Financial AccountingBy: Mrs.M.N.Limaye

The meaning of Accounting.

The outputs of the accounting process.

The users of the financial statements.

Generally accepted Accounting Principles. Learning Goals :

DEFINITION OF ACCOUNTINGThe Process of identifying, measuring and communicating economic information to permit informed judgments and decisions by users of the information.

Identification of TransactionPreparation of Business documentsRecording of transactions in JournalPosting to ledgerPreparation of unadjusted Trial BalancePassing of Adjustment entriesPreparation of Adjusted Trial BalanceProfit & Loss A/cBalance SheetFund flow statementThe Accounting Process

Accounting Concept :

These determine the rules that are applied to the Accounting procedus.

Accounting Procedures :1. Recording2. classification3 Summarization4 Interpretation5 Presentation

GENERALLY ACCEPTEDACCOUNTING PRINCIPLES

GENERALLY ACCEPTEDACCOUNTING PRINCIPLES

CONVENTIONS

MaterialityConservatismConsistency Full disclosure

FINANCIAL STATEMENTS

BALANCE SHEET :

The statement of the financial position of a business at a point of time, which lists the assets, liabilities and a measure of the capital (equity) of the owners.

PROFIT AND LOSS ACCOUNT :(INCOME STATEMENT)It provides the revenue earned and expenses incurred for a

specific period and indicates the profits earned or loss suffered by the business during that period.

USERS OF FINANCIAL STATEMENTS

Management AccountingManagement Accounting is the term used to describe the accounting methods systems and techniques which,coupled with special knowledge and ability, assist management in its task of maximizing profits or minimizing losses.

Management AccountingAny form of Accounting which enables a business to be conducted more efficiently can be regarded as Management Accounting

It is presentation of Accounting information in such a way as to assist management in day to day operations creation of policy of an undertaking.

Points of distinction between Management Accounting and Financial AccountingObjectivePrimary users of informationNatureAccounting methods and principlesLegal obligationTime span Source of dataPrecisionFocus

The Journal :

A book of original entry.Each entry shows both the debit and credit parts of a transaction.Provides a complete record of the transactions of a businessKept in a chronological order by date.

The Two Column Journal

The most basic form of journal is the general journal, a journal with two money columns. The money columns are labeled Debit and Credit.

General JournalDate Account Title P.R. Debit Credit

Advantages of Using a Journal

Provides a chronological (day-by-day) record of all transactionsLessens the possibility of making an error when recording a transaction because all parts of the entry appears in one place.Provides a place to explain transactions, whenever necessary.Easier to locate any recording errors because all parts of an entry are shown together.

Kinds of Entries : Simple Entries Journal entries that contain just one debit and one credit.Compound Entries - Journal entries that contain three or more accounts

PURCHASE BOOKDate Name of Suppliers L.F. Inward Inv.No. Amount Rs.

Date Name of Customers L.F. Outward Inv. No. Amount Rs.

PURCHASE RETURNS BOOK

Date Name of Suppliers L.F Debit Note No. Amount Rs.

SALES RETURNS BOOK

Date Name of Customers L.F. Credit Note No. Amount Rs.

SALES BOOK

ACCOUNTS May be kept by hand in a bound book or loose leaf binder, or they may be part of a computer system.A group of accounts in known as ledger. Thus, the accounts are often referred to as ledger AccountsA ledger is a bound book, containing of many pages, one or two pages are allotted to each accountThese are various forms used for ledger accounts, common types are the T form or the standard form of account.

LEDGER ACCOUNTThe T Account

Title of Account

Salaries A/cDate Particulars J.F Amt. (Rs. ) Date Particulars J.F.Amts.(Rs.)

Left or debit side

Right or Credit side

Post from the Journal to the Ledger

Definition :- Posting is the process in which the information in the journal must be transferred to the ledger accounts at regular intervals.

Post from the Journal to the Ledger

Ledger accounts provide a separate record of the changes in each asset, liability, and aspect of owners equity.

Without ledger accounts, it would be very difficult to prepare financial statements.

TRIAL BALANCE

Definition :-A trial balance is a listing of the accounts in the ledger and their balances as of a certain date. A trial balance is prepared periodically to test the equality of the debits and credits in the ledger accounts. The trial balance is not a financial statement or report.

