Financial Accounting

The purpose of accounting is to provide the information that is needed for sound economic decision making. The main purpose of financial accounting is to prepare financial reports that provide information about a firm’s performance to external parties such as investors, creditors, and tax authorities. Managerial accounting is associated with financial accounting in that managerial accounting is for internal decision making and does not have to follow any rules issued by standard-setting bodies. Financial Accounting is performed on several underlying concepts that have a significant impact on the practice of accounting.

Underlying Assumptions, Principles and Conventions:

Financial accounting depends on the following underlying concepts:

Assumptions:  They separate entity assumption, going-concern assumption, stable monetary unit assumption, stable monetary unit assumption, fixed time period assumption.

Principles: The principles are cost principle, matching principle, revenue recognition principle, full disclosure principle.

Modifying conventions: They depend on materiality, cost-benefit, conservatism convention, and industry practices convention.

Financial Statements:

Businesses have two primary objectives. They are earning a profit and remain solvent. Solvency represents the ability of the businesses to pay its bills and service its debt.

The four financial statements are reports which allow evaluating the profitability and solvency of a business. These reports include the following financial statements.

• Balance Sheet
• Income Statement
• Statement of Owner’s Equity
• Statement of Cash Flows

For the reports to be useful, they must be understandable, timely, relevant, fair and objective.

Transactions:

To record transactions, one must identity an event that affects the entity financially. Measure the even in monetary terms. Determine which accounts the transaction affects. It is used to determine the transaction increment or decrement the balances in the accounts. Record the transaction in ledgers.

Accounting Process:

Once a transaction occurs, a sequence of activities begins to identify and analyze the transactions and their accounting periods; which is referred to as the accounting cycle.