exact area of cause and
weakness
i) Not helpful in price fixation
j) Does not provide adequate information about
reporting
k) Does not provides standards to assess the
performance
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a) Historical in nature :- Financial Accounting records only those
transactions which have already taken place in the business but
it does not reflect the future. So, it is historical in nature.
b) Ignores non-monetary transactions :- Financial Accounting
records only those transactions which can be expressed in terms
of money. The transactions which cannot be expressed in terms
of money like technical innovations, efficiency of staff,
employer-employee relations, competition in the market etc are
not recorded.
c) Ignores price level changes :- In financial accounting, all
transactions recorded at cost. The effect of price level changes is
not considered while preparing the financial statements with
the result that comparison of the figures of various years
become difficult.
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d) Permits alternative treatments :- Financial Accounting permits
alternative treatments. For example, depreciation can be charged
either on straight line basis or on written down value method
basis. Similarly, inventories can be valued by applying either FIFO
(First in First out) method or LIFO (Last in First out) method or WAP
(Weighted Average Price) method. Profit earned or loss suffered
will be different when alternative methods are followed.
e) Affected by personal judgements :- The primary objectives of
financial accounting is the preparation of financial statements.
These statements are affected by the personal judgements. For
example, valuation of stock, provision for depreciation,
amortization of intangible assets, treatment of deferred revenue
expenditure etc., are based on personal judgements and therefore
are not free from bias.
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f) No clear idea about operating efficiency :- In financial
accounting, the operating efficiency is measured in terms of profit
earned by the business. Profits may sometimes be more or less not
because of efficiency or inefficiency but because of inflation or
trade depression or even by manipulation.
g) Does not provides information about the entire organization as
a whole :- Financial Accounting does not provide data for each and
every product, job, process, department or operation separately.
Instead, it provides the financial information in a summary form for
the entire organization as a whole.
h) Does not disclose the exact area and cause of weakness :-
Financial Accounting shows the net result of the business as a
whole but it does not disclose the exact areas and cause of
weakness / inefficiency, if any.
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i) Not helpful in price fixation :- Financial Accounting does not
help in fixing the selling price of a product or service in
advance. In the absence of fixation of prices in advance, it is
not possible to offer quotations to the prospective customers.
j) Does not provide adequate information for reporting :-
Financial Accounting does not provide adequate information
for reporting to outside agencies such as banks, financial
institutions, government, stock exchange, trade associations,
etc.
k) Does not provide standards to assess the performance :-
Financial Accounting does not provide an adequate system of
standards to evaluate the performance of various persons or
department.
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1.2 Meaning of various accounting concepts and conventions :-
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1.2.1 Accounting Concepts
• Accounting concepts define the assumptions on the
basis of which financial statements of a business
entity are prepared.
• Concepts are those basic assumptions and condition
which form the basis upon which the accountancy
has been laid.
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i)Business Entity Concept :- This concept assumes that, for
accounting purposes, the business enterprise and its owners are
two separate independent entities.
•Thus, the business and personal transactions of its owner are
separate.
•For example, When the owner invests money in the business, it
is recorded as liability of the business to the owner. Similarly,
when the owner takes away from the business cash/goods for
his/her personal use, it is not treated as business expense, it is
treated as drawing .
•This concept is extremely useful in keeping business affairs
strictly free from private affairs of owner.
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ii) Money Measurement Concept :- This concept assumes that all
business transactions must be in terms of money, that is in the
currency of a country.
•In our country such transactions are in terms of rupees.
•Thus, as per the money measurement concept, transactions which
can be expressed in terms of money are recorded in the books of
accounts.
•For example, Sale of goods worth Rs.2,00,000, Rent Paid Rs.10,000
etc. are expressed in terms of money, and so they are recorded in the
books of accounts.
•But the transactions which cannot be expressed in monetary terms
are not recorded in the books of accounts. For example, sincerity,
loyalty are not recorded in books of accounts because these cannot
be measured in terms of money although they do affect the profits
and losses of the business concern.
•This is the reason why qualitative facts are not recorded in books of
accounts.
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iii) Going Concern Concept :-This concept states that a business firm will
continue to carry on its activities for an indefinite (unlimited) period of
time.
•Simply stated, it means that every business entity has continuity of life.
•Thus, it will not be dissolved in the near future. This is an important
assumption of accounting, as it provides a basis for showing the value of
assets in the balance sheet.
•For example, the plant and machinery was purchased by a company of
Rs. 10 lakhs and its life span is 10 years. According to the Going concept,
every year some amount of assets purchased by the business will be
represented as an expense and the balance amount will be shown as an
asset in the books of accounts.
•Thus, if an amount is incurred on an item that will be used in business
for several years ahead, it will not be proper to charge the amount from
the revenues of that particular year in which the item was purchased
Only a part of the purchase value is shown as an expense in the year of
purchase and the remaining balance is shown as an asset in the balance
sheet. PRESENTED BY – Ms. Nikita Keshan
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BMCCMS

