Monthly Archives: June 2013

Who Benefits by Accounting! – External and Internal Users of Accounting Information

Accounting can be described as a way for passing on of financial details of a business company to others including its managers and shareholders.

External and Internal Users of Accounting Information –

Who could use accounting information?

The accounting information provided by an entity can have external as well internal users. This kind of information helps management and owners of business to take better fiscal decisions. The information can be used by people within or outside the organization.

Here are some of the frequent internal users of accounting:

  • Management: The management finds the information of help in studying the performance and standing of company, thus enabling them to take steps necessary for improving the performance of their company.
  • Employees: Employees, among the internal users of accounting, are also beneficiaries as they can appraise the success of their company and how that could affect their job by way of prospective salary and security of job.
  • Owners: Owners use the information for evaluating their return on investment and deciding the strategy for future.

Internal users of accounting are generally provided with accounting information by way of budgets, forecast, management accounts and fiscal statements.

Here are some of the external users of accounting information provided by the companies:

  • Creditors: This is to make them aware of the credit worthiness of the company. Creditors decide their terms of business as per their assessment of company’s financial health.
  • Tax Authorities: This is to enable the authorities to verify the validity of tax returns as filed by the company.
  • Investors: The information provided by the company helps investors to evaluate the viability of investing their funds with the company. Investors are interested to ascertain that the funds invested in that particular company would be worthwhile and get them good return on their investment.
  • Customers: Customers can assess financial status of their suppliers. They require this information to be sure that they will keep getting continuous supplies from the company.
  • Regulatory Authorities: This is to ensure that the accounting information provided by the company conforms to the prescribed rules and regulations with the intention of safeguarding the interests of shareholders, who largely depend on this information for making their decisions.

External users of accounting information are generally given this information by way of financial statements, which cater to the requirements of diversified users, helping them to make superior fiscal decisions.

Accountancy includes the process of recording, classifying and summarization of business dealings and affairs in a fashion which is helpful to its users to evaluate companies’ financial performance. The process first identifies the transactions and affairs that could affect the fiscal health and performance of an entity. Having done that, the transactions and affairs are classified, recorded and abridged in such a manner as to help the external and internal users of accounting information in assessing types and effects of those transactions and affairs.

Over the last few decades, the profession of accountants has come to include many different kinds of accounting as per the requirements of its users.

College Students Coming Back Home?

Till a couple of years ago, the normal trend for college graduates was to start living a financially independently life after having completed graduation. But that scenario seems to be changing and many graduates, due downwards economic trend, are coming back home and staying with parents.

There is little doubt that furthering your education at college is a once-in-a -lifetime and the best investment you could make. However, college education is very expensive, and difficult to complete for most students unless they avail of one of the student loans.

The International Business Times agrees that unemployment among graduates is rather low and there has been a steady decline in the rate of unemployment over the last couple of years. Nevertheless, as per the reports of USA Today, graduates looking for jobs are facing stiff competition, not only from their classmate but also from those who graduated in preceding years, retirees coming back to work and those who were laid off in the recent past. Having finished their education, it is vital for graduates to get employment, especially for those who availed student loans.

Job Opportunities for Graduates

It has been analyzed that graduates have been facing unusually high competition since spring 2010, but there are signs of unemployment coming down. The estimated salary of a graduate of 2010 is $30,000 – $40,000. So, even if college graduates get jobs, will they manage living of their own!

Recent graduates who failed to get permanent jobs would be left with no option but look for part time jobs or jobs that don’t demand their major or their kind of internships, though networking and pertinent work experience is expected to help them getting jobs.

Moving Back Home

Graduates who are unable to get jobs offering high salary are moving back to their parents. The main reason for doing that is to be able to payback student loans; else a good part of their salary would go towards paying for rent and food. Other than paying their loans, they can also save money for moving out eventually. However, moving back to home can be quite tough for some after having lived at college. The Huffington Pot, while referring to a story from Twentyomething Inc, estimates that 85 % of those who graduated in 2011 are likely to move back to parents. Further, The Huffington Post points out that the average amount of loan that these graduates need to payback is $27, 2000.

