INTRODUCTION TO ACCOUNTING

CHAPTER OUTLINE

1. Why Do We Study Accounting? 13. What Comprises the Balance Sheet?

2. What Knowledge is Required in the 14. Basic Accounting Equation.
Study of Accounting? 15. What Comprises the In_come
3. Business and Accounting Statement?
4. Proprietor and Business Have 16. Expanded Accounting Equation
Separate Personalilies 17. What is a Statement of Changes in
5. Importance in Keeping of Business Owner's Equity?
Records 18. trlements of Financial Statements
6. How Can Accountants be of HelPed and Its Account Titles
to Business and Government? 19. Why is Accounting Considered the
7. What is an Accountant? " LangtLcLge of Business"?

B. Career Opportunities of a 20. When I)o Accountants PrePare

Prolessional Accountant Financial Statements?
9. Types of Accounting Informeition 21. Qualities that Financial Statements
10. Generally Accepted Accounting Should Posses
Principies 22. Users of Financial Statements
1 1. What are Financial Statements? 23. Forms of Business Organization and
12. Accounting Does "Wonder" Their Capital Structures
24. Nature of Business

Learning Obiectiaes:
After studying this chapter. we shouLd be able to:
t. fullg und.erstand" why business ls regarded as an entitA that is
separate from the ouner;
2. identifu tuhat are business fransactions as compared to personal
transactions of the ou)ner;
3. leant and acquire familiaritg in the basic fdrmat of a financial
statements, the basrc and expanded accounting equation and
4. learut and understand tlrc basic accounting assumptions'

S. learn and acquire knoutled.ge of uaious account title that are used in
Seruice and Merchandising Concen't.
4 Chaoter 7

WIIY DO WE STUDY ACCOUNTING!

People in all walks of life, be it a professional or non-professional are living
in an era of accountabilitg. We have to pay our income taxes, house rentals,
tuition fees for our children, telephone and light bills, salaries for our house
helpers and many others. We forgot that all of these things we do deals with
accounting. Therefore, it is not a reason that only accountants should study
accounting but the non-accountants as well especially they occupy the
biggest portion of our society.

Accounting is called the "language of busines{, the language we often hear

in most business conversation. But how can we participate actively and
communicate effectively in the business communit5r if we don't speak the
language. It's the way people set goals, measure results and evaluate
performance.

In today's business world, learning and understanding the art of accounting

is not just an uphill climb but rather a survival skill.

wrrAT I(NOWLEDGE IS REQUIRED IN THE STUDY OF ACCOUNTTNG?

Eirstly, it is your analytical ability that counts most; your ability to analyze
transactions and situationai problem requirements. As a beginner, the most
diflicult part is the determination of the correct accounts and amounts to be
debited and credited - the theory of wtwt gou receiued and u;hat Aou gaue
auaA in return. However, we could not discount the truth that there are late
bloomers. There are those who were slow learners during their stint in high
school but excel when they reach in college. Learning ability can be
developed sometimes as one gets mature. Perhaps, it is due to interest and
love of the subject where one reaJizes its importance for a future job
opportunities or it can also be attributed to a teacher - factor especially if the
teacher knows how to motivate well the students - a plus factor.

Secondly, it is your stored knowledge in arithmetic and not mathematics

that are needed. If you know the process of addition, subtraction,
multiplication, division and the reasons why these are applied then, go
ahead!

Thirdly, there is a psychological factor behind. Many students shy away

from accounting subject becaus'e of the impression that accounting is a very
difficult subject. When one thinks he cannot do, nothing happens! It is
different when one says, "Yes, I can". So try and try!!
Lastly, change a little your study habit. Spend more time in your studies
now!. What is four years of sacri{ices, then a lifetime of harvest! Think of
your futuret Regrets will always come at last! To summarize an accountant
must be a USA made. He must have the Understanding, Speed and
Accuracy.
Introductionto Accountlno 5

BUSINESS AND ACCOUNTING

The primary motive of a person engaged in business is profit. To create job

opportunities to others in terms of providing for employment might only be
incidental depending upon the nature of his business and the amount of
capital he invested. As a matter of fact, he sometimes m€rnages his own
business. Thus, he becomes a proprietor-manager. As a profit-oriented
person, he takes interest of knowing how the day-to-day transactions affect
his capital investment.

Accounting helps the proprietor to know how much profit that his business
makes, By putting into records the income earned and the expenses being
paid for is already a simple accounting in itself. But when the business
grows bigger, he can no longer attain to do the recording especially when he
has little knowledge in accounting. It is at this point that the he needs the
services of a person who is a knowledgeable expert professional in this field.
The accountant now enters into the picture in the world of business.

PROPRIETOR AND BUSINESS HAVE SEPARATE PERSONALITIES

The proprietor gives birth and life to a business. No business will exist
without the proprietor. Therefore, they lived together and have oneness of
existence. However, accounting necessitates the separation of the two. That
from the accounting point of view, the business is considered to have a
personality that is separate and. distinct from the owner himself. That the
capital he puts into the business belongs to the business and should be
accounted for separate from his personal. For this reason, a clear
distinction between business transactions and personal affairs must be
established because only business transactions are recorded and reported in
the book of the business. This enables the proprietor to properly determine
whether his business is making profit or not. "Business is business" as
what they say. This is the separate - entity assumption in accounting and
the first accounting assumption that we have studied-

For exarnple, Mr. Melchor Bombeo is engaged in auto repair shop business
named "Classic Auto Repair Services". A11 money and properties that Mr.
Bombeo puts into the business are now owned by Classic Auto Repair
Services and not by Mr. Bombeo anymore. In other words, the personai
ownership of these assets have been shifted from Mr. Bombeo to "Classic
Auto Repair Services" so that his personal and family expenses, such a
food, clothing, salaries for his househelpers, tuition fees for his children,
etc., should be accounted for apart from his business. We should not allow
these personal transactions of Mr. Bombeo to distort the financial report of
"Classic Auto Repair Seryice,s".. Remember, this is only a mere assumption
in accounting which has nothing to do with real situation.
 Chaoter 7

IMPORTANCE IN KEEPING OF BUSINESS RECORDS

Considering the volume of the day-to-day transactions of the business, it is

very difficult for us to rely on our memory or even recall all the transactions
that the business may have entered into. We should keep a "diary" which
will record all the activities lor the day and even for a year. The records that
should be kept by the business for that purpose are called "books of
accounts". What has been recorded in books of accounts are data that are
financial in character which are processed and transformed into a report
form called "financial statements

It is also a government requirement specifically the Bureau of Internal

Revenue that all business establishments should maintain their records for
accurate deterrnination of internal revenue taxes due to the government. It is
also done in compiiance with municipal or city ordinances regarding local
business taxation.

HOW CAN ACCOUNTANTS BE OF HELPED TO BUSINESS AND

GOVERNMENT?

Basically, it is the traditional works of an accountant to determine how

much is the business' prof,it and the corresponding correct amount of taxes
due and payable to the government. Taxes are considered as the "life-blood"
of a nation for how can a nation lived and survived without funds to defray
government expenses in delivering basic services, social and economic
reforms, infrastructure projects and other programs beneficial to its
constituents.