iv) Cost Concept :- It states that all assets are recorded in the
books of accounts at their purchase price, which includes cost of
acquisition, transportation and installation and not at its market
price.
•It means that fixed assets like building, plant and machinery,
furniture, etc are recorded in the books of accounts at a price
paid for them.
•The assets are not recorded at their market prices.
•For example , a machine was purchased by ABC Limited for
Rs.10,00,000, for manufacturing bottles. An amount of Rs.2,000
was spent on transporting the machine to the factory site. Also,
Rs.2000 was additionally spent on its installation. Hence, the
total amount at which the machine will be recorded in the books
of accounts would be the total of all these items i.e.
Rs.10,04,000. This cost is also termed as historical cost.
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v) Dual Aspect Concept :- Dual aspect is the foundation or basic
principle of accounting.
•It provides the very basis of recording business transactions in the
books of accounts.
•This concept assumes that every transaction has a dual effect, i.e. it
affects two accounts in their respective opposite sides debit and
credit.
•Therefore, the transaction should be recorded at two places. It
means, both the aspects of the transaction must be recorded in the
books of accounts.
•Thus, the duality concept is commonly expressed in terms of
fundamental accounting equation : Assets = Liabilities + Capital.
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vi) Accounting Period Concept :- All the transactions are recorded
in the books of accounts on the assumption that profits on these
transactions are to be ascertained for a specified period. This is
known as accounting period concept.
•Thus, this concept requires that a balance sheet and profit and
loss account should be prepared at regular intervals.
•This is necessary for different purposes like, calculation of profit,
ascertaining financial position, tax computation etc.
•Also, this concept assumes that business indefinite life is divided
into two parts. These parts are termed accounting periods.
•It can be one month, three months, six months, etc. Usually, one
year is considered as one accounting period which may be a
calendar year or financial year.
•The year that begins on January 1 and ends on January 31 is
termed as calendar year whereas the year that begins on April 1
and ends on March 31 is termed as financial year.
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vii) Matching Concept :- The matching concept states that the
revenue and the expenses incurred to earn the revenues must
belong to the same accounting period.
•So once the revenue is realised, the next step is to allocate it to the
relevant accounting period.
•This can be done with the help of accrual concept.
•If the revenue is more than the expenses, it is called profit.
•If the expenses are more than revenue it is called loss.
•This is what exactly has been done by applying the matching
concept.
•This enables the investors or shareholders to know the exact profit
and loss of the business.
PRESENTED BY – Ms. Nikita Keshan 28
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viii) Realization Concept :- This concept states that revenue from
any business transaction should be included in the accounting
records only when it is realised.
•The term realisation means creation of legal right to receive
money.
•Selling goods is realisation, receiving order is not.
•In other words, it can be said that : Revenue is said to have been
realised when cash has been received or right to receive cash on
the sale of goods or services or both has been created.
•The concept of realisation states that revenue is realized at the
time when goods or services are actually delivered.
•For example, A Jeweller received an order to supply gold
ornaments worth Rs.500000. They supplied ornaments worth
Rs.200000 up to the year ending 31st December 2022 and rest of
the ornaments were supplied in January 2023. The revenue for the
year 2022 for a Jeweller is Rs.200000. Mere getting an order is not
considered as revenue until the goods have been delivered.
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BMCCMS

ix) Accrual Concept :- The meaning of accrual is something that
becomes due especially an amount of money that is yet to be paid or
received at the end of the accounting period.
•For example , On March 5, 2023, the firm sold goods for Rs 55000,
and the payment was not received until April 5, 2023, the amount
was due and payable to the firm on the date goods and services were
sold i.e. March 5, 2023. It must be included in the revenue for the
year ending March 31, 2023.
Similarly for expenses. For example , if the firm received goods
costing Rs.20000 on March 9, 2023, but the payment is made on
April 7, 2023, the accrual concept requires that expenses must be
recorded for the year ending March 31, 2023, although no payment
has been made until this date though the service has been received
and the person to whom the payment should have been made is
represented as a creditor of business firm.
•The accrual concept under accounting assumes that revenue is
realised at the time of sale of goods or services irrespective of the
fact when the cash is received. PRESENTED BY – Ms. Nikita Keshan
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BMCCMS

