The Definition of Basic Accounting

Accounting is the process business use to record and present financial transaction to internal and external users. All financial information must be balanced in a company; this is done using the basic accounting formula assets = liabilities + owner's equity. This formula is the base of all accounting, with each part representing specific parts of the company.

Assets

Assets are anything a company owns that has value and is used in business operations. Current assets include cash, accounts receivables, short-term securities and inventory. These items are used to pay current liabilities and other short-term obligations. Non-current assets include property, factories and equipment used to produce the goods and services a company sells.

Liabilities

Similar to assets, two types of liabilities exist in a company: current and non-current. Current liabilities include accounts payable and short-term notes; non-current liabilities include long-term debt obligations and bank loans. Liabilities are separated on the balance sheet so internal and external users of the financial information can calculate how much long-term debt a company has. Large amounts of long-term debt may indicate an over-leveraged company.

These liabilities generally offset the current and non-current assets in the accounting equation, leaving the remaining balance in the owner's equity accounts.

Owner's Equity

Owner's equity is any money the owner of a company invested at the start of the business. Some owners may have to continually invest personal assets into their companies until they make a profit. Shareholder's equity--money invested in the company from outside parties--is also included in the owner's equity. Any money earned from operations and re-invested into the business is called retained earnings, and this also contributes to the owner's equity portion of the accounting equation.

Accrual Accounting

Accrual accounting is the only accounting method recognized by the Financial Accounting Standards Board (FASB). Accrual accounting follows the matching principle, which states that income earned must be matched to expenses used to earn that income. The matching principle ensures a smooth flow of financial information from month to month, giving a clear trend of financial information for business operations.

Accounting Standards

The FASB creates the accounting standards in the U.S., called Generally Accepted accounting Principles (GAAP). These accounting standards are based on principles, and they allow accountants to exercise some independent interpretation when applying them to financial transactions. Rules-based accounting standards, such as the International Accounting Standards (IAS), require accountants to follow the specific rules outlined in each standard regarding financial transactions.

The FASB updates GAAP periodically when new accounting issues arise and standards must be issued for accountants on technical issues.

References

• Financial Accounting Standards Board
• Accounting Basics