PRINCIPLES OF
ACCOUNTING
Course 17622 –Bachelor’s in Management and Technology
Fernando Alfayate Fernández
2022/2023
,Tabla de contenido
1. INTRODUCTION TO ACCOUNTING......................................................................................................................... 2
1.1 INFORMATION NEEDS ............................................................................................................................................. 2
1.2 THE FLOW OF INFORMATION & THE NOTION OF ACCOUNTING ............................................................................ 2
1.5 THE CONCEPTUAL FRAMEWORK ............................................................................................................................. 2
1.6 INTERNAL & EXTERNAL USERS ................................................................................................................................ 3
1.7 FINANCIAL & MANAGEMENT ACCOUNTING ........................................................................................................... 3
1.8 USERS OF ACCOUNTING INFORMATION & USER REQUIREMENTS ......................................................................... 4
1.9 NEED FOR REGULATION .......................................................................................................................................... 4
1.10 INFORMATION CHARACTERISTICS ......................................................................................................................... 5
1.11 DECISION MAKING................................................................................................................................................. 5
1.12 ACCOUNTING REGULATION IN SPAIN ................................................................................................................... 5
2. THE ACCOUNTING EQUATION ............................................................................................................................... 5
2.1 INTRODUCTION ....................................................................................................................................................... 5
2.1 ASSETS ..................................................................................................................................................................... 6
2.2 LIABILITIES ............................................................................................................................................................... 6
2.3 EQUITY ..................................................................................................................................................................... 7
2.4 ACCOUNTING FOR BUSINESS TRANSACTIONS ........................................................................................................ 7
2.5 INFORMATION REPORTED ON THE FINANCIAL STATEMENTS ................................................................................ 9
2.6 RELATIONSHIP BETWEEN THE FINANCIAL STATEMENTS ...................................................................................... 10
3. THE ACCOUNTING METHOD ................................................................................................................................ 11
3.1 DOUBLE ENTRY ACCOUNTING/BOOKKEEPING...................................................................................................... 11
4. THE ACCOUNTING PROCESS ................................................................................................................................ 16
4.1 THE BUSINESS CYCLE & ACCRUAL vs CASH ACCOUNTING .................................................................................... 16
4.2 UPDATING THE ACCOUNTS FOR THE FINANCIAL STATEMENTS: ADJUSTMENT PROCESS .................................... 16
4.3 ADJUSTED TRIAL BALANCE, SUMMARY OF ADJUSTING PROCESS & PREPARING STATEMENTS FROM TRIAL
BALANCE ...................................................................................................................................................................... 21
5. VALUATION AND REPORTING TRANSACTIONS INVENTORY ................................................................................ 23
5.1 MEASURING THE COST OF ASSETS ........................................................................................................................ 23
5.2 ACCOUNTING FOR INVENTORY TRANSACTIONS ................................................................................................... 24
5.3 ANALYISIS OF INVENTORY METHODS.................................................................................................................... 24
5.4 EFFECT OF INVENTORY METHODS ON INCOME AND TAX .................................................................................... 27
5.5 ANNEX TO CHAPTER 5: PERPETUAL vs PERIODIC INVENTORY SYSTEMS .............................................................. 30
EXTERNAL SOURCES OF FINANCE ................................................................................................................................ 34
6. CALCULATING THE ACCOUNTING EARNINGS ...................................................................................................... 39
6.1 PAYROLL ................................................................................................................................................................ 39
6.2 ADJUSTING THE VALUE OF ASSETS........................................................................................................................ 39
Fernando Alfayate Fernández –
,1. INTRODUCTION TO ACCOUNTING
1.1 INFORMATION NEEDS
There is a series of relations inside the company that can be summarized into this flow:
Accounting is the language of business. Accounting today is clearly more complex and sophisticated than ever before.
But at its heart, accounting is an information system which records business activities, processes data, and
communicates information to decision makers.
Formal definition: process of identifying, measuring and communication economic information to permit
informed judgements and decisions by users of the information.
Working definition: a system providing information to managers and owners in order to make business
decisions.
Accounting is about recording, preparing and interpreting business transactions. It enables key questions to be
answered, such as how much profit have we made. In small businesses, managers and owners are usually the same
person. In large businesses, managers and owners are usually different persons.
1.2 THE FLOW OF INFORMATION & THE NOTION OF ACCOUNTING
Accounting is about recording, preparing and interpreting business transactions. It enables key questions to be answered,
such as how much profit have we made. In small businesses, managers and owners are usually the same person. In large
businesses, managers and owners are usually different persons.
1.5 THE CONCEPTUAL FRAMEWORK
The Conceptual Framework lays the foundation for resolving the big issues in accounting; it prescribes the nature,
function, and boundaries within which financial accounting and reporting operate.
