Introduction to Accountancy

Business: Business is an activity carried on with the objective of maximization

of profit or minimization of losses.
Trading Activity: Buying and Selling of a commodity or article is called trading
activity.
Money: Money is defined as a common medium of exchange.
Evolution of Money:
✓ Metallic Money- Coins
✓ Paper Money- Notes
✓ Bank Money- Cheques/Drafts
✓ Plastic Money- Debit/Credit Cards
Book-Keeping: Book-Keeping is defined as a science as well as an art of
recording day-to-day business transactions in terms of money only. Book-
Keeping is a systematic record of business events and transactions in a
systematic manner, and in a chronological order (date wise).
Book-Keeping is also defined as process recording, classifying and summarizing
the business transactions.
It is necessary to keep a record due to the following two limitations:
1. Limitation on Human Memory
2. Limitation on Resources
Objectives of Book-Keeping:
1. To find result of business activity in terms of profit earned or loss suffered.
2. To find out financial position in terms of Assets and Liabilities.
3. To find out amount receivable from customers and amount payable to
suppliers. In business certain transactions are on credit i.e. amount will
be received or paid at a future date.
4. On the basis of Book-Keeping, it is possible to find out taxes payable to
the Government. Book-Keeping enables the businessman to comply with
certain legal formalities.
5. Book-Keeping record is a proof of business transactions on the basis of
which various financial statements are prepared and submitted to
Government authorities. These authorities have a right to check these
records.
6. Systematic and up-to-date Book-Keeping enable us to find out errors or
mistakes so that it can be rectified at the earliest. It is also possible to find
out frauds at the earliest and take necessary action to avoid it in future.
7. Up-to-date Book-Keeping enable us to find out required information easily
and quickly. This information provides the basis for taking business
transactions.
8. Book-Keeping is a permanent record which can be used for future
reference. The businessman can compare his performance of the past with
the present and take necessary action for improvement.
9. The available financial information also enables the company to prepare a
budget or a future plan.

Importance of Utility of Book-Keeping:

There are many people who are provided with the financial information about
the business concern. On the basis such information various decisions are
taken. These users of information are classified in two categories:
a. Internal Users (Owners/Management)
b. External Users
External Users:

• Investors: Investors invest money to get returns in the form of interest

or dividend. They are interested to know the ability of the business to
survive, prosper, and pay dividend. The investor would like to know the
performance of the business and its financial position to decide whether
to continue the investment or sell it.
• Financial Creditors (Lenders): They are interested to know whether
loan installment and interest will be played when it becomes due. They
also would like to know the risk involved on the basis of which the bank
will decide the amount and the nature of security. It gives information to
the lenders about past performance as well as future expectations.
• Suppliers and Creditors: They would like to know the ability of the
company to pay their dues. It helps them to decide the credit policy for
the relevant business concern and the rate to be changed.
• Government and their agencies: It enables the Government agencies
to collect various taxes. It also gives them information about the number
of employees of the company which will indicate the employment
generated by the business. The information collected will help the
Government in framing Government policies.
• Employees: the employees are interested to know stability, continuity
and growth of the company. On the basis of such information they will
take the decision of continuing in the same company or change the
company.
 Important Terms
Transaction: To transact means to have a business deal. There must be
minimum two persons to have a transaction. There are two aspects of
every transaction known as receiving aspect and giving aspect. In other
words, there is some exchange in every transaction. The transactions are
normally settled in terms of money. There are type of transactions:
a. Barter Transaction: It is a transaction in which commodity is
exchanged for commodity.
b. Cash Transaction: It is a transaction in which the cash or cheque
is either received or paid immediately on the spot.
c. Credit Transaction: It is a transaction in which Cash or Cheque
is received or paid at a future date.
Goods: It is a commodity or commodities in which business concern
deals. What is Goods for one business may not be for another. It differs
from business to business and depends on nature of business. For e.g.
For a Medical Shop, Medicines are goods. For a Stationery Shop,
Stationery is goods, for a Furniture Shop, Furniture is goods etc.
Assets: It is a property of any description owned by a person or business
concern. It is necessary to have ownership. Only possession is not
sufficient. Assets are classified as-
a. Tangible Asset: These are those assets which physically exist. For
e.g. Land, Building, Machinery, Furniture etc.
b. Intangible Asset: These are those assets which do not physically
exist. For e.g. Goodwill, Trade Mark, Copyright, Patent etc.
The assets are further classified depending on the life of the asset and
the period for which it is intended to be used.
Assets

