Financial accounting (Asset, liability, revenue, expense and sale) - Essay Example

Accounting Terminologies Asset: An asset is an economic resource with three essential characteristics: It provides a probable future benefit involving a contribution to future net inflows.It is within the control of the entityIt results from a past transaction or event.Assets are of two types, namely current assets and fixed assets. ‘Current assets, commonly called working capital, represent the portion of investment that circulates from one form to another, in the ordinary conduct of business.

’(Lawrence J Gitman, page 628)i. Examples are cash, inventories, receivable, and others. A Fixed asset is used and exploited for the purposes of business for a longer and continuous period of time. The benefits of fixed assets are obtained for a number of years. Examples are land, buildings, goodwill, machinery, and others. In balance sheets fixed assets are classified as ‘non- current assets’ or ‘fixed assets’. Further those are classified as tangible or intangible assets. Use of fixed assets is written off to profit and loss account as depreciation.

Liability: A liability is an economic obligation that has following three characteristics:It will involve a probable future responsibility to transfer assets to others.It is not expected to be avoidable.It results from a past transaction or event.Liabilities are of two types, namely current liabilities and non- current liabilities. Liabilities whose obligation to pay arise within a period of twelve months or in a business cycle are called current liabilities. These are classified in balance sheet on liabilities side as ‘current liabilities’ and also include the current obligations (arising within 12 months) of long term liabilities.

It may also be shown as deduction from current assets in order to calculate net current assets. Long term liabilities or non- current liabilities are those are due to be paid beyond a period of twelve months or a business cycle. These are shown separately than current liabilities on liability side of balance sheet. Expenses: Expenses generally result from increases in liabilities or decreases in assets. For example rent for use of business premises increases the current liabilities and thus results in expenses.

Expenses are deducted from total revenue or income in an income statement or profit and loss account in order to compute profits or losses during an accounting period. Expenses may be revenue expenditure or non- revenue expenditure Revenue expenses are used to compute profits or losses of the business. Non- revenue expenses are generally added to assets in respect of which those are incurred.Revenue: Revenue generally results from increases in assets or decreases in liabilities from primary operations of the business.

Revenue is recognized only on completion of following conditions:The revenue must be realized in the form of cash or a claim to cash.The earning process must be substantially complete. The earning process may consist of an exchange of goods or the performance of services.Sale: Sale of goods takes place on transfer of ownership to the buyer and receipt of value or claim to the sales value of such goods. Sales are recognized as revenue from regular business of entity. The goods dealt in are those in the regular course of business of the entity.

Sale is treated as revenue or income in the profit and loss account for purpose of calculation of profit or loss earned during the accounting period. Sales that are not realized immediately are considered accounts receivables and classified as current assets in the balance sheet. Purchase: Goods purchased in regular course of business are called the purchases of the business. Purchases are recognized as expenses on transfer of its ownership to the entity. Those are deducted from sales in a profit and loss account in order to compute profits/losses of an accounting period.

Credit purchases are accounts payable and classified as current liabilities in the balance sheet of an entity. References