Financial Accounting

Plan for the day

• Understanding Business Organizations
• What is Accounting?
• Users of Accounting Information
• Financial Accounting and Management Accounting
• Accounting Measurement Assumptions
• Generally Accepted Accounting Principles
• The Accounting Equation
• Financial Statements
• What do Accountants Do?
 Understanding Business
Organizations
• Merchandising organizations - Pantaloon
• Manufacturing organizations - HUL
• Service organizations - SBI

• Business organizations as cash generating-

cum-dispensing machines
 What is Accounting
• Accounting is the language of business
i.e. communicating financial information
• Who should know accounting?
who deal with business organization such as managers,
employees, investigators, regulators, etc
• Why accounting in MBA?
To understand, interpret, value, analyze & decide
• The MBA Oath at Harvard BS
I will report the performance and risks of my enterprise
accurately and honestly
• The Accounting information system
• Accounting information and economic decisions
 The Accounting Information System
Input Processing Output Users
Business Accounting principles Statement of P & L Shareholders
Transactions & standards
Management Balance Sheet Equity & Credit
Assumptions analyst
External events ( Laws & Regulations Cash Flow Banks,
change in laws) (Companies Act, IT Act) Statement Managers,
Customers
Transaction processing Explanatory notes Government
conventions Regulators
 Accounting information and
economic decisions
Accounting info useful in making no of
decisions affecting the organization such as
 to raise money through Equity/debt for
expansion
 to distribute profits
 to increase/decrease prices
 Users of Accounting Information
• Investors – retail/FIs

• Lenders – banks, debenture holders – quantum of loan

to sanction @ what rate, stability to repay , covenants

• Analysts and advisers

Provide assistance to investors and creditors – equity
analyst & bond analyst
Sell-side (Brokerage firms) & Buy-side (AMC) analyst

• Managers – prepare for their and others use. To

formulate their plans and policies.
 Users of Accounting Information…
• Employees and trade unions - stability & profitability
• Suppliers and trade financiers
Continuity of purchase, hence capacity expansion. Pay on
time?
• Customers
how much business to do?
Dependable for future purchases and services.
• Government and regulatory authorities
Ministry of Company Affairs (MCA) – financial affairs of the co.
SEBI, IRDA, TRAI, Competition commission of India(CCI).
• The public – local community, consumer groups,
environmental activist
 Financial Accounting
and Management Accounting
• Financial accounting – mainly to outsiders

• Management accounting – mainly to

management – more timely and detailed
 Accounting Measurement
Assumptions
Business transactions – events that result in the
transfer/exchange of value between 2 parties.
Four major assumptions
• Reporting entity – business & owners are different
separate enterprise or group of enterprises.
• Going concern - business continues, justifies the historical
cost paid to acquire an asset.
• Periodicity – time duration to provide info to investors,
creditors, government etc
• Money measurement - all business transactions which can be
measured in money are recorded.
 Generally Accepted Accounting
Principles and the Accounting Environment
• For reliable and intelligible info.
• To make meaningful comparisons
• Set of conventions, rules, procedures which
define accepted accounting practice - GAPP
 Institutions that Influence Indian GAPP
• MCA – Companies Act 1956/2013 – form & content
of Financial report
AS Dec 2006. Ind AS Feb 2011
SEBI 1992
Institute of Chartered Accountants of India (ICAI) –
regulates CAs
Income Tax Authorities (CBDT)
RBI – for Banks and Finance companies
IRDA
Comptroller and Auditor-General of India
International Accounting Standard Board – IFRS/IAS
 Generally Accepted Accounting
Principles and the Accounting Environment…
• Accounting standards and policies

Accounting standards – acceptable methods for accounting

Accounting policies – comprise the principles, bases, convention, rules, and

procedures for preparing Financial Statements.

• Converging IGAAP with IFRS – India committed to converge. Convergence will likely
to bring major changes in IFR. Ex. IFRS – fair value measurement, Ind AS follow
historical cost. (IFRS – International Financial Reporting Standards)

• Principles or rules?
Principles –based lay down the broad principles that govern accounting &
disclosure requirements. (principle - how to do something in a rightful way)
Rules-based standards prescribe detailed conditions and stipulations.
to your child – be at home at reasonable hour - principle
- be at home by 11 p.m. & different contingencies for different time.
 The Accounting Equation
• Economic resources = Claims

• Assets = Liabilities + Equity

Assets: “own” (control) + provides future benefit

(cash, A/R, Inventories, Plant, Equipment etc)

Liabilities: “owe” – present obligation (Loans payable,

salary payable etc.)

Equity: “residual interest” i.e. asset minus liabilities.

 Debit Credit Rule
• Asset = Liabilities + Owner’s Equity
• Asset = L + Cap +Rev- Exp -Drawing-Div
• Asset + Exp +Draw + Div = L + Cap + Rev
• ↑ Debit ↑ Credit
Analyzing the effect of transactions
On August 1, 2014 Sriram set up Medi Labs
Company. The following transactions took
place during the first month.
a) Sriram invested 50,000 cash in the
company’s share capital
b) bought equipment on credit 40,000
c) took a bank loan 30,000
d) Invoiced customers for services 15,000
e) Provided services for cash 18,000
Analyzing the effect of transactions…
f) bought supplies for cash 3,000
g) paid staff salary 10,000
h) paid electricity charges 6,000
i) Bought equipment for cash 5,000
j) repaid a part of the bank loan 10,000
k) paid dividends 5,000.
Required to analyze the effect of the
transactions on the accounting equation.
 Analyzing the effect of transactions…
(Exercise)
• Prasanna set up practice as an architect. After one
month the business had the following balances:
Cash 20,000; trade receivables 7,000; office supplies
10,000; office equipment 30,000; trade payables
9,000; Equity – Prasanna’s capital 58,000.
The following transactions took place in the second
month:
(a) billed client’s for services 29,000
(b) paid assistant’s salary 2,500
c) provided services and received cash 14,000
d) collected payments due from clients 26,000
 Analyzing the effect of
transactions… (Exercise)
e) bought equipment on credit 11,000
f) paid equipment supplier 3,000
g) paid electricity expenses 1,300
h) bought office supplies on credit 2,800
i) took a bank loan 15,000
j) bought office equipment for cash 16,000
k) withdraw cash for personal use 12,000.
Required to analyze the effect of the transactions on
the accounting equation.
 Financial Statements
Provide info @ the financial performance and financial
position.

• Statement of profit and loss – financial performance during

a period

• Balance sheet – financial position at a point in time

• Cash flow statement - cash inflow/outflow from

operations, investing and financing activities.

• How are the financial statements interrelated?

 What do Accountants Do?
Firms engaged in Public accounting provide
 Auditing
 Forensic accounting and risk management
 Tax services
 Advisory services
 Bankruptcy
 Small business services
Private accounting
 Management accounting - LT policy – cost control, product costing, capital
investment appraisal, profitability analysis etc
 Internal auditing
 Information systems - for processing the data
Government accounting – CAG
Not-for-profit accounting – to show their funds are utilized efficiently,
effectively and properly.
 Accounting as an Academic Discipline
Illustrative research areas

• Accounting influence stock prices

• Benefits of disclosure to firms

• Usefulness of accrual and cash accounting

• Predicting future profits from past profits

• Disclosure affect managerial behaviour

• Executive pay and financial performance

Fraud and Ethical Issues in Accounting
• fraudulent accounting and weak internal
control systems leads to scandals.

• Fraud-hit companies: e.g.

Satyam
Enron
WorldCom