Introduction to Accounting
Meaning of Accounting
Accounting is an information system of identification, measurement, recording, and reporting of economic events or transactions of an organization to internal and external users.
Accounting is a process of the following 4 (four) activities:
1. Identification: Identification is the selection of those events or economic activities that are measured in taka and that change the financial position of a particular organization. For example, sale of goods, rendering of services, payment of wages, etc.
2. Measurement: Assignment of numbers or symbols to events. For example, depreciation, loss due to fire, theft, etc.
3. Recording: The events identified as economic events or transactions are recorded to provide a history of the financial activities of the organization. Recording consists of keeping a systematic chronological diary (in order of date) of events, measured in taka. In this process, economic events are also classified and summarized.
4. Reporting: To make the identified and recorded activities more meaningful the information should be reported or communicated to the users of that information. In the end, formal financial reports, also called financial statements (e.g. income statement, owner’s equity statement, balance sheet, and cash flow statement) are prepared.
To make the communication more effective and to
disclose fully an accountant should have the ability to analyze and interpret
the reported information. To highlight the significant financial trends and
relationships an analysis involves the use of ratios, percentages, graphs,
charts, etc. An interpretation involves explaining the uses, meaning, and
limitations of reported data.
Technical definitions of accounting have been published by different accounting bodies. The American Institute of Certified Public Accountants (AICPA) defines accounting as:
“the art of recording, classifying, and summarizing in a significant manner and in terms of money, transactions, and events which are, in part at least of financial character, and interpreting the results thereof.”
This is a technical definition but if you study statements below, you will have a better understanding of accounting.
Concepts of Accounting
The definition of accounting claims the following points and you will have a clear understanding of accounting.
1. Accounting is Considered an Art and a Science
Accounting is considered an art because it requires the
use of skills and creative judgment. One has to be trained in this discipline
to be able to perform accounting functions well.
Accounting is also considered a science because it is a body of knowledge. However, accounting is not an exact science since the rules and principles are constantly changing (improved).
2. Accounting Involves Interconnected
"Phases"
Recording pertains to writing down or keeping records of business transactions. Classifying involves grouping similar items that have been recorded. Once they are classified, information is summarized into reports which we call financial statements.
3. Concerned with Transactions and Events Having
Financial Character
For example, hiring an additional employee is qualitative information with no financial character. Hence, it is not recorded in accounts. However, the payment of salaries, acquisition of an office building, sale of goods, etc. are recorded because they involve financial value.
4. Business Transactions are Expressed- in Terms of
Money
Events that take place during the accounting period must be measured in terms of money to be recorded. There are assigned amounts when processed in an accounting system. Using one of the examples above, it is not enough to record that the company paid salaries for April. It must include monetary figures – say, for example, Tk. 20,000 salaries expense.
5. Determination of Results
The results of the operations of an organization during an accounting period are determined through the preparation of an income statement, and the position of the same business is also disclosed at the end of the accounting period by preparing a balance sheet.
6. Interpreting the Results
Interpreting results is part of the phases of accounting. Information is useless if it cannot be interpreted and understood. The amounts, figures, and other data in the financial reports have meanings that are useful to the users.
By studying the definition alone, we have learned some important concepts of accounting and also an idea of what accountants do. You may not notice but the simple things you do and encounter every day can be related to some level of accounting. You make budgets, count changes, and check the receipts from the supermarket.
You may also have listed things you spent your money on. We are surrounded by businesses – from managing our own money to seeing the profit statements of big corporations. And where there is business, sure there is accounting.
Accounting is, therefore, a system/process/method/ science/technique/art that measures, records, classifies, summarizes, and processes events mainly of a financial nature relating to an identifiable economic entity and communicates in one understandable form to its interested users.
Accounting-An Integral Part of Business
Accounting as an integral part of business, helps business follow four areas:
• As an Integral System, accounting provides relevant financial information as inputs to external user groups (creditors, shareholders, customers, and so on) for making the right decision at the right time.
• As a Language of Business, accounting communicates operating performance (either net profit or loss) and financial position (assets, and obligations) meaningfully to the interested users. The essence of information depends greatly on how it is communicated to the users.
• As a Tool of Internal Control and External Reporting, accounting ensures internal control over operations inside the business. Accounting helps management look back (control). External reporting facilitates the efficient use of scarce resources and their proper allocation among the involved parties.
• Finally, as a Means of Accountability,
management (stewards of resources) of public limited companies can discharge
its accountability to the shareholders (owners of resources) by providing an
annual report (including financial affairs) and answering questions put at
the annual general meeting of shareholders.
Meet Mr. Zaved Mr. Zaved started a printing business. He invested Tk.
