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I Want to Become an Accountant
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Published: Sep 7, 2023
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Essay on Accounting: Meaning, Functions, Importance, Principles and Limitations
Essay on Accounting :- 1. Introduction to Accounting 2. Meaning of Accounting 3. Functions 4. Importance 5. Systems 6. Principles 7. Concepts 8. Accounting Conventions 9. Limitations.
- Essay on the Limitations of Accounting
Essay # 1. Introduction to Accounting:
Several thousand years ago when human beings first developed the need to accumulate information about economic resources such as land, livestock and other personal property, accounting got originated. It emerged as an information system formulated for accountability in the exchange of goods and services.
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With the invention of money there was an ease in the manner in which commodities and services were exchanged. Money became a unit of measurement. Throughout history accounting profession has continued to grow in response to the ‘financial information needs’ of individuals and societies.
Accounting is a function of economic and social development. It is the language of business. It records business transactions on a monetary basis in a set of books in a scientific manner. Cash plays a vital role in all types of business activities. One party pays it and the other party receives it. Even in non-cash transactions, cash has to be paid or received in future. Accounting provides information in a classified and a summarized form as financial statements.
It comprises Trading Account, Profit and Loss Account, and Balance Sheet. Account is that aspect of accountability that accounts for the purpose for which cash is paid or received. Trading Account and Profit and Loss Account are prepared to ascertain the profits earned or losses incurred for a particular period. The balance sheet shows the financial position of a business as at a particular point of time.
Accountants are the practitioners of accountancy. They are information specialists who collect, process and report economic information about specific financial events for business and non-business activities. Today, we observe several million individuals engaged in professional accounting activities and several billions dependent on such information. Thus, accounting has a wide scope in the spectrum of economic and social development of any country, be it developed, developing or backward.
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Accounting is considered as ‘the language of business’. It is the language employed to communicate financial information of the business to various parties interested in such information. When an event is to be reported (say in English, Hindi, Kannada), certain rules are followed diligently so that what is communicated is understood by the readers appropriately.
Similarly, in accounting also the events of the business are to be communicated to the users by following certain set of rules diligently, so that the firm does not run into the risk of being misunderstood. Accounting language has two important components – (1) symbols in the form of ‘Debit and Credit’ and (2) grammatical rules in the form of generally accepted accounting principles (GAAP).
Accounting stems from ‘book-keeping’ the science and art of correctly recording in books of account all those business transactions that result in the transfer of money or money’s worth. Accounting relates to the work of maintaining various books of accounts, say, journal proper, subsidiary books, ledger, etc., which are generally done by junior employees as and when the transactions take place.
For this reason these books are called Books of Original Entry. Though the original records are maintained in a systematic way, they cannot by themselves provide information for judgement (decision) unless they are analysed and interpreted. Therefore, accounting comes into the picture.
Examining the cited definitions, we can infer that book-keeping is concerned with recording aspect. On the other hand, being comprehensive in nature, accounting includes book-keeping and spreads its tentacles to the analysis and interpretation of the data recorded. In fact, accounting designs proper system for recording the transactions.
The modern system of accounting is based on ‘double-entry principle’. Being scientific in character, double-entry principle of accounting has definite objectives to fulfill. It prescribes the process through which the objectives can be achieved. Accounting is a macro system.
In its micro system it includes several branches in the form of Financial Accounting, Cost and Management Accounting and others such as Government Accounting, HR Accounting, Inflation Accounting, Environmental Accounting, Farm Accounting, etc.
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Functions of accounting may be broadly classified into four categories:
1. Historical Function:
The primary function of accounting is historical in nature, i.e., to maintain a correct record. It includes recording, classifying, summarizing, analysing and interpreting the recorded data of an enterprise (an accounting unit). The major objective of this function is to report at regular intervals to owners/shareholders, management and other interested parties in a desired form and format through financial statements.
2. Managerial Function:
The major purpose of this function is to maximize operational efficiency. In this form it helps in planning future activities, controlling day-to-day operations by comparing actual results with predetermined standards. In short, accounting helps in decision making.