1.2.2. Accounting Conventions
• An accounting convention refers to common
practices which are universally followed in recording
and presenting accounting information of the
business entity.
• Conventions denote customs or traditions or usages
which are in use since long. To be clear, these are
nothing but unwritten laws.
• The accountants have to adopt the usage or customs,
which are used as a guide in the preparation of
accounting reports and statements. These
conventions are also known as doctrine.
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i) Consistency :- The convention of consistency means that
same accounting principles should be used for preparing
financial statements year after year.
• A meaningful conclusion can be drawn from financial
statements of the same enterprise when there is
comparison between them over a period of time.
• But this can be possible only when accounting policies and
practices followed by the enterprise are uniform and
consistent over a period of time.
• If different accounting procedures and practices are used
for preparing financial statements of different years, then
the result will not be comparable.
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BMCCMS

ii) Full Disclosure :- Convention of full disclosure requires that all
material and relevant facts concerning financial statements should
be fully disclosed.
•Full disclosure means that there should be full, fair and adequate
disclosure of accounting information.
•Adequate means sufficient set of information to be disclosed. Fair
indicates an equitable treatment of users.
•Full refers to complete and detailed presentation of information.
•Thus, the convention of full disclosure suggests that every financial
statement should fully disclose all relevant information. Let us relate
it to the business.
•The business provides financial information to all interested parties
like investors, lenders, creditors, shareholders etc. The shareholder
would like to know profitability of the firm while the creditor would
like to know the solvency of the business. In the same way, other
parties would be interested in the financial information according to
their requirements PRESENTED BY – Ms. Nikita Keshan
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BMCCMS

iii) Materiality :- The convention of materiality states that, to
make financial statements meaningful, only material fact i.e.
important and relevant information should be supplied to the
users of accounting information.
•The question that arises here is what is a material fact.
•The materiality of a fact depends on its nature and the amount
involved.
•Material fact means the information of which will influence the
decision of its user.
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iv) Conservatism :- This convention is based on the principle that
“Anticipate no profit, but provide for all possible losses”.
•It provides guidance for recording transactions in the books of accounts.
•It is based on the policy of playing safe in regard to showing profit .
The main objective of this convention is to show minimum profit. Profit
should not be overstated.
•If profit shows more than actual, it may lead to distribution of dividend
out of capital. This is not a fair policy and it will lead to the reduction in
the capital of the enterprise.
•Thus, this convention clearly states that profit should not be recorded
until it is realised.
•But if the business anticipates any loss in the near future provision
should be made in the books of accounts for the same. .
•For example, valuing closing stock at cost or market price whichever is
lower, creating provision for doubtful debts, discount on debtors, writing
off intangible assets like goodwill, patent, etc.
•The convention of conservatism is a very useful tool in situation of
uncertainty and doubts. PRESENTED BY – Ms. Nikita Keshan
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BMCCMS

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37
Exercise:
Recognise the accounting concept in the following:
(1) The business will run for an indefinite period.
(2) The business is distinct and separate from its owners.
(3) The transactions are recorded at their original cost.
(4) The transactions recorded are those that can be expressed in money terms.
(5) Revenues will be recognized only if there is reasonable certainty that it will
be paid for.
(6) Accounting treatment once decided should be followed period after
period.
(7) Every transaction has two effects to be recorded in books of accounts.
(8) Transactions are recorded even if an obligation is created and actual cash is
not involved.
(9) Stock of goods is valued at lower of its cost and realizable value.
(10) Effects of an event must be recognized in the same accounting period.
BMCCMS

1.3 Nature of Accounts and Rules of Debit and Credit :
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Nature Account Debit Credit
Asset Increase (+) Decrease (-)
Expense Increase (+) Decrease (-)
Liability Decrease (-) Increase (+)
Equity Decrease (-) Increase (+)
Revenue Decrease (-) Increase (+)
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A) Personal Account :- A personal account is a general ledger account relating to
persons.
• It can be natural persons like individuals or artificial persons like companies,
firms, associations, etc.
• When company A receives money or credit from another business or individual,
company A becomes the receiver. And, the other business or individual who
gives it becomes the giver, in the case of a personal account.
• A creditor account is a type of personal account.
• There are 3 sub-categories :-
i) Natural Personal Account :- This represents human beings. For example,
creditor, debtor, capital account, drawings account, etc.
ii) Artificial Personal Account :- An artificial personal account represents bodies
which are not human beings but act as separate legal entities according to the
law. For example, government bodies, hospitals, banks, companies,
cooperatives, partnerships, etc.
iii) Representative Personal Account :- This account represents accounts of
both natural and artificial entities. The transactions in this account either belong
to the previous year or the coming year. For example, salary drawn in advance,
or salary due from the previous years, etc. PRESENTED BY – Ms. Nikita Keshan
40