Economic Downturn

On taking consideration of the above figures and reports it is not difficult to assess the dilemma of present day graduates. They need to have degrees, yet face the difficulties of paying back student loans they had availed of.

So, what’s the future of today’s graduates? A report from Projecton Student Debt indicated that the average debt towards student loans of over sixty percent of graduates was about $25,000. These students are facing an unemployment rate of 9.1 percent, the utmost in modern history. They have a long way to go before things go back to the way they were.  Going by the data provided by the Bureau of Labor Statistics, it is estimated that nearly thirteen million young people in America are either without jobs or accepting jobs that don’t need college degrees or working part time.

Familiarizing With Limits of External Financial Statements

The external financial statements of a company are insufficient for their managers to prepare and have a control over the financial dealings of the company. Managers who don’t look beyond the external financial statements are surely being shortsighted since they don’t get all the necessary information required for doing their job.

The accounts disclosed in external financial statements can be compared to condensed list of contents of a book wherein every account is akin to the title given to every chapter. Managers are required to do a lot more than a mere quick reading of titles of chapters. Paul Harvey, renowned radio personality aptly commented, “managers need to look at the rest of the story.”

Managers are there for solving problems and every company has some problems, some of which could be serious. The design of external financial statements fails to expose such problems. It is only on rare occasions, when the company is in terrible financial state, that you come to identify the problem through companies’ external financial statements.

On the lookout out for problems and openings

Primarily, there are two reasons for business managers to have additional accounting information than what is provided in the external financial statements:

  • For being watchful of the problems that are already present or may appear to seriously affect profit, cash flow and overall performance of business.
  • For making suggestions that can improve financial health of company.

Mining of data is a popular idiom these days. The present day account system comprises of layers of information and one needs to dig out those layers to retrieve the required information from accounting database. Managers have to work with financial controller to get any additional information than what is provided in the external financial statements of the company.

Avoiding excessive information

Business managers are busy professionals. It is quite frustrating for them to get tons of information which is of no use to them. That makes it imperative for the financial controller that mangers are not overloaded with information. Certain pieces of information they should get regularly, while the rest may be offered periodically or as and when needed.

It’s desirable for the controller to be aware of the kind of information required by each manager and provide the same. However, it’s generally not possible. At the same time, a manger wouldn’t be sure of the kind of information he/she needs. In due course of time, the course of information could be designed.

Moreover, the way of conveying the needed information is often a matter of individual preferences:

  • Part of the supplementary management information could be incorporated in the major accounting report and is best conveyed via graphs, commentary and supplementary schedules.
  • The information could be conveyed through the computers of mangers; else they could have the choice of getting the needed information from company’s database.

It is imperative for the financial controller and manger to communicate frequently, enabling the mangers to get what they require exactly. It doesn’t help accumulating reports which never get examined.  So, the controller should ensure that the respective mangers receive the right kind of information which proves helpful to them.

Understanding External Financial Statements

Companies offer external financial statements for sharing information about their business to the outside world including prospective lender and investors. Generally, external financial statements provided by companies are not much different from its internal accounting, though these can be considerably different at times. Nonetheless, external accounting statements provide an accurate and easily understandable data pertaining to companies’ fiscal status.

Internal vs. External

Personally owned businesses can have their system of internal accounting in a manner that they find most helpful provided it remains accurate and can be understood easily. For example, as an owner of a store you may find it convenient use cash based accounting for taking care of your cash flow. It simply means that only on collecting cash you document revenue and likewise, you document an expense only on spending some cash. However, external financial statements need to be made as per prescribed rules, enabling an outsider with a fundamental understanding of bookkeeping to follow the same. Generally, it would entail accrual based accounting. The difference is that in this case, you will need to document your revenue when you’re earned it and not on receiving it and similarly, you need to document expenses as and when incurred and not when paid.

