The concept of financial accounting primarily refers to a department or individual within a company whose primary role is the analysis and collection of financial information related to said company. Ordinarily, this involves drafting and reporting financial statements, of which are usually released to the public or internal stockholders in order to aid in informational disclosure.
As such, financial accounting in particular is important for both business owners and other members of the financial sector when performing analysis prior to the decision-making process. Generally, it is highly unlikely that any sort of financial decisions can be efficiently made without first consulting a financial accountant either directly working beneath said companies or hired from external contracting firms.
Accounting helps in decision making primarily by informing all parties on the sort of information pertinent to the decisions they must make. Whether this is through an internal financial audit in order to determine cutbacks or cost-averaging for the company’s controlled expansion, financial accounting is absolutely vital to any sort of financial decision making.
Why is Accounting Information Important for Good Decision Making?
When performing any sort of move in the context of business, it is often important to make controlled calculations in order to determine the soundest approach for said move and to minimize the risk of losses or other untoward outcomes.
However, this method of rational decision making comes with one drawback – a significant requirement for information so as to perform these calculations with.
Oftentimes, the information required for these decisions must not only take public opinion and morality into account, but also that of technical financial data, and as such this is where the role of accounting and its subsequent accounting information is brought into play.
For outside parties or entities, however, financial accounting information either disclosed by the company itself or through rigorous independent analysis is often used in aggressive financial moves, such as assessing the liquidity of a company, or whether they are capable of upholding a significant credit without defaulting.
What are the Major Types of Financial Accounting?
With the vast amount of information brought into play during the lifespan of a company, it is not uncommon for particularly large financial entities or firms to employ several teams of accountants to divide the workload up. These departments are often separated based on the sort of work they perform, though it is likely all of these accountants are capable of performing any of these functions.
Audit
Most often performed in aggressive financial decision making, audits are performed either internally within the company or are performed towards other entities in order to determine their financial state and the profitability or solvency therein.
Budget
The most common type of financial accounting, budget accounting primarily involves assessing the entities own internal financial plans as well as their current financial state in order to determine factors such as profit margins, inventory management and expansion rate.
Forensic
The least common form of financial accounting, forensic accounting is usually performed by governing bodies in order to determine whether an entity or firm has evidently engaged in financial misconduct, such as tax fraud or insider trading.
Management
Management accounting, otherwise known as managerially assisted financial accounting, is a form of financial accounting wherein an accountant or accounting department provides information to individuals within a managerial position in order to assist in decision making that may improve efficiency of the business or entity.
Often headed by a CFO or chief financial officer, management accounting is the most pivotal form of accounting on which companies and entities survive upon. An efficient financial management department is essential to the healthy and prosperous function of any organization.
Tax
Primarily used in the United States, the sub department of tax accounting is often conscripted by companies or other financial entities to aid in compliance with federally sponsored tax laws, of which non-compliance may result in hefty fees or even a total shutdown of the business itself.
In order to avoid these punishments, many companies often subcontract the services of external accounting firms that will assess the company’s internal cash flow and calculate the required tax disclosure and debit that must be released.
Social
The most ambiguous of financial accounting duties, social financial accounting is primarily concerned with corporate social responsibility wherein they disclose to the public or potential investors of the company or entities’ environmental and societal impacts, primarily using significant figures and mathematical evidence to back up their claims.
Not all corporations or entities possess a social financial accounting department, as it is a highly subjective subdepartment of accounting, and often blurs the line between hard mathematical figures and speculative opinion.
Importance of Financial Statements in Decision Making
Financial statements are the most common type of output for financial accounting departments, usually detailing the final annual period operating budget, profit margin percentages, liabilities and projected numbers for the entity in question.
Unless the company is registered as a publicly traded entity or otherwise makes its own internal financial information available upon request, it is likely that financial statements will only be provided to high-ranking executives or career specialists within the company itself.
Primarily, the role of financial statements in decision making is to provide a background of information on which to base the decision from. If, for example, a manager requests an internal financial statement for a quarterly period, they may be able to track employee performance output, budget overextension and even initiate an alternate business plan based entirely off the information found therein.
Another way financial statements are used in the financial sector is prospective investors or federal auditors requesting a financial statement wherein they may ascertain whether the entity or companies own internal profit generation is sufficient enough to act as an investment vehicle or stable economic enterprise.
As can be seen from these examples, financial statements are essentially a peek into the inner workings of a company or entity, albeit in a form that does not take non-quantifiable information into account, such as employee morale or public opinion.
What are the Four Types of Financial Statements?
Due to the wide variety of information that a company may provide when disclosing their internal workings via a financial statement, it is not uncommon for accounting departments to separate this information into four categories.
