financial accounting ebook

financial accounting ebook

The Fundamentals of Financial Accounting: A Comprehensive Guide

1. Introduction to Financial Accounting

The development of accounting records is a necessary part of modern commerce. Every business prepares accounts; these may be more or less informal, detailed or outline, and directed towards different ends. They may be incomplete, even sometimes superficial, but every business prepares statements, which are a financial summary of its quantitative operations. However, the requirements of outsiders, and particularly of shareholders, have increased and become more sophisticated. Many businesses now prepare accounting “reports,” rather than mere “statements.” These reports are designed to present and analyze financial information, indicating the financial condition, the operating results, and the progress of the organizations currently to shareholders. Such financial information is a key input in decision processes. It often comprises a significant part of an annual report issued by a company. Accounting is relevant to those who use financial reports to help them in making decisions. The principal outside users are the owners, creditors, and organizations with whom such individuals as the taxing authorities and labor unions are affiliated.

2. Key Principles and Concepts in Financial Accounting

Business Entity/Accounting Entity Concept: A business entity is an economic unit which is separate and distinct from the persons who supply the capital. In the eyes of accounting, the business and the owner are two separate entities. Any transaction happening between the business unit and owner should be separately accounted for.

Value-Based Accounting Systems: – Current Purchase Power Accounting – Current Cost Accounting

Accounting Principles – The Principles and Conventions used in Financial Accounting: – The Prudence Concept – Historical Cost Concept – Revenue Recognition Principle – Matching Principle – Consistency Principle – Full Disclosure Principle

Accounting Assumptions: – Business Entity/Accounting Entity Concept – Business Continuity/Going Concern Concept – Money Measurement Concept – Cost Concept – Accounting Period Concept – Accounting Unit Concept

Here we will discuss the important accounting principles and theories used for financial accounting. These concepts mainly include core concepts like Business Entity, Business Objectivity or Continuity, Cost, Money Measurement, Going Concern, and Dual Aspect.

3. Financial Statements: Preparation and Analysis

3.4. Preparation of an Income Statement 3.5. Income Statement Ratios The income statement often reflects a company’s profitability. Historically, net income is the most persuasive indicator of current and expected earnings’ potential. However, other measurements gauge operating efficiency. For example, Gross Margin indicates a company’s operating efficiency; Research and Development to Net Sales measures product development activity; net income to net sales represents the return on net sales; provisions for income taxes to net income shows the percentage of earnings required for taxes.

3.2. Preparation of a Balance Sheet 3.3. Balance Sheet Ratios Generally, a balance sheet is prepared at the end of the accounting period. While the exact number of components can vary based on an individual entity’s circumstances, the typical balance sheet lists a number of financial statement captions. An entity’s resources are generally divided into one of three classifications: assets (used to generate revenues), liabilities (source of provided resources), and stockholders’ equity. The fundamental accounting equation states: Assets = Liabilities + Stockholders’ Equity. The stockholders’ equity section of a balance sheet of a corporation consists of several subcomponents. After being organized as a partnership, stockholders’ equity of a corporation can be stated in several different forms, depending upon the options a company chooses to implement. The net income earned by a corporation belongs to the shareholders; it will be reported as an increase in their business’s resources, and stockholders’ equity will increase when a corporation has an affirmative balance in retained earnings.

3.1. An Overview of the Financial Statements The accounting information accumulated by an entity is most frequently presented in the form of financial statements. Financial statements, in effect, measure different aspects or attributes of an entity’s financial condition. Such measurements include an entity’s resources as provided by and available to the entity, various transactions involving cash receipts and disbursements, and the entity’s ability to generate positive returns over time. Overall, the balance sheet reflects a reporting entity’s financial position at a point in time. The income statement shows increases that have occurred in the economic resources as a result of operating the entity. The cash flow statement reflects the generation and extraction of cash; it shows how an entity is generating cash inflows and outflows because of its operations, its use of borrowed funds, and its use of resources.

4. Special Topics in Financial Accounting

Omission of these special areas of accounting is completely deliberate. Unavoidably, the treatment has somewhat of a blinkered look. It would be really desirable if there were enough time to treat all areas of financial accounting in detail. Difficulties arise because the theoretical consensus which has been built up over several decades simply doesn’t permit the required degree of freedom. It is usual to claim that financial accounting has no theoretical basis. This statement is utterly groundless. Since the main aim is to present the least possible formalism, discussion must be sought somewhere else. All the special areas are discussed – briefly – in the next sections.

Here, you will find a brief overview of a series of special financial accounting topics. These are being covered on a need-to-know basis – as principles and specific standards are derived from general concepts previously discussed. Please understand that this approach is somewhat reductionist. The omitted principles are equally coherent and might, under other circumstances, also demand a detailed exposition – as, for example, by introducing further application examples. Since the purpose of this book is primarily to cover fundamental areas of financial accounting, you will be more prepared to handle these special areas of accounting.

5. The Role of Technology in Modern Financial Accounting

The essential universe of concepts and methods to consider when analyzing a corporation using its financial statements is quite small. This view is in stark contrast to the thousands of factors that stock market analysts often consider when they make a recommendation, and it suggests that the act of analyzing financial statements is more about depth, judgment, and applied skepticism than it is about any specialized tools or methods. As such, a key question becomes: can a technology application effectively analyze financial statements and generate views about a company’s strengths and weaknesses and overall financial health? Given the conceptual simplicity of financial accounting, are we now at a point in time where a machine can effectively play the role of a junior financial analyst?

The role of technology in the context of modern financial accounting is to make it better, either by streamlining routine and repetitive processes using robotic process automation (RPA) tools and algorithms, or by enabling and creating entirely new value-added processes that were either too complex or costly to undertake in the past. The discipline of financial accountancy is more than six thousand years old, and since its inception several hundred years ago as a profession (the first “CPA” type rules and certification processes date back a century in the U.S.), professional accountants have written more journal entries than any other profession or group involved with any other business process. No other concept is as central to the work of a professional accountant as the journal entry, as this is how business transactions are recorded and how numbers are captured and recorded.