INTRODUCTION

In this chapter, we shall derive the basic double entry system which underlies the financial statements described in the previous chapter. We shall find that the double entry system is logically derived from the balance sheet identity. It is essentially a means of recording and marshalling the effect of accounting events (transactions or revaluations) in order to enable them to be summarised conveniently in the form of financial statements. Thus, conceptually, the double entry system is a logical outcome of the financial statements, although in practice the financial statements are a product of the double entry system.

The need for some system of recording and marshalling transactions may not be obvious from the examples in the previous chapters, where statements were prepared without the apparent use of such a system. This appearance was deceptive, because the examples given there had one extremely unrealistic feature: they were based on very few transactions. In practice, even very small businesses may make many transactions in a single day, and thousands within a year. It would therefore be very cumbersome for them to reconstruct their balance sheet after each transaction, as was done in the previous chapter, and even more so for a multi-national company to reconstruct its balance sheet every time it purchases a postage stamp!