Financial Accoounting (1)

1. Briefly explain the functions of accounting. The following are the important functions of accounting: the basic basic funct functio ion n and and conce concern rned ed with with reco recodi ding ng of all all busin busines esss 1. Recor Recordin ding g- It is the transactions in a systematic manner. It consists in recording the day-to-day transactions in  journal and subsidiary books. 2. Classifying- It is concerned with the systematic analysis of the recorded transactions with a view to group transactions of similar nature. The work of classification is done in ledger. 3. Summarizing- The classified data is summarized in the form of trial balance, profit and loss account and balance sheet. They help in ascertaining the operational efficiency and the financ financial ial strengt strength h of a busine business ss organi organizat zation ion.. In short short it is the prepar preparati ation on and  presentation of financial statements like profit and loss account and the balance sheet.

transactions ns and vents in 4. Dealing with Financial Transactions- It records only those transactio terms of money, which are of financial character. Other transactions are not recorded in the books of accounts. 5. Analyzi Analyzing ng and Interpre Interpreting ting-- Analyz Analyzing ing and interp interpret reting ing means means re-arr re-arrangi anging ng the summarized data in the financial statements and explaining the significance of those data in a manner that the end users can make decisions about the financial conditions and  profitability of the business concern. 6. Communicating- After analysis and interpretation, accounting data are communicated in a proper form and manner. Therefore accounting reports are prepared which include not only income statement and balance sheet, but also additional information in the form of  ratios, graphs, diagrams, funds flow and cash flow statements, schedules etc.

The above functions can be classified as historical functions and managerial or predictive func functi tion ons. s. The The hist histor oric ical al func functi tion onss are are conc concer erne ned d with with reco record rdin ing, g, clas classi sify fyin ing, g, summarizing, analyzing and interpreting the past transactions so as to prepare financial statements. The managerial functions are concerned with planning for the future actions and contro controlli lling ng the operat operation ionss of the busine business. ss. The actual actual result resultss are compar compared ed with with  predetermined targets with the objective of promoting overall operating efficiency.

2. Explain the three branches of accounting. accounting.

The three main branches of accounting are: 

Financial Accounting: Financial Accounting consists of the classification, recording and analysis of the transactions of a business in a subjective manner  according to the nature of expenditure so as to enable the presentation at periodic intervals, of statement of profit or loss of the business and on a specified date its financial state of affairs (AICPA). In short it is that accounting which is concerned with the profit or loss of the business for a particular period and the financial  position of the business as on a particular date.

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Management Accounting: Management Accounting is a system of accounting which is concerned with internal reporting of information to management for-

1. Planning and controlling operations 2. Decision making on special matters and 3. Formulating long range plans According to the Institute of Chartered Accountants of England and Wales “Any form of accounting which enables a business to be conduced more efficiently can  be regarded as management accounting”. It is the accounting, which provides necessary information to the management for discharging its functions, such as  planning, organizing, directing and controlling more efficiently. 

Cost Accounting: Shilling Law has broadly defined cost accounting as the body of concepts, methods and procedures used to measure, analyze or estimate the cost, profitability and performance of individual products, departments and other  segments of the operations of a business concern. In short cost accounting is that  branch of accounting which is mainly concerned with costing information, which is useful to the management for purpose of cost ascertainment and cost control.

3. What is single entry system? What are the advantages and disadvantages of Single entry system? The most popular way of classifying the system of bookkeeping is single entry system and double entry system. Most of financial accounting is based on double-entry bookkeeping. To understand and appreciate the advantages of double entry, it is worthwhile to examine the simpler single-entry bookkeeping system.In its most basic form, a single-entry system is similar to a checkbook register and is characterized by the fact that there is only a single line entered in the journal for each transaction. In a simple checkbook, each transaction is recorded in one column of an account as either a positive or a negative amount in order to represent the receipt or disbursement of cash. Single-entry system of book-keeping refers to any system of book-keeping, which is not a complete double entry system. As only one aspect is recorded for most of the transactions, this system is called singe entry system. With the single-entry system, you record a daily and a monthly summary of business incomes and a monthly salary of business expenses. Single entry is no t a complete

accounting system, but it shows income and e xpense in sufficient detail for tax purposes. For each transaction, only one entry is made. A cheque book, for example is a single-entry  bookkeeping system, with receipts listed as deposits and expenses listed as cheques or  withdrawals. This system focuses on the business, profit and loss statement and not on its  balance sheet. The single entry system is an “informal” record keeping system.  Advantages of Single-entry System are:

1. It is a simple method of recording business transactions. 2. It is less costly when compared with double entry system and suitable for small  business concerns.  Disadvantages of Single-entry System are:

1. This system is an incomplete system of book-keeping, because the two aspects of  cash and every transaction are not recorded in the books of accounts. 2. It does not track asset and liability accounts such as inventory, accounts receivable and accounts payable. These must be tracked separately. 3. It facilitates the calculation of income but not of financial position. There is no direct linkage between income and the balance sheet. 4. Under this system errors may go undetected and often are identified only through  bank reconciliation statement. Because of these draw backs, a single-entry system is not practical for many organizations such as those having many thousands of transactions in a reporting period, significant assets, and external suppliers of capital.