WHAT IS AN ACCOUNTANT?
Strictly speaking, a Certified Public Accountanl is a holder of baccalaureate
degree in Bachelor of Science in Accountancy (BSA) who has taken and
passed the difficult and competitive licensure examination for Certified
Fublic Accountants and carries the title as "C.P.A." who is under the
supervision of the Professional Regulation Commission in the practice of his
profession.
Generally speaking, however, an accountant can be a graduate of BSA
course or any other business related courses who may not have taken and
passed the said examination but whose'basrc knowledge in accounting
courses afforded him the opportunity to handle accounting works but he is
prohibited by law to practice public accounting.

WHAT ARE THE CAREER OPPORTUNITIES OF AN ACCOUNTANT?

Once we become accountants, there we lind several opportunities to grab

with. We can be employed and worked in various fields of endeavor such as
 under this field, 'vve arc in public practicc. And as a publi<:
practitioner, wc havr: two options to choose from. It is eithcr, we will bccome
individual practitioncrs and join partncrship with othcr indivi<lual practitioners
or gctting cmploycd rvith firms of CPAs likc, Punongbayan and Araullo, Sycip
Gorr<.:s Velayo & Co. an<1 many other auditing firms. In which case, we are to
render services to thc public for a fee. Wc are not an employee of thc client
company under audit but assume thc role as "independent entity" vested r,vith
freedom to cxercisc our own judgment in carrying out the engagemcnt requiring
our indcpendcncc and impartiality of the rcport we prcpared. Our work w'ill
include auditing, taxation, management services, etc. Once wc choosc this
ficld, wekilff,iccc)mc a sr:<:toral mcmbcr of the profession, Associcttion of CPAs in
P ublic Pr ctc:tice (ACPAPP) .

.Government Accounting - under this field, we are to render services to the

government. We-willTFemployed in the Department of Finance, Securities
and Exchange Commission, Bangko Sentral ng Pilipinas, Bureau of Internal
Revenue, Department of Budget and Management, etc. At present all cities,
provinces and municipalities which are considered as Local Gouernment
Unffs (LGU) are already employing accountants pursuant to Republic Act
7180 known as the "Local Gouemment Code of 1991". This widens the job
opportunities of accountants. Once we choose this field, we will become a
sectoral member of the profession , Gouernment Association of CPAs (GACPAf
Private Acconntlng - under this field, we will be employed in private firms
'-and hold positions as Chief Accountant, Accounting Manager, Internai
Auditor, Finance Manager or the highest accounting officer of an enterprise
which is known as the "Comptroller". Once we choose this field, we will
become a sectoral member of the profession, Association of CPAs in
Commerce and Industry (ACPACI).

We can also join in the learning institutions and be there as an Accounting

Professor or CPA Reviewer, the unsung heroes who painstakingly prepare
the candidates to the difficult examinations for Certified Public Accountants.
"member
Once we choose this field, we will become a sectoral of the
profession, Association of CPAs in Education (ACPAE).
Other accountants become entrepreneurs in their own rights. They managed
their own businesses. With all these, can we imagine how versatile the
accountants are?
All CPA's are members of the national organization known as "Philippine
Institute of Certified Public Acuuntants' {PICPA).

TYPES OF. ACCOUNTING INFOR}IATION !

Just as there are many types of economic decisions, there are also many
types of accounting information. The terms Financial Accounting,
Auditing, Management Accounting, Tax Accounting, Financial
Management, Cost Accounting and Government Accounting are arnong
I chq"t , I
the types of accounting information that are specialized by a professional
accountants most widely used in business communit5r:

@tlng-concernSprimarilyindescribingthefinancia1
resources, obligati6iSland activities of an economic entity resulting to the
preparation of general-purpose financial reports on financial position and
operating results.
Audlttng - these are classified into two; internal and external auditing.
rlE6-ffiAbr sees to it, that the established accounting procedures are being
followed throughout the year. It determines strict adherence to management
policies and measures the efficiency of operations. These are usually
performed by its own employees or sta-ff of the company while the latter is
performed by an independent professional accountant, who critically
examines t.l-e book of accounts and renders an opinion on the fairnes6 of
financial statements being examined.
Management Accounting is primarily concern with the designs,
accounting system intended specifically to
p management in running the business.
Tex Accounting - involves the preparation of income tax returns and the
determination of correct amount of taxes due and payable to the
government. The most challenging aspect of tax accounting is not the
preparation itself, but the tax planning which is anticipating the tax effects
of business transactions and structuring these transactions in a meulner
that will minimize the income tax burden.
Financlal Management - this is a new type of accounting information
wherein its primary concern is to set-up financial planning objectives-
including the sources and application of its resources beneficial to the
economic entity.
Cost Accounligg - concerns primarily on cost collection, allocation and
cbntfOl-Of@ucing goods and services.
Government Accounting - deals primarily on the proper custody of pubFc
funds in both national and local government, such as cities, provinces,
municipalities and barangays.

GENERALLY ACCEPTED ACCOTTNTING PRTNCTPLES (cAAp)

Generallg Accepted Acaunting Principles are uniform set of accounting rules,
procedures, practices and standards that are followed in preparing the
accountant's reports-financial statements. We have to bear in mind that the
practice of accountancy profession is continually evolving and develcping to
meet the changing needs of time. And as time changes, new aceounting
principles emerge as business organizations enter into a new forms of
business entity. Let us emphasized therefore, that there is no comprehensive
list of Generally Accepted Accounting Principles.
 , sfrr
@_underthisfie1d,\^/earCinpub1icpracticc.Anda,sapub1ic:
practitioner, wc havc trvo options to choose from. It is either, rve will bccome
individual practitioncrs an<l join partncrship with othcr individual practitioners
or getting cmployed with firms of CPAs likc, Punongbayan and Araullo, Sycip
Gorres Velayo & Co. ancl many other auditing firms. In which case, we are to
render services to thc public for a fee. Wc are not an employee of thc client
company under audit but assumc the role as "independent entity" vested with
frcedom to exercise our own judgment in carrying out the cngagement requiring
our indcpendcncc and impartiality of thc r<:port we prcpared. Our work will
include auditing, taxation, management services, etc. Once we choose this
ficld, we.Eilfffiomo a scctorerl mcmbr-'r of the profession, Associalion oJ'CPAs in
Public Prac:tice (ACPAPP).

-lQovernment Accountlng - under tJ'is field, we are to render services to the

government. We-willTE-employed in the Department of Finance, Securities
and Exchange Commission, Bangko Sentral ng Pilipinas, Bureau of Internal
Revenue, Department of Budget and Management, etc. At present ail cities,
provinces and municipalities which are considered as Local Gouernment
Unffs (LGUf are already employing accountants pursuant to Republic Act
7180 known as the "Local Gouernment Code of 1991". This widens the job
opportunities of accountants. Once we choose this field, we will become a
sectoral member of the profession, Gouerrtment Association of CPAs {GACPAI
Private Ac - under this field, we will be employed in private firms
-and hold positions as Chief Accountant, Accounting Manager, Internal
Auditor, Finance Manager or the highest accounting ofhcer of an enterprise
which is known as the *Comptrollef . Once we choose this field, we will
become a sectoral member of the profession, Association of CPAs in
Commerce and Indusfry (ACPACI|.

