Finance and accounting are essential elements of business life. It protects the owners of the business and the public. These are wide subjects and often mean many things to many people. They are concerned with management of business financial resources. They measure and communicate financial information provided from the accounting system to stakeholders, lenders, creditors, employees and government. The objective is to maximise the stakeholders wealth.
Accounting operates through basic principles and rules through Statement of Principles (SOP). Over the past years there has been an efforts to bring together the rules that apply to each separate country in one set of accounting standards. Financial accounting keeps stakeholders informed on the financial position of the business. Directors and managers are responsible for running the business and are accountable to the stakeholders to maintain regular reporting.
Accounting
Accounting presents financial results of the business activity. It can be classed as a scorecard to determine how the business is doing. We can determine how we are doing as a business, which problems should be looked at and for problem solving of different solutions.
Accounting is part of the information system within an organisation. Accounting must ensure that the information is accurate, reliable and timely as well as relevant to the purpose that it is provided. It should be consistent for comparability and easy to understand.
Data should be:
Accurate - free from error or content or principle,
Reliable - representing the information that user believes that it represents,
Timely - available in time to support the decision making,
Relevant - applicable to the purpose required, for example to support an explanation,
Consistent - to allow like to like comparison,
Clear - capable of being understood.
The conceptual frameworks
To ensure these characteristics accounting operates within a framework. This framework is constantly changing and evolving as new practices and techniques are developed. Many conceptual frameworks have been developed. The basic of them is that financial statements must be useful. In 1989 the International Accounting Standards Board (IASB) issued a framework for the US. In 1999 the Accounting Standards Board (ASB) in the UK has issued their own framework called the Statement of Principles (SOP) for financial Reporting.
The Statement of Principles (SOP)
The SOP is a basic structure for determining objectives to transactions that are reported in published accounts. Its use is not mandatory but it is a statement of guidelines. It determines the main users of the financial information as:
* investors;
* lenders;
* employees;
* suppliers;
* customers;
* government;
* the general public.
It primarily focuses on investors and assumes that other interested parties have similar interests. It consists of 8 chapters with the following topics:
The objectives of financial statements - to provide information that is useful to the users;
Identification of the entities that are required to provide financial statements reporting;
The qualitative characteristics of the information (materiality, relevance, reliability, comparability, comprehensibility);
The main elements included in the financial statements - such as assets and liabilities;
When transactions should be recognised in financial statements;
How assets and liabilities should be measured;
How financial statements should be presented for clear and effective communication;
The accounting by an entity and financial statements for interests of other entities.
Accounting concepts
The accounting concept is bound by rules. The five most important concepts are: Prudent concept, Consistent concept, Going Concern concept, Accruals concept, Separate valuation concept. Other concepts include: Materiality concept, Dual aspect concept, Realisation concept, Historical Cost concept, Money measurement concept, Periodicity concept, Business Entity concept and Substance Over Form concept.
These are the principles underpinning the preparation of accounting information.
The Prudence concept
Prudence means being careful or cautious. We need to based the reporting on assumption that profit and revenue are not anticipated but only added to income statement when realised in the form of cash or other assets. Companies must report all losses as soon as they are known.
The Consistency concept
This is an ethical rule that there is an uniformity within the accounting treatment of like items within each accounting period. Business may use a variety of methods to calculate amortisation and how to value its inventories. Although there is an motion in showing a truer and clearer picture. If a company wants to make a change they need to explain it in their reporting.
The Going Concern concept
This rule assumes that the business will continue its operations and existence in the foreseeable future and generate future wealth.
The Accruals concept
This rules specifies that the revenues and costs shall be accounted for as they are earned and incurred and in the period they relate to. The fact that we have not receive an invoice it doesn't mean that we have not incurred costs and we only be paying for the later on.
The Separate Valuation concept
It relates to the determination of the aggregate amount of any item. Each individual asset value must be determined separately. There must be a review of each material item ( IAS16 - Property, Plant and Equipment, IAS36 - Impairment of assets, IAS37 - Provisions, Contingent Liabilities and Contingent Assets).
The Substance Over The Form concept
This rule requires the structuring of the report to show economic reality over the adherence to regulations. When company acquires as asset using finance lease, it must disclosure the asset on the balance sheet even if it does not hold the legal title to the asset and disclosing separately how much the company still owns for it. The machine is used to generate income for the business in the same as purchasing machine.
