An Introduction to Accounting

Introduction

As we begin basics of accounting, it is important to start with a clear understanding of business, trade, and commerce. Accounting is closely linked to these activities—whether in charitable or non-charitable organizations—because all such activities fall under the broad term economic activity. Before diving into accounting concepts, we must first understand economic activities, because accounting is a system developed to measure economic activities. These measurements involve tracking the inflow and outflow of economic resources, which in turn generates useful information for decision-making. Accounting has universal application—it is used not only for recording the financial transactions of a large corporation or a government but also for tracking expenses in a small family event.

Economic Activity

Economic activities include the production, exchange, distribution, and consumption of goods and services at all levels of society. They are generally undertaken to earn income and generate wealth, helping to satisfy human needs with limited resources. These activities form the foundation of a nation’s economic growth and directly contribute to the Gross Domestic Product (GDP).

Every individual engages in some form of economic activity. For example:

• A salaried employee earns a monthly income by providing services and spends it on essentials like food, clothing, education, and utilities for their family.

• Businesses, organizations, companies, governments, and municipal corporations all conduct economic activities. While some aim to generate profits, others focus on creating social benefits for the public.

Introduction to Accounting

Once we understand economic activity, we can begin exploring accounting—why it is important and how it helps businesses maintain accurate and systematic records of financial transactions. These records are the means by which economic activity is identified and measured.

To explain accounting in simple terms, let’s consider a local Kirana (grocery) shop as an example.

Example: The Local Grocery Shop

When we purchase items like matchboxes, candles, soap, coffee, or spices on monthly credit, we do not pay immediately. Instead, the shopkeeper notes the cost of our purchases in a notebook under a page with our name. At the end of the month, we return to settle the total amount, and the payment is recorded. The shopkeeper keeps similar records for all customers. He also notes down the goods he receives from suppliers and the payments he makes to them. This helps him know:

• How much he is liable to pay and to whom.

• How much others are obligated to pay him and when they will make the payment.

This process ensures that the shopkeeper can track all financial transactions—both income and expenses.

Why Keep Business Records?

Have you ever wondered why businesses keep records of their transactions? Without these records, they would not know:

• The amount they are obligated to pay and when payment is due.

• The amount receivable and the expected date of receipt.

• How much they have earned over a given period.

Accurate and detailed records are essential for the smooth functioning of any business. They help in:

• Managing finances effectively.

• Making informed business decisions.

• Staying organized and prepared for the future.

Keeping detailed records is essential for businesses to function smoothly. It helps them manage their finances, make informed decisions, and stay organized.

This process of keeping organized and systematic records is called accounting. Accounting is important because it provides a clear picture of a business’s financial health. It shows:

• What the business owns (assets).

• What the business is liable to pay (liabilities).

• Its profits and expenses.

Such information is important for decision-making, growth planning, and meeting financial obligations.

Every business, regardless of its size, has numerous transactions that need to be recorded in the books of accounts through bookkeeping. To understand accounting, it is essential to first grasp the fundamentals of bookkeeping.

Learn more in our next article about Bookkeeping and Accounting.