Why is Financial Reporting Important? The Conceptual Framework states that the objective of financial reporting is to
provide financial information about the reporting entity that is useful to existing and potential investors, lenders, and
other creditors.
Users evaluate financial statements to make decisions like whether or not to make investments into an entity, provide
credit and financing, or assess the management´s efficiency and effectiveness.
Fernando Alfayate Fernández –
, However, financial statements are not designed to show the “value” of an entity which depends on many other
factors besides financial statements.
Management is the steward to whom capital suppliers entrust control over a portion of their financial resources. The
purpose of financial statements is to provide a report to capital suppliers to facilitate their evaluation of management´s
stewardship. This is known as income measurement.
Financial data has to facilitate contracting between parties, such as management and investors. Moreover, it must also
facilitate decision-makers in selecting the best course of action among the alternatives. This is known as informational
approach.
Financial statement: business documents that companies use to report the results of their activities to
various user groups, which include managers, investors, creditors and regulatory agencies.
The Conceptual Framework suggests that if financial information is to be useful, it must first be relevant and it must
faithfully represent what it tries to represent. Furthermore:
1. Money makes the world go round
2. Businesses depend on cash and profit
3. Without understanding accounting, you will never understand business
4. Basic terminology:
a. Income
b. Assets
c. Liabilities
d. Profit
e. Capital
f. Cash Flow
1.6 INTERNAL & EXTERNAL USERS
INTERNAL USERS EXTERNAL USERS
Management accounting Financial accounting
More focused and detailed information, Global information, and no influence on the
feedback is possible. reporting process (as opposed to feedback).
1.7 FINANCIAL & MANAGEMENT ACCOUNTING
FINANCIAL ACCOUNTING provides information to decision makers outside the reporting entity. These include investors,
creditors, agencies, and the general public. It is mainly composed of the provision of financial information on the business
financial performance targeted to these external users.
• Backwards looking
• Double entry bookkeeping
• P&L account or Income Statement, Balance Sheet and Cash Flow Statement.
MANAGEMENT ACCOUNTING provides information to managers. Examples of these include budgets, forecasts or
projections used in making strategic decisions inside the entity. This type of accounting is not required by law, unlike
financial accounting.
• Management accounting can be split into cost accounting and decision-making.
Have a look at a summarized graph:
Fernando Alfayate Fernández –
ACCOUNTING
Course 17622 –Bachelor’s in Management and Technology
Fernando Alfayate Fernández
2022/2023
,Tabla de contenido
1. INTRODUCTION TO ACCOUNTING......................................................................................................................... 2
1.1 INFORMATION NEEDS ............................................................................................................................................. 2
1.2 THE FLOW OF INFORMATION & THE NOTION OF ACCOUNTING ............................................................................ 2
1.5 THE CONCEPTUAL FRAMEWORK ............................................................................................................................. 2
1.6 INTERNAL & EXTERNAL USERS ................................................................................................................................ 3
1.7 FINANCIAL & MANAGEMENT ACCOUNTING ........................................................................................................... 3
1.8 USERS OF ACCOUNTING INFORMATION & USER REQUIREMENTS ......................................................................... 4
1.9 NEED FOR REGULATION .......................................................................................................................................... 4
1.10 INFORMATION CHARACTERISTICS ......................................................................................................................... 5
1.11 DECISION MAKING................................................................................................................................................. 5
1.12 ACCOUNTING REGULATION IN SPAIN ................................................................................................................... 5
2. THE ACCOUNTING EQUATION ............................................................................................................................... 5
2.1 INTRODUCTION ....................................................................................................................................................... 5
2.1 ASSETS ..................................................................................................................................................................... 6
2.2 LIABILITIES ............................................................................................................................................................... 6
2.3 EQUITY ..................................................................................................................................................................... 7
2.4 ACCOUNTING FOR BUSINESS TRANSACTIONS ........................................................................................................ 7
2.5 INFORMATION REPORTED ON THE FINANCIAL STATEMENTS ................................................................................ 9
2.6 RELATIONSHIP BETWEEN THE FINANCIAL STATEMENTS ...................................................................................... 10
3. THE ACCOUNTING METHOD ................................................................................................................................ 11
3.1 DOUBLE ENTRY ACCOUNTING/BOOKKEEPING...................................................................................................... 11
4. THE ACCOUNTING PROCESS ................................................................................................................................ 16