We can also join in the learning institutions and be there as an Accounting

Professor or CPA Reviewer, the unsung heroes who painstakingly prepare
the candidates to the difficult examinations for Certified Public Accountants.
Once we choose this field, we will become a sectoral'member of the
profession, Association of CPAs in Education (ACPAE|.
Other accountants become entrepreneurs in their own rights. They managed
their own businesses. With all these, can we imagine how versatile the
accountants are?
All CPA's are members of the national organization known as "Philippine
Institute of Certified Public Acantntonts' (PICPA).

TYPES OF. ACCOUNTING INFORMATION

Just as there are many types of economic decisions, there are also many
types of accounting information. The terms Financial Accounting,
Auditing, Management Accounting, Tax Accounting, Financial
Management, Cost Accounting and Government Accounting are arnong
tJre t5rpes of accounting information that are specialized by a professional
accountants most widely used in business community:

@tlng_concernSprimarilyindescribingt}refinancia1
resources, obligaii6h-sland activities of an economic entity resulting to the
preparation of general-purpose financial reports on financial position and
operating results.
AudlUng - these are classified into two; internal and external auditing.
rlTG-ffihbr sees to it, that the established accounting procedures are being
followed throughout the year. It determines strict adherence to management
policies and measures the efficiency of operations. These are usually
performed by its own employees or staff of the company while the latter is
performed by an independent professional accountant, who critically
examines the book of accounts and renders an opinion on the fairnes'S of
financial statements being examined.
Management Accounting is primarily concern with the designs,
a accounting system intended specifically to
lp management in running the business.
Tax Accounting - involves the preparation of income tax returns and the
determination of correct amount of taxes due and payable to the
government. The most challenging aspect of tax accounting is not the
preparation itself, but the tax planning which is anticipating the tax effects
of business transactions and structuring these transactions in a manner
that will minimize the income tax burden.
Financlal Management - this is a new type of accounting information
wherein its primaqr concern is to set-up financial planning objectives-
including the sources and application of its resources beneficial to the
economic entity.
Cost Accou.ting - concerns primarily on cost collection, allocation and
cd-n@p?;roducin g goo d s an d service s.
Government Accounting - deals primarily on the proper custody of pubFc
funds in both national and local government, such as cities, provinces,
municipalities and barangays.

GENERALLY ACCEPTED ACCOUNTTNG PRINCTPLESI {cAApl

Generallg Accepted Acaunting Principles are uniform set of accounting ruleS,
procedures, practices and standards that are followed in prepariag the
accountant's reports-financial statements. We have to bear in mind that the
practice of accountancy profession is continually evolving and developing to
meet the changing needs of time. And as time changes, new aceounting
principles emerge as business organizations enter into a new forms of
business entity. Let us emphasized therefore, that there is no comprehensive
list of Generally Accepted Accounting Principles.
 Some of the Genera-lly Accepted Accounting Principles that are followed and
are stili applicable for use are:
*C.o.St-Pll49!!Ie this principlc rcquires that assets should be recorded at
origrnal or acquisition cost. Example, if we bu-v a land todalr, say the cost is
1 Mi1lion, three years after, the current value of the iand is approximately
2.5 Million. What wiil prevail in the record is thc I Million and not the 2.5
Million because cost is de{inite and verifiable. The value exchanged at the
time land is acquired generally can be objectively measured. This principle
draws controversy but despite of this, cost continues to be used in the
accountant's reports because ol its reliability. However, the philippine
Financial Reporting Standards (PFRS) sacrihces reliability and verifiibility
in favor of fair value measurement.

-OqieclYttJ Pr-inc:iple-- this principle requires that accounting records

should be based on reliabie and verifiable d.rta as erridence of transactions.
J{Lterl4ljty-Br!,ngipt" - this principle dictates practicabiiity ro rule over
theorv in determinihg the valuation of an itcm. To determine whether the
item is material or not, it'is a matter r;f professionarl judgment on the part ol
the accountant.
l4gtr44gt-1g_elple_= lhis is the combined concc:pt of Revenue Recognition
and Expense Recognition Principles. Revenue shor-rld be recognized q,hen
earned and corresponding expense should be'recognizcd when incurred
during the same period as rev-enLre is earned. Proper matching of revenue
and cxpense are callcd for. Example, rc\renues ancl expenses are recognized
only when they are earned and incurred in Lhe same vear. In other words,
you couid not deduct the expenses incurred in 2OO9 from the revenues
earned in 20 10. It is a violation ol this principle.

Consi P+iaeiple. - this principle requires that accounting methods

9e5tsteney
and proccdurcs should bc applied on a uniform basis from period to period
to achieve comparabilitlz in the financial stalcments. However, per pAS No.1,
Prese-n.ta.tiort of ltinancial Slatemerrls, it aliows chainges if iustifiable and
disciosed in the financial slatements, thal is, r.vhcn there is a significant
change in the nature of the business opcration.
Adequate Disclosure Principle - this principle requires that financial
statemcnts should be lree from anv material misstatement; that if there is
an,v, propcr disclosure should be made.

WHAT ARE FINANCIAL STATEMENTS?

The accountanl's reports to the proprietor,*hich are consic{ered the "erud.

products" qf the accounting process are ca1led "Jinctncial staternents". The
,.lbjective ol linancial statements is to provide inlormation about the financial
condition and operating results of an enterprise that is vital in making
sound economic decisions.
70 Chapter 7

The volume of records and documents that are being gathered and kept by
the business from the one-month period up to one whole year are daily
recorded, classified, summarized, processed and transformed or conuerted
into two (2) sheets of a computerized or t54pewritten reports only - Balance
Sheet and Income Statement.
(WONDER,,
ACCOUNTING DOES

Just imagine, the volume of records will be reduced and converted into two
(2) sheets of paper only? See how accounting does wonder? Does this catch
your interest on the subject?

(The volume of records and documents are made lnto balance sheet and
income statementf

daily recorded,
clessified,
BelsDae thesi
summarlzed,
processed
and
transformed
or
converted iuto ni r:l

sAccountant's Reports"
Flnancial Statements -

If so, then the Balance Sheet and Income Statement are presented to you
at the start of your study in accounting so that you will have an idea or clear
picture of what you are expected to accomplish after learning the application
of various procedures of the accounting process. You will be able to see then,
tt:e "uthg'of each step and this will facilitate your learning of tlc.e "tnut" or
the mechanics of its preparation.
IntrodacllontoAccountlna 77

WHAT COMPRISES THE BALANCE SHEET?

Balance Sheet or Statement of Financial Position is a statement which

shows the financial,condition of the business as of a given date. It shows the
Assets, Liabilities, and Owner's Equity which are called "Accounting Values".
The se accountin g value s are consi d et e d " Pe rmane nt' A ccoltnts " .

