Finance illustration Finance theory

Recording financial information

Accountants have developed systematic and relatively simple methods for recording financial information. The initial starting point for collecting accounting information is to systematically collect records of financial transactions e.g. invoices, receipts etc and to enter these into some form of book keeping system.

Traditionally these records were kept in books referred to as ledgers. For example, there would be a ledger recording purchases, a sales ledger etc. Today these records are typically entered into computer based ledgers. This information can then be entered at the end of a period of time into a trial balance setting out the relationship between the assets (what a business owns or is owed) and the debits (what the business owes).

These two sides will balance - hence the term 'balance' - e.g. trial balance, or balance sheet. Figures from the trial balance can then be entered into the balance sheet of the business to show the financial position at a particular moment in time, e.g. the year end. Accounting systems are typically based on the double-entry recording system, in which every transaction will have two aspects - one on assets and the other on liabilities.

The double entry system can be illustrated by means of an example. The Computer Shop buys for £500 in cash a computer which it will then sell to a customer for £1,000. The shop has gained an asset (for £500) in the form of a computer, However, it has reduced its cash balance by £500. You can therefore see that there are two sides to the transaction. We can see how this translates down into a set of accounts. Assume that the computer shop owner originally set up the shop with £10,000 which they put into their bank account. This is shown below: > You can see the dual aspect of this transaction: Assets increase - stock of 1 computer. Liabilities increase - money owed to supplier.

Double entry book keeping is the process of recording each transaction twice - as an asset and a liability - in order to be able to set out balances showing the financial state of the business at a particular moment in time.

Supporting Documents

These downloads will help to put finance theory into context using real world examples from real businesses.

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