3 Accounts and finance

Table of Contents

1. Topic pack - Accounts and finance - introduction
2. 3.1 Sources of finance - notes
3. 3.1 Sources of finance - questions
4. 3.2 Investment appraisal - notes
5. Investment appraisal
6. 3.2 Investment appraisal - questions
7. 3.3 Working capital - notes
8. 3.3 Working capital - questions
9. 3.4 Budgeting - notes (HL only)
10. 3.4 Budgeting - questions
11. 3.5 Final accounts - notes
    1. Final accounts
    2. Financial accounts
    3. Sample accounts
    4. Capital and revenue expenditure
    5. Trading and profit and loss accounts
    6. Profit and loss account - interactive graphic
    7. Balance sheets
    8. Balance sheet - interactive graphic
    9. Uses and limitations of published accounts
    10. Depreciation
    11. Terminal value
    12. Revaluation
    13. Intangible assets
    14. Dyson lose patent case
    15. Stock (inventory) valuation
12. 3.5 Final accounts - questions
13. 3.5 Final accounts - simulations and activities
14. 3.6 Ratio analysis - notes
15. 3.6 Ratio analysis - questions
16. 3.6 Ratio analysis - simulations and activities
17. Printable version

The purpose of accounts to different stakeholders AO3

AO3 You need to be able to: Demonstrate synthesis and evaluation. Command terms these terms require you to rearrange component ideas into a new whole and make judgments based on evidence or a set of criteria. Compare,  Compare and contrast, Contrast, Discuss, Evaluate, Examine, Justify, Recommend, To what extent

Final accounts

Accounting Accounting is the systematic process of identifying, recording, measuring, classifying, interpreting and communicating financial information about a business. It provides information on the resources available to the business, how those resources were financed, and the results achieved through their use. It reports on the profit or loss for a given period and the value and nature of a firm's assets, liabilities and owners' equity.

Of all the business functions, probably none has the universal reach of accounting, which is found in nearly every community in the world. It deals with people and everyday life in the language of numbers.

It provides a measure of success and failure; it allows performance of individuals and organisations to be compared; it underpins decision making in business and everyday life; it provides a system of control and allows individuals and organisations to plan for the future.

For the wide range of individuals and organisations affected by a particular business, relevant information can reduce risk and maximise opportunities. Different stakeholders will each have their own concerns and information needs. To satisfy these needs the government and other regulatory and financial bodies impose reporting requirements on businesses under a series of accounting standards (although specific to an individual country there are significant international overlaps). In addition, businesses themselves may volunteer additional information through a range of publications such as annual reports and websites.

To those who make the effort to understand accounts a whole new world is opened up - behind the numbers lies such intrigue and deception that could be the script of any best-selling thriller - and indeed was in the 2005 film about the demise of Enron, The Smartest Guys in the Room.

After all, accounts can involve millions or possibly billions of dollars and the temptation to 'fiddle the books' has existed as long as even rudimentary accounts existed. Perhaps the US has suffered most from high profile scandals surrounding companies such as Enron, WorldCom and Tyco, which have left individuals ruined and others in prison with huge corporations like Arthur Andersen collapsing in the aftermath of the financial earthquake.

In the case of limited companies, accounts are public documents and the law lays down the information that must be included and the nature of how this information is reported. There is pressure on every business to make their accounts look as good as possible. The law and accounting regulators attempt to standardise reporting to provide a 'true and fair view' of a business. However, there are still ways that firms can 'window dress' their accounts to present their operations in the best possible financial light. Sometimes this 'financial massaging' of the accounts is legal and sometimes it is not. the attempt to unify accounting in the world is known GAAP (Genrally Accepted Accounting Practice)

The principles and ethics of accounting practice AO3

Auditing of accounts

All firms are required to have their accounts audited by independent companies to ensure that they present a 'true and fair view' of the financial position of the firm. The auditors accept that they will become legally liable should it be established that they did not exercise due diligence and missed some irregularity or illegality.

However, following Arthur Andersen's audit of Enron, its rapid collapse thereafter as one of the world's major accountancy firms and the spiralling costs of professional indemnity insurance, governments have been forced to introduce the concept of liability limitation agreements to restrict the liability of auditors for claims.

Use of Accounts

There are three main groups of users of published accounts, each of which will be seeking different information for different purposes:

• Internal management who can use financial results as measures of their own performance and success. The accounts form the foundation of future strategic and financial planning.
• Other internal users such as employees and trade union representatives may use the information to support their claims for better term and conditions or for general information about the success or otherwise of the business. The accounts will allow employees to assess their job security.
• External users such as shareholders, customers, suppliers, financial investors and lenders of funds and the government, who want to know how successful and stable the business is and to gain a picture of its profitability, assets, liabilities and future prospects. Shareholders and other investors will want to know how their money was used and how their investment performed. Suppliers will want to know the likelihood of future orders and whether they will be paid if they do supply. The government will want financial information to assess tax liabilities and to support economic planning and reporting.

All companies must provide a set of final accounts including three major accounting statements:

1. The profit and loss account (the income statement) calculates the surplus or deficit of income over all of the business costs across a specified period, usually one year. Income can come from trading activity in the form of sales revenue or from non-trading activity such as dividends on shares. Any costs which arise directly or indirectly from the process of selling of products are deducted. The resulting profit and loss after tax and other deductions is ploughed back into the business and this figure transferred to the balance sheet.
2. The balance sheet is a summary statement showing the firm's sources of finance and their corresponding use at a given date. It shows the stock of 'assets' a business owns which is balanced against the amount of money a business owes.
3. The cash flow (funds flow) statement shows the sources of new funding into the business and how these funds have been used or applied.

Types of financial information

There are two distinct areas of financial information:

1. Management accounts
2. Financial accounts