Assets are things of value or rights that are owned ano used by the business
in the conduct of its operations such as cash, and cash equivalents,
merchandise inventory, supplies inventory, prepaid expenses, accounts
collectible by the business w,hich we termed as "Receiuable", furniture and
fixtures, machinery and equipment, building. land, etc.

Liabilities are deLrts or financial obligations of the business that are payable
in cash or in some kind of assets such as Accounts Payable, Notes Payable,
Saiaries Payable, Mortgage Payabie, etc.

Owner's Equity - in layman's language, this refers to money or value of

property put by the proprietor into the business to start with which refers to
"Initial Inuestmenf". Owner's Bquity will be increased by profit and decreased
by iosses. Most often, Owner:ls Equity is the residual interest in assets after
deducting all the liabilities. It is expressed in the equation as Assets less
Liabilities equals Owner's Equity (A-L=OE). Thus, if:

the business owns (assets) P 90,000

less what the business o\\res (liabilities) 70,000
equals what is left for the business (owner's equity) P 20,000

Presented on the next page is a sample Balance Sheet of a "SERVICE

CONCERN" for Mactan Auto Repair Services as of March 31, 2OA prepared
under " ctccount form2.
 Heading ofthe Balance Sheet:
1. Name of the business or name of the
proprietor
2. Title of the report
3. Date when the report is prepared

Mactan Auto Repair Services

Balance Sheet
As of March 31,2OA

Assets Liabilities and Owner's EquitY

Current Assets: Liabilities
Cash in Bank P1,048,000 Current.Liabilities
Petty Cash Fund 1,000 Notes Payable P 458,000
Accounts Receivable P120,000 AccountsPayable 30,000
Est. Uncollectible Accounts 2.400 117,600 Accrued Utilities 27.300
Prepaid Interest 73,500 Total Curent Liabilities P 515.300
Shop Supplies Inventory 2.000
Total Current Assets P1.242.1'OA

Non-Current Assets:
Property and EquiPment Owner's EquitY
Furniture and Equipment P 250,000
Accumulated DePreciation 3.000 B. Pozon, Capital P 973.BOO
Total Non-Current Assets P 247.OOO Total Liabilities
Total Assets P1'489'1OO and owner's Equity
l_tf?:r_99

What financial information can we get from a Balance Sheet?

The Balance Sheet tells us the following information:
How muchthe business olUns2 1,489,100
(Referring to Assets)
Hou much the business oues? 515,300
(Referring to Liabilities)
Hota much is lefi for the business? 973,800
(Referring to Owner's EquitY)

In this report, the following series of questions can be asked from trre
business?
1) How much do I owe mA creditors or suppliers?
2) Can I pay mg financiat obligations whentheg fall due?

If the Balance Sheet can only "talk", he is going to tell us further that of the
p1r489r100 assets that it owns, P515,3OO represents the claims from
creditors and the balance of F973,8OO is what is left for the business which
represents the claim of the owner. In other words, the assets of the business
are subject to the claim of the creditors at one hand and the owRer on the
other hand.
IntroductlontoAeeqantlng 73

BASrC ACCOUNTTNG EQUATTON

At all times, the total assets must equal to the total liabilities plus owner's
equity as expressed in the equation.

Assets = Liabilities + Owner's Equlty

Assets are found at the left-hand side of the equation which we termed as
oDebit'while Liabilities and owner's Equity are found at the right-hand
side
of the equation which we termed as "Credit". The linal rule is that the "total
of the lefi uill ahaags equal to the total of the right". This is the sisnificance of
the double-entry system of bookkeeping.
Substituting our equation with the Balance Sheet data:

Assets = Liabilities
+ Owner's Equity
P L,489,LOO = P 515,3OO P 973,8OO +

If the owner wants to know his proprietary interest irr the business, the
accounting equation may be slightly modified and restated as follows:

Equity = Assets
Owner's Liabilities
P973r8OO = P1,489,1OO- P515,3OO

This can be gleaned further in the skeleton form of a balance sheet under
"accountform":

Mactan Auto Repair Service

Balance Sheet

Left or Debit Right or Credit

Liabilities and Owner's Equitv

Total Liabilities P515,300
Total Owner's Equity
Total Assets P1,489,100 Total Liab. & Owner's Equity P1,489,100

In the above T-account, assels arc shown at the left or debit side and
Liabilities and Owner's Equity at the right or credit side.
 , , Cluptcr,T

WHAT COMPRISES THE INCOME STATEMENT?

Income Statement or Statement of Comprehensive Income is a statement

which shows |ne "results of operation" of the business for a given period of
time. It shows the Reuenue or Income earned and Cost and Expenses
incurred which are consid ered. "temporary ACCountS". The accounting values
or permanent accounts when shown together with temporary accounts are
calied accounting elements or elements of financial statements.

The period covered by the Income Statement may be:

"For the month ended

"For the quarter ended
"For the gear ended

Revenue or Income - denotes money or proceeds from services rendered

by a servicing company or income from use by other entities of the
resources of the enterprise such as Rent Income, Royalties' etc' Servicing
companies like Auto Repair Shop, Laundry Shop, Barber Shop' Beauty
Parlor, etc. It also includes sale of merchandise'

cost and Expenses - denotes the benefit received by the business_ from
its use which had helped in carrying out its operation, like salaries
expense, rent expense, repairs and maintenance, taxes and licenses, etc'
It ilso includes the cost of inventory being sold'
oprofit',
Profit (Loss) - the excess of revenues over expenses is called
while the excess of expenses over revenues is "7oss"'

Basically, the Income Statement features the following:

Sales Revenue or Income P xx
- Cost and ExPenses xx
= Profit P xx
=====

Presented. on the next page is a sample Income Statement of "SERVICE

CONCERN" for Mactan Auto Repair Services prepared under t]ne '"modified
single-step" format for the period ended March 31' 20A'
 Introductlonto Accountino Is

Headlng of the Income Statement:

1. Name of the business or name

ofthe proprietor
2. Title of the report
3. The period covered by report

Mactan Auto Repair Services

For the *:""".f::i::'f irt","h 2oA

Revenue:
Income from Repairs P530.000
Expenses:
Uncollectible Accounts 2,400
Depreciation Expense 3,000
Shop Supplies Used 28,000
Rent Expense 25,O00
Taxes and Licenses 29,000
Salaries and Wages 60,000
Utilities Expense 27.300
Total Expenses P174.700
Profit Before Finance Charges P355,300
Less: Finance Charges
Interest Expense 6.500
Profit for the month P348,800

The Income Statement answers the following questions:

1) Does the business make profit?

2) Does the buslness inanr a loss?

The business makes "profit' if the revenue earned is bigger than the
expenses incurred. on the other hand, the business suffersi .,/oss, if the
expenses incurred are bigger than the income earned during the period.

If the business makes prolit, the following series of questions can be asked:

1) Can I afford to hire additional employees?

2) What costs can I ant-down to maximize profit?

