Introduction to Financial Accounting

Basic Concepts of Business: capital, profit, budget >>

Financial Accounting (Mgt-101)

Lesson-1

Learning Objective

The objective of this lecture is to introduce the subject "Financial Accounting" to the students and

give them an idea as to how did accounting develop.

What is Financial Accounting?

It is the maintenance of daily record of ALL financial transactions in such manner that it would help

in the preparation of suitable information regarding the financial affairs of a business or an

individual.

Why is Financial Accounting Needed?

The need for recording financial transactions arises because the individual or business wants to

know the performance and to assist the person in making decisions related to the business.

What Are Transactions?

In accounting or business terms, any dealing between two persons involving money or a valuable

thing is called transaction.

Human beings are social animals and are bound to adopt a community living style. Living in a

community, essentially means that people interact with other people and are dependant on each

other to fulfil their needs.

Every person cannot fulfil all his needs like food, clothing, housing etc. on his own. He, therefore,

depends on other people to provide him with some of his needs, in return to him providing others

with some of theirs.

This means that to get something on has to give something in return. Every instance where one

`gives something' to `get something' is called a transaction.

How Did it Develop?

Nearly all developments happen because of human being's need for the same. Accountancy is no

different.

· Times when goods were bartered or exchanged. When the concept of money was introduced, it

became a little more difficult.

o Example of the Shepherd.

o Budgeting the old custom of keeping separate "Potlees" by the elders for household and

other expenses. Today's Business budgeting is on the same lines.

What is a Budget?

Budget is a plan of income, expenses & other financial operation for a future period.

Concept of Costing.

A person making or producing any thing must not only know how much it costs to make but also to

help in determining the selling price.

It is necessary that the person not only knows the cost of what is being produced but also the cost

of each component which has gone into production

The control of the costs being incurred is also necessary otherwise the same can exceed the

estimates.

Financial Accounting (Mgt-101)

All this is only possible if the costs and data relating to production is properly recorded and

analysed. An exercise that the Accountant only can carry out.

Impact of IT on Accounting.

The old "Munshi," who kept record of the financial dealings was the original accountant. But he is

now of no use, as the need for analysis of information recorded and forecasting based there on, is a

capability the "Munshi" lacks.

In fact, there is no need for any expert in writing of books. Information Technology has taken over.

But some one has to tell the Software developer how books are written.

The need for an Accountant who is well versed in the art of writing up books still remains. The role

has changed. Information Technology software can now produce the reports and analysis but the

expert to interpret all of this remains.

The need for the professional to describe this has not been overtaken by Information Technology.

Barter Trading and Barter Transactions.

Trading one commodity or service for another commodity or service is called `Barter Trading'.

Every transaction where goods are exchanged for goods is called a `Barter Transaction'.

Since every person cannot produce every thing that he needs. Therefore, he needs to give / sell what

he produces to get / buy what he wants.

In early days when `money' was not invented, people used to exchange goods for goods.

This kind of trade, where goods are exchanged for goods, is called barter trade. In fact, in barter

trade, value of one commodity is quoted in terms of other commodity, for example the price of 10

kg of wheat may be 2 meters of cloth or 5 litres of milk.

Although, there is no involvement of money but still every commodity has a value, which means

that, you have to give a specific quantity of one commodity to buy a specific quantity of another

commodity

Money Measurement Concept.

With the passage of time, the trading volumes and types of commodities available in the market

increased and it became increasingly difficult to exchange commodity with commodity.

That is why the concept of cash / money came in and people started valuing all goods / services in

terms of a common commodity called money. Now the price of 10 kg wheat would be Rupees 60

and not 2 meters of cloth.

Similarly the price of 2 meters of cloth and 5 litres of milk would also be Rupees 60.

In accounting, every transaction that is worth recording is recorded in terms of money.

In other words any event or item that cannot be translated in terms of money is not recorded in

books.

Cash and Credit Transactions.

Translating every transaction in terms of money does not always mean that the money changes

hands, the same time at which the transaction takes place. It may be paid before or after the goods

are exchanged.

When the money value of an item being purchased is paid, at the same time the item is exchanged.

The transaction is said to be a cash transaction.

On the other hand, if the payment is delayed to a future date, the transaction is termed as a credit

transaction.

Financial Accounting (Mgt-101)

Different Types of Business Organizations

Sole Proprietorship

A business owned and run by a single person

Partnership

A business owned and run by more than one persons.

Limited Company

A large organization with separate legal status.

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