Chapter 2 and 3 Lopez Book

Reference: Rafael M. Lopez, Jr.
Fundamentals of Accounting, Revised 2022-2023

Chapter 2 – Accounting and Business
What is MSME – Micro, Small and Medium Enterprises. This is 99% of the total business
enterprise in the Philippines.
- Micro – assets of Php3M or less than and employs not more than 9 workers
- Small - assets of above Php3M to less than Php15M and employs 10 to 99 workers
- Medium - assets of above Php15M to less than Php100M and employs 100 to 199 workers
Why study Accounting?
- Living in the era of accountability
- E.g. paying taxes, bills, salaries, etc.
- Non-accountants should study accounting also
What knowledge is required in the study of accounting?
1. Analytical ability – ability to analyze business transactions and situational problem
requirements. To analyze what accounts and amounts should be debited or credited.
2. Stored knowledge in arithmetic. Know the process of addition, subtraction,
multiplication and division
3. Psychological factor behind – Many students shy away from accounting subjects as
their impression that accounting is a very difficult subject.
4. Change your study habit. Spend more time in your studies. What is five years of
sacrifices if the fruit is lifetime of harvest.
Business and Accounting
The primary motive of the person engaged in business is to make profit. To provide job
opportunities is only incidental once the business if making profit.
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.
Importance of accounting in business

Accounting provides management with information essential to the efficient conduct and
evaluation of activities. It gathers data which are financial in character, identifies which data are
relevant to the decisions to be made, processes and analyses these data before transforming into
reports that can be used in making better decisions. Therefore, decision makers of the business
are relying on accounting data to be able to make decisions.
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 for the day-to-day and
even 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 date that are financial in
character which are processed and transformed into a report form called “Financial Statements”.
Some of the GAAP:

1. Cost Principle – assets should be recorded at original cost
2. Objectivity Principle – accounting records should be based on reliable and verifiable data
3. Materiality Principle – dictates practicability to rule over theory in determining the
valuation of the item
4. Matching Principle – concept of revenue and expense recognition
5. Consistency principle – accounting procedures and methd should be applied on a uniform
basis.
6. Adequate disclosure principle – financial statements should be free from material
misstatement. Proper disclosure should be made.
Basic Accounting assumptions
1. Accounting Entity – the business is considered separate and distinct entity from the
owner. There is clear distinction between business transactions and personal affairs.
2. Going concern – an entity will remain in business for the foreseeable future
3. Time-period assumptions – the business should report their financial statements
appropriate to a specific time period.
4. Unit of Measure – Only those events and transactions are recorded in books of accounts
of the business which can be measured and expressed in monetary terms.
5. Accrual basis assumptions – Revenues and expenses are recorded when earned or
incurred.
What are Financial Statements
The accountant’s reports to the proprietor or business management which are considered
as the end products of the accounting process.
The basic financial statements are:
1. Statement of Financial Position (Balance Sheet) - Shows the financial position of the
company. It contains 3 sections which are Assets, Liabilities and Owner’s Equity.
2. Statement of Comprehensive Income (Income Statement)
– shows the performance of the company, which is measured through the level of income
earned and its expenses incurred. Primarily consists of revenues and expenses.
3. Statement of Changes in Equity – summarizes the changes in equity for a given period of
time. It is where the capital (investments of the owner) and withdrawals are depicted.
4. Statement of Cash Flows – shows the movement of cash
5. Notes to Financial Statements, comprising the significant accounting policies and

other explanatory information.
Basic Accounting Equation
ASSET = LIABILITIES + OWNER’S EQUITY
Example:
ASSET = LIABILITIES + OWNER’S EQUITY