The information presented in an income statement is usually considered the

most important information provided by hnancia-l accounting because
profitability is the paramount concern to those interested in the ."o.ro..,i"
activities of the enterprise.
EXPANDED ACCOUNTING EQUATION

In our study of the Baiance sheet, we iearned the basic accounting equation
which u.." ,.u Balance Sheet components, A=L+oE. This time, we introduce
to you the expanded accounting equation whereby we are'putting together
the components of Income Statement which are the Revenues and
and
will
Expenses. As we said, Revenue will increase owner's Equity
be
decreased by Expenses and owner's withdrawal. Hence, the expanded
accounting equation is:

Assets = Liabilities + Owner's Equity ( +Revenue - Expenses)

data,
Substrtuting this equation with Balance Sheet and Income Statement

Assets Liabilities Owner's EquitY (+ Revenue - ExPenses)

P1,489.1OO P515,3OO P625,OOO (+P530,OOO - P181,200)

OR

Assets = Liabilities + Owner's Equity

P1,489,1OO=F515,3OO + P625,OOO
+ 53O,OOO (Revenue)
181.2OO (ExPenses)
P973,8OO

In short, we again go back to the basic accounting equation

as:

Assets Liabilities i Owner's EquitY

P1,489,1OO P515,3OO + P973,8OO

The amount of Drawing or withdrawal of P25,0OO ofand

owner's Equity
changes in owner's
beginning of p65o,000 Jan be seen in the Statement
nq-ri,V wiiicfr is shown on the next page with
aster risk'
IntroductlontoAccountlno 77

WHAT,IS A STATEMENT OF CHANGES rN OWNER',S EQUITY?

A Statement of Changes in autner's Eqtitg is a statement that summarizes

the changes in equity for a given period of time. The beginning equity of the
owner is increased by the additional investment and profit.
Correspondingly, it is decreased by the withdrawal and loss.

Shown below is a sample of the Statement of Changes in Owner's Equity for

Mactan Auto Repair Services for the month ended 31 March 2OA.

Headlng of the Stetement:

1. Name of the business or narne
of the proprietor
2. Title of the report
3. The period covered by report

Mactan Auto Repair Services

Statement of Changes in Owner's Equity
For the month ended 31 March 2OA
B. Pozon, Capital - March 1,2OA P65O,OOO*
Add: Profit for the month 348,800
Total P 998,800
Less: Withdrawal 25.OOO*
B. Pozon,'Capital - March 31, 2OA P 973,800

The Statement of Changes in Owner's Equity answers the question on:

Whqt caused the Outner's Equitg of Mr. B. Poz,on to increase

from P65O,OOO to P973,8OO?
Looking at the Statement of Changes in Owner's Equity, we say that the
beginning equity of Mr. Pozon in the amount of P650,0OO has increased to
P973,8O0 caused by the results of operations. The amount of the increase is
calculated as follows:
Owner's Equity, end P 973,800
Owner's Equity, beg. 650.000
Increase in Owner's Equity P 323,800

The increase in Owner's Equity by P323,8OO is accounted for as follows:

Proht for the month (increase in owner's equity) P 348,800
Less: Withdrawal (decrease in owner's equity ( 2s.000)
Net Increase in Owner's Equity P 323,800
lP, Chq.pter 7

Preliminary Testing

Illustration I If assets are P300,000 and owner's equity is P100,000, how

much is the claim from outside creditors?
o**=="3o=o='=Y

claim of the owner's equity over these assets is P150,000,

how much is assets?
A*":1133:333

3 - If assets are P400,0O0 and the claims from outside

creditors over these assets are P25O,0OO, how much is
owner's equity?

""" i=113:133
THE ELEMENTS OF FINANCIAL STATEMENTS AND ITS ACCOUNT TITLE

Account Titles are identifications or bief d.esciptions of items tlrut falt to the
same kind, class or nature. in recording business transactions, the elements
of hnancial statements. are to be assigned with each individual names. In
other words, it is a part of our study in accounting where we are to give or
assign names to varioirs accounts included in the exchanges of accounting
elements.

Here are the different account titles which we have ciassified into Balance
Sheet and Income Statement Accounts.

ASSETS - Per PAS No. 1, Assets are classified into two, namely: current
assets and non-current assets.
IntroductlontoAccountlnq . 79

Current Assets - reler Lo all assets that are expccled to be realized, sold or
consumed within the enterprise's normal operating cycle. Operating cycle is the
interval of time from the date of acquisition of rnerchanclise inventory; sell the
invcntory Ld customers and thc ultimatc colk'ction olcash from the sa1c.
Cash- the account title to describe monc\', eithc.r in paper or in coins ancl
money substitutes like check, postal monev orders, bank drafts and
treasury warrants. When cash is within the premise of lhe business, the
accourrt title is Ca.sh on Llarud and Cash in Bank if deposited in the bank.
Pettg Cash Fund - the account title lor moncv placed and set aside for petty
or small expenses. This exists when busincss used the imprest system of
kecping cash.
Ccsh Equiualents - PAS No. 22 delines cash equivalenLs as short rcrm.
highly liquid instruments that are readily convcrlible into cash and they
present insignificant risk of changes in valur:s bccause of changes in interest
ra te s.

Notes Receiaable - lhis is a promissory nole thal is received b}, the business
from the customer arising from rendering of services, sale of merchandise,
etc.
Aecounts Receiuable - the account title tor amounts collectible arising
services rendered to a customer or client on credit or sale of goods to
customers on accounts. This constitutes an oral or verbal promise to pay by
a customer or client.
Estimated tlncotlectible Accounts - thrs is an asset olfset or a contra-asset
account. It provides for possibie losses fr-9.;qglqollgrtecl accounts. Although
this is n ed as such because it is shown as a
deduction from the Accounts Receivable which is a Currcnt Asset Account.
Accrued Income - the zimount of incorne earned but not yet collected.
Ad,uances to Ernplogees the account Litlc for amounts collectible lrom
employees for allowing them Lo make cash advanccs which are deductible
against thcir saiaries or wages.
Inuentories - Per PAS No. 4, these are assets which are (1) held for sale in
the ordinary course of business; (2) in the process of production for such
sale; or (3) in the form of materials or supplies to be consltmed in tiie
production pl'ocess or in thc rcndering of services.
Prepaid Expenses account title lor expenses that are paid in advance but
are not yet incurred or have not yel expired such as Prepaid Rental, Prepaid
Insurance, Prepaid Intcrest, Prepaid Adverlising, etc.
Unused Supplies - al,r account title for cost of stationery and other supplies
purchased for use but are left on hand and stil1 unused. The account title
should be specifiecl as to (Jnused, Office Suppties if intended for the office,
Unusecl Shop Supplies if intendcd lor the shop, etc.
 Chanter 7

Non-Current Assets - "all other assefs not classified as cLtrrent should be

clas sified as nan-afiTen, assels ".
Prapertg and igquiprnent - thc International Accounting Standards No.16
defines property and equipment as "tangible assels uthich are held by an
en.terpise for use in proclur:tiort or :trypl11 of ooocls and seruices, .for rental to
others, or for administratiue lturytrsses, arzrJ rtre expected to be used duing
more Lhan one period", such as:
Land. - an accor-lnt title for the site where the building used a's office or store
is constructed.
Building - account title for a finished construction owned by the business
where operations and transactions took piace.
Machinery and. Equipment - includes calculators, typewriters, adding
.machines, computers, stecl liling cabinets and the 1ike. If these are used in
the office, the account title ts O.Lfrce Dquipment and if used in the store, Store
Equipment Trucks, jeeps, vans, automobile$- and other kinds of motor
vehicles are used exclusivelv lor delivering goods, the account title is
Deliuery Equipment.
Furniture &, Firtures - includt-'s chairs, tables, counters, display cases and
the like. If these are used in thc olfice, the accounl title is Offtc:e l;urnihre &
Fixtures and if these are used in store, thc account titlc is Store Funtiture &
l,'txtures.
Accumulated Depreciation - this is an asset offse-t or contra-assef account.
This is called a Valuation Accctunt which is shown as a deduction from
property and equipment.
Intangible Assets - Per PAS No. 38, these are identifiable non-monetary
assets without physical existence. Examples are patents, copyright,
lranchise, trademarks, eLc.

