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1. GENERAL DEFINITION OF ACCOUNTING

Today, it is impossible to manage a business operation without accurate and timely

accounting information. Managers and employees, lenders, suppliers, stockholders, and government
agencies all rely on the information contained in two financial statements. These two reports – the

balance sheet and the income statement – are summaries of a firm’s activities during a specific time
period. They represent the results of perhaps tens of thousands of transactions that have occurred

during the accounting period.
Accounting is the process of systematically collecting, analyzing, and reporting financial

information. The basic product that an accounting firm sells is information needed for the clients.

Many people confuse accounting with bookkeeping. Bookkeeping is a necessary part of
accounting. Bookkeepers are responsible for recording (or keeping) the financial data that the

accounting system processes.
The primary users of accounting information are managers. The firm’s accounting system

provides the information dealing with revenues, costs, accounts receivables, amounts borrowed and
owed, profits, return on investment, and the like. This information can be compiled for the entire

firm; for each product; for each sales territory, store, or individual salesperson; for each division or

department; and generally in any way that will help those who manage the organization.
Accounting information helps managers plan and set goals, organize, motivate, and control.

Lenders and suppliers need this accounting information to evaluate credit risks. Stockholders and

potential investors need the information to evaluate soundness of investments, and government
agencies need it to confirm tax liabilities, confirm payroll deduction, and approve new issues of

stocks and bonds. The firm’s accounting system must be able to provide all this information, in the
required form.

2. THE BASIS FOR THE ACCOUNTING PROCESS

The basis for the accounting process is the accounting equation. It shows the relationship
among the firm’s assets, liabilities, and owner’s equity.

Assets are the items of value that a firm owns – cash, inventories, land, equipment,
buildings, patents, and the like.

Liabilities are the firm’s debts and obligations – what is owed to others.

Owner’s equity is the difference between a firm’ assets and its liabilities – what would be
left over for the firm’s owners if its assets were used to pay off its liabilities.

The relationship among these three terms is the following: