CHAPTER 01 BASIC CONCEPTS

Since accounting is already an established body of knowledge, it is better to define Accounting according to Authoritative bodies of the Accounting Profession.

Accounting as defined by American Accounting Association (AAA)

“Accounting is the PROCESS of identifying, measuring, and communicating economic information to permit informed judgments and decisions by users of information.”

Accounting as defined by American Institute of Certified Public Accountants (AICPA)

“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 financial character and interpreting the results thereof.”

Accounting as defined by Accounting Standard Council (ASC)*

“Accounting is a SERVICE activity. Its function is to provide quantitative information, primarily financial in nature, about economic entities, that is intended to be useful in making economic decision.”


*FRSC is the successor of ASC

Purpose means an intention, a goal or intended result of effort.

The intention or purpose of accounting is to help various financial users see the over-all and/or true picture of businesses, organizations or entities in quantitative, economic and/or financial terms.

The processes and activities involved in accounting help the business owners and users of financial information in surviving economically.

People inside the organization must have the right information in the right time to monitor and keep due control in managing the affairs of the entity and make decisions and implement strategies so to ensure that the entity continues to operate and remain in business year after year and so on and on.

Thus, it is necessary that the financial information presented thru financial reports must be timely, understandable, relevant, reliable and complete.

By nature, Accounting is both an ART and a SCIENCE.

ART means imaginative skill of expression of objects by applying creativity to it.

We apply the same creativity of thinking in accounting as artist do. Accountants use creative skills and imaginative ways of gathering quantitative information and converting the financial data into presentable, readable and understandable financial reports so that users whether accountants and non-accountants alike can draw meanings from them and make judgments and decisions. Since some of the users of financial reports are non-accountants, the accountants who prepared the report must be able to present the report in a format easily understood in layman’s terms. And, these require artful skills and creative thinking. Thus, ACCOUNTING is an ART.

Applicably, accounting is also a SCIENCE. By definition science means a branch of knowledge requiring systematic study and method. And, accounting is just so. Students of Accountancy shall apply systematic study and method as they go along especially in higher accounting subjects. Accountants do the same in their practice of accounting. They based what they do according to principles, conventions and standards of Accounting. Hence, ACCOUNTING is a SCIENCE.

 

By nature, Accounting is a PROCESS and an ACTIVITY.

Accounting operates on various step-by-step PROCESSES and ACTIVITIES inside the entity, to wit:

  1. Identifying, recording and classifying transactions and events.
  2. Measuring in terms of money the transactions and events which are in part at least of financial character.
  3. Summarizing in a significant manner the transactions and events
  4. Communicating economic information to permit informed judgments and decisions by users of information.
  5. Interpreting the results thereof.

 

By nature, Accounting is a DISCIPLINE and a SERVICE.

DISCIPLINE means orderly and controlled behavior. It also means training which corrects, molds, or perfects the mental faculties or behavior.

Consequently, Accounting has its own sets of standards and professional ethics to follow. In order to come up with reliable and credible financial reports, those in the accounting practice are guided by rules, procedures, principles, conventions, methods and standards. Those practicing accounting undergo years of training which began in their college days and continuously being taught after graduation and updated by various authorities thru seminars, workshops and lectures.

 

SERVICE is defined as act of serving or help given to others.

Accounting is a SERVICE. Accounting is a form of help to users of financial information and financial reports. Accounting serves by providing assistance through financial reports about the financial affairs of the business.

 

By nature, Accounting is the REPORT CARD of the business.

In schools, the performance standing of students and the progress of the students are communicated and reflected thru their report cards. Likewise, the progress or performance and financial standing of entities are reflected in the Financial Statements and Financial Reports.

Financial Statements and Financial Reports help the owners of the entities and interested parties to understand the financial standing of the business and how the business is performing and progressing.

Accounting help owners and interested parties answer questions or issues like the following:

Profitability: How much the company earned or how much is the increase in the capital or how much the business profited as a result of its operation?

Liquidity: Is the availability of funds sufficient to finance business operations?

Stability: Can the business continue as a going-concern? Can the business sustain the operations in the long run? Can the business sustain long-term cash flow and profitability?

Solvency: Can the entity pay long-term debts or obligations to others?

Capital Structure: How much borrowed and contributed capital are invested in the entity?

 

By nature, Accounting is the LANGUAGE of business.

Businesses are very much dependent to financial data and financial reports. It is through the financial data and financial reports where businesses and entities communicate. Hence, accounting serves as the medium of communication in terms of the financial standing of entities.

Thru the Accounting Information System is the way Accounting communicates. The financial affairs of the entities are identified, recorded and measured thru the journalizing and posting processes of the Accounting System. The recorded transactions and events are then processed further by the system. They are consolidated and summarized and communicated thru various financial reports. These financial reports are those presented or provided to users for business study and decision-making.