The assets that are classified as Property & Equipment or Fixed Assets are
cal1ed Depreciable Assels and are subject to Depreciation except "la.nd".
Land is not subject to deprecialion because it is expected to be useful to the
business enterprise for an indefinite period of time.

LIABILITIES
Current Liabitities - arc financial obligations of the enterprise which are (a)
expected to be settied in the normal course of t1-re operating cycle; (b) due to
be settled within one year lrom the balance sheel date.
Account Pagable - an account title.for a financial obligation of an enterprise
that constitutes an oral or verbal promise to pay.
iVotes Pagable (short-term/ - same as Accounts Payable in nature but only
the obligation is evidenced by a promissory note. The enterprise is the one
who issued the note.
Accnted Expenses - these are expenses incurred by the enterprise but are
not yet paid. This normally occurs when the accounting period ended, such
as rent, salaries, interest, taxes payable, etc.

unearned Income - this is an account title for an income collected or

received in advance and is not yet considered as "banted".

Non-current Liabilities - are financial long term obligations of the

enterprise which are due and payable for more than on€ ysap. This usually
occurs in a corporate form of business organization.

JVotes Pagable (long-term)- same nature with that of Notes Payable (short-
term) but only, this requires payment for more than a year.

Mortgage Pagable - a financial obligation of the enterprise which requires a

fixed or tangible property to be pledged as a collateral to ensure payment.
This is usually found in a corporate business organization.

OWNER'S EQUITY OR CAPITAL - is the residual interest in the assefs of the

enterprise after deducting all its liabilities. It is expressed in the equation as
Assets less Liabilities equals Owner's Equity or Capital. It is increased
when there is Profit or additional contributions by the owner and decreased
when there is loss or withdrawal by the owner. In layman's language,
Owner's Equity or Capital is the amount of money or value of property put
by the proprietor into the business to start with the operation which is
referred to as "Initial Inuestment" or "Initial Capital'. Capitai is synonymous to
" Proprietorship", " Propietary Interest" or " Netuorth"
-

The owner's capital be given a title by indicating the name, with the word
capital written after the name which is separated by a "comma". Thus , if
the owner's name is Robert Jaworski, the title for his capital account is:

"Robert Jaworski, CaPital"

Withd.rawal - The owner's withdrawal is tkervise indicated by the use of the
owner's name with the word Draving or Personal written after the natne
which is separated by a comma. Thus, if the owner is Robert Jaworski who
made withdrawal, the title for his drau'ing account is:

"Robert Jaworski, Personal" or "Robert Jaworski, Drawing"

Income & Expense Summary - this is a temporary account created at the
end of the accounting period where Income and Expenses are temporarily
closed to this account.
INCOME or REVENUE

Sales - refers to the account title for merchandise sold either in cash or on
account.
Sales Rbturns & Alloutances - this is a reduction from sales account for
goods that were sold but were returned by the buyer for bad order or not
conforming with the order. This is a reduction lrom sales account.
Scles Discounts - refers to discounts given to Lruyers for early payment of
merchandise purchased on account or payrnent within the discount terms.
This is a reduction from sales account.
Sentice Income - In general, this is the account title used for all types of
income derived from rendering ol services. Sometimes the account title used
rs Seruice Reuenue. Other spebific income account titles used are:
Professional Income - the account title generally used by professionals lor
incorne earned from the practice of their profession or may be specified as
Accounting or Auditing Fees Income for Accountants, Legal Fees Income for
La.wyers, Dental Fees Income for Dentists, Medical Fees Income for Doctors, etc.
Rental Income - for income earned on buildings, space or other properties
owned and rented out by the business as the main line of its activity.
Interest Income - for income received by the business arising from an
amount of money borrowed by a customer and is usually covered by a
promissory note. This is typical in a lending institution.
Miscellaneous Income - for income earned by the business which is not the
main line of its activity and could not be clearly classified.

COSTS AND EXPENSES

cosrs
Cost ofscrles or Cost of Good.s SoId - refers to ('osl to produce and seil the
rnerchandise (under perpetual inventory system).
Freight-In - refers to transportation cost incurred in buying goods. Under
periodic system, this is not an expense on the part of the business-buyer but
"cost" which is an adjunct account to purchases while under perpetual
inventory system, it is considered as merchandise inventory.
Prtrchases - the account title for "merchandise" purchased under the
periodic inventory system. Under perpetual inventory system, the account
title is "merchandise inventory".
Introductlonto Aicountlna 23

Prtrchase Returns & Attowqnces - refers to cost of merchandise that were

purchased but returned to the suppliers for bad order or does not conform
with the specifications (Periodic Inventory System). This is reduction from
purchases account. Under perpetual inventory system, it is a reduction
from merchandise inventory.
Purchase Discounts - refers to discount availed for early payment of
merchdndise purchased. (Periodic Inventory System). This is a reduction
from purchases account. Under perpetual 'inventory system, it is a
reduction from merchandise inventory.

ExPENSES
Freight-Ottt - refers to transportation cost of merchandrse sold.
Supplies Expense - this represents cost of supplies that were used and
consumed that bears specific titles as office supplies expense, store supplies
expense, shop supplies expense, etc.
Rent Expense - for the amount paid or incurred for use of property, usually
premises.
Repairs qnd Maintenance - for expenses incurred in repairing or servicing
the buildings, machineries, vehicles, equipment, etc., which are owned by
the business.
Sctaries Expense - for compensation given to employees of a business. It
may be specified as Office Salaries, Salesmen's Salaries, etc.
t1ncollectible Accounts - for the anticipated loss that the business may
incur arising from uncollectible accounts.
Depreciation Expense - for the portton of the cost of property and
equipment or fixed assets that has expired based on rational and systematic
allocation procedure.
Taxes and. Licenses - for the amount paid for business permits, Iicenses
and other government dues except the Income Tax paid which is not
ailowable by larv as a deduction.
Insurance Expense - account title for the expired portion of the insurance
premium paid.
tftilities Expense - the account title for telephone, light and water bills.
Also included are gasoline, lubricants and oil'
Miscellq.neous Expense - any amount paid as expense which is not
significant enough to warrant a particular classification.

WHY IS AC@UNTING CONSIDERED TIIE'T,AIYGUAGE OF BT'SINESS''?