Errors not Revealed by the Trial Balance

1 Failure to record an entire transaction. 2Failure to post an entire journal entry. 3Posting the wrong amount to the Dr. and Cr. Sides of the correct accounts. 4Posting the Dr.or Cr. Part of an entry to the correct side of the wrong account. 5Journalizing the same transaction twice. Posting the same journal entry twice.

Key relationships :

Net sales= Gross salesSales returns and allowancesNet purchase=Gross purchasesPurchase returns and allowances Purchase discountsNet cost of purchases = Net purchases + Freight In Cost of goods sold = Beginning inventory + Net cost of purchases Ending inventoryGross profit = Net sales Cost of goods soldOperating expenses= Selling expenses + Admin. expensesProfit before income tax (or operating profit) = Gross profit Operating expensesNet profit = Profit before income tax Income tax

INCOME STATEMENT-Vertical form

Sales revenueOther Income Less :Cost of Goods sold Gross Profit Less: Operating Expenses Selling & Distribution expenses General and administrative expenses Depreciation Operating profitsLess :Interest expensesNet profit before taxesLess :TaxesNet Profit after taxesLess :preferred stock dividendsEarnings available for common stockholders

VERTICAL FORM OF BALANCE SHEET

Source of Funds Shareholders funds : a) Capitalb) Reserves and surplus Loan funds : Secure loansUnsecured loans Total :

VERTICAL FORM OF BALANCE SHEET

Application of funds Fixed assets : Investments Current assets, loans and advances Less : Current liabilities and provisions Net current assets Miscellaneous expenditure to the extent not written off or adjusted Profit and loss account Total :

Important Adjustments of Final Account Closing stockOutstanding expensesPrepaid expensesOutstanding incomePerceived incomeDepreciationInterest on capital Interest on drawings

Important Adjustments of Final AccountBad debtsReserve for doubtful debtsGoods distributed as free samplesGoods destroyed by fireProvision for taxationProposed DividendTransfers to ReservesAmortization of Preliminary expenses

Internal uses Performance evaluation compensation and comparison between divisions Planning for the future guide in estimating future cash flowsExternal uses Creditors SuppliersCustomersStockholders

Why Evaluate Financial Statements?

Ratio analysis is a technique used infinancial statement analysis (and inother analyses).nIt combines values from the financialstatements to create single numbersthat:lHave easily interpretable economicsignificance.lFacilitate comparisons.

Ratio Analysis

Ratio AnalysisRatios also allow for better comparison through time or between companiesAs we look at each ratio, ask yourself what the ratio is trying to measure and why is that information importantRatios are used both internally and externally

Ratio AnalysisPurpose of Ratio AnalysisUsesTrend analysisComparative analysisCombinationUse by External AnalystsImportant information for investment communityImportant for credit markets

Type of Financial RatiosLiquidity RatiosActivity or Mgmt Efficiency RatiosLeverage RatiosProfitability RatiosMiscellaneous Ratios

Liquidity RatiosCurrent RatioCurrent AssetsCurrent Liabilities

Quick RatioCurrent Assets - InventoryCurrent Liabilities

Activity or Management Efficiency RatiosInventory TurnoverSales or Cost of Goods SoldInventoryTotal Asset Turnover SalesTotal Assets

Activity or Management Efficiency RatiosAverage Collection PeriodAccounts Receivable Sales Per Day

Days to Sell InventoryInventory Sales Per Day

Leverage RatiosTimes Interest EarnedEarnings Before Int. & Taxes Interest Expense

Fixed Charge Coverage RatiosLease PaymentsPrincipal RepaymentsPreferred Dividends

Leverage RatiosDebt to AssetsLong Term DebtAssets

Debt to Equity Long Term DebtShareholders Equity

Profitability RatiosNet Profit Margin %Net Income Sales

Return on Assets Net IncomeTotal Assets

Profitability RatiosGross Profit Margin % Gross Income Sales

Return on Equity Net IncomeCommon Equity

Misc.RatiosEarning Per Share (E.P.S.) = NPAT Prefer. Divd. No. of Equity ShareCapital gearing Ratio Long-term debts. + Pref. Share Capital (Fixed income bearing securities)

Equity Shareholders funds

Misc.RatiosPrice Earning Ratio = Market Price per share = ----------------------------------- Earnings per equity shareDividend Payout Ratio= Dividend per equity share = ---------------------------------- EPS (Earning per Eq. Share). Divisible ProfitEPS = ---------------------------- Total No. of Eq. Share.

Comparability ProblemsAccounting DifferencesInventory ValuationDepreciationInflationInternational Accounting Conventions