4.1 THE BUSINESS CYCLE & ACCRUAL vs CASH ACCOUNTING .................................................................................... 16
4.2 UPDATING THE ACCOUNTS FOR THE FINANCIAL STATEMENTS: ADJUSTMENT PROCESS .................................... 16
4.3 ADJUSTED TRIAL BALANCE, SUMMARY OF ADJUSTING PROCESS & PREPARING STATEMENTS FROM TRIAL
BALANCE ...................................................................................................................................................................... 21
5. VALUATION AND REPORTING TRANSACTIONS INVENTORY ................................................................................ 23
5.1 MEASURING THE COST OF ASSETS ........................................................................................................................ 23
5.2 ACCOUNTING FOR INVENTORY TRANSACTIONS ................................................................................................... 24
5.3 ANALYISIS OF INVENTORY METHODS.................................................................................................................... 24
5.4 EFFECT OF INVENTORY METHODS ON INCOME AND TAX .................................................................................... 27
5.5 ANNEX TO CHAPTER 5: PERPETUAL vs PERIODIC INVENTORY SYSTEMS .............................................................. 30
EXTERNAL SOURCES OF FINANCE ................................................................................................................................ 34
6. CALCULATING THE ACCOUNTING EARNINGS ...................................................................................................... 39
6.1 PAYROLL ................................................................................................................................................................ 39
6.2 ADJUSTING THE VALUE OF ASSETS........................................................................................................................ 39
Fernando Alfayate Fernández –
,1. INTRODUCTION TO ACCOUNTING
1.1 INFORMATION NEEDS
There is a series of relations inside the company that can be summarized into this flow:
Accounting is the language of business. Accounting today is clearly more complex and sophisticated than ever before.
But at its heart, accounting is an information system which records business activities, processes data, and
communicates information to decision makers.
Formal definition: process of identifying, measuring and communication economic information to permit
informed judgements and decisions by users of the information.
Working definition: a system providing information to managers and owners in order to make business
decisions.
Accounting is about recording, preparing and interpreting business transactions. It enables key questions to be
answered, such as how much profit have we made. In small businesses, managers and owners are usually the same
person. In large businesses, managers and owners are usually different persons.
1.2 THE FLOW OF INFORMATION & THE NOTION OF ACCOUNTING
Accounting is about recording, preparing and interpreting business transactions. It enables key questions to be answered,
such as how much profit have we made. In small businesses, managers and owners are usually the same person. In large
businesses, managers and owners are usually different persons.
1.5 THE CONCEPTUAL FRAMEWORK
The Conceptual Framework lays the foundation for resolving the big issues in accounting; it prescribes the nature,
function, and boundaries within which financial accounting and reporting operate.
Why is Financial Reporting Important? The Conceptual Framework states that the objective of financial reporting is to
provide financial information about the reporting entity that is useful to existing and potential investors, lenders, and
other creditors.
Users evaluate financial statements to make decisions like whether or not to make investments into an entity, provide
credit and financing, or assess the management´s efficiency and effectiveness.
Fernando Alfayate Fernández –
, However, financial statements are not designed to show the “value” of an entity which depends on many other
factors besides financial statements.
Management is the steward to whom capital suppliers entrust control over a portion of their financial resources. The
purpose of financial statements is to provide a report to capital suppliers to facilitate their evaluation of management´s
stewardship. This is known as income measurement.
Financial data has to facilitate contracting between parties, such as management and investors. Moreover, it must also
facilitate decision-makers in selecting the best course of action among the alternatives. This is known as informational
approach.
Financial statement: business documents that companies use to report the results of their activities to
various user groups, which include managers, investors, creditors and regulatory agencies.
The Conceptual Framework suggests that if financial information is to be useful, it must first be relevant and it must
faithfully represent what it tries to represent. Furthermore:
1. Money makes the world go round
2. Businesses depend on cash and profit
3. Without understanding accounting, you will never understand business
4. Basic terminology:
a. Income
b. Assets
c. Liabilities
d. Profit
e. Capital
f. Cash Flow
1.6 INTERNAL & EXTERNAL USERS
INTERNAL USERS EXTERNAL USERS
Management accounting Financial accounting
More focused and detailed information, Global information, and no influence on the
feedback is possible. reporting process (as opposed to feedback).
1.7 FINANCIAL & MANAGEMENT ACCOUNTING
FINANCIAL ACCOUNTING provides information to decision makers outside the reporting entity. These include investors,
creditors, agencies, and the general public. It is mainly composed of the provision of financial information on the business
financial performance targeted to these external users.
• Backwards looking
• Double entry bookkeeping
• P&L account or Income Statement, Balance Sheet and Cash Flow Statement.
MANAGEMENT ACCOUNTING provides information to managers. Examples of these include budgets, forecasts or
projections used in making strategic decisions inside the entity. This type of accounting is not required by law, unlike
financial accounting.
• Management accounting can be split into cost accounting and decision-making.
Have a look at a summarized graph:
Fernando Alfayate Fernández –