4. Briefly explain the types of business transaction. According to Noble and Niwonger “Any happening which brings change in the pattern of  assets or liabilities or proprietorship of a business concern is a financial transaction to it”. Any event or condition that must be recorded in the books of a business because of its effect on the financial condition of the business such as buying and selling.

The term transaction refers to any event which is measurable in terms of money, and which changes the financial position of the business concern.

The business transactions, which are required to be entered in the books of accounts, can  be classified into four types. They are: (a) Cash Transaction: A cash transaction refers to any business transaction which involves immediate (i.e. ready) payment or receipt of cash. Purchase of goods for cash, sale of goods for cash, purchase of an asset for cash, sale of an asset for cash, borrowing of 

money, lending of money, payment of any expense, receipt of any income, etc., are examples of cash transactions. (b) Credit Transaction: A credit transaction is a business transaction where the payment or the receipt of money is postponed to future date. Purchase of goods on credit, sale of  goods on credit, purchase of an asset on credit, sale of an asset on credit, interest on loan due to the lender, any unpaid expense etc., are examples of credit transactions. (c) Barter Transaction: A barter transaction is a business transaction where, no doubt, receiving of something and giving of something take place simultaneously but there is no exchange of cash. Sale of furniture in exchange of purchase of typewriter, giving of goods for furniture purchased, giving of goods to an employee in settlement of his salaries, giving of furniture to the manager in settlement of his salary, etc., are examples of barter  transactions. (d) Non-cash Transaction or Paper Transaction: A non-cash transaction or paper  transaction is a business transaction where there is no payment or receipt of cash either  immediately or at a future date. Examples of no n-cash or paper transactions are depreciation charged on any fixed asset, bad debts written off, loss of goods by fire etc.

5. What do you mean by Bank reconciliation statement? A bank reconciliation statement is a statement prepared by a customer to explain the causes responsible for the disagreement between the bank balance as shown by the cash  book and the bank balance as shown by the pass book as on a particular date. In other  words, a form that allows individuals to compare their personal bank account records to the banks records of the individuals account balance in order to uncover any possible discrepancies. Since there is timing difference between when d ata is entered in the banks systems and when data is entered in the individual’s system, there is sometimes a normal discrepancy  between account balances. The goal of reconciliation is to determine if the discrepancy is due to error rather than timing. And since the same transactions are recorded in the cashbook and in the pass book, it is natural that the bank balance as shown by the cashbook and the bank balance as shown by the passbook should agree on any particular date. However, in actual practice, the bank balance as shown by the cash book and the bank   balance as shown by the pass book will not be the same on any particular date. But the two  balances can be reconciled. In order to reconcile the two balances there arises the need for  the preparation of a bank reconciliation statement.

6. What are the different classifications of error? Errors are classified in five different ways as shown below:

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Errors of Omission: As the name indicates, the error of omission is one where a transaction has not been recorded in the books of account either wholly or   partially. When the transaction has been completely omitted in the books of  accounts, it is an error of complete omission. For example, if a credit purchase of  goods is omitted to be entered in the purchase book, it is an error of complete omission. Such an error will not affect the trial balance and the omission will not even be apparent. But sometimes it is apparent from the balance of an account that an entry has been omitted e.g., the rent account may show that the rent for the 12th month has not been paid. This type of error can be detected by careful observation. On the other hand, if one of the items or aspects of a transaction recorded in a subsidiary book is omitted to be posted from the subsidiary book to ledger account, the error is an error of partial omission. For e.g. if salaries paid to clerks recorded in the cash book is omitted to be posted to salaries account in the ledger, the error is an error of partial omission. Errors of Commission: Error of commission refers to errors resulting from something, which ought not to be done. In other words when a transaction has  been recorded but has been wrongly entered in the books of original entry or   posted in the ledger, error of commission is said to have been made, e.g. a  purchase invoice for Rs. 1,320 was entered in the purchase book as Rs. 1,230. Such an error may be intentional or unintentional. This type of error usually occurs in the process of totaling, postings, carries forward and balancing of  subsidiary books. Errors of Principle: If a transaction is recorded in the books of account against the fundamental principle of double entry book keeping the error is known as error of principle. Such errors arise when the entries are not recorded according to the fundamental principles of accountancy, e.g., wrong allocation of expenditure  between capital and revenue, ignoring the outstanding assets and liabilities, valuation of assets against the principles of book-keeping. Compensating Errors of off- setting Errors: A compensating error or off-setting error is one which is counter balanced by any other error or errors, e.g., if A’s account was debited for Rs. 100 but was debited for Rs. 10 while B’s account which was to be debited for Rs. 10 was debited for Rs. 100. Thus, both the accounts have been debited for a total sum of Rs. 110 which amount