Principles of Accounting

In the US, the rules and regulations to which the external financial statements of companies should conform are known as GAAP, meaning generally accepted accounting principles. The federal government has nominated the Financial Accounting Standards Board for framing and administration of those rules and regulations. It is obligatory for companies to provide details as per GAAP standards. This is meant to ensure that public gets real and accurate information about company’s financial status without the company disclosing too much of its details concerning its internal functions. When a company likes to seek any prospective business collaborator or investor or accesses a financial institution like bank for business loan, it is expected to offer statements as per GAAP stipulations.

Major Statements

Prevailing security laws as also GAAP demand these 4 external financial statements: income statement, equity statement, cash low statement and balance sheet. The balance sheet contains all the assets and liabilities of the company. The income statement contains a record of revenue and expenditure of the company on its main business and profit or loss as a result of its other activities. Cash flow statement keeps a track of the funds generated and spent by the company. The equity statement sums up how the net assets of the company are distributed among it owners.

Small Businesses

In case of large companies, their external financial statements are very detailed with score of footnotes and many pages in support of information provided. On the other hand, statements of small businesses are quite simple, containing a couple of assets like cash, inventory, equipments and   receivable accounts. When external statements are significantly different from internal accounting, one is required to provide explanation of the same to lenders, investors and auditors. When business operations and finances are too large, it is recommended to organize internal accounting as per stipulations of GAAP.

“Little GAAP”

There is on ongoing debate if the Financial Accounting Standards Board should dilute the rules and regulations for personally owned companies and small businesses. So far, it has remained a proposal, till mid 2012.

Understanding Debits & Credits in Accounting

Debits and credits in accounting constitute the two most essential double entry method of bookkeeping, prevailing since 1400s. For every transaction there has to be a debit and corresponding credit and the two must remain equal. Debits add to assets and reduce liability and equity. Credit does the reverse, increasing liabilities and equity and decreasing assets.

Types

Debits and credits are shown in two different columns in a balance sheet. Debits are on your left and credits appear on right. Accounts that get raised with debit include expenses, dividends, assets and losses whereas accounts which get raised with credit are revenue, income, profits, liabilities and stockholders’ equity. As account on one side of the balance sheet is decreased, there is a corresponding increase on the other side of the balance sheet. For instance, when you purchase a vehicle for business on cash payment, your cash account gets redcued or credited while your expense gets enhanced or debited. That’s how debits and credits in accounting are balanced.

Function

Any financial balance sheet must always have credit entries equaling debit entries to make up for each other. Suppose you borrow money for buying a house. That home is your asset but the borrowed amount is your liability. As you make payments toward that loan or borrowed amount, your possession on home increases while your loan gets reduced. In effect, the payments you make increase the worth of your asset, the house and reduce your liability, the amount of loan.

Considerations

This way of accounting involving two entries or double entry necessitates a minimum of one debit and one credit for every transaction. Certain entries may be categorized among three, yet debit must always remain equal to credit. Going back to the above example, as you payback loan or mortgage amount, the cash you pay gets credited or reduced but the liability is reduced or debited by the amount of principal part of the payment and amount paid towards interest is debited for the interest payable on borrowed money.

Significance

Credits and debits are tools employed for evaluating your financial status. When you purchase any item, your cash gets reduced or credited, while your stock goes up or is debited.

Benefits

Debits and credits in accounting consisting of double entry have been in place for more than 500 years, though it may confuse at times. This way of bookkeeping enables us to have checks and balances of every account, which makes it convenient to locate errors in bookkeeping and evaluate financial health quickly.

The Four Accounting Principles

Every profession dictates its own principles to follow and accounting is no exception. Though accounting principles are multifarious, their fundamentals are neither difficult to understand nor being put into practice. Accounting principles comprise of four essential assumptions, four essential principles plus four essential restrictions. These accounting principles are referred to as GAAP, Generally Accepted Accounting Principles and are applied for handling the ways through which funds flow into or out of business and the way adapted for their documentation.