The business and the owner or management are bei-ng separated and the
financial statements became tine "bidge of communication" between them.
We noticed that the financial statements prepared by the accountant were
 24 Chanter L

used by the business as a tool to communicate to the owner or management

and various users/decision-makers who are inter:ested about, these
activities, such as investors,' employees, ienders, suppliers, government
agencies, etc.

unmcI}IQ -cor-ovrurlucamo}t
rirnaugial
th,ougD s,tat@ootg
I
-: \qlM$&i$
' '-.:tqfffi

VARIOUS USERS
- 6Decision:lllakers;

Ihu way communicatio'

With the help of the accountant, the business was able to tell them what it
has accomplished in the course of its operation in a brief manner but
concise and complete by using technical terms or accounting terminologies
which are understandable in the world of business. ' Foi this reason,
accounting is considered the "language of business".

WHEN DO ACCOUNTANTS PREPARE THE.FINANCIAL STATEMENTS?

The business has a continuous life of existence. when it starts, it is
assumed that it wili continue to operate for an indefinite period of time. This
is the continuitg or going-crn.irn assumption in accounting. This is the
second aecounting assumption that we have studied.
considering the length of time involved in its operations, it is very
irnpractical for the owner to wait until the business stops to operate before
he would be able to know the resuits of operations and financial condition of
the business. The life of the business is then divided into equal periods
wherein at the end of each period, financial statements a_re prepared.- These
periods are being ref,erred to as iAccounting Periods'. This is ttre period,icitg
concept or time-period assurnption in accounting and the third
accounting assumption that we have studied.
This explains why financial statements are prepared and communicated to
the owner of the business or various users/decision-mak ers operiodicallg,.
 Speaking of accounting periods, it cap be a period of:
l,Month - uhere financial statements are prepared at the end of euery month.
we call this on a "MonthJg Basis". , ?his is the stwrtest acmunting periocl.
3Momths - where financiat statements are prepared. at the end of euery three
months. We call this on ci "Quarterlg Basls".
72 fitront,r.ls - uherefinairciat stqtements are prepared at tle end. of euery twelue
months, We call this on a "Yearlg' or oAnnual Basis.
The length.of accounting period o"..,,depends on the need of the owner for
"t
financial information about his business. ,Most often, however, the business
adopts an accounting period of one year. The accounting period of less than
a 5iear is called "fi.scal period and the financial 'statements prepared,are
being referred to as "interimfinancial statements,
The owner or management has three (3) annual accounting periods to
choose from 'as far as periodic .eport.g of financial statements are
concerned,,these are:
Calendar Year - the accolrnting period will'begin on Januar5r 1 and will end
on'December 31 of the salme yea-r. This is the most common annual
accounting period that the' business adopts because this is the nearest
accounting period wherein business entities file their Income Tax Returns.
The business records are closed bn December 31 and the deadline for filing
.the said returns is April 15 of the next year.

Fiscal Year -the accour\ting feriod will begin on the first day of any month
of the year except January and will end on the last day of the twelftii month
completing the one year period.' Example, if the period begins on July 1,
20A, it will end on June 30, 20E}.
''i

Natural Buslness Year - is a twelve-month period that ends on any month

when the business is at the lowest or experiencing slack season. e*ur.rpi.,
fiscal year for.the hotel industry wheri the stJt is the point of slatk in"
visitorS and ends up at its peak season.

An enterprise. may adopt any of ttre preceding period. The basic

consideration in the choice of an accounting periodis that the accounting
period chosen niust be reflective of thb *resulls'of operations."

QUALITIES TIIAT FINANCIAL STATEMENTS SHOULD POSSESS ,

The new framework accounting mentions that the following are the
qualities that financial_of
reports should possess to be more useful, to"wit:-
Understandability this means that linancial statements should be
prepared and presented in a way that it can be understood by the
users.
Users Erre expected to study the linancial information with- reasonable
diligence and assumed to have reasonable knowledge of business, economics
and accounting.

Reliability - financial information should carry the degree of "confidence',

when used by interested parties. To be reliable, it must be "free from
material error" that will lead to material misstatement, it must be fairtg
presented and must be free frombias.

Relevance - this mezrns that financial statements are prepared intended to

help users make informed economic decisions. For example, a balance sheet
is relevant in determining "financial condition" just as the income statement
is intended for measuring the entity's "performance." These help them
evaluate past and present economic events and effect corrective measures in
the future

Comparability - this means that the financial statem".t" pr.pared are

worth comparing for with other companies of the sarne. line of business by
pointing out similarities and differences

Consistency - once a method or practice is selected from alternatives, it

should be followed from period to peiod. The consistency of procedure or
method does not only maintain tJ:e comparabilitg of periodic statements but
also implants reliability in the reports.

USERS OF FII{ANCIAL STATEMENT

Financial accounting information is used by a varietSr of groups and diverse

purposes. The needs and expectations of users determine the t5rpe of
information required. The users of financial statements and their
information needs follow:
Investors - They need information to help them determine whether they
should buy, hold or sell. Shareholders are also interested in information
which them to assess the ability of the enterprise to pay dividends.
"rr"bl.
Employees - Employees are interested in informatron about tJ:e stability
,rrdp.lftt"Uility oi tJre enterprise. They are interested in information which
enables ttrem to assess the ability of the enterprise to provide remuneration,
retirement benefits and employment opportunities.
Lenders - Lenders are interested in information which enables them to
determine whether their loans and interest thereon will be paid when due.
Suppllers and other trade credltors - These users are interested in
infirmation which enables them to determine whether arnounts owing to
them will be paid on maturitY.
Customers Customers have an interest in information about the
continuance of an enterprise especially when they have' a long-term
 Introductlon to Aq,countlno ' 25

Speaking of accounting periods, it can be a period of:

T,Month - uthere finoncial statements are prepared. of the end of euery month.
we call this on a "MonthJg Basis". ,?his is the slnftest accounting period.
3 Month,s- where financial statements are prepared at the end of euery three
months. We call this on ci "QuarTerlg Bcsls".
72 Months - where finaircial statements are prepared. at the end of euery tutelue
montls, We call this on a "Yearly" or oAnnual Basrs.
The length.of accounting period chosen,depends on the need of the owner for
financial information about his business. ,Most often, however, the business
adopts an accounting period of one year. The accounting period of less than
a year is called "fiscal peiod and the financial statements prepared,are
being referred to as "tnterimfinancial statements"
The owner or management has three (3) arinual accounting periods to
choose from 'as far as periodic ."po.iing of fiirancial statements are
concerned,,these are:
Calendar Year - the accognting period wilt begin on Januar5r 1 and will end
on. December 31 of the same year. This is the most common annual
accounting period that the business adopts because this is the nearest
accounting period wherein business entities lile their Income Tax Returns.
The business records are closed 6n December 31 and the deadline for filing
the said returns is April 15 of the next year.
Fiscal Year -the accouqting trieriod will begin on the first day of any month
of the year except January and will end onlhe last day of the twelftii month
completing the one year period.' Example, if the period begins on July 1,
20A, it will end on June 30, 2OB.