B) Real Account :- A real account is a general ledger account that reflects all the
transactions relating to assets and liabilities.
•It comprises tangible and intangible assets.
•Tangible assets such as furniture, land, building, machinery, etc.
•On the other hand, intangible assets such as goodwill, copyright, patents, etc.
•Real accounts are carried forward to the following year, therefore, are not closed
at the end of the financial year.
•Furthermore, a real account appears in the balance sheet.
•A furniture account is a type of real account.
•There are 2 sub-categories :
i) Tangible Real Account :- Tangible Real Accounts are those which relate to such
things which can be touched, felt, measured etc. Examples of such accounts
are cash account, building account, furniture account stock account, etc.
ii) Intangible Real Account :- These accounts represent such things which cannot
be touched. For example, patents account, goodwill account, etc. For example,
if building has been purchased for cash, building account should be debited
(since it coming into the business) while cash account should be credited
(since cash is going out of the business)
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C) Nominal Account :- A nominal account is a general ledger containing the
transactions of a business, namely – expenses, incomes, profits and losses.
•It contains all the transactions that occur in one fiscal year.
•Furthermore, it resets to zero and starts afresh when the next fiscal year
begins.
•Examples of nominal accounts are Commission Received, Salary Account, Rent
Account and Interest Account.
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43
Exercise :
Ascertain the debit and credit from the following particulars under
Modern Approach :
(a) Started business with capital.
(b) Bought goods for cash.
(c) Sold goods for cash. .
(d) Paid salary.
(e) Received Interest on Investment.
(f) Bought goods on credit from Mr. Y .
(g) Paid Rent out of Personal cash.
BMCCMS

1.4 Fundamental Accounting Assumptions, Fundamental Accounting
Equation and Difference between Book keeping and Accountancy :
• The Institute of Chartered Accountant of India in its Accounting Standards
(AS) has stated as followed:
• Certain fundamental accounting assumptions underlie the preparation
and presentation of financial statements.
• They are usually not specifically stated because their acceptance and use
are assumed. Disclosure is necessary if they are not followed.
• The following have been generally accepted as fundamental accounting
assumptions :
i) Going Concern
ii)Consistency
iii)Accrual
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1.4.1. Fundamental Accounting Assumptions :-

• Fundamental Accounting equation is used to ensure that companies' financial statements are
accurate.
• Accounting Equation is also known as Balance Sheet Equation.
• The fundamental accounting equation forms the basis for all transactions a company makes while
using a double-entry system.
• The fundamental accounting equation comprises three components :
• Liabilities: These are any debts or financial obligations a business has, including its accounts payable,
deferred revenue and notes payable. Companies also include short-term and long-term debts in the
liabilities category for this equation.
• Equity: This refers to the stake the company's shareholders have, meaning how much of the business
they own. It includes owner contributions and withdrawals, revenues and expenses, as well as
retained earnings and share capital.
• Assets: These include all equipment the company owns, along with its cash, certificates of deposit,
treasury bills, inventory, prepaid expenses, accounts receivable and any rights or items a business
gains through measurable transactions. A business can borrow or generate assets, or shareholders
can contribute assets to the business.
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1.4.2. Fundamental Accounting Equation :-
BMCCMS PRESENTED BY – Ms. Nikita Keshan

46
1.4.3. Difference Between Book Keeping and Accountancy :-
Basis Book Keeping Accountancy
a) Definition Book keeping is the process of
recording your company's
financial transactions into
organized accounts on a daily
basis
Accounting refers to the process
of summarising, interpreting and
communicating the financial data
of an organisation.
b) Decision making Data provided by bookkeeping
is not sufficient for decision
making. Management can take
important decisions based on
the data obtained from
accounting
Management can take important
decisions based on the data
obtained from accounting
c) Preparation of
Financial
Statement
Not done in the case of
bookkeeping
Financial statements are a part of
the accounting process
d) Analysis No analysis is required in the
bookkeeping
Accounting analyses the data and
creates insights for the business

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e) Persons
Involved
The person concerned with
bookkeeping is known as a
bookkeeper
The person concerned with
accounting is known as an
accountant
f) Determining
Financial
Position
Bookkeeping does not show
the financial position of a
business
Accounting helps in showing a clear
picture of the financial position of a
business
g) Level of
Learning
No high-level learning
required. Knowledge of double
entry system and basic
accounting is required.
High-level learning required for
understanding and analysing
accounting concepts. Knowledge of
accounting principles, procedures
and practices is required.
h) Objective It helps to record all the
financial transactions
systematically
It helps to measure a firm’s financial
standing and communicates the
same to concerned entities.
Continue….

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i) Supervision A bookkeeper does not supervise
and check the work of an
accountant.
An accountant checks and
supervises the work of a
bookkeeper.
j) Period Bookkeeping gives day-to-day
details.
Accounting gives details of
an entire year.
k) Stage It is the first stage in the process
of accounting. This is because it
forms the basis for accounting.
It is the second and final
stage.
l) Nature of task Routine and clerical tasks. Analytical task
Continue….

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BMCCMS

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