The primary objective of accounting is to provide information that is useful for decisionmaking purposes. From the very start, we emphasize that accounting is not an end, but rather it is a means to an end. The final product of accounting information is the decision that is enhanced by the use of that information, whether the decision is made by owners, management, creditors, governmental regulatory bodies, labor unions, or the many other groups that have an interest in the financial performance of an enterprise.
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Discuss accounting as the language of business and the role of accounting information in making economic decisions.
Because accounting is widely used to describe all types of business activity, it is sometimes referred to as the language of business. Costs, prices, sales volume, profits, and return on investment are all accounting measurements. Investors, creditors, managers, and others who have a financial interest in an enterprise need a clear understanding of accounting terms and concepts if they are to understand and communicate about the enterprise. While our primary orientation in this text is the use of accounting information in business, from time to time we emphasize that accounting information is also used by governmental agencies, nonprofit organizations, and individuals in much the same manner as it is by business organizations.
ACCOUNTING FROM A USERS PERSPECTIVE
Many people think of accounting as simply a highly technical field practiced only by professional accountants. In reality, nearly everyone uses accounting information daily. Accounting information is the means by which we measure and communicate economic events. Whether you manage a business, make investments, or monitor how you receive and use your money, you are working with accounting concepts and accounting information.
Our primary goal in this book is to develop your ability to understand and use accounting information in making economic decisions. To do this, you need to understand the following:
- The nature of economic activities that accounting information describes.
- The assumptions and measurement techniques involved in developing accounting information.
- The information that is most relevant for making various types of decisions.
Exhibit 11 illustrates how economic activities flow into the accounting process. The accounting process produces accounting information used by decision makers in making economic decisions and taking specific actions. These decisions and actions result in economic activities that continue the cycle.
|Exhibit 11||THE ACCOUNTING PROCESS|
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Accounting links decision makers with economic activitiesand with the results of their decisions
TYPES OF ACCOUNTING INFORMATION
Just as there are many types of economic decisions, there are also many types of accounting information. The terms financial accounting, management accounting, and tax accounting often are used in describing three types of accounting information that are widely used in the business community.
Financial Accounting Financial accountingProviding information about the financial resources, obligations, and activities of an economic entity that is intended for use primarily by external decision makersinvestors and creditors. refers to information describing the financial resources, obligations, and activities of an economic entity (either an organization or an individual). Accountants use the term financial position to describe an entitys financial resources and obligations at a point in time and the term results of operations to describe its financial activities during the year.
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In Sony Corporations 2004 financial statements to owners, financial position is presented as consisting of $88,777 million in assets (including cash, inventories, property, and equipment), with obligations against those assets of $61,951 million. This leaves $26,826 million as the owners interest in those assets. In the same report, results of operations as measured by net income (which measures the excess of revenue over expenses) were $1,531 million for the year ending March 31, 2005.
Financial accounting information is designed primarily to assist investors and creditors in deciding where to place their scarce investment resources. Such decisions are important to society, because they determine which companies and industries will receive the financial resources necessary for growth.
Financial accounting information also is used by managers and in income tax returns. In fact, financial accounting information is used for so many different purposes that it often is called general-purpose accounting information.
Management Accounting ManagementProviding information that is intended primarily for use by internal management in decision making required to run the business. (or managerial) accountingProviding information that is intended primarily for use by internal management in decision making required to run the business. involves the development and interpretation of accounting information intended specifically to assist management in operating the business. Managers use this information in setting the companys overall goals, evaluating the performance of departments and individuals, deciding whether to introduce a new line of products, and making virtually all types of managerial decisions.
A companys managers and employees constantly need information to run and control daily business operations. For example, they need to know the amount of money in the companys bank accounts; the types, quantities, and dollar amounts of merchandise in the companys warehouse; and the amounts owed to specific creditors. Much management accounting information is financial in nature but is organized in a manner relating directly to the decision at hand.
Tax Accounting The preparation of income tax returns is a specialized field within accounting. To a great extent, tax returns are based on financial accounting information. However, the information often is adjusted or reorganized to conform with income tax reporting requirements. We introduce the idea of tax accounting information to contrast it with financial and management accounting information. Although tax information is important for a companys successful operations and is related to financial and management accounting information, it results from a different system and complies with specialized legal requirements that relate to a companys responsibility to pay an appropriate amount of taxes. Laws and regulations governing taxation are often different from those underlying the preparation of financial and management accounting information, so it should not be a surprise that the resulting figures and reports are different.
The most challenging aspect of tax accountingPreparation of income tax returns and anticipating the tax effects of business transactions and structuring them in such a way as to minimize the income tax burden. is not the preparation of an income tax return, but tax planning. Tax planning means anticipating the tax effects of business transactions and structuring these transactions in a manner that will minimize the income tax burden. Because the focus of this text is financial accounting, and because tax accounting is quite complex, we defer coverage of tax accounting subjects to subsequent accounting courses.
Exercise 1.1, 1.16
Critical Thinking Cases 1.5