Natural Business year - is a twelve-month period that ends on any month

when the business is at the lowest or experiencing slack season. n*r*pi",
.
fisgal year for.the hotel industr5r wherl the stJt is the point or stalt< in
visitors and ends up at its peak
"La"o.r.
An enterprise. may adopt any of the preceding period. The basic
consideration in the choice of an accounting periodiJ that the accounting
period chosen niust be reflective of thb 'resulls-of operations."

QUATITIES THAT FINANCIAL STATEMENTS SHOULD POSSESS .

The new framework accounting mentions that the following are the
qualities that financial-of
reports should possess to be more useful, to-wit:
Understandability this means that financial statements should be
prepared and presented in a way that it can be understood by
the users.
Users are expected to study the financial information with- reasonable
diligence and assumed to have ,.""orr"bl" knowledge of business, economics
.

Reliability - of "confi.dence',
financial information shOuld carry the degree
when used by interested parties. To be reliable, it must be "free from
material error" that will lead to material misstatement, it must be fairlg
presented and must be free from bias.

Relevance - this means that financial statements are prepared intended to

help users make informed economic decisions. For example, a balance sheet
is relevant in determining ofinancial condition" just as the income statement
is intended for measuring the entity's "performance.n These help them
evaluate past and present economic events and effect corrective measures in
the future
Comparability - this means that the financial statements prepared are
wortf comparing for with other companies of the sarne line of business by
pointing orrt and differencis
"i-Itutities
Consistency - once a method or practice is selected from alternatives, it
should be followe d, from period to peiod. The consistency of procedure or
method does not only maintain the comparabilitg of periodic statements but
also implants reliabilitg in the reports.

USERS OF FINANCIAL STATEMENT

Financial accounting information is used by a variety of groups and diverse

purposes. The needs and expectations of users determine the t5rpe of
information required. The users of frnancial statements and their
informatign needs follow:
Investors - They need information to help them determine whether they
should buy, hold or sell. Shareholders are also interested in information
which en"ble them to assess the ability of the enterprise to pay dividends.
Employees - Employees are interested in information about the stability
pr6frt Uility oi the enterprise. They are interested in information which
"rrd
enables them to assess the ability of the enterprise to provide remuneration,
retirement benefits and emplo5rment opportunities'
Lenders - lenders are interested in informationwill
which enables them
be paid when due.
to
determine whether their loans and interest thereon
Suppliers and other trade creditors - These users are interested in
infirmation which enables them to determine whether arnounts owing to
them will be paid on maturitY.
Customers Customers have an interest in information about the
continuance of an enterprise especially when they have' a long-term
Il@p ductlq n to A c c ou ntl nq 27

involvement with or are.dependent on the enterprise.

Government and thelr agencies - These users require information to
regulate the activities of the enterprise, determine taxation policies and as a
basis for national income and similar statistics.
Public - Enterprises affect members of the public in a variety of ways. For
example, enterprises make substantial contributions to the local economy in
many ways including the number of people they employ and their patronage
of local suppliers. Financial statements may assist the public by providing
information about the trends and recent developments in the prosperity of
the enterprise and the range of its activities
FORMS OF BUSINESS ORGAI{IZATION AND THEIR CAPITAL
STRUCTURE
Sole Proprietorship - this is the simplest form of business organization
where capital is owned and provided by one person called 'proprietor" who
may manage the business by himself or hire another person to do so.
Whatever happens to the business, whether it succeeds and fails, the owner
has to bear it ail including any unpaid obligations that the business may
have incurred. Aside from this, the owner cannot claim salaries or
remuneration from his business. However, he can make withdrawals from
his capital.

The capital structure of a sole proprietorship business follows:

Owner's Equity, beg.
Add: Additional Investment Bo<
Profit )o( )o<
Total Owner's Equit5r kx
Less: Withdrawal ( >o<)
Owner's Equity, end Prrx

Partnership - The capital of the business is owned or provided by two or

more person called "Partners' who should set forth agreements among
themselves which include arnong others, the investmentJ of each partner,
how profrt and loss is to be divided and settlement to be made upon death or
withdrawal of a partner as embodied in tJte "Articles of Co-Partnership" they
have executed. As to management, one of the partners may take Jharge in
the affair of the business or tf,ey may hire another person to do so.
2*L *- chaPterT

The capital structure of a partnership business follows:

P A R T N E RS
AB
Partners'EquitY, beg. ho( Pxx
Add: Partners'share in Profit )o( lo(
Total ho( Pxx
Less: Partners', Drawing (ro{ (rd
Partners'EquitY' end hc h.

Corporation - This is the biggest and the most complicated form of business
org;ization. This is organlZed by at least fiue but not more tlnan Jifteen
peisons called "Incorporitors'. Its capital is called "Share Cap.ital" which is
osttnres" and each share has a designated value
ai ria"a into units called
called opar Value". Owners of the shares are called 'sttareholders'. Shares
can be transferred, without dissolving tJre corporation, so it enjoys unlimited
life. Although the maximum number of years for a corporation to exist is 50
years, it can extend its life by amending the 'Articles of Incorporafion"' This
Is the reason why there are corporations that existed for more thran 100
years.

The accumulated profit of a corporation is called "Acanmulated Profit/loss"

in a form of *Diuidends" which
which is distributld to the shareholders
serves as their respective shares of the corporation's profit.

The powers of a corporation are vested upon by a governing bo{y called

-Boaid. of Directors" who formulates its policies and the 'President" executes
the said policies.
The corporate business may be managed by anyone of the shareholders or
by a professional manager appointed by the Board of Directors.
The capital structure of a corporate business follows:

Contributed Capital
Share Capital
Ordinary Share xx
Add: Accumulated Profit (Losses) xx
Shareholder's EquitY, end Pxx
The report rs to be supported with Statement of Accumulated Profit (Loss):

Accumulated Profit (Loss), Beg. P ,{x

Add: Profit for the year xx
Total P xx
Less: Dividends declared and paid xx
Accumulated Profit (Loss), End
:___1
 I 4tro ductio n to Ac c ountinq 29

NATURT OF BUSINESS
A business firm may be classil'ied in terms of what they offer, sell or
produce. They are as follows:
Service Concern - the business derived its income from services rendered to
clients in case of professional services, like that of Accountants, Lawyers,
Doctors, Dentists, etc., or to customers in the case of non professional
services, like that of a hotel where room rental is the main line of their
business, laundry shop, car repair services, janitorial services, etc.
Merchandising concern - the business is engaged in buying goods or
commodities or any form of linished products and sells them at a profit. It
might be at a retail or wholesa-le basis. Grocery stores are best example of
this nature of business.
Manufacturing concern - the business is engaged in buying of raw
materials and supplies to be processed or manufactured, converting them
into finished products for sale at a profit, like that of a furniture shop,
manufacturers of cars and home appliances, etc.
Agri-business - the business is engaged in planting of crops and sells its
products either in raw or finished form at a profit.
Hybrid companies - are those involved in more than one type of activity
which are manufacturing, merchandising and service.
our illustration is about a hybrid company engaging service and
merchandising business.

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