Cost Principle
This principle says that rather than recording the market value, which takes into consideration various factors, including adjustment towards inflation, the cost of assets to be recorded should be their actual cost. This is to ensure that cost recorded for physical ystocks and additional purchases is accurately reflected in accounting ledger. This principle is also called as ‘historical cost principle’ since costs for purchases are documented as per the actual amount spent at the point of procuring those materials rather than making an adjustment at any time in future.

Revenue Principle
As per this principle revenue needs to be recorded in book at the time when it is made and not when payment is collected. This is to eliminate inaccuracies in accounting that may be caused as a result of belated payments as any amount of money that is still due to the company is recorded in the ledger of accounting. At times this principle is called as ‘accrual principle’ as it provides the basis for accrual method of accounting.

Matching Principle
This principle stipulates that the expenses be in line with the proceeds to which they are correlated. The expenses are not accounted for when these are incurred but only after they have made a contribution to income. This allows easy evaluation of profit due goods or services and also shows up the relationship between outlay and income as goods and services straightway tally with the income they create. Certain expense like salaries of employees and other administrative expenses can’t straightway be connected to revenue and are therefore simply recorded as expense for the existing time.

Disclosure Principle
Now, let’s come to the last of the accounting principles, which says that the entire financial information revealed for any business ought to be in a format that is easy understood and should be balanced against the expense of gathering and releasing that information. Any piece of information provided for understanding financial statements needs to be incorporated in the statement or be pointed out in appendix or supplementary document offered along with the statements. The information so offered should suffice for company’s executives to take decisions concerning the affairs of the company, whereas superfluous information be rationalized for keeping down the expense of making statement.

Comparing Manual and Computerized Accounting Systems

Every business essentially needs to keep an account of its daily financial transactions. This is achieved using a suitable system of accounting to ensure that all transactions are accurately and correctly recorded in its general ledger. Thankfully, technological developments have facilitated accounting procedures for most businesses. Here is a comparative study of the two kinds of most frequently used accounting systems, manual and computerized accounting system.

Manual Accounting

This style of accounting necessarily requires a number of paper ledgers for recording financial dealings. It is a normal practice for businesses to keep different ledgers for accounting various parts of accounting system, the most common ones being payable account, receivable accounts and sales. These ledgers are then consolidated into one general ledger, giving the balance of each of the ledgers.

Benefits Manual Accounting

Though manual maintenance of accounts is quite tedious and consumes a lot of time, it has certain benefits too. Ledgers can be reviewed easily and the accountant can incorporate simple changes if needed. It is convenient to reconcile individual accounts as each ledger contains information in an organized manner. The other benefit is that the accountant can physically handle any ledger and make notes against customers’ account if there are any issues needing correction or clarification.

Computerized Accounting System

In such systems, accountants enter data in spreadsheets, which is subsequently processed by the computer and posted in the required ledger or can be used for preparing financial statements. Use of computerized accounting system enables accountants to analyze data and point out variations promptly and accurately. Moreover, since the system provides dealings of all the departments of the company, the accountant can get improved overall financial information.

Compared to manual accounting, computerized accounting system offers more benefits. This style of accounting delivers more information in shorter spans of time, the built in formulas check and confirm totals made and the chances of errors are substantially reduced. Accounting systems can also be tailored as per industries’ requirements, meaning that accountants have the option of using predefined templates for maintaining their general ledger. It becomes very easy for them to store financial data for a number of years, thus empowering them to review and compare data of previous years without going through heaps of ledgers of previous years.

Best Method

A majority of companies these days prefer using computerized accounting system for keeping records of their financial dealings. This superior system enables them accurate recordings of business dealings and swiftly creates financial statements for review of management.

