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Financial & Managerial

Accounting

The Basis for Business Decisions

McGraw-Hill/Irwin © The McGraw-Hill Companies, Inc., 2002


Chapter
1 What is Accounting?
The systematic recording, reporting, and analysis of financial transactions
of a business.

• Which type of organisation need accounting?


– Sole trader. This means one person who runs a business on their own, or
perhaps with a few employees. The main aim is to make a profit.
– Partnership. This is two or more people who carry on a business in
common, intending to make a profit.
– Limited company. A limited company is a legal organisation set up under
the Companies. The owners are called the shareholders, and it
is run by directors, who are appointed by the shareholders.
– Public sector bodies. Traditionally, these bodies have not existed to make a
profit, but to provide a service.
– Clubs and societies. Again the intention of club is not to make a profit, but to
provide services for members.
• All of these organisations require some form of accounting

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What are the reasons that Accounting is
undertaken by these organisations?
• To record what money has come into the
organisation and what has gone out.
• To help managers make decisions about how to run
the organisation.
• To tell other people about the activities and
consequent profit or loss of the organisation during
the past year, or other period.
• To tell other people about the present financial state
of the organisation.
• To provide a basis for taxation.
• To provide a basis for planning future activities etc.

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• If this is the concern of accounting,
simply accounting presents the
information to those who are
interested in the welfare of the
organisation.

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Accounting Information :
What is information?
– It is a stimuli that has meaning in some context for its
receiver.
– When information is entered into and stored in a
computer, it is generally referred to as data. After
processing (such as formatting and printing), output data
can again be perceived as information.
• Thus, the first objective of accounting is to provide
information that is useful for decision making purpose.
• This accounting information is not an end but it is a
means to an end.
• The end result of accounting information is the
decision made by the use of this information.

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........
• To make economic decision we need to
understand the following points
A. The nature of economic activities that
accounting information describes.

B. The assumptions and measurement


techniques involved in developing accounting
information.

C. The information that is most relevant for


making various type of decisions.

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Figure 1. THE ACCOUNTING
PROCESS
The
accounting
.
process

Accounting
“links” decision
makers with Accounting
Economic
economic
activities information
activities  and
with the results of
their decisions.

Actions
(decisions) Decision
makers
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Types of Accounting Information
• The terms financial accounting, management accounting and tax
accounting often are used in describing the three types of accounting
information that are widely used in the business

Financial Accounting
• It describes financial resources, obligations and activities of an economic activities
• it helps investors and creditors to make decisions
• it also helps managers and others
• in fact it is used for many purposes “general purpose”.

Managerial Accounting
• It involves the development and interpretation of accounting information
intended to assist management in operating the business.
• it helps to set overall goals, to evaluate performance, to decide to introduce
new line of product, etc
Tax
• Financial accounting information is a base to prepare tax
• This information, however is adjusted or reorganized in line with the
income tax reporting requirements

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The Accounting information system

1) Income Statement
Inputs Process Outputs 2)
3)
Balance Sheet
Cash Flow

1. Accounts
2. Journal
3. General
Ledger
4. Trial
Balance

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Users of accounting information
• Users of accounting information can be divided into two
a. External and
b. Internal users
• External users of accounting information are individuals and other
enterprises that have a financial interest in the reporting
enterprises, but that are not involved in the day to day operations
of that enterprise.
• External users of financial accounting information may include
users with a Direct Financial Interest, which are
-Investors and
-Creditors
• And, users with an Indirect Financial Interest are like
-Tax Authorities.
-Regulatory Agencies.
-Labor Unions.
-Customers & Economic Planners.
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Objectives of external financial Reporting
• The accounting profession has identified certain objectives of
external reporting to guide its efforts to refine and improve the
reporting of information to external decision makers.
• These general objectives are
 The first objective and the most general is to provide
information that is useful in making investment and credit
decision.
 The second objective is more specific than the first objective, is
to provide information that is useful in assessing the amount,
timing and uncertainty of future cash flow.
 The most specific objective of external financial reporting is to
provide information about the enterprise’s resources, claims to
those resources and how both the resources and claims to
resources change over time.
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The primary financial statements

Balance Sheet

Income Statement

Statement of Cash Flows

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These Financial
Statements are Lens to
View Business

Financial
Statements

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Characteristics of Externally Reported
Information
A Means to
an End
Usefulness Broader than
Enhanced via Financial
Explanation Statements

Based on
Historical in
General Purpose
Nature
Assumption

Results from Inexact and


Approximate Measures
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b. Internal accounting information users
– Management Accounting provide Information
for internal users.
– The users of this information usually people
inside the organization
– Management Accounting Information helps
for
• Planning future periods
– Strategic planning
– Capital budgeting
– Annual budgeting
– Short-range planning

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Users of Internal Accounting Information

 Board of Directors
 Chief Executive Officer
 Chief Financial Officer
 Vice Presidents
 Business Unit Managers
 Plant Managers
 Store Managers
 Line Supervisors

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Information System

Financial information provided


Information Users Decision Support
Cost & Revenue Determination
Investors Job costing CVP analysis
Creditors Process costing Performance
Managers ABC evaluation
Owners Sales Incremental
Customers
Assets & Liabilities analysis
Employees
Plant and Budgeting
Regulatory
equipment Capital
agencies
Loans & equity allocation
Receivables, Earnings per
payables & cash share
Cash Flows Ratio analysis
From operations
From financing
From investing

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Integrity of Accounting Information
Integrity of Accounting information is enhanced in three
primary ways.
First certain institutional futures add significantly to the
integrity of accounting information. These features like
-standards for the preparation of accounting
information
- an internal control structure
- audits of financial statements
Institutional Features
Generally Accepted Accounting Principles (GAAP or IFRS)
Financial Accounting Standards Board
Securities and Exchange Commission
Internal Control Structure
Audits

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Integrity of Accounting Information

Second, several professional accounting organizations play


unique roles in adding to the integrity of accounting
information.
These Professional Organizations are
American Institute of Certified Public Accountants
Institute of Management Accountants
Institute of Internal Auditors
American Accounting Association

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Integrity of Accounting Information
Finally, and perhaps most important, is the personnel competence,
judgment and ethical behavior of professional accountants.
Competence, Judgment and Ethical Behavior include
Certified Public Accountants (CPAs)
Certificate in Management Accounting (CMA)
Certificate in Internal Auditing (CIA)
Code of Professional Conduct

These three elements of the accounting profession come


together to ensure that users of accounting information can
rely on the information to be fair representation of what it
asserts to represent.

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END OF CHAPTER 1

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