The Business Entity concept
This rule requires that the accounting applies to business activities and not the activities of the owners.
The Periodicity concept
It requires to produce financial statements at a set time. In the UK as per the Companies Act 2006 annual and interim financial statements are required to be produced by public limited companies each year.
The Money Measurement concept
It relates to a measurement rule that enables information to be fairly compared by providing accepted unit of converting amounts into measures.
The Historical Cost concept
It relates to practice of valuing assets at their original acquisition cost. The only measure of value its the historical cost. Although the historical cost may not be realistic it does provide a consistent basis for comparison and eliminate need for subjectivity.
The Realisation concept
It is a recording and measurement rule that increases a value should only be recognised at realisation of assets by sale to an independent reseller. For example, the revenue is only recognised only when it is realised - when the same take place, product delivered and ownership transferred to customer. Orders get cancelled.
The Dual Aspect concept
It is a measurement rule that provides basis for double-entry booking. Every transaction includes both the giving and receiving of value. For example, reduction in cash results increase in inventory.
The Materiality concept
Misstatement of material information may mislead the information users. It overrides the recording and measuring rule that allows a certain amount of judgement. For example the cost of stationary is marked as an expense whether or not it has been used as it would be pointless to determine value of such low cost items.
The Fair And True View
The accounting reports should show the true and fair view. The true and fair value relates to the extend to which the principles and concepts have been applied.
UK accounting standards
A number of standards have been developed to reflect truth, fairness and consistency in preparation of financial information. The accounting standards are called Financial Accounting Standards (FRSs). There are also many other diverse influences on the form and content of the company accounts. These standards are being continually reformed, updated and replaced. Due to diversity of the different regulations, each company needs to develop their own accounting policies being appropriate to the circumstances to present financial information of the business fairly. There are different methods of valuing inventories or charging the cost of machine over its useful time. FRS 18 standard dictates where profit should be recognised (the realisation concept) and the requirement of neutrality. It is to ensure that companies choose accounting policies that are most suitable to their individual circumstances, the policies are reviewed and replaced as necessary on the regular basis. Companies also need to report accounting policies and any changes to them on their annual reports and accounts.
Financial performance relates to income statement and financial position to relates to the balance sheet.
International accounting standards
UK Financial Reporting Standards includes a section explaining its relationship to any relevant international accounting standard. Different countries develop a variety of different practices. The counties may differ in terms of who finances the business, tax systems, the level of government control and the degree of the transparency of the information. Increase in international trade increases need for harmonisation as it is difficult to bring together different practices. The UK accounting standards have already moved close to the international accounting standards.
Financial accounting
Financial accounting is primary concerned with historical information and reporting of the information to the owners of the business, government, investors, lenders, suppliers, customers etc. Financial accounting is concerned with the balance sheet, income statement and statement of cash flows. It includes the monitoring and recording of the company transactions, classification of recording in accordance with accounting standards and legal requirements. It requires processing of high volume of data relating to purchase invoices, supplier payments, sales invoices, receipts from customers, other cash transactions, employee expense and payroll data. Reports, such as analysis of debtors, creditors, sales analyse, cheque and automated payments, records of non-current assets, invoice lists.
Management accounting
Management accounting is primarily concerned with provision of information to managers within the organisation within the product costing, planning and control, decision making etc. These functions are varied in businesses. As much as the financial accounting is concerned with the past, the management accounting looks at the present and the future. It is needed for problem-solving and attention-directing. It includes cost analysis, decision-making, sales pricing, forecasting and budgeting and so on.
Financial management
Financial management is the management of the processes associated with efficient acquisition or resources, both long-term and short-term. It allows the operations management meets its financial objectives. It cover the strategic management, risk management and operations management disciplines. It allows management to achieve its financial objectives. It reports the financial results to the users. The objectives need to be in line with the stakeholders and maximising their wealth. It includes the management of corporate funds in line with company policy. This includes banking relationships, investment and borrowing.
Financial accounting and management accounting is included into:
* forecasting revenues and growth
* planning activities
* managing costs
* identifying alternative costs of sourcing
* managing cash
* negotiating with bankers
* evaluation of investment
* measuring and control of performance
* union negotiations
* costing compliance with social, environmental and sustainability requirements
Bibliography:
Davies, T., Crawford, I., 2011. Business Accounting and Finance, Pearson Education.
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