Though the purpose of manual accounting has undergone changes, it wouldn’t ever be lost for ever. Accountants need to review all the financial information provided by accounting system to ensure its accuracy and validity. Moreover, accountants have to ensure that the financial information conforms to the Generally Accepted Accounting Principles or other guidelines stipulated by regulatory agencies.

Auditing of A Computerized Accounting System

The auditing of computerized accounting system can easily be accomplished by keeping in mind the following five basic steps. However, before getting started with it, for an efficient execution of audit it is imperative for the auditors to have a clear understanding of the scope of audit with their client.

A. Basic information about the organization of computerized accounting system

B. Identifying hardware and software employed by the client

C. Doing some groundwork to understand important accounting applications for which the computer ha been utilized

D. Identifying and planning of new applications to present application and relevant controls

2. Getting and documenting working of internal controls, general as well application. It is recommended to first test general controls before application controls for if the former are not effective, the auditor would not be in a position to depend on the latter. Some of the important information that general controls contain includes defining of responsibilities, disaster plan, label utilization, back-up files, access control, system for obtaining and executing new program and tools. Application programs comprise of input and output controls, processing controls. These should give reasonably good assurance that initiation, recording and processing plus reporting of data are appropriately executed.

3. Conducting of compliance testing to ascertain if the controls really exist and work as projected. There are three ways of doing it. One is to test data wherein the auditor tests transactions processed by the system working at client’s end and comparing the results to prearranged results. The other way is to process dummy transactions together with factual transactions and comparing the results with prearranged results. The third way is that of parallel simulation wherein actual transactions are executed on client’s computer, as also on another system arranged by auditors having the same programs to compare results. Using any of these ways enables auditors to know if the present controls are working properly.

4. Executing substantive tests to genuineness of data.  Auditors must get and assess confirmation of the financial statements of the management. There are five statements: completeness; valuation or allocation; rights and obligations; existence or occurrence; presentation of statement and disclosures. Using these statements, the auditors decide objectives of auditing and corresponding substantive tests for balances and transactions and investigative ways for substantiating statements. The auditors need to get adequate evidence for giving a source for their opinion of financial statements being audited. In the absence of such evidence, they can’t issues an opinion.

5. The final step towards auditing of computerized accounting system is completion of audit report comprising of:

a. Unqualified opinion meaning that the financial reports submitted by the client reasonably well conform to the generally accepted financial statements (GAAP)

b. Qualified opinion, meaning the presented financial reports, while conforming reasonably well to the GAAP, have for a few qualifying issues.

c. A disclaimer of opinion, meaning that the auditors failed to get adequate proof to help them fashion an opinion.

Auditing of computerized accounting system is complete on submission of audit report.

What Caused The Global Economic Crisis Of 2008?

The Brookings Doha Center, in October, invited Glenn H. Hutchins, co-founder and co-chief executive of Silver Lake Partners, and a trustee of the Brookings over lunch to talk on the swelling of global fiscal crisis.

Hutchins recognized economic crisis of 2008 as the “the biggest asset bubble in human history.” Americans acquired liabilities which they couldn’t pay back and started avoiding loan payments. Hutchins was of the opinion that homeowners defaulting on mortgages caused the bubble to burst. Collapse of Freddie Mac and Fannie Mae, which followed the decline of housing market, hurried bank crisis. Hutchins thought Lehman Brother’ failure to be the critical moment for starting the downward twist. In a matter of weeks, the withdrawal from bond funds and stock market amounted to 700 million dollars. This caused the credit market to shut down. Economy can’t sustain in the absence of credit movement and people became thrifty. As unemployment went up, consumer confidence took a plunge. Hutchins told audience that there was no doubt that the financial sector was largely responsible for economic crisis of 2008, the other factors that contributed to economic crisis included low consumer consumption, and financial deficits caused by financing  of two wars and extensive regulatory failure.

