Accounting is a term that describes the process of consolidating financial information to make it clear and understandable for all stakeholders and shareholders. The main goal of accounting is to record and report a company’s financial transactions, financial performance, and cash flows. Accounting standards improve the reliability of financial statements. The financial statements include the income statement, balance sheet, cash flow statement, and the statement of retained earnings. The standardized reporting allows all stakeholders and shareholders to assess the performance of a business. Financial statements need to be transparent, reliable, and accurate.
Types of Accounting
The field of accounting can be broadly divided into the following two:
Financial Accounting
Financial accounting involves the preparation of accurate financial statements. The focus of financial accounting is to measure the performance of a business as accurately as possible. While financial statements are for external use, they may also be for internal management use to help make decisions.
Accounting principles and standards, such as GAAP (Generally Accepted Accounting Principles), IFRS (International Financial Reporting Standards), or ASPE (Accounting Standards for Private Enterprises), are standards that are widely adopted in financial accounting. The accounting standards are important because they allow all stakeholders and shareholders to easily understand and interpret the reported financial statements from year to year.
Managerial Accounting
Managerial accounting analyzes the information gathered from financial accounting. It refers to the process of preparing reports about business operations. The reports serve to assist the management team to make tactical decisions.
Managerial accounting is a process that allows an enterprise to achieve maximum efficiency by reviewing financial accounting, deciding on the best following steps to take, and then broadcasting the required steps to all internal business managers.
An example of managerial accounting is cost accounting. Cost accounting focuses on a detailed break-up of costs for effective cost control. Managerial accounting is very important in the decision-making process.
Importance of Accounting
Accounting plays a vital role in running a business because it helps you track income and expenditures, ensure statutory compliance, and provide investors, management, and government with quantitative financial information which can be used in making business decisions.
There are three key financial statements generated by your records:
- The income statement provides you with information about the profit and loss
- The balance sheet gives you a clear picture on the financial position of your business on a particular date.
- The cash flow statement is a bridge between the income statement and balance sheet and reports the cash generated and spent during a specific period of time.
It is critical you keep your financial records clean and up to date if you want to keep your business afloat. Here are just a few of the reasons why it is important for your business, big or small:
It Helps in Evaluating the Performance of Business
Your financial records reflect the results of operations as well as the financial position of your small business or corporation. In other words, they help you understand what’s going on with your business financially. Not only will clean and up to date records help you keep track of expenses, gross margin, and possible debt, but it will help you compare your current data with the previous accounting records and allocate your budget appropriately.
It Ensures Statutory Compliance
Laws and regulations vary from place to place, but proper accounting systems and processes will help you ensure statutory compliance when it comes to your business. The accounting function will ensure that liabilities such as sales tax, VAT, income tax, and pension funds, to name a few, are appropriately addressed.
It Helps to Create Budget and Future Projections
Budgeting and future projections can make or break a business, and your financial records will play a crucial role when it comes to it.
Business trends and projections are based on historical financial data to keep your operations profitable. This financial data is most appropriate when provided by well-structured accounting processes.
It Helps in Filing Financial Statements
Businesses are required to file their financial statements with the Registrar of Companies. Listed entities are required to file them with stock exchanges, as well as for direct and indirect tax filing purposes. Needless to say, accounting plays a critical role in all these scenarios.
Communicates results
Accounting helps to communicate company results to various users. Investors, lenders, and other creditors are the primary external users of accounting information. Investors may be deciding to buy shares in the company, while lenders need to analyze their risk in deciding to lend. It is important for companies to establish credibility with these external users through relevant and reliable accounting information.
