Basic Purpose of Accounting
Deriving information needed from the accounting records
200 days of accounting
As asked by his employer, Mr. Kallu Singh started recording all the transactions relating to the business in the accounting record (a ruled book). Based on the Money Measurement Concept, he took into consideration, only those transactions which are capable of being measured in value terms.
On an average there used to be 20/30 transactions a day. He used to start recording on a new page each day. Thus, recording a days transactions resulted in a page getting filled up. This was carried on regularly.
Mr. Oberoi in need of information
One day, after 200 days of recording, Mr. Oberoi called Mr. Kallu Singh and told him that he wanted to know whether Mrs. Vimla was due to them or if they had to pay anything to Mrs. Vimla.
How would Kallu Singh derive the information Mr. Oberoi needs?
At the time of writing the accounting records, whenever there was a transaction involving Mrs. Vimla, Kallu Singh used to mention her name. Therefore he can derive the information Mr. Oberoi needs, by locating all the transactions where Mrs. Vimla's name appears and analysing them.
For deriving the needed information, Mr. Kallu Singh marked all the lines where Mrs. Vimla's name appeared on the 200 pages. He then noted down the information including the amounts involved by grouping the transactions into two as
Transactions in which Mrs. Vimla got/took the benefit
[when she bought vegetables on credit]
Transactions in which Mrs. Vimla gave the benefit
[when she paid cash for amounts due or as an advance]
While noting down the amounts he assigned
- a positive sign to the amounts where Mrs. Vimla took the benefit and
- a negative sign to the amounts where Mrs. Vimla gave the benefit.
The data collected by Mr. Kallu Singh
Adding up the two sets of amounts separately he could arrive at two sums.
- A positive sum (+ 8,125) representing the total benefit received by Mrs. Vimla
- A negative sum (− 8,006) representing the total benefit given by Mrs. Vimla.
The two sums were set off and the remainder gave an idea of the amount owed and by Mrs. Vimla to them or by them to Mrs. Vimla.
- Writing off one from/against the other
In setting off two numerical values of opposing nature, we deduct one from the other or more specifically the larger from the smaller or its equivalent. What remains is the difference of the two, with the nature of the larger.
The net resultant sum on setting off the two amounts would be + 119 (+8,125 and −8006). This implies that Mrs. Vimla is due to them an amount of 119.
The mathematical signs could have been assigned to the amounts either way. Had Mr. Kallu Singh taken the amounts due to them as negative, then the totals would have been −8,125 and +8,006 and the net figure would have been −119. Whether the amounts due to them are represented by a positive figure or negative figure is dependent on the signs attached. The signs are only an indication of the opposing nature of the amounts.
What was Mr. Oberoi's need?
Mr. Oberoi was in need of information. He wanted to know the amount due from or due to Mrs. Vimla.
This, we say, is the need for business information or accounting information. Information relating to Mrs. Vimla in this case.
Difficulty in deriving the needed information..
Mr. Oberoi initially understood accounting as recording all the business transactions based on the money measurement concept i.e. recording all the accounting transactions.
But after seeing Mr. Kallu Singh conduct the exercise of deriving the small piece of information needed, Mr. Oberoi, understood that there is a flaw in his understanding.
He understood that the method he was using for maintain the accounting record had limitations. One major limitation being that it could not make available the information he needed readily. For finding the small information relating to Mrs. Vimla, he had to get such a laborious exercise conducted.
He understood that it would not be prudent to think in terms of deriving whatever information he wanted, by following the method of recording transactions in the way he was getting done.
He, therefore, approached a professional accountant for advice. From what the accountant told him he could understand that what he was trying to do was correct, but the format in which he was getting it recorded was not suitable for serving his need for information.
The Basic purpose of Accounting
Why was Mr. Oberoi taking up the method suggested by the professional accountant?
Because he was in need of information and he was convinced that recording accounting transactions in a manner the accountant suggested would enable him to derive the needed information readily.
The idea that recording accounting transactions is accounting is in a way correct. But the limitation was on account of the format in which he was getting the accounting transactions recorded.
Before we go to learn what the format is and how it is maintained, we state the basic purpose of accounting.
The Basic Purpose of AccountingThe basic purpose of Accounting is derivation of information.
Accounting is a tool that enables us to derive the financial information.