Accounting Essentials: Principles, Records, and Financial Reporting
Understanding Accounting: Purpose and Users
Accounting is an auxiliary technique intended to support the management and administration of an organization. It is responsible for collecting, sorting, and analyzing accounting information, and for preparing reports.
Users of accounting information are both internal and external:
- Internally: Managers, Heads, Supervisors, and Company Executives.
- Externally: Financial institutions, Vendors, Investors, Tax authorities, and other company stakeholders.
Accounting, as a technique, uses a unique language that must be understood for proper application. To achieve this, it employs accounting principles that explain how to interpret such information.
Fundamentals of Accounting Transactions
When performing a commercial transaction, at least two situations are involved: on one hand, the disbursement of money, and secondly, receiving something in return. For each business event, the company must register both the disbursement (e.g., cash) and the corresponding procurement (e.g., an asset or service received). For example, if cash is disbursed, the procurement is the item or service received.
Essential Accounting Records
General Journal
The General Journal is a chronological record of transactions. It shows the names of accounts, their debits and credits, as well as any additional information deemed useful to support the sound application of accounting transactions.
Ledger
The Ledger is often considered the most important book in accounting. It records individual or collective accounts for:
- Property, rights, and credits (Assets)
- Debts and obligations (Liabilities)
- Capital and surplus
- Expenditures and products
- Gains and losses
- And generally, all operations of a company.
How Transactions Are Recorded: The Accounting Equation
First, when a company begins its activities, an inventory must be filed detailing all contributions made by partners or owners. This contribution is called Capital. For the company, capital represents the assets (property and rights) used to develop its trade or business.
Moreover, in the course of its business, companies have the option of obtaining additional funding from third parties who provide resources. These are called Liabilities.
This leads to the fundamental accounting equation, often written as:
Assets = Liabilities + Capital
Where:
- A = Assets
- P = Liabilities
- C = Capital
This implies a fundamental equality: all assets (what the company owns) should be equal to the sum of liabilities (obligations to third parties) and the capital provided by the owners.
To clarify the sources of funding:
- Liabilities: Financing required from third parties.
- Owners' Equity (Capital): Internal funding, not enforceable by third parties.
The Balance Sheet: A Snapshot of Financial Position
The Balance Sheet presents a company's financial position at a specific point in time, detailing its assets, liabilities, and equity.
Assets
Assets are resources controlled by the company from which future economic benefits are expected. Examples include:
- Cash (Fund)
- Bank accounts
- Accounts Receivable (CxC)
- Merchandise Inventory
- Buildings
- Land
- Vehicles
- Facilities
- Investments in other companies
- Rights
- Patents
Liabilities
Liabilities are present obligations of the company arising from past events, the settlement of which is expected to result in an outflow from the company of resources embodying economic benefits. Examples include:
- Bank Loans
- Taxes Payable (Imptos x pay)
- Accounts Payable (CxPagar)
- Suppliers (often part of Accounts Payable)
- Mortgage Loans
- Bonds Payable
Equity (Capital)
Equity is the residual interest in the assets of the entity after deducting all its liabilities. It represents the owners' claim on the assets. Examples include:
- Capital (Owner's or Shareholder's)
- Revaluation Capital
- Retained Earnings (Financial Results)
- Reserves