We may infer that accounting may be thought of as a “special language” or as a “business language” used to communicate or convey financial information about an entity to those who wish to use the information to make study and decisions.

Financial Statements and Financial Reports convey financial information to users.

 

By nature, Accounting is the SENSES of the business.

Like the human body, accounting has many senses too.

The EYES of the business is the Bookkeeping part of Financial Accounting. Bookkeeping is looking at the starting work of accounting or the recording phase of the accounting cycle. The bookkeeper or accountant looks at or identify first the transactions and events which must be recorded in the Books of Accounts.

The EAR and (critical) EYES of the business is the Auditing branch of Accounting. Auditing looks or examines the veracity of financial records and truthfulness of financial reports and detects frauds or irregularities. Auditors are the ears and eyes of the business because their job is akin to listening and looking into what is happening inside the organization.

The BRAIN or HEAD and HEART of the business are Comptrollership or Management Accounting branch. Management Accounting involves in planning the business, know where it is going, and help the business stay as a going concern and drive the business to get where it targeted or planned to be. Like the head, it deals with planning. Like a heart, it feels or pulse for the business.

By definition the word “function” means a role, a task, or a job.

The functions of Accounting and Accountants are implicit in the definitions provided by the Authoritative bodies.

So, let’s go back to the definitions of accounting and deduce what these roles, tasks or jobs are.

ASC or FRSC, as stated in the Philippine Accounting Standards (PAS) No. 1, defined accounting as:

“Accounting is a service activity. Its function is to provide quantitative information, primarily financial in nature, about economic activities, that is intended to be useful in making economic decision.”

And, the AICPA’s definition:

“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 financial character and interpreting the results thereof.”

Also, the definition of AAA:

“Accounting is the PROCESS of identifying, measuring, and communicating economic information to permit informed judgments and decisions by users of information.”

From the definitions provided, the FUNCTIONS of accounting and accountants may be inferred as follows:

• As a Role : To provide quantitative information

Meaning, the primary function of accountants is to prepare financial reports and provide them to internal or external users.

• As Tasks or Jobs :

-Identifying
-Recording
-Measuring
-Classifying
-Summarizing
-Communicating
-Interpreting

In Accounting, financial affairs of entities undergo series of processes and activities such as identifying, recording and measuring transactions and events then classifying and summarizing them thru account devices and converting them thru report formats, then finally communicating and interpreting the reports to the users. These basically are the functions of accounting.


In summary, the role, or task or job or function of Accounting and Accountants then is about gathering of quantitative and economic information, then processing these financial data thru series of activities, and converting them into financial reports and give the reports to those who need the information for decision-making study and judgments.

Looking at a dictionary, scope means the space to function or operate in; the range of a subject or activity.

Applying to accounting, scope of accounting covers and touches a lot of subjects.

Accounting affects economy. Accounting touches not just the economic activities of businesses but also those of government and personal finances.

Forms of business organizations such as sole proprietorship, partnership and corporation, keep financial records to obtain financial information about its business operations and in order to make economic decisions.

So, do the government, for them to allocate funds to its instrumentalities, it needs accounting and financial records to gauge how they perform and operate.

Individuals alike need to do financial record keeping and budgeting of their personal finances, so they can know if they are economically surviving and striving.

In fact, learning and acquiring the knowledge of accounting fundamentals, and the skill of bookkeeping are the gateway to financial freedom.

Thus, knowledge of accounting is essential to all whether in private businesses, in government, and individuals.

The objective of Accounting is to provide users with useful information for economic and decision-making study and judgments.

Businesses are established for the purpose of earning profit. To determine whether the business earned profit or suffered losses is thru the preparation of the so-called Income Statement in which the revenues, gains, costs to operate and expenditures are shown. Income Statement is usually prepared periodically.

Aside from determining profit or losses, it is also important to financial users to know the financial standing of the business. The so-called Statement of Financial Position (SFP) is prepared for this purpose. SFP formerly known as Balance Sheet shows the resources of the entity and the claims against these resources. Resources of the entity are called Assets while the claims against the assets by creditors and owners are the so-called Liabilities and Owner’s Equities (or Capital). SFP shows the financial condition of the entity on a particular day, and usually, it is prepared at the end of the period.

The information provided helps the users evaluate the amounts, timing, and uncertainty of the entity’s future cash receipts and disbursements. Cash-related activities of the entity are reflected thru the so-called Statement of Cash Flow. Future cash receipts and disbursements are planned thru the strategic planning activities made by management and key people inside the organization and expressed thru the budgeting process.

Management, business owners and financial users also use various accounting data and financial reports in carrying-out efficiently, effectively and properly the day-to-day operations and affairs of the organization especially in managing, planning, organizing, monitoring and controlling its various transactions, economic events, and activities.

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