Intro to Accounting: Definitions, Users, Types & Roles

What is Accounting?

Accounting is the language of business—a systematic process of identifying, recording, summarizing, analyzing, interpreting, and communicating financial information to help users make informed decisions. It acts as a financial scoreboard for businesses, governments, and individuals.

Why is Accounting Important?

mindmap
  root((Why Accounting?))
    Businesses["Track income, expenses, assets, and liabilities"]
    Investors["Assess profitability and growth potential"]
    Government["Enforce tax laws and economic policies"]
    Society["Ensure transparency and ethical practices"]
    Individuals["Manage personal finances and plan for the future"]

Key Definitions

Users of Accounting Information

Accounting provides financial data to different stakeholders with varying needs. Below is a comparison of internal (inside the business) and external users:

In the Real World

1. eSewa (Nepal) – Uses accounting to track online transactions, tax collections, and government revenue. When you pay your electricity bill via eSewa, the system records the transaction, updates the government’s ledger, and ensures proper tax reporting.
2. Daraz (Alibaba Group) – Relies on inventory accounting to manage stock levels, sales revenue, and supplier payments. If Daraz overstocks a product, accounting helps identify why (e.g., poor demand forecasting) and adjusts future orders.
3. Nepal Rastra Bank (NRB) – Uses national accounting to monitor inflation, GDP growth, and monetary policies. When NRB announces interest rate changes, it is based on macroeconomic accounting data.

Types of Accounting

Accounting is broadly classified into two main types, each serving different purposes:

1. Financial Accounting

• Focus: External users (investors, creditors, government).
• Reports: Financial statements (Income Statement, Balance Sheet, Cash Flow Statement).
• Rules: Follows GAAP or IFRS (International Financial Reporting Standards).
• Example:
  • A Kathmandu-based retail shop (e.g., "Kathmandu Mart") prepares its annual financial statements to show profits to bankers before applying for a loan.

2. Managerial Accounting

• Focus: Internal users (managers, executives).
• Reports: Budgets, cost analysis, performance reports.
• Rules: No strict standards—customized for decision-making.
• Example:
  • Pathao (ride-hailing app) uses cost accounting to determine how much each driver’s fuel, vehicle maintenance, and salary costs per trip to set competitive fares.

The Role of Accounting in Business

Accounting serves three primary functions in any organization:

1. Recording Transactions

   • Every financial activity (sales, purchases, payments) is documented in journals and ledgers.
   • Example: When Ncell sells a SIM card, the transaction is recorded as:
     • Debit: Cash (Asset ↑)
     • Credit: Sales Revenue (Liability/Equity ↑)

2. Summarizing Financial Data

   • Transactions are classified into financial statements (Income Statement, Balance Sheet).
   • Example: A Kathmandu restaurant summarizes all food sales, rent, and salaries into an Income Statement to check profitability.

3. Interpreting and Communicating Results

   • Accountants analyze data to provide insights (e.g., "Profit is declining because of rising raw material costs").
   • Example: Nepal Stock Exchange (NEPSE) uses accounting ratios (P/E ratio) to help investors decide whether to buy or sell shares.

The Accounting Cycle (Step-by-Step Process)

Every business follows the accounting cycle, a 10-step process that ensures financial accuracy. Here’s how it works:

flowchart TD
    A["1. Identify Transactions"] --> B["2. Record in Journal"]
    B --> C["3. Post to Ledger"]
    C --> D["4. Prepare Trial Balance"]
    D --> E["5. Adjusting Entries"]
    E --> F["6. Adjusted Trial Balance"]
    F --> G["7. Prepare Financial Statements"]
    G --> H["8. Close Temporary Accounts"]
    H --> I["9. Post-Closing Trial Balance"]
    I --> J["10. Reverse Adjusting Entries"]

Worked Example: Accounting Cycle for a Kathmandu Shop (Monthly)

Assume "Kathmandu Book Store" has the following transactions in June 2024:

Step 1: Journal Entry (Recording)

| Date       | Particulars                     | L.F. | Dr (NPR) | Cr (NPR) |
|------------|----------------------------------|------|----------|----------|
| 2024-Jun-01| Cash A/c                         |      | 500,000  |          |
|            | To Capital A/c                   |      |          | 500,000  |
| 2024-Jun-05| Purchases A/c                     |      | 200,000  |          |
|            | To Cash A/c                       |      |          | 200,000  |
| 2024-Jun-10| Sales A/c                         |      | 150,000  |          |
|            | To Accounts Receivable A/c       |      |          | 150,000  |
| 2024-Jun-15| Rent Expense A/c                  |      | 30,000   |          |
|            | To Cash A/c                       |      |          | 30,000   |
| 2024-Jun-20| Cash A/c                          |      | 150,000  |          |
|            | To Accounts Receivable A/c       |      |          | 150,000  |
| 2024-Jun-25| Salaries Expense A/c              |      | 50,000   |          |
|            | To Cash A/c                       |      |          | 50,000   |

Step 2: Ledger Posting (T-Accounts)

| **Cash A/c** |       | **Capital A/c** |
|--------------|-------|-----------------|
| 500,000      |       |                 |
|              | 200,000|                 |
| 150,000      |       | 500,000         |
|              | 30,000 |                 |
|              | 50,000 |                 |
| **Balance**  | **320,000** | **Balance** | **500,000** |

| **Purchases A/c** |       | **Sales A/c** |
|-------------------|-------|---------------|
| 200,000           |       |               |
|                   |       | 150,000       |

| **Rent Expense A/c** |       | **Salaries Expense A/c** |
|----------------------|-------|--------------------------|
| 30,000               |       | 50,000                   |

| **Accounts Receivable A/c** |       |
|-----------------------------|-------|
|                             | 150,000 |
| 150,000                    |       |
| **Balance**                | **0** |

Step 3: Trial Balance (Checks for Errors)

| **Particulars**            | **Dr (NPR)** | **Cr (NPR)** |
|----------------------------|--------------|--------------|
| Cash                       | 320,000      |              |
| Purchases                  | 200,000      |              |
| Rent Expense               | 30,000       |              |
| Salaries Expense           | 50,000       |              |
| Accounts Receivable        |              | 150,000      |
| Sales                      |              | 150,000      |
| Capital                    |              | 500,000      |
| **Total**                  | **600,000**  | **600,000**  |

Step 4: Financial Statements

• Income Statement (Profit & Loss):

  | **Particulars**            | **Amount (NPR)** |
  |----------------------------|------------------|
  | Sales Revenue              | +150,000         |
  | Less: Cost of Goods Sold   | -200,000         |
  | Gross Profit               | **-50,000**      |
  | Less: Rent Expense         | -30,000          |
  | Less: Salaries Expense     | -50,000          |
  | **Net Loss**               | **-130,000**     |
  

• Balance Sheet:

  | **Assets**                 | **Liabilities + Equity** |
  |----------------------------|--------------------------|
  | Cash: 320,000              | Capital: 500,000         |
  | Accounts Receivable: 0     | Less: Net Loss: 130,000  |
  | Inventory: 0               | **Equity: 370,000**      |
  | **Total Assets: 320,000**  | **Total Liabilities + Equity: 320,000** |
  

Advantages and Disadvantages of Accounting

Exam Tip

1. Memorize Key Definitions – Be ready to define accounting, bookkeeping, financial statements, and GAAP clearly.
2. Differentiate Financial vs. Managerial Accounting – Examiners often ask for comparisons (users, purpose, reports).
3. Practice Journal Entries – Always debit the receiver, credit the giver. Example:
   • Received cash from owner → Debit Cash, Credit Capital.
4. Understand the Accounting Cycle – Know the 10 steps and how they connect (e.g., Trial Balance → Financial Statements).
5. Real-World Applications – Relate concepts to Nepali businesses (e.g., eSewa’s transaction recording, Daraz’s inventory accounting).
6. Watch for Common Mistakes –
   • ❌ Mixing up debit/credit.
   • ❌ Forgetting to balance the Trial Balance.
   • ❌ Ignoring adjusting entries (e.g., depreciation, accruals).

Final Note: Accounting is the backbone of every business. Whether it’s eSewa tracking your bill payments, Daraz managing inventory, or Nepal Rastra Bank controlling inflation, accounting ensures accuracy, transparency, and trust. Master this unit, and you’ll build a strong foundation for Financial Accounting I and beyond! 🚀