Introduction to Accounting

We will begin by taking and look at the definition for accounting and some accounting terms. As you have increase knowledge of various accounting terms it will enable you to analyze and interpret the accounting records of your business.

Objectives

Upon completion of this topic you should be able to:

1. Define accounting and accounting terms

2. Appreciate the difference between bookkeeping and accounting

3. State the purpose of accounting

4. Identify users of accounting information

5. Identify different types of businesses

6. Distinguish between Financial and Management Accounting

What Is Bookkeeping?

Let us begin this unit by defining two important terms in accounting: bookkeeping and accounting.

Activity 1-A

Great start! Now let us look at these definitions

As you can see, accounting is made up of two elements:

1. Recording business transactions - Book keeping

2. Presenting the information

Purpose of Accounting

The purpose of accounting is to provide a means of recording, reporting, summarizing and interpreting economic data.

“The primary purpose of accounting is to identify and record all activities that impact the organization financially. All activities, including purchases, sales, the acquisition of capital and interest earned from investments, can be classified in monetary terms and posted to a specified account as an accounting record. These transactions typically are recorded in ledgers and journals and are part of the process known as the accounting cycle.” (ehow 1999-2001)

Types of Accounting Information

An accounting information system provides data to help decision makers both outside and inside the business. Decision makers outside the business are affected in some way by the performance of the business. Decision makers inside the business are responsible for the performance of the business. For this reason, accounting is divided into two categories:

• financial accounting for those outside; and

• managerial accounting for those inside.

Management Accounts

Management accounting refers to the processes and procedures implemented for internal decision making and reporting within an organization. It provides information that is useful in running a business by internal users, usually accomplished through custom designed reports. These are produced as often as a business wants them (usually monthly). They can be prepared using the business’s own internal policies and bookkeeping/financial management system. Internal users, Senior and middle Management use accounting information to run business. Employees utilize accounting information to determine a business’s profitability and profit sharing.

Management account information or reports should:

• Relate to the part of the business for which the manager is responsible. For example, a Production Manager wants information on costs of production but not on advertising.

• Involve planning for the future. For instance, a budget would show financial plans for the coming year.

• Meet two tests:
  • the accounting information must be useful and relevant; and
  • it must not cost more to gather and process than it is worth.

Managerial accounting generates information that managers can use to make sound decisions. The four major types of internal management decisions are:

1. Financial Decisions—determine what amount of capital (funds) are needed to run the business and whether to secure these funds from owners or creditors. In this sense, capital means money used by the business to purchase resources such as machinery and buildings and to pay expenses of conducting the business.

2. Resource Allocation Decisions—identify how the total capital of a business is to be invested, such as the amount of machinery to be purchased in any one year.

3. Production Decisions—decides what products are to be produced, by what means, and when.

4. Marketing Decisions—establishes selling prices and advertising budgets; determining the location of a business's markets and how to reach them.

Financial Accounts

Financial accounting refers to the fundamental guidelines, polices, procedures and regulations mandated by the General Accepted Accounting Principles (GAAP), which was established by the Financial Standards Board (FASB) and/or government regulators. It provides information designed to satisfy the needs of external users. This reporting is done in the form of financial statements. These accounts are usually produced annually. They are based on historical information and are rarely used internally. Financial accounts are used by external users for several reasons.

The external users of accounting information fall into six groups; each has different interests in the business depending on how you are financially structure and thus will want answers to unique questions. The groups and some of their possible questions are:

• Owners and Prospective Owners. Has the business earned satisfactory income on its total investment? Should an investment be made in this business? Should the present investment be increased, decreased, or retained at the same level? Can the business install costly pollution control equipment and still be profitable?

• Creditors and Lenders. Should a loan be granted to the business? Will the business be able to pay its debts as they become due?

• Employees and their Unions. Does the business have the ability to pay increased wages? Is the business financially able to provide long-term employment for its workforce?

• Customers. Does the business offer useful products at fair prices? Will the business survive long enough to honour its product warranties?

• Governments. Is the business, such as a local public utility, charge a fair rate for its services? How much tax does the business owe?

• The General Public. Is the business providing useful products and gainful employment for the local citizens without causing serious environmental problems?

Users of Accounting information

https://www.youtube.com/watch?v=7Pb5ixJUgHo

Activity 1-B

Recommended Answer

Now that you have distinguished between management and financial accounting and there users lets now look at the different types of account.