This method of informational disclosure, apart from aiding in brevity and communicative simplicity, also ensures that no unneeded information is disclosed about the company or entity, allowing it to maintain some degree of anonymity or privacy, which may be an advantage in particularly aggressive financial markets.
Balance Sheets
Among the most commonly disclosed financial statements by publicly traded companies, balance sheets are an informational bulletin released by financial organizations that inform the general population of the calculated value of a company or entity.
This is done by subtracting the companies’ liabilities or debts as well as the value owed to shareholders from the total financial value of the company itself.
However, a large drawback to balance sheets is that it does not often disclose the entire speculative value of the company, or the liquidity of said tangible asset values. As such, professional investors or investment firms may perform more in-depth and probing assessments of the company, far beyond what an ordinary balance sheet disclosure may provide.
Income/Revenue Statements
Though income and revenue differ semantically as well as technically, these two types of financial statements are often confused due to the fact that they are both disclosed in concern of a company or entity’s value generation related to its sales or services.
Income is, unlike revenue, the calculated total profit of a company, often found by subtracting its operating costs and liability payments from its total value generation.
Revenue-also called gross income – on the other hand, does not bring this calculation into account and instead simply reflects the total value generated by the company over a set period. As such, revenue is less commonly requested by external entities, as it paints a less accurate picture of the internal workings of an organization.
The difference between income statements as opposed to balance sheets is that the balance sheet provides only a momentary snapshot of a company’s financial state at a certain point in time, while income statements or revenue statements usually concern a period of time, of which provides a more accurate picture into the general function of a company or entity as well as its financial history.
Cash Flow Statements
Unlike an income or revenue statement, cash flow statements must track both the incoming and outgoing financial transactions of an entity or company, essentially assessing both the losses and gains of said company.
While the cash flow statement does not provide any more insight than an income or balance statement would in concern of gross profitability generated by an organization, it does allow a savvy investor or trained auditor to determine the exact financial managerial skills of the company’s internal teams, empowering creditors or federal entities to assess whether a company is defaulting or underpaying its liabilities or operating expense debts.
Cash flow statements are federally required in most countries, and as such are prepared on a quarterly or monthly basis by an entities’ financial accounting teams.
Discrepancies often found in cash flow statements are usually that of a company improperly managing its financial position, apparently underpaying liabilities and loans, which most often is presented as the company retaining too large a profit margin in comparison to their outgoing cash flow.
Shareholders’ Equity Statements
Not usually disclosed to federal entities or similar organizations, shareholder equity statements refer to an assessment sheet that discloses the corporation stockholder’s legal ownership of a company or entity’s value and assets, with the liabilities and debts subtracted from this total.
This often equates to the total value of a company or entity subtracted by the value it owes to other organizations, which is then divided among the shareholders according to their position of ownership within the company.
Generally, larger shareholders who possess ownership of a significant percentage of a company will also possess the most prominent percentage of a company’s equity, with sole proprietorship companies stating an almost entire shareholder equity to its single owner. This is quite uncommon, however, especially in the case of publicly traded entities.
What is Financial Management Accounting?
Primarily overseen by the CFO or chief financial officer of a company, financial management accounting is the internal process of an entity or company controlling its own internal financial position as well as its future plans in concern to its economic and societal standing.
Expansion plans such as aggressive sector takeovers, new product roll outs or even simple conversion from a business plan to hard financial numbers all fall under the purview of the financial management division.
In companies structured with a board of shareholders or conglomerate of smaller financial entities, financial management and its connected chief financial officer provide clarity and disclosure about the company’s future and inner workings, oftentimes preparing presentations concerning the financial state, benchmarks, budgeting and consumer trends related to the company or conglomerate.
In terms of decision making, the information disclosed under the functions of financial management allows all individuals or entities with access to this information to make informed decisions with their individual goal in mind.
What is the Main Objective of Financial Management Accounting?
The financial management department of accounting’s primary goal is to ensure the continued function and prosperity of its parent company by utilizing information disclosed by other internal departments of accounting in order to formulate strategies and analysis.
The most common function of a finance manager, or even that of a chief financial officer, is to carry out the business plan by the shareholders or executive members in the form of a financial business model, essentially acting as the technical factor behind the wider-scope decisions and wishes of the company’s ranking members.
References
1. Fred., Phillips (2011). Fundamentals of financial accounting. Libby, Robert., Libby, Patricia A. (3rd ed.). Boston: McGraw-Hill Irwin. ISBN 9780073527109.
2. Paul H. Walgenbach, Norman E. Dittrich and Ernest I. Hanson, (1973), Financial Accounting, New York: Harcourt Grace Javonovich, Inc.