100,00,000 personal money to start the entity’s operations. After a month, he wants
to know how much the business made. He also wants to know if the money he
invested is still there. Without a way of recording the activities of the
business, we will not be able to answer his questions. Surely, we can tell him,
"Mr. Zaved, we made a lot this month!", but we need proof! And he
needs the figures! We can easily answer Mr. Zaved's questions if we keep
track of the company's transactions. If we used Tk.30,00,000 of the
Tk.100,00,000 we had at the beginning to buy printers and pay the bills, then
we'd have Tk.70,00,000 cash left. If we collected Tk.50,00,000 from our
customers, then we would have Tk.120,00,000. Easy, right? |
Users and Uses of Accounting
Accounting is often called the language of businesses as it communicates the financial information of a business enterprise to divergent groups of users. We know language is a way of expressing our feelings to others and this includes various words, terms & grammar. Like this, Accounting has its terms [Debit, Credit], and grammar [Double entry system]. So Accounting is, of course, a language. The information that a user of financial information needs depends upon the kinds of decisions he or she makes and on his or her ability.
Based on the differences in the decisions the users of financial information are divided into two broad categories:
Internal Users: Individuals directly involved in managing and operating an organization.
Management: Management is a group of people responsible for achieving the entity’s goal, Management at all levels uses accounting information in planning, controlling, and evaluating business operations. To perform these functions effectively and efficiently, managers need detailed, timely, and relevant information. So it is said that accounting information provides the ‘eyes and ears of management’.
Management may need information of
➢ cash
position to pay bills/debts;
➢ manufacturing
cost of each unit of product;
➢ profitable
product line; and
➢ profitable customers, etc.
External Users: Individuals or organizations, not directly involved in running the organization.
Present and Potential Investors/Shareholders: Present owners or investors or shareholders are very much concerned with the position of their investments in the business. They want to know the level of performance (profit, cash position, dividend, etc.) of the business in the past year. A present investor can decide to dispose of (sell) or hold a particular security based on accounting information. The future potential investors are also interested in knowing the past performance of the business and their financial position to invest (to buy stock or bond) in the future.
Present and Potential Creditors or Suppliers: The creditors, such as trade creditors, banks, insurance, leasing companies, etc. use accounting information to make sure whether the business will be able to pay their claims, interest, and principal in time and their earning capabilities. They will expect to analyze the profitability (ability to make a profit sufficient to attract and hold investment capital), liquidity (ability to meet short-term obligation), and solvency (ability to meet long-term obligation) position of the business before making a loan.
Tax Authorities: Tax authorities, such as the National Board of Revenue (NBR) need financial reports (statements) to ascertain the propriety and accuracy of taxes and other duties declared and paid by a company and to know whether the company complies with the tax laws.
Regulatory Agencies: Regulatory agencies may include the Bangladesh Securities and Exchange Commission (BS&EC), Bangladesh Bank, Registrar of Joint Stock Companies, stock exchanges (DSE or CSE), tax authorities, and so on. Public limited companies are required to report to these regulators. Public utilities like Bangladesh Railway, Gas, PDB, WASA, etc. are to defend their service charges with regular accounting reports to the government.
Customers: Customers are interested in information indicating the fairness of pricing policies, such as the relative proportion of unit price, which consists of costs, profits, and taxes, and in the differential costs between a product and another produced by the same firm at a different price. Periodical accounting reports give them such information.
Employees: Employees also need these reports (i) in making collective bargaining agreements (CBA) with the management, and (ii) in the case of labor unions or for individuals in discussing their compensation packages, fringe benefits (e.g., bonus), job security, promotion and other issues related to their career.
Economic Planners: In measuring the national income of the country which deals with total production, inventories, income, dividends, taxes, etc., economic planners greatly depend on accounting information from different companies, institutions, business and production units, etc., for planning and forecasting.
Thus accounting information is used by different groups for many and varied purposes. It is difficult to think of our present system of production, investments, credits, and taxation without Accounting. Practically the whole nation uses accounting information directly or indirectly.
Differences between Book-keeping and Accounting
Many people consider bookkeeping and accounting as synonymous terms, but they are different from each other. Accounting includes book-keeping but in a myopic sense, we sometimes make differences between these two in the following manner:
Fields in the Accounting Profession
Accountants may be employed in five broad fields:
1. Public Accounting/Independent
Professional Accounting
2. Private Accounting /Financial and
Cost Accounting
3. Not-for-profit Accounting
4. Opportunities in Government
5. Forensic Accounting
1. Public Accounting: An area of accounting in which the accountant offers expert services to the public in much the same way that a doctor serves patients and a lawyer serves clients.
Auditing and Assurance: The principal service provided by a chartered accountant (CA) is auditing. Banks normally require an audit of the financial statements of companies that apply for a sizable loan. The CA examines the financial statements of companies and expresses an expert opinion as to the fairness of presentation. When the presentation is fair, users consider the statements to be reliable. The CAs are not employees of the audited concern but are independent professional persons working for a fee.
Taxation (Tax service): Taxation is another area of public accounting. The work performed by tax specialists includes:
- tax advice and planning as to how transactions may be completed to incur the smallest tax;
- preparation and filing of tax returns;
- representing clients before governmental agencies, such as the National Board of Revenue.
