The Basic Accounting Concepts You Really Need to Know

The cash flow statement reflects a company’s cash position on hand at the end of a fiscal period. This is important for companies because they need to know how much of their revenue is coming from cash compared to other receivables or short term assets. The balance sheet is a snapshot of the company at a particular time, and compares their assets, liabilities, and owner’s equity.

Computerized and online accounting programs now do many different things to make business operations and financial reporting more efficient. For example, most accounting packages offer basic modules that handle general ledger, sales order, accounts receivable, purchase order, accounts payable, and inventory control functions. Tax programs use accounting data to prepare tax returns and tax plans. Point-of-sale terminals used by many retail firms automatically record sales and do some of the bookkeeping.

Equity and Owner’s Equity – The amount of money that, if all assets were liquidated and all debt was paid off, would be returned to a company’s shareholders. Double-declining balance is a method that accelerates the depreciation expense of an asset; the estimated cost is twice the amount calculated by straight-line. Current Assets – A company’s assets used in normal business operations and expected to be sold or used for less than one year. Capital – A broad term that covers a wide range of financial assets such as cash, stock, manufacturing equipment, buildings, etc.

The preparation of the financial statements is the seventh step in the 9-step accounting cycle. However, we decided to present this first before getting into the whole process for you to have a picture of what we are trying to produce in an accounting system. This chapter provides a fresh look into accounting.

Assets are the wealth that has been accumulated by the business and is owned outright without lien or loan. It may be items that depreciate over time, or goods that are sold to customers. This may include cash and investments, buildings and property, accounts receivable, warehouse inventory, equipment and supplies. Financial accounting reports the results and position of business to government, creditors, investors, and external parties. Assets and expenses have normal debit balances, i.e., debiting these types of accounts increases them.

Analysts, managers, business owners and accountants use this information to determine what their products should cost. In cost accounting, money is cast as an economic factor in production, whereas in financial accounting, money is considered to be a measure of a company’s economic performance. Statement of cash flows.

Gross Income

Most individuals use the cash method for their personal finances because it’s simpler and less time-consuming. However, this method can distort your income and expenses, especially if you extend credit to your customers, if you buy on credit from your suppliers, or you keep an inventory of the products you sell. If you use the cash method of accounting, you record income only when you receive cash from your customers. You record an expense only when you write the check to the vendor.

Accounting Period – The span of time covered by the financial statements is the accounting period. It defines the time frame of transactions included in financial statements.

basic accounting

Monetary Unit Principle – Business transactions that are recognized as monetary currency are only recorded in a business’s accounting records. Cost Principle – A business should record its fixed short and long-term assets at original cost and not fair value at the time of acquisition minus accumulated depreciation. Accounting Period Principle – A business should report the results of its operations over a standard period of time, typically monthly, quarterly or annually in order to make useful comparisons. We also increased our Sales Revenue, but since it is an income account we would need to record it on the Credit side (right side). Accounting is setting up a system of recording and summarizing financial transactions in such a way that they can later be analyzed or used to communicate with others.

basic accounting

Retained Earnings will increase when the corporation earns a profit. There will be a decrease when the corporation has a net loss. This means that revenues will automatically cause an increase in Stockholders’ Equity and expenses will automatically cause a decrease in Stockholders’ Equity. This illustrates a link between a company’s balance sheet and income statement. Please note the key word “specific point in time”.

  • Remember, if you have employees or manage a lot of inventory, accrual should be your preferred method.
  • Ledger totals are then summarized in a trial balance that confirms the accuracy of the figures.
  • Ideally, you want to have a positive cash flow.
  • Net Income is the dollar amount that is earned in profits.
  • Accounting and financial applications typically represent one of the largest portions of a company’s software budget.
  • Depending on the account type, a debit or credit will either increase or decrease the money in the account.

Hope you are learning basic accounting and you are pretty clean with the Income Statement. Let us now move forward to the Balance Sheet. For a business like above, there will be thousands and thousands of transactions each year. It will be difficult for Kartik to put all these transactions together in a structured format.

These values are used to prepare financial statements and management reports. Finally, individuals analyze these reports and make decisions based on the information in them.

These are your three financial statements that reflect a company’s performance. Each statement is used to measure different things, and because they show up very often in accounting, it’s important you know when to use each one. Operating cash flow, or OCF, shows the cash left over after operating expenses have been subtracted. Businesses can make money in a variety of ways, but OCF is a measure of how successful a business is at bringing in revenue through their primary activities. Equity, or owner’s equity, describes the portion of your company that is owned by you and your investors.

basic accounting

Accountants can use data analytics to make more accurate and detailed forecasts; help companies link diverse financial and nonfinancial data sets, which provides a more comprehensive reporting of their overall performance to shareholders and others; assess and manage risk across the entire organization; and identify possible fraud. Historically described as “paper pushers” who track financial information, today’s accountants need to learn about big data and data analytics as part of their continuing education. Not long ago, an accountant’s work finished when business financial statements were finalized and tax forms were ready to be filed with federal, state, and local governing bodies. Not anymore. With the revolution of computer technology, automation, and data collection from a myriad of sources, accountants can use data analytics to provide a clearer picture of the overall business environment for their companies and clients on an ongoing basis.

A journal is a place to record the transactions of a business. The typical journals used to record the chronological, day-to-day transactions are sales and cash receipts journals and a cash disbursements journal. A general journal is used to record special entries at the end of an accounting period. The cash flow statement reports the cash generated and used during the time interval specified in its heading.

The results of all financial transactions that occur during an accounting period are summarized into the balance sheet, income statement, and cash flow statement. The financial statements of most companies are audited annually by an external CPA firm. For some, such as publicly traded companies, audits are a legal requirement.

Statement of financial position (balance sheet)

They arise from present obligations of a particular entity to transfer assets or provide services to other entities in future as a result of past transaction or events. For example, Kartik took loan from the Bank. This loan is basically a liability which Kartik needs to pay in future.

The accountant must review the documents to make sure they’re complete. Cash Flow is the term that describes the inflow and outflow of cash in a business. The Net Cash Flow for a period of time is found by taking the Beginning Cash Balance and subtracting the Ending Cash Balance. A positive number indicates that more cash flowed into the business than out, where a negative number indicates the opposite.

A company will usually issue financial statements on a quarterly basis. The main components of the financial statements are the income statement, balance sheet, Balancing off Accounts cash flow statement and the notes to the financial statements. The income statement shows the revenues and expenses the company experienced for the period.

As you can see above, Assets are primarily divided into two types – Current Assets and Long Term Assets.Example of Asset for Kartik’s company could be cash, packaging material and supplies, Vehicle etc. Also, note that Accounts receivables are Assets.

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