Accounting is a rough approximation for the groundwork and handling of all the money and banking related issues which are pertaining to any organization, be it big or small. The concept of accounting has been there for centuries altogether. It all began ever since the concept of money came into existence.
Humans in the earlier times also knew that there is a need for a proper system to keep records of money which is both incoming and outgoing. Bookkeeping was prominent in civilizations such as the Macedonians, Egyptian Civilization and most prominent among the Romans. Rulers such as Augustus of Rome kept close tabs with the accounts of his treasury. Any sort of mismatch in bookkeeping was a straight death sentence to the treasurer. In those days, accounting of transactions was a mandatory part of every kingdom. Treasurers had to become familiar with the basics of accounting and related topics to handle vast amount of bookkeeping data, all single-handedly.
Nowadays, it is only limited to people or businesses which have some prior knowledge of accounting. Whereas, there are instances when accounting is not even a part of the organization.
Modern-day accounting was brought into existence by the great Italian mathematician Luca Paciolo in 1494. As the years passed, more and more developments were brought into the subject and it evolved as the years passed. The late 19th Century witnessed a transition of accounting into a full time organized profession. It started to associate itself with local bodies such as “The Institute of Chartered Accountants of Wales and England.” Modern day business activities run on the basis of a language. A language which is used amongst the organization’s members. This language is nothing but “Accounting”. It is used by people such as money lenders, creditors, regulators etc. Accountants are none other than the people who exercise accounting as a profession. Accounting has many synonyms such as “Financial Accounting”, “Money Management” etc. to name a few.
Accounting, as a subject, can be broken down into:
Financial accounting refers to the practice of reporting a company’s monetary transactions. Accountants prepare reports on the money flow and it is such reports which forecast the financial health of the organization. External parties gain access to such reports for processes like external auditing etc. Data management or analytics is the key to maintaining healthy financial records.
What is meant by Financial Accounting?
As aforementioned, financial accounting is used to impart necessary financial reports to external entities such as income tax department, banks, auditors etc. This also helps maintain transparency with the government and other related organizations. Financial statements, also called as statements of income and balance sheets, are an indicator of the way activities take place in an organization. Financial accounting is based on a number of specific concepts. Some of these concepts are:
Accounting period Concept
Dual Aspect Concept
Realization Concept etc.
The above-mentioned concepts will be discussed in detail as the subsequent lessons are introduced. What makes financial accounting so significant? It is most often used for external reporting and helps control various policies of an organization.
These policies are often related to departments such as sales, marketing, sales for casting etc.
However, it suffers from a few downsides as well. Financial accounting is very conjoined in nature. Financial reports do not indicate a department-wise breakdown of the data. Hence, it becomes difficult for evaluating the financial performance of different departments. It also does not assist in identify the cost behaviour of a firm as it treats fixed and variable costs as the same. It is often fixed for a specific time and doesn’t leave any future scope for future for casting.
Major business decisions can be company expansions, buying or selling shares, addition or discontinuing of a brand or product, production line etc. Financial accounting does little to contribute to such business decisions.
Despite the drawbacks, it does holds its importance. It provides a basis for other departments to function. The reports generated are further analyzed as per the requirements of the major decision making stakeholders.
What is Management accounting?
Also referred to as “Custom-Made Accounting”, management accounting provides the necessary information which can be utilized for policy making and to oversee the daily operations of an organization. The data is displayed in an organized and meaningful manner such that it imparts all the necessary information which is essential for decision makers. Its basic function is to assist in planning and control. It also provides a comparison between ideally planned performance levels and actual performance levels. This helps in identifying the prospective weak spots and the concerned people can take decisions to correct them.
It is a very forecast oriented method of accounting. It focuses more on activities that could happen in the future and not those which have already taken place. The duration of the reports can be both long-term oriented or short-term oriented.
This again depends on the requirement by the decision makers.
Finally, the reports can be produced for a complete organization as a whole or, if required, be segregated into a departmental wise breakdown. This is something which financial accounting fails to do.
What is Cost accounting?
Before any major business decision takes place, costing is the main area of focus for any business owner. Costing enables a business to identify what particular product they wish to acquire would cost them. Costing isn’t limited to just products, but to operations and functions as well. The technical term associated with costing is “cost-analysis”. It can be defined as the process of gathering the required costing data of a particular product or a certain activity. The product/ service for which the costing data has to be found out are called as “ Cost Centers”. The main motive of cost analysis is to gather a complete cost breakdown of various departments, processes, jobs, services, products, campaigns etc.
It is closely associated with revenue based decisions which completely rely on cost analysis. These decisions can be in the form of selling price, business expansions, replacement decisions, inventory control, etc. Hence, the major functions of cost accounting can be broken down into three simple fragments:
To Determine Costs
To Facilitate planning
To control Business related activities.
Does it have any advantages over financial accounting? The answer to that is yes. Cost accounting helps an organization segregate profitable and non-profitable activities and products.
This also has a direct influence on the methods of production implemented. It’s always a wise idea to choose the economical option over the expensive one. Cost accounting helps in deciding just that. This has a direct effect on whether a company can attain a certain profit or loss over a specific product. Cost accounting also helps formulate alternative plans of action for a specific process. It also helps to make decisions when the market becomes challenging in terms of low demand, competitive prices and evolving technologies. These alternatives are analyzed and evaluated based on the data generated by the costing analysis. In simple terms, it helps ensure efficient use of available physical and human resources.
Would you like to read more about this topic? This book might interest you: Crash Course Modern Accounting.