Management Consulting: In
addition to the previous ones, public accountants commonly offer management
advisory services which include:
design,
installation, and improvement of a client’s general accounting system and any related
information systems it may have for managing the company.
This may involve:
- selecting appropriate computers (hardware);
- developing software; and
- Installing the procedures necessary to bring an information system into effective operating use.
Management consulting may also include:
- financial planning;
- budgeting;
- forecasting;
- inventory control;
- project management;
- cost-benefit analysis;
- total quality management (TQM); and
- performance management.
2. Private Accounting: An area of accounting within a company that involves such activities as:
General Accounting: Recording daily transactions, processing the recorded data, and preparing financial statements for the use of management, owners, creditors, and governmental agencies.
Cost Accounting: Recording the cost of producing specific products and preparation of cost statements.
Budgeting: Assisting management through the preparation of all operating and financial budgets.
Accounting Information Systems: Designing both manual and computerized data processing systems for recording transactions and preparation of financial statements.
Tax Accounting: Preparing tax returns and doing tax planning for the company.
Internal Auditing: As a part of the internal control system, an internal audit reviews the company’s operations to see if they comply with management policies and evaluates the efficiency of operations.
3. Not-For-Profit Accounting: An area of accounting in which the organizations are operating their activities to provide services without any profit motive. Such organizations include:
- Hospitals
- Colleges/Universities
- WASA
- Bangladesh
Railway
Local
& state governmental units (e.g., municipality, union council, city corporation), etc.
Not-for-profit accountants record and account for ‘Receipts and Payment Statement’ and ‘Income and Expenditure Statement’.
4. Opportunities in Government: Another option is to pursue one of the many accounting opportunities in governmental agencies. For example, the National Board of Revenue (NBR), the Office of the Comptroller and Auditor General of the Government of Bangladesh (CAG), and the Bangladesh Securities and Exchange Commission (BS&EC) employ accountants. There is also a very high demand for accounting educators at public colleges and universities and in central and local governments.
5. Forensic Accounting: Forensic accounting uses accounting, auditing, and investigative skills to conduct investigations into theft and fraud. It is listed among the top 20 career paths of the future. The job of forensic accountants is to catch the perpetrators of the estimated Tk.600 billion per year of theft and fraud occurring at U.S. companies. This includes tracing money laundering and identity theft activities as well as tax evasion. Insurance companies hire forensic accountants to detect insurance fraud, such as arson, and law offices employ forensic accountants to identify marital assets in divorces.
Forms or Types of Business Organization
In Bangladesh, a business organization may be any one
of the following five types:
- Proprietorship
(Sole-trader ship)
- Partnership
- Company
- Corporations
- Cooperative Societies
Proprietorship: A form of business that
- is
owned by a person; and
- requires
a relatively small amount of money (capital) to start. In other words, it is a
form of business enterprise where
- the
owner (proprietor) enjoys or receives the profit and suffers any losses and is
personally liable for all debts of the business;
- there is no legal separation between the business as an economic unit and the owner.
For example, grocery stores, beauty salons, clothing stores, bookstores, etc.
Partnership: The relation between persons who have
agreed to share the profits of a business carried on by all or any of them
acting for all. (Section 4 of the Partnership Act 1932). The essentials or
ingredients of partnership are the following:
- An
association of two or more persons (maximum 10 for banking business and 20 for
other types of business).
- A partnership deed is the essence.
- To
carry on a business (for example, mere ownership of a business by some persons
will be treated as co-ownership, not a partnership).
- Sharing
profits (including losses, if any) of the business.
- Partners
are jointly and severally liable for the losses.
- Business
to be managed by all or any one of them acting for all.
Each member individually is called a partner, they are collectively called a firm, and the name under which their business is carried out is called a firm name.
Firms of accountants and lawyers, and doctors’ practices are examples of partnership.
Company: A business organized as a separate
legal entity under the Companies Act, of 1994, and having ownership divided into
transferable shares of stock. In the USA, companies are known as corporations.
The holders of the shares (stockholders) enjoy limited liability; that is, they
are not personally liable for the debts of the corporate entity. Stockholders
may transfer all or part of their shares to other investors at any time (i.e.,
sell their shares).
For example, Square Pharmaceuticals Limited, Beximco Textiles Limited, etc.
Corporation: In Bangladesh, several corporations were created by presidential order no. 1972 to look after the management of all nationalized and abandoned industrial units. For example, BJMC, BTMC, BCIC, BF&SIC, BSEC, etc.
Cooperative Societies: Forms of organizations that are owned and run jointly and voluntarily by their members who share the profits or benefits as per the Co-operative Society Act, 2001. For example, Pathfinder Multipurpose Cooperative Society Ltd., Bangladesh Police Co-operative Society Ltd., National Fishery Society, etc.
Add New Comment