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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.
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 USER’S PERSPECTIVEMany 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:
Exhibit 1–1 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.
TYPES OF ACCOUNTING INFORMATIONJust 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 makers—investors 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 entity’s financial resources and obligations at a point in time and the term results of operations to describe its financial activities during the year.
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 company’s 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 company’s 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 company’s bank accounts; the types, quantities, and dollar amounts of merchandise in the company’s 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 company’s 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 company’s 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. Critical Thinking Cases 1.5 | |||||||||||||||
