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Traditional financial analysts would consider a negative working capital i.e. having more current liabilities than current assets, a sign of imminent danger. This view was deep rooted in the belief that a company must always have sufficient cash on hands to meet its short term liabilities failing which the credit will dry up and the […]
The Financial System and Basel Accords
In the previous articles, we have already read about how banks are the main pillars of the financial system. It is obvious that since banks are so important to the economy as a whole, the government must create a system to protect these banks from collapsing in case a negative economic event occurs. Governments all […]
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Cashless society is the latest buzzword in global finance. At the present moment, only 15% to 20% of the world’s money exists in the form of currency notes. This itself is an absurdity. However, many central banks and governments all across the world have pledged to bring the cash percentage down to zero. This means […]
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Wells Fargo is one of the largest banks in the United States. However, of late, it has also become one of the most infamous banks. A couple of years back Wells Fargo was in the news since its sales executives opened up fake accounts without the knowledge of the customers simply to meet the sales […]
Accounting has been hailed by many as the “language of business”. There are many quotations like “A pen is mightier than the sword but no match for the accountant” by Jonathan Glancey which tell us about the power and importance of accounting.
The text book definition of accounting states that it includes recording, summarizing, reporting and analyzing financial data.
Let us try and understand the components of accounting to understand what it really means:
The primary function of accounting is to make records of all the transactions that the firm enters into.
Recognizing what qualifies as a transaction and making a record of the same is called bookkeeping.
Bookkeeping is narrower in scope than accounting and concerns only the recording part. For the purpose of recording, accountants maintain a set of books. Their procedures are very systematic. Nowadays, computers have been deployed to automatically account for transactions as they happen.
Recording for transactions creates raw data. Pages and pages of raw data are of little use to an organization for decision making. For this reason, accountants classify data into categories. These categories are defined in the chart of accounts. As and when transactions occur, two things happen, firstly an individual record is made and secondly the summary record is updated.
For instance a sale to Mr. X for Rs 100 would appear as:
Management is answerable to the investors about the company’s state of affairs. The owners need to be periodically updated about the operations that are being financed with their money. For this reason, there are periodic reports which are sent to them.
Usually the frequency of these reports is quarterly and there is one annual report which summarizes the performance of all four quarters. Reporting is usually done in the form of financial statements. These financial statements are regulated by government bodies to ensure that there is no misleading financial reporting.
Lastly, accounting entails conducting an analysis of the results. After results have been summarized and reported, meaningful conclusions need to be drawn.
Management must find out its positive and negative points. Accounting helps in doing so by means of comparison. It is common practice to compare profits, cash, sales, assets, etc with each other to analyze the performance of the business.
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