Bookkeeping is the process of recording financial transactions in a systematic way. The objective is to make an accurate representation in monetary terms of each occasion when there is some exchange of value between the organisation and the world outside. For example a shopkeeper sells something and receives cash in return. This is the first stage of the accounting process; once you have recorded the data then you can classify it, summarise it and analyse it to your heart's content. Accounting transactions are raw data, the classifying and summarising are processes which turn these data into useful management information. Carefully planned bookkeeping practices can greatly assist the later processes, and in fact will lay all the groundwork for these.
Single entry bookkeeping Edit
Imagine you were asked to manage the money for a party that you and your friends were organising. The simplest way of recording the money flows would be a sheet of paper divided into two columns. In one column you would describe each transaction, eg "Bob's contribution", and next to that in the other column you would put how much Bob paid. Some of these transactions would be cash received, others would be payments made, for example "purchase of food".
An advance on this would be to have three columns, one for the description, one for money coming in, and the third for money going out. The advantage of this is that you could now easily add up all the "ins" and all the "outs" by themselves, and so know the total cash coming in and the total going out. The totalling of the ins and the outs turns a lot of detailed data into a useful summary, and you can see that it is much easier when you keep each type of money flow in a separate column:
|Description||Cash In||Cash Out|
|Hire of hall||100.00|
Double Entry BookkeepingEdit
A small informal club might get by with single entry bookkeeping, but any larger organisation will have some system of double entry. Yes, you've guessed it, this means that everything needs to be entered twice in the books of account - sometimes more than twice.
At the root of this is the Entity concept, which says that we should treat the organisation as a separate person from the founders, owners, management or staff. The organisation is self-contained as far as its accounts go.
But at the same time, all organisations are owned by someone - a partnership belongs to the partners, a company belongs to its shareholders, a charitable trust or society belongs to its trustees (who hold it in trust for the beneficiaries). An organisation cannot ultimately own anything: it is a bit like a bank account - a vehicle for holding someone's money. If we add up everything the organisation owns and subtract everything it owes we arrive at the net worth of the company, or its net asset value. What it should be worth if you were to sell it to someone else. This is also the value of the owners' capital. There must always be a balance: net assets must equal capital. We call this the accounting equation:
Assets - Liabilities = Owners' Capital
To start up an organisation the owners provide some money (capital). This increases the Assets (ie the bank balance). However the capital provided belongs to the owners. Let us say that the capital provided is 100. The assets are then 100 with the addition of the cash, but the capital is now 100 also.
If the organisation sells things at a profit, this profit belongs to the owners.it is an addition to capital. The owners can choose to pull the profit out, or leave it in the organisation to enable further growth to occur. If they leave it in this increases the capital of the organisation - the capital still belongs to the owners.