All modern accounting systems make use of the double entry bookkeeping method. The double entry bookkeeping method is based on the nature of a transaction. As there are two values involved in a transaction there should be also be two parts for the recording of a transaction, a left side and a right ride(debit/credit).
The Accounting Equation
The basic accounting equation is : ASSETS = EQUITIES
What is Assets?
It includes anything owned or possessed by the business which is capable of being expressed in terms of money or possessing monetary values, and which consequently, is available for the payment of the debts or obligations of the business.
What is Equities?
It includes all the vested rights of persons in the assets of the business. Equities include all the amounts owned by the business to all persons which may be classified as : liabilities and owners' equty
To update our accounting equation, we may say that :
ASSETS = LIABILITIES + PROPRIETORSHIP or
ASSETS - LIABILITEIS = PROPRIETORSHIP
To summarize the equation we may concludes that:
-Increase in Assets = Increase in Proprietorship
-Increase in Assets = Increase in Liabilities
-Increase in some forms of Assets = Decrease in other forms of Assets
- Decrease in Assets = Decrease in Proprietorship
-Decrease in Assets = Decrease in Liabilities
-Increase in Liabilities = Decrease in Proprietorship
- Increase in some form of Liabilities = Decrease in other forms of Liabilities
- Increase in Proprietorship = Decrease in Liabilities
- Increase in some forms of Proprietorship = Decrease in other forms of Proprietorship
What other factors affect Proprietorship?
Let us decompose the Proprietorship section of the accounting equation into the following parts:
- Capital originally invested of amount originally placed into the business
- Additional investment or amount added to the capital originally invested (increase capital)
- Withdrawal or taking away of capital from business (decrease capital)
- Incomes or earnings of the business (sale of merchandise or services)
- Deductions from income such as cost of merchandise bought and sold, expenses, losses incident to the operations of the business.
From the original equation of Assets = Liabilities + Proprietorship we may expand our equation into
Assets = Liabilities + Original capital + Additional investment - Withdrawals +Income- Deductions from Income
Accounting is a service activity and has been called "language of business". Accounting terms and concepts are used in statements and reports submitted to interested users - the owners, investors, creditors, government, and business analysts.
Accounting is an art of recording, classifying, 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 results thereof.
This function deals with the writing on the books or records of the business transactions or events. This is technically referred to as Bookkeeping. Bookkeeping is defined as the systematic and chronological recording of business transactions or events.
In the recording and summarizing functions, similar items are grouped or sorted under the same names. In the preparation of accounting reports, items maybe arranged according to their liquidity or permanent nature or whether items are operating of non-operating.
Periodically, usually yearly, or sometimes monthly, quarterly, owners of business require of the accountant information regarding the status of the business. The accountant groups and summarizes the details of the data in the accounting records.
Reports and statements prepared and submitted by the accountant are interpreted for the guidance of management. The accountant prepares additional explanations, notes, analysis and the like.
The accountant often meets three types of business organizations, namely:
Sole or Single Proprietorship
This is the simplest form of business as it is exclusively owned by only one individual. The owner acts as the active manager. He may supply all the capital from his personal funds or from funds borrowed from other parties. For accounting purposes, it is advisable to maintain separate records from the business and from those of the owner's personal affairs.
This is the business organization owned jointly by two or more persons. All the owners agree as to their capital contributions, divisions of the business profits and losses, and other incidents matters. According to Partnership Law, if the partnership is formed it acquires a legal personality distinct and separate from the owners.
This is an organization of not less than five persons, whose capital is divided into shares of stock. It is a legal personality distinct and separate from the stockholders. As corporation it has the following advantages from other types of business organizations: limited liability of stockholders, greater source of capital, and longer period of existence.