3. Legal Function:
From the viewpoint of accountability, accounting should satisfy the legal requirements of Accounting Standards Board (ASB) as well as the government. For example, audit is compulsory for ensuring compliance of standards.
4. Communicating Function:
Accounting, as a language of business, should be in a position to communicate the information to the users of information say, owners/shareholders, management, creditors, employees, consumers, investors, government, etc.
Accounting 4. Importance of Accounting and its Users:
The importance of accounting is unique as it is useful not only to the internal users but also to the external users (direct and indirect users). The importance of accounting can be understood in the popular use of this systematic information by the interested parties (i.e., the data processed in the form and format meaningful to the user). This systematic information is used by interested persons for decision making.
However, there is no unanimity in different countries as to who these interested parties are. For example, Accounting Standards Board (ASB) of USA in its Statement of Financial Accounting Concepts (SFAC) No.1 states that ‘Present and potential investors, creditors and others are the users’. The Corporate Report (1975) London lists all types of users who need accounting information. The Stamp Report (1980) Canada states that because of broader accountability concept in Canada, the range of users is also broader.
However, the International Accounting Standards Committee (IASC) lists investors, employees, lenders, suppliers and other trade creditors, customers, government and their agencies, public and management as users in its framework (1989). Taking into consideration the above list of users, categorization is made as users of information having direct interest and users of information having indirect interest.
1. Users having Direct Interest:
The users having direct interest in accounting information are considered to be owners and potential owners/management, shareholders and potential shareholders, creditors and potential creditors, suppliers and potential suppliers, employees and consumers, government and tax authorities.
They are briefly discussed in the following list:
(a) The owners/shareholders provide funds to an enterprise in the form of capital. Hence, they are interested in accounting information to know whether the business is conducted on sound lines, whether the capital is used properly, whether it is in a position to provide best of the returns on their investment and whether the business is run on legal and ethical norms.
The income statement and the statement of affairs prepared from time to time should be in accordance with the accounting standards so that comparability and decision making become easier.
(b) The management is interested in financial accounting to determine whether the business is profitable, whether the position is sound and whether it has competitive advantage. Financial accounting, being the eyes and ears of management, facilitates decision making in relation to expansion, diversification, etc., and framing of suitable policies for future.
(c) The creditors are interested in the financial soundness of a business. They may be suppliers of goods on credit, lenders of money, bankers and others who would support the enterprise by providing credit facilities. Their main interest is security for credit, apart from income. They carefully scrutinize the income statement and position statement from time to time in addition to watching the business operations closely from outside by means of disciplined enquiry.
(d) The investors/prospective investors (apart from shareholders) are interested to know how far their investment is safe or is going to be safe. They examine carefully the statements of income and position to assess the soundness of the business. Altogether they are interested in the safety of their investment along with returns.
(e) The consumers are interested to get the goods at a fair price (comparatively reduced price). They are much interested to know the control mechanism adopted by the enterprise so that cost reduction is made possible.
(f) The employees are interested in accounting of the enterprise so as to assess the profitability which would be the basic factor for determining higher wages, bonus, better working conditions, etc. The sound financial position of the enterprise encourages them to contribute their best to the firm.
(g) The government (central, state and local bodies) is interested in accounting of the enterprise to know the earnings based on which taxes could be collected to formulate revenue. Further, for compiling ‘national income’ accounting prepared on the basis of accountability becomes essential.
(i) The general public is interested in the accounting of a firm from the point of view of the firm’s social responsibility. In addition, it may comprise prospective lenders, investors, consumers who would closely watch the financial progress of the enterprise.
(j) The researchers are equally interested in accounting of an enterprise. They utilize the data for their research purposes to interprete and suggest new ways of maintaining accounts based on standard measurement, usefulness and decision making.
Thus, the importance of accounting is recognized by its users and with the fact that accountability cannot be established without accounting.
2. Users having Indirect Interest:
The users having indirect interest in accounting information are considered to be financial analysts, stock exchanges, lawyers, regulatory authorities, registration authorities, financial press and reporting agencies, trade associations and labour unions. These users are generally agencies which help/protect such persons or potential persons having a direct interest in them.
Table 6.1 provides decision usefulness of accounting information.
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