Non-Current Assets Current Assets

Tangible Intangible
c. Fixed Asset: They are those assets which are acquired or created
with the intention to use it for the purpose of business for a long
period of time.
 d. Current Asset: They are those assets which can be converted into
cash within a short period of time. (less than one year) for e.g.
Cash, Stock, Bank balance, Debtors etc.
Liabilities: It represents the amount owed by a business to another
person. For e.g. Bank Loan, Creditors etc. The liabilities are further
classified as-
a. Non-Current Liabilities: They are those liabilities which are to be
paid over a period of time. (more than one year).
b. Current Liabilities: They are those which are to be paid
immediately or within a short period i.e. (less than one year).
Capital/Equity (Owners’ Contribution): Capital/Equity represents
amount or assets brought in by the Proprietor directly or indirectly in the
business from time to time. Capital = Assets-Liabilities
Debtor: Debtor is a person who owes money to the business. Debtor is a
person from whom the amount is receivable.
Creditor: Creditor is a person to whom business owes money. The amount
is payable to Creditor.
Drawings: Drawings represent the amount withdrawn from business by
the owner for his personal use. It can be withdrawn either in cash or kind.
It also includes personal expenses paid from the business.
Expenses: Expenses represent the amount spent for carrying on business
activities or the amount spent for earning revenue. Classification of
expenses are as follows:
a. Capital Expenses: It represents the amount spent for acquiring
asset or to create an asset whose benefit is received over a long
period of time. For e.g. purchase of Machinery, Building, Furniture
etc. It also includes incidental non-recurring expenses related to an
asset. For e.g. installation charges for machines, customs duty paid
on import of a fixed tangible asset.
b. Revenue Expenses: it represents an expenses whose benefit is
received either immediately or within a short period of time i.e. one
year. For e.g. Wages, Salary, Electricity Charges, Interest Paid etc.
c. Deferred Revenue Expenses: it is an expenditure which is normally
a revenue expenditure but sometimes, its benefit is extended beyond
one year. Such expenses are deferred i.e. partly postponed to the
subsequent years. These are recorded as an asset in the financial
statement. It is known as fictitious asset.
Income/Revenue: Income represents amount received or receivable on sale
of goods or provision of services on recurring basis. For e.g. Sales, Commission
received, interest received, dividend received etc. the incomes are classified in
two categories:
a. Operating Income: It is an income earned or received from main
business operations. What is operating income depends on the nature
of business or profession carried on by the person.
b. Non-Operating Income: It is an income which is not related to the main
business operations. What is operating income for one person may not
be for other person.
Discount: It represents concession or incentive given by seller to the buyer.
Discount is always deducted. Discounts are classified as follows:
a. Trade Discount: It is a discount allowed by a seller to the buyer on bulk
purchases. It is calculated on List/Catalogue Price. It is deducted from
the rate itself. It is deducted from the rate itself. It is never recorded in
the books of accounts.
b. Cash Discount: It is a discount offered on Cash Purchases irrespective
of quantity purchased. The consumers are normally allowed discount.
Sometimes the trader gets both discounts. i.e. Trade as well as Cash
Discount. Trade Discount is calculated first and Cash Discount is
calculated after deducting Trade Discount. Cash Discount is recorded
in the Books of Accounts.

