Overview of Accounting
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Introduction
Whether starting your own company or working in the corporate world for an established company, a sound understanding of what it means to assess the financial performance of the company is necessary. Accounting plays an important role in finance because it provides crucial financial data through the implementation of financial statements and managerial reports. Knowing how to interpret these reports and statements is critical in order to appropriately allocate the companys financial resources in order to maximize the best return in the long run.
A financial manager must perform very specific financial functions on a day to day basis. “It is the responsibility of financial management to allocate funds to current and fixed assets, to obtain the best mix of financing alternatives, and to develop an appropriate dividend policy within the context of the firms objectives” (Block & Hurt, 2004, p. 11). Some other daily responsibilities required of financial management include credit management, inventory control, and the receipt and disbursement of funds. The most important function is to balance the risk and profitability of the company which is achieved through the analysis of financial statements and managerial reports.
Nature of financial statements and managerial reports
Accountants prepare certain basic financial statements for a business. In Chapter 2 of Foundations of Financial Management, 11e (Block & Hirt, 2005), are three basic types of financial statementsЖthe income statement, the balance sheet, and the statement of cash flows.
The income (earnings or operating) statement is the major device for measuring the profitability of a firm over a period of time. Note that the income statement covers a defined period of time, whether it is one month, three months, or a year. The statement is presented in a stair-step or progressive fashion so we can examine the profit or loss after each type of expense item is deducted.
According to Tracey (2005), the basic format of the income statement is as follows:
1. Sales Revenue- from the sales of products and services to the customers, plus any other income the business may have.
2. Less Expenses- which would include a wide variety of costs paid by the business, including the cost of products sold to customers, wages and benefits paid to employees, marketing expenditures, occupancy and administrative costs, interest expense, and income tax.
3. Equals Net Income- Which is referred to as the bottom line and means final profit after all expenses are deducted from the sales revenue.
The balance sheet indicates what the firm owns and how these assets are financed in the form of liabilities or ownership interest. Note that the balance sheet is a picture of the firm at a point in time. It does not purport to represent the result of transactions for a specific month, quarter, or year, but rather is a cumulative chronicle of all transactions that have affected the corporation since its inception.
According to Tracey (2005), the basic format of the balance sheet is as follows:
Assets, which are the economic Liabilities, which arise from borrowing resources the business owns; exam- money and buying things on credit. One reason the balance sheet is so, is due to this equation; Total Amount Recorded for Assets = Total Amount Recorded for Liabilities + Total Amount Recorded for Owners Equity Or Assets-Liabilities=Net Worth.
The purpose of the statement of cash flows is to emphasize the critical nature of cash flow to the operations of the firm. According to accountants, cash flow represents cash or cash equivalent items that can easily be converted into cash within 90 days (such as a money market fund). The statement of cash flows addresses issues by translating income statement and balance sheet data into cash flow information.
According to Tracey (2005), the basic format of the statement of Cash Flows is as follows:
1. Cash flow from profit-making activities, or operating activities, for its period.
2. Cash inflows and outflows from investing activities for the period.
3. Cash inflows and outflows from financing activities for the period.
Use of financial accounting information