As already stated, the expenses, such as rent, sal aries, storage, of a business, should not be grouped in any way to disturb comparisons of results. Expenses have two characteristics by which they may be classi fled. First, there is the nature of the expense—rent, heat, salaries, interest and the like. Separate ac counts should be set up to indicate the amount of each kind of expense. Secondly, the classes are sub divided according to the sources of income of which they are a cost; salaries, for instance, should be sub divided to show the salary cost of wheat, oats, hay, barley, etc.
4. Classifications of assets and first general rule regarding a classification of assets and liabilities is that it must give sufficient information. Accounts rAust not contain items of a totally different nature. Each account must include only the kinds of items indicated by its title, and the title should plainly indicate the nature of the items covered, without refer ence to any other records.
For example, the debts which are due a business establishment from its customers are separated into three divisions, namely : (1) good accounts receiv able which includes all debts owed when there is at present no doubt that the customer will pay; (2) doubtful accounts receivable which includes those ac counts which are overdue or those of which there is doubt that they can ever be collected in full ; and (3) notes receivable. These last items are carried in a separate account because the legal status of a note dif fers from that of a debt not formally evidenced. When a customer sends a business man a note in settle ment of all, or part of his purchase, he has closed out his open account and transferred his indebtedness to the form of a legal instrument, from which if neces sary, the business man could obtain immediate funds thru the bank. As notes receivable represent a dif ferent class of debts from open or unsettled accounts receivable, they are recorded separately in order to make this distinction evident.
5. Facts to be considered.—In deciding upon the system of accounts to be used in any particular busi ness, such questions as the kind of business, the number and nature of the different activities carried on, the amount of business transacted, the sales °•each com modity, the divisions of the enterprise (i e., branches, departments, etc.) , must be considered. The main principle to be followed is that of setting up enough accounts to furnish a complete history of every activ ity and every phase of the business. This informa
tion must be accurate and it must be presented in such a form that it may be relied upon without collateral support, or without reference to any other records, such as the posting media.
If the management is to interpret the progress of its business by the information which is obtained from its accounting records, the condition of any asset or any activity must not be disturbed by the fluctuations of any other. To illustrate, one frequently sees an asset account termed "buildings and machinery." This account, of itself, may mean very little. We will suppose that it contains a debit balance of $50,000 made up of $35,000 in machinery and $15,000 in build ings. The cost of each is the cost of the service which it will render during its service life. But the build ing, being very durable, will render its service thru a long period of years. It depreciates slowly. The service life of the machinery on the other hand will be much shorter. It depreciates much more rapidly. Moreover, buildings possess a definite sales value while used machinery—especially if it is of a special type—may bring little or nothing at a forced sale. Therefore, in this case the account "buildings and machinery" might seriously mislead any one who at tempted to determine the financial condition of the business by an examination of the accounts.
6. Reducing transactions to accounts.—The ques tion naturally arises as to the plan on which accounts shall be based. In an earlier chapter the gen eral account in which all commodities were in cluded, was called "grain." In a small business, of course, the use of one general account would some times be sufficient. However, this seldom occurs and the necessity of classifying each commodity must be confronted. Thus, instead of one account called "grain," separate accounts are necessary as : "wheat," "rye," "barley," etc.
On the other hand, in allocating expenses to the various sources of income of which they form a part of the cost, it is to be recognized that the purchase cost of each commodity constituted a charge against the income received from that commodity. A certain part of storage and cartage expenses, insurance, salesmen's salaries, etc., would be applied directly against each commodity. Under such conditions, each of these expenses would be separated into divisions corresponding to the source of income.