Solvent: He is a person whose assets are more than his liabilities. He is

financially able to pay all his liabilities.
Insolvent: He is a person whose liabilities are more than his assets. He is
financially incapable to pay his liabilities. He can apply to the court and get
himself declared as insolvent.
Trading Concern: It is a business concern which carries on a trading
activity of buying and selling of goods with the objective to earn profit.
Non-trading Concern: They do not carry on any trading activity. These
concern provides services to the public without the objective to make profit.
Accounting Year (Financial Year): It is a period of 12 Months or a block of
12 Months which is followed for recording business transactions. Normally
the business concerns follow Financial Year as Accounting Year which
starts on 1st April and ends on 31st March. At the end of each Financial Year
a summary is prepared in the form of Financial Statements and the books
of Accounts are closed.
Goodwill: It is a monetary value of reputation of the business which is self-
created over a period of time. It is an extra value enjoyed by the business
concern over and above its Net Assets Value.
Accounts: It is a summarized record of business transactions relating to a
person or an asset or expenses and income. The accounts are classified in
the following manner.
Accounts

Personal Impersonal

Real A/c Nominal A/c

Personal Accounts are the accounts of Person/Institutions or their Capital
A/c or their Bank A/c. Real Accounts are the accounts of Assets and
Properties. Nominal Accounts are the accounts of Expenses & Losses and
Income & Gains.
Classify the following Accounts:
Sr. No. Name of Account Type of Account
1 Johnson & Co. A/c Personal
2 State Bank of India A/c Personal
3 Rich’s Capital A/c Personal
4 Building A/c Real
5 Machinery A/c Real
6 Goods A/c Real
7 Cash A/c Real
8 Rich’s Drawings A/c Personal
9 Rent A/c Nominal
10 Salaries A/c Nominal
11 Discount A/c Nominal
12 Advertisement A/c Nominal
13 Commission A/c Nominal
14 Interest A/c Nominal
15 Goodwill A/c Real
 16 Novita’s Loan A/c Personal
17 Tom A/c Personal
18 Motor Car A/c Real
19 Repairs A/c Nominal
20 Computer A/c Real

Sr. No. Name of Account Type of Account

1 P.L. Enterprises A/c Personal
2 Bank of Baroda A/c Personal
3 Furniture A/c Real
4 MTNL A/c Personal
5 Electricity Charges A/c Nominal
6 Amruta’s Capital A/c Personal
7 Sonali’s Loan A/c Personal
8 Asmita A/c Personal
9 Postage A/c Nominal
10 Travelling A/c Nominal
11 Stock A/c Real
12 Wages A/c Nominal
13 Carriage A/c Nominal
14 Equipment A/c Real
15 Stationary A/c Nominal
16 Legal Charges A/c Nominal
17 Insurance A/c Nominal
18 Geo Company A/c Personal
19 Telephone Charges A/c Nominal
20 Debtors’ A/c Personal

Methods of Accounting: There are mainly two methods of maintaining

books of accounts which can be used by business concerns as per their
requirement.
▪ Single Entry System: It is a method of accounting in which only
single aspect of a transaction is recorded. Under this method only
cash account and personal accounts are maintained. Impersonal
accounts are not considered. It is an incomplete and unscientific
method of accounting. It is used only by very small business concerns
and is rarely used. It is not recognized by law.
▪ Double Entry System: It is a method of accounting in which both
aspects of transactions are recorded together. It is the most scientific
and complete method of accounting. It is based on the principle that
for every transaction there is a dual aspect. For every debit aspect of
a transaction there is a corresponding credit aspect of an equal
 amount and vice-versa. Under this method of accounting a Trial
Balance is prepared at the end of the financial year which confirms
arithmetical accuracy.
Under Double Entry Principle records can be maintained by applying the
following two methods:
1. Cash Method: In this method only Cash Transactions are recorded.
2. Mercantile Method: In this method all type of transactions are
recorded i.e. Cash as well as Credit.
Accounting Terms
Journal: It is a book of Original Entry or Prime Entry in which the
transaction is recorded for the first time.
Entry: It is a process of recording business transaction in the books of
accounts.
Narration: It is an explanation followed by an entry in Journal. It explains
the nature of transactions.
Folio: It is a page number of books of accounts.
Journal Folio: It is a page number of Journal on which entry is recorded.
Ledger Folio: It is a page number of Ledger on which Ledger Account is
maintained.
Ledger: It is a book of Final Entry in which all accounts are maintained.
Posting: It is a process of transferring an entry from Journal to Ledger.
Bad Debts: It represents the amount which could not be recovered from
debtor normally due to his insolvency. It is a loss to the business.

