Accounting is concerned with collecting, analysing and communicating financial information. It is to help those using the information to make more informed decisions.
Finance (or financial management) helps decision makers. It relates to ways in which funds are used and invested. Once funds have been raised, they will be invested in suitable way. Finance can help with evaluating the risks and returns associated with each opportunity.
For accounting information to be useful the accountant must be clear to whom the information is being prepared for and for what purpose. The main users of financial information are:
Customers - to assess continuity of business, to meet customers needs, insurance claims;
Competitors - how best to compete or leave market;
Employees - assess on whether to continue working for the business, rewards expectations;
Government - assessment of whether the firm should pay tax and how much, whether it complies with pricing policies, whether financial support is needed;
Community representatives - whether expansion is expected, employment for the community, willingness to fund environmental initiatives;
Investment analysts - whether to invest in the firm, evaluation of risks and future returns associated with the firm;
Suppliers - whether to continue to supply on credit, ability to pay for goods and services;
Lenders - whether to lend money, demand repayment, ability to pay interest;
Managers - whether the performance of the business needs to be improved and actions addressed, whether the business have financial flexibility over resources to take on new challenges;
Owners - whether to invest in the business or sell, decide on rewards offered to senior management.
Accounting may be viewed as a service with the different user groups as clients. The information should possess certain qualities, they should be relevant and accurate. They should make a difference and influencing decisions and predict future events. The information also need to represent what they should represent and be complete. They need to have accurate descriptions, allocated numerical measures and provide explanation where necessary. They should also be presented without bias and be neutral. No attempt should be made to manipulate decision.
Main characteristics
They also have some other characteristics:
Comparability. We may want to compare the performance of the business over time or compare certain aspects of business, thus the information should be treated in the same way (both over time and between businesses).
Verifiability. verified by independent experts through checking account balance or methods used for the information.
Timeliness. Information should be made available in time for users to make decisions.
Understandability. Information should be presented in clear and concise form.
A particular item of accounting information should be provided only if the costs of providing it are less then the benefits derived from the use as producing financial information can be very costly and the costs are often difficult to quantify. Costs of time spent to gather and analyse the information should be taken into consideration.
There are two fundamental qualities to determine the usefulness of the accounting information and four to enhance the usefulness and these should overweight the costs. The qualities are presented in figure below.
Source: Atrill P. "Accounting and Finance for Non-specialists"
Users, both from inside and outside of the organisation make decisions based on allocating of resources. For these resources to be efficiently allocated they need financial information.
The accounting system, therefore should identify and capture relevant information, record the information collected, analyse and interpret them and report in a manner that meet the users needs.
Efficient accounting system is an essential ingredient of effective business.
Managerial accounting and financial accounting
The nature of the accounting information produced can be divided into managerial accounting and financial accounting. Financial information are tend to be of a general purpose to provide financial information to investors and owners and other broad range of users. Managerial accounting, however, provides a certain degree of detail to help with particular operational decision. Financial accounting is generally a subject to regulation and the managerial accounting is not and can be designed to meet the needs of particular manager. Financial information are also normally produced on an annual basis and managerial reports will be produced as frequently as needed. Managerial accounting also generally provides information on the past performance and potential future performance to make some judgements about the future. Although financial accounting generally provides information on the monetary value, the managerial accounting may provide non-financial values, such as volume of inventories, number of orders received, number of new products launched.
The main differences have been presented in the figure below.
Source: Atrill P. "Accounting and Finance for Non-specialists"
Over the past decade the business environment has become more turbulent and competitive. These can be assigned to increase in sophistication of the customer, rapid changes in technology, deregulation of domestic markets, increased pressures from owners for competitive economic returns that brought fresh challenges to managers as well as other users. The accounting information become internationalised thus we see increasing harmonisation of the accounting rules. This should make the comparisons across different countries easier. Efforts are being made to continuously improve the accounting rules. Businesses have become more 'customer-driven" and focusing on satisfying customer needs, thus management accounting information often include information about the customers and the market. More sophisticated methods for managing business costs are being developed also.
Thus accounting information is a central part of the business management system. Managers can make decisions and allocate resources either to continue with certain business operations, invest in certain projects or sell particular product. Businesses set financial targets and if we do not understand financial information we are in disadvantage. By being able to understand and analyse financial information, we can determine the costs-benefits of certain projects. We are to be part of the wealth-creation process for all the stakeholders. The future success depends on satisfying the needs of those stakeholders with a view on the long-term profits. Focusing on a short-term rewards can be rather damaging.
Risk evaluation
When making financial decisions risks should be carefully considered. There is a relationship between a risk and return. With the higher return the risks increase. It has, therefore, implications when setting financial objectives. The owners of a business would require a minimum return to invest and the higher the risk the higher the return. We must strive for balance between the return and the risks.
References:
International Accounting Standards Board (2018), Conceptual framework for financial reporting, IASB, pp. 14-20
Atrill P et al. ( 2018), Accounting and Finance for Non-specialists, Pearson Edication. pp.10-26
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