Talking about the present position of US economy, Hutchins remarked though the beginning has come to an end, the end has not started yet. He pointed out that economy has stabilized and period of free fall was over. The residential market in the US is showing signs of recovery as prices are rising, though by a very small extent. Hutchins referred to the statistical data showing that at present the US has had 26 million workers who were overqualified for the jobs they were doing, while there were 19 million houses lying vacant. Further, the US was production was 1.2 trillion dollars less than what it could have produced. He estimated that on the whole there was stabilization of economy, though of lower level.

Hutchins predicts it would take minimum two years for getting back to continuous economic growth; rate of unemployment will come back to normal in five years, and housing market will recuperate in six years. He foresees US budget to be essentially financed by foreign capital. China, holding foreign exchange reserves worth three trillion dollars, will play a significant role in the process of recovery and global economy.  He expressed his belief that a feasible solution to the ongoing global economic suffering is innovation as despite the financial restrains, people would prefer spending on modern technology. He warned policymaker to be watchful of present policies being used for pounding the economic crisis of 2008, lest they should sow the seeds for next crisis.

Hutchins also answered questions pertaining to future of US dollar, including if the financial service industry contributed the most towards economic crisis of 2008. Though he wondered if the dollar has declined as the principal global currency, he suggested the viewers not to reject free market capitalism. He was optimistic of the financial service industry to reappear. He was of the view that the government should be more consistent in its policies, citing the case of auto industry that was bailed out while steel industry was overlooked.

Consequences of Financial Crisis In Europe

In the wake of ongoing financial crisis in Europe, people are getting uneasy of welfare policies of the government and Europe’s future. Austerity measures taken so far have failed to improve economy of many European countries. Instead, people are more discontented and getting increasingly apprehensive of European policies, which seem to have lost direction.

Financial crisis in Europe has caused widespread unemployment in most European countries. The Spanish National Statistics Institute reports that during the first quarter of this year, rate of unemployment in Spain reached record level of 27.16 percent, meaning 6.2 million people have no work.

Going by the report of the French Ministry of work, unemployment in France went up to 3.187 million, with 18,400 additional people going without jobs. This level of unemployment is similar to what France faced in 1997.

Italy too has recorded its highest level of unemployment during the last twenty one years. In January 2013, the rate of unemployment rose to 11.7 percent compared December 2012 figure of 11.3 percent.

And the United Kingdom is no exception either. According to the office for National Statistics in England, the rate of unemployment in February 2013 rocketed to 7.9 percent, meaning the number of unemployed people went up from seventy thousand to 2.56 million during three months.

Inflation is further adding fuel to the financial crisis in Europe. Since 1982, the pound has been eroded by more than sixty percent. Lloyds Private banking rates the inflation as severe that can be seen from the prices of consumables. In 1982, the price of standard beer was £0.73, but in 2012 it stood at £3.18, signifying an increase of 336 percent, whereas the prices for bread went up by 235 percent in the same period. The corresponding increase in prices of one dozen of eggs rose by 286 percent. In 1982, gold stood at £203, which went up to £1,096 in 2012, meaning an increase of 438 percent.

Perhaps, nowhere economic disaster has been as severe as in case of Cyprus and Greece. In nutshell, the European Union today is bankrupt having debt plus unpaid bills to the tune of £108 billion.

The financial crisis in Europe is being attributed to various reasons including crime, drugs, and immigration and increased rate of birth in deprived areas.  Many reasons are being put forward to explain the present financial crisis in Europe. Though many reforms been tried, these have so far failed to solve the problem.  The society is beginning to doubt if the idea of single market for Europe will make Europe an area for battling their economic interests.

The European Union is fashioning a novel country rate based on economic growth. Spain, Italy, Greece and Portugal form the new poor. Bulgarians and Rumanians are the established poor against the rich of Britain, Germany and Scandinavia. In this state of financial crisis, Europe is nowhere close to “the promised land” of all European.

The financial crisis in Europe has transformed Europe to a land of poverty, high level of unemployment and inflation, anxiety, anguish and depression.