Management Concepts & Accounting

Prof. Priti Rachayeeta

Objectives
• What is accounting? • Explain the role and nature of accounting and finance. • Explain the role of accounting in planning and controlling a business. • Identify and discuss the possible objectives of a business • Distinguish between financial and management accounting.

Nature and role of accounting
• Accounting is often called the language of business. • Accounting is the common language used to communicate financial information from one person to another in the world of industry and commerce.

Accounting is :
• Concerned with the collection, analysis and communication of economic information. • It is useful to those who need to make decisions and plans about businesses and for those who need to control those businesses. • The ultimate purpose of the accountant’s work is to influence the decisions of users of the information produced.

• Accounting provides “information that is useful in making business and economic decisions for making reasoned choices among alternative uses of scarce resources in the conduct of business and economic activities.

• • • • • • • • • Customers Suppliers Government Owners Lenders Employees (non management) Investment analysts Community representatives Managers .Main users of financial information relating to business organization.

• Why do each of the user groups identified above need accounting information relating to a business? .

User group Use • Customers : To assess the ability of the business to continue in business and to supply the needs of customers. whether financial support is needed etc. whether it complies with agreed pricing policies.. . • Government: To assess how much tax the business should pay. • Suppliers: To assess the ability of the business to pay for the goods and services supplied.

• Lenders: To assess the ability of the business to meet its obligations and to pay interest and to repay the principal. .• Owners: To assess how effectively the managers are running the business and to make judgments about likely levels of risk and return in the future. • Employees (non management): To assess the ability of the business to continue to provide employment and to reward employees for their labour.

• Investment analysts: To assess the likely risks and returns associated with the business in order to determine its investment potential and to advise clients accordingly. etc. to help fund for environmental improvements . • Community representatives: To assess the ability of the business to continue to provide employment for the community and use community resources. .

• Managers: To help them to make decisions and plans for the business and to help them to exercise control to try to ensure that plans come to fruition. .

• Analyzing and interpreting the information collected.Accounting as an information System • Identifying and capturing relevant economic information • Recording the information collected in a systematized manner. . • Reporting the information in a manner which suits the need of users.

Unless this characteristic is present.Accounting as a service function • In order to meet the needs of users. accounting information must should possess certain key characteristics: ▫ Relevance: Accounting information must have the ability to influence decisions. . there really is not any point in producing the information. ▫ The information may be relevant to the prediction of future events or relevant in helping confirm past events.

• Understandability.• Reliability: Accounting information should be free from any material error or bias. . • Comparability: Items which are basically the same should be treated in the same manner for measurement and presentation purposes. Accounting reports should be expressed as clearly as possible and should be capable of being understood by those for whom the information is intended.

Costs and benefits of accounting information • Suppose that you wish to buy a portable radio which you have seen in a local shop for sale at $20. . • The only ways in which you can find out the prices at other shops is either to telephone them or visit them. • You believe that other local shops may have the same model of radio on offer for as little as $19.

it is worth having that information. • Is it worth the cost of finding out the price of the radio at various shops? • The answer is. . of course. • Visiting the shops may not involve money but more of you time will be involved.• Telephone costs money and involve some time. that if the cost of discovering the price is less than the potential benefit.

• If no accounting information were produced. • The provision of accounting information costs money. the potential benefits from having the information need to outweigh the cost of producing it. .• Supplying accounting information to users is similar. • In order to be worth having. no accounting staff would need to be employed.

Portable radio example…. • Going back to the portable radio. • It will probably involve considerations of the following factors: • How many shops will you phone or visit? • What will be the cost of each phone call? • How long will it take you to make a call of the phone calls or to visit all of the shops? • How much do you value your time at? . identifying the cost of finding the various selling prices before you actually set out to do so is problematical.

. the following probably being relevant: • What is the cheapest price which you might be quoted for the radio? • How likely is it that you will be quoted prices cheaper than $20? • Decision whether it is economically advantageous to discover other prices for the radio is very difficult. • It is exactly the same with decisions on producing accounting information in a business context.• The economic benefit of having the information on the price of radios is probably even harder to assess.

. • Closely linked to planning is decision making. • Planning is vital for businesses of all sizes. • Planning involves making decisions about what course of action is best to plan for.Decision making and planning • It is vitally important that businesses plan their future.

. wealth generation is likely to be the main financial/economic objective.Steps in the planning process • Setting the objectives or mission of the business. • Businesses tend to take actions which will have the effect of increasing the wealth of the business. • For most private sector businesses. what the particular business is basically trying to achieve. i.e.

any decision is likely to be the result of a compromise between more than one objective. • In practice therefore. paid to employees. reinvested in the business or deployed in some other way.• Increases in wealth may be paid to the govt in taxes. paid to the owners. .

. ▫ Amounts and sources of finance needed to be raised by the business.g. in new plant and machinery) needing to be made. They are likely to deal with such matters as: ▫ Type of products and services to be offered by the business. ▫ Sources of raw materials. say five years. ▫ Labor requirements.• Setting long term plans. ▫ Capital investments (e. These are plans setting out how the business will work towards achievement of its objectives over a period of.

• Setting detailed short term plans or budgets. typically one year. Budgets are financial plans for the short term. • Their role is to convert the long term plans into actionable blueprints for the immediate future. . • They are likely to be expressed mainly in financial terms.

▫ Sales. ▫ Detailed stock requirements.• Budgets usually define precise targets in areas like: ▫ Cash receipts and payments. broken down into amounts and prices for each of the products or services provided by the business. ▫ Detailed labor requirements. . ▫ Specific production requirements.

when we walk about controlling a motor car we mean making the car do what we plan that it should do. . • In the case of a car the plan may only be made split-seconds before being enacted. but if the car is in control it is doing what the driver intended that it should do.Control • Control can be defined as compelling events to conform to plan. • For example.

Decision making. . planning and control process • • • • • Identify objectives Consider options Evaluate options and make a selection Prepare budgets Perform and collect information on actual performance • Respond to divergences between plans and actuals and exercise control • Revise plans (budgets) if necessary.

will not find a place in accounting records. important events affecting a business. .Assumptions underlying accounting measurement • Accounting measures events only if they affect the financial position of the enterprise. • As a result. such as the launching of new brands by its competitors.

Going concern 3. Money measurement . Accounting entity 2.• Four major assumptions that underlie all accounting measurement are: 1. Periodicity 4.

• Without the entity assumption.Accounting Entity • Accountants treat a business as an accounting entity that is distinct and separate from its owners and other firms. • and no meaningful financial information about the business can be produced. . the personal financial affairs of the owners and the activities of other enterprises would be mingled with the transactions of the business.

• If we were to assume imminent liquidation of a business. • The assumption makes sense because many business enterprises survive difficult economic circumstances. or a going concern. historical cost would be irrelevant.Going Concern • Unless there is substantial evidence to the contrary. • The going concern assumption justifies an accounting system based on historical cost. . accountants assume that the business is a continuing enterprise.