Following are rules of Debit and Credit while recording the transactions in
the Journal:
Personal Account:
a. Debit the Receiver
b. Credit the Giver
Real Account:
a. Debit What Comes in
b. Credit What Goes Out
Nominal Account:
a. Debit all Expenses and Losses
b. Credit all Income and Gains
The following steps are followed while recording transactions in Journal:
1. Read the transaction carefully.
2. Identify the accounts which are affected by the transaction.
3. Find the type of account.
4. Apply respective rule and decide which account is debited and which
account is credited.
Fundamental Accounting Assumptions:
1. Going Concern: It indicates that the business of the concern will be
carried on for indefinite period of time.
2. Consistency: It indicates that the Company’s accounting policy and
method are consistently followed for indefinite period of time. As a
result of this it is possible to compare the financial results of a
business concern from year to year.
3. Accrual: On the basis of this concept the books of accounts are
maintained according to which expenses and incomes are recorded as
and when they get accrued. The accrual means the expenses are
incurred but not paid or income earned but not received.
Concepts, Conventions & Principles:
▪ Money Measurement Concept: It means all the business
transactions and events are expressed in common unit of
measurement i.e. Money. The business transactions of an Indian
Business concern will be expressed in terms of rupees.
▪ Dual Aspect Concept: It indicates that for every business transaction
has two effects involving exchange. Both these effects are recorded
together in books of accounts. The accounting principle on the basis
of which these two aspects are recorded together is called Double
Entry Principle.
▪ Cost Concept: When an asset is purchased, it is recorded in the
books of accounts at its cost. The cost is arrived at by using the
following formula-
Cost = Original Price + Non-recurring Incidental Expenses (before
asset is put to use)
▪ Conservatism: While recording business transaction and while
preparing financial statements anticipated profits are not recorded
but possible losses are provided for.
▪ Business Entity Concept: For recording transaction in the books of
accounts, it is necessary to treat the owner and his business as a
separate entity. In other words, the business started by Proprietor is
treated as a separate entity and only business transactions are
recorded in the books of accounts of the concern. Proprietor’s
personal transactions are not recorded in the books of accounts of the
business.
▪ Materiality Concept: It is not possible to record small details. If the
amount involved is not substantial it is treated as an expense even
though it might have been spent for purchase of an asset. If the
amount involved is material it is recorded and disclosed separately.
▪ Periodicity Concept: According to this concept the financial results
are determined and declared at the end of every financial year. As per
the concept of Going Concern, the business continues for a long
period of time. This long period is divided in suitable duration so as
to find out the financial result and financial position of business at
periodical interval.
▪ Matching Concept: According to this concept expenses incurred in
an accounting period should be matched with revenues recognized in
that period. For e.g. If 1000 books are purchased at Rs.50/- each, out
of which 800 books are sold at Rs.70/- each, the revenue for the
period on account of books sold is Rs.56000 (800 books X Rs.70). The
corresponding expenses or cost of goods sold is Rs.40000 (800 books
X Rs.50). The remaining books which are unsold are in stock which
are carried forward to the next year.
▪ Revenue Recognition Concept: The revenue is recognized in income
statement in case of sale of goods only when ownership is transferred
from seller to buyer. The revenue is recognized in the period in which
it is earned irrespective of the fact whether it is received or not during
that period.