Php995,150 = Php133,000 + Php862,150
Elements of Financial Statements
1. Assets – resources controlled by the business as a result of past transactions and events
and from which future economic benefits are expected to flow into the enterprise.
2. Liabilities – present obligations of an enterprise arising from past transactions or events
and the settlement of which is expected to result in an outflow from the enterprise
resources embodying economic benefits.
3. Owner’s Equity or Capital – residual interest in the assets of the enterprise after
deducting all its liabilities
4. Income or Revenue – gross outflow of economic benefits during the period arising in the
course of ordinary activities of an enterprise, resulted to increase in equity.
5. Expenses - gross outflow of economic benefits during the period arising in the course of
ordinary activities of an enterprise, resulted to decrease in equity.
CHAPTER 3 – ACCOUNTING: THE LANGUAGE OF BUSINESS
Bridge of Communication – business entity concept is accounting separates the owner from his
business and the financial statements prepared by the Accountant becomes the tool used in
bridging the communication between the business and various users of financial statements
When do accountants prepare the FS?
- Monthly
- Quarterly
- Semi-annual
- Annually
The accounting period of less than a year is called Fiscal Period

and the FS prepared are called interim financial statements
Calendar Year – Accounting period begin in January 1 and ends on December 31 of the same
year
Fiscal Year – accounting period will begin on the first day of any month of the year except
January and will end on the last day of the twelfth month completing the one year period.
Example: accounting period begins in July 1 current year and ends in June 30 of the next year.
Qualities of Financial Statements
1. Understandability – financial statements should be prepared and presented in a way it
can be understood by the users.
2. Reliability - financial information should carry the degree of confidence when used by
interested users.
3. Relevance - financial statements are prepared intended to help users make informed
economic decisions.
4. Comparability – financial statements can be compared with other companies with the
same line of business.
5. Consistency – once a method or practice is selected from alternatives, it should be
followed from period to period.
Types of accounting information
Financial Accounting – financial resources, obligations and activities of an economic entity
resulting to the preparation of financial reports
Auditing – internal and external auditing. Determining if the accounting procedures and
standards are being followed by the business entity
Management Accounting – concern with the designs, installation and improvements of
accounting system intended to help the management in running the business
Tax Accounting – preparation of income tax returns
Financial management – set-up financial planning objectives including the source and
application of its resources beneficial to the business
Cost Accounting – Cost allocation and control of goods and services
Government Accounting – proper custody of public funds.
Users of Financial Statements
1. Investors – Shareholders of the business and they need financial information which
enable them to assist the ability of business to pay dividends.
2. Employees – Employees are interested on the stability of the business whether or not it
can pay their salaries, retirement benefits and the like.
3. Lenders – to determine if the business can pay their loans and interest when due.
4. Suppliers and other trade creditors – determine whether amounts owing to suppliers will
be paid on maturity.
5. Customers – they have interest on the continuance of the business which they have long-
term involvement.
6. Government and other agencies – determine taxation policies as well as for regulations
7. Public – contribution to the local economy, like job employment.
Nature of business
1. Service Concern – Income derived from the services rendered to clients.
2. Merchandising – business engaged in buy of finished products and sell it at profit.

3. Manufacturing – business engaged in buying raw materials to be processed or
manufactured, converting into finished products for sale at profit.
4. Agriculture – business engaged in planting of crops and sells its products either in raw or
finished products at a profit.
5. Hybrid Companies – business engaged in more than one type of activity
Forms of business organizations and their capital structure
1. Sole Proprietorship – Owned and provided by one person called proprietor.
2. Partnership – Owned and controlled by two or more persons called partners.
3. Corporation – This is organized by at least five but not more than fifteen person called
incorporators and its capital called Share Capital.
4. Cooperatives – registered in Cooperative Development Authority. Governed by the Board

of Directors. Owned and controlled by the members who have contributed to the
cooperative as their paid-up share capital.

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Reference: Rafael M. Lopez, Jr.

Fundamentals of Accounting, Revised 2022-2023

Importance of accounting in business

Importance in keeping of business records

Some of the GAAP:

4. Statement of Cash Flows – shows the movement of cash

5. Notes to Financial Statements, comprising the significant accounting policies and

ASSET = LIABILITIES + OWNER’S EQUITY

ASSET = LIABILITIES + OWNER’S EQUITY

The accounting period of less than a year is called Fiscal Period

Users of Financial Statements

7. Public – contribution to the local economy, like job employment.

1. Service Concern – Income derived from the services rendered to clients.

2. Merchandising – business engaged in buy of finished products and sell it at profit.

5. Hybrid Companies – business engaged in more than one type of activity

Forms of business organizations and their capital structure

1. Sole Proprietorship – Owned and provided by one person called proprietor.

2. Partnership – Owned and controlled by two or more persons called partners.

4. Cooperatives – registered in Cooperative Development Authority. Governed by the Board

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