By Annie WPL

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Define the term accounting. Summarise the nature and purpose of accounting. Identify the main users of accounting information. Identify the characteristics of financial information. Differentiate between managerial accounting and financial accounting. Identify the forms of business organisation.
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Accounting is the process of

recording, classifying, summarising, reporting business transactions, interpreting their effects

on the affairs of a company.

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This is the process of systematically recording all business transactions in the books of accounts in accordance with accepted principles.

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If information is to be meaningful and useful to user of financial statements, all business transactions must be classified into groups of similar nature. For example, transactions involving customers must be recorded and classified in the debtors ledger.

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Information from the accounting records are summarised by means of various financial listings. For example, a debtors listing provides a summary of amount owing by individual customers.

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Financial information is communicated to users by means of financial statements, such as Trading, Profit and Loss Account and the Balance Sheet.

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This is a process of interpreting or evaluating the financial performance of the business activities during the period.

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Book-keeping is the systematic recording in books of accounts of the business transactions of a company. Clearly, book-keeping is only the first and simplest step in the whole accounting process.

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A businessman would always want to find out

the amount of profit his business makes, the assets he owns and the amount of money owed to other people.

Unless he keeps proper records of his business transactions, he would not be able to keep himself informed.

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If they are making a profit or a loss. What their business is worth. What a transaction was worth to them. How much cash they have. How wealthy they are. How much they are owed by others. How much they owe to someone else. Provide information for decision making.

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Fundamental relationships in the decisionmaking process:

Event

Accountants analysis & recording

Financial Statements

Users

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Owners. Managers. Loan creditors. Prospective investors. Employees/Labour unions. Governments. General public.

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Profitability of the firm. The return yield to the contribution of capital. Financial stability of the firm as an index to the safety of their investment. Resources owned. Decision on whether to increase or decrease their existing ownership in the firm.

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Profitability (to obtain the maximum returns on invested capital). Operational efficiency (day to day operation). Planning, budgeting, control purposed, and decision making.

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Interested in the firms ability to pay the debts as they fall due. Whether to grant a credit limit or advance money to business.

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Decision to invest in a business. Earning capacity of business. Solvency or financial strength. The ability of the management.

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An assurance of steady employment. The information helps them discuss and arrange labour contracts. The ability of the firm to pay increase in wages.

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Evaluate or review tax returns. Checks that business enterprises are following government rules, regulations and laws.

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The effects of the firms activities on other people (eg effect of pricing on customers or by affecting the environment like pollution). The ability of the firm to survive long enough to honour its product warranties.

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1.

2.

The Government requires that all firms submit their annual financial reports. Describe the reasons why the government requires such reports. Differentiate between internal and external users of accounting information. Outline some reasons for these internal users.

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Characteristics

Relevance

Reliability

Comparability

Understandability

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Financial information cannot be useful unless it is relevant to the needs of users and help them to make economic decisions. Relevant information which has predictive value helps users to make decisions about the future. Relevant information with confirmatory value helps users to evaluate their past decisions.

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Reliable information is complete and free from significant error. It is also free from bias.

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Users may need to compare the financial information produced by a business with:
Information produced by the same business in previous years. Information produced by other business.

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The degree of financial sophistication of the intended users should be taken into account when preparing and presenting information for their use.

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Financial statements are used by both external users and internal management and provide general information about the entire company. For example, the balance sheet reports total inventories and the income statement reports cost of goods sold, but the costs of individual products are not disclosed to the public.

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Internal management needs detailed information to make decisions about its business. A comparison of managerial and financial accounting shows the differences between the two sets of information:
Managerial accounting. Financial accounting.

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Management accounting is concerned with the provision of accounting information to support the planning and control decisions made by managers.

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Examples of the information provided by a managerial accounting system might be:

A report on the costs of manufacturing a particular product. A report on the costs of running a particular department. A monthly analysis of expenditure, comparing actual and planned expenditure over a variety of budget headings.

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 A projection of sales volumes over the next 6 months, analysed by product group. A forecast of income and expenditure for each month of the year ahead, highlighting months in which the business might run into financial difficulties.

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The main features of managerial accounting information are:

The information are much more detailed. The information is often confidential and is intended for internal use only not for external publication.

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 There is no legal obligation to produce any managerial accounting information all and the information actually produced will differ widely from one business to another. The information often incorporates forecasts and projections. This predictive information helps managers to make plans for the future of the business.

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Financial accounting is concerned with the provision of accounting information to owners, investors and other external users who are not involved in the day-to-day running of the business. The accounting information provided for these users consists of a number of financial statements which are usually prepared once a year.

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The two most important financial statements are:

The profit and loss account, which summarises the financial performances of the business during the past year and reveals the profit or loss for that year. The balance sheet, which shows the financial position of the business at the end of the year.

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The main features of financial accounting information are as follows:

The information is provided in summarised form at annual intervals and lacks the detail associated with management information. There is a legal obligation to produce at least a minimum amount of financial accounting information. The information is usually restricted to a review of past financial performance and a statement of the current financial position.

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 Three

basic forms of ownership:

Sole proprietorships. Partnerships. Corporations.

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It is an organisation with a single owner. Tend to be small retail establishments and individual professional or service business for example, a single dentist, attorney, or public accountant. The owner has unlimited liability. The sole proprietorship is an individual entity that is separate and distinct from the owner.

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It is an organisation with two or more individuals who act as co-owners. Dentists, doctors, attorneys, and accountants tend to conduct their activities as partnerships.
Some can be large international firms.

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The owners have unlimited liability. The partnership is an individual entity that is separate and distinct from each of the partners.

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It is an organisation with many owners. An artificial entity created under state laws. Corporations have limited liability corporate creditors have claims against corporate assets only.
Individual investors are at risk only up to the amount they have invested in the corporation. Creditors cannot hold investors liable for the corporations debts.

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The owners are called shareholders or stockholders. Publicly owned vs privately owned corporations.

Public Shares in the ownership are sold to the public on a stock exchange; the corporation can have many thousands of shareholders. Private Shares in the ownership are owned by families, small groups of shareholders, and shares are not sold to the public.

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Corporations Advantages:
Limited liability. Easy transfer of ownership Shares of stock can be bought and sold easily (stock exchanges). Ease of raising ownership capital Many potential stockholders. Continuity of existence Life of the corporation continues even if its ownership changes.

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Corporations Disadvantages:
Possibility of double taxation Corporation pays tax at the entity level and its owners pay taxes on distributions of earnings to them.

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Proprietorships and Partnerships Advantages:

No taxation at the entity level Income of sole proprietorship and partnership is attributed to the owners as individual taxpayers.

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Proprietorships and Partnerships Disadvantages:

Unlimited liability Creditors of the business can look to the owners personal assets for repayment. Not easy to transfer ownership.

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Proprietorships and Partnerships Disadvantages:

Not easy to raise ownership capital Few, if any individuals interested in a particular proprietorship or partnership. No continuity of existence Changes in ownership terminate the proprietorship or partnership.

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Elements of Accounting

Assets

Liabilities

Owners equity

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Assets are items with money value that are owned by a business. Some examples are cash, accounts receivable (selling goods or services on credit), office equipment, premises.

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Liabilities are debts owed by the business. Paying cash is often not possible or convenient, so businesses purchase goods and services on credit. The name of the account used is Accounts Payable. Another type of liability is Notes Payable. This is a formal written promise to pay a specific amount of money at a definite future date.

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The difference between assets and liabilities is owners equity. This can also be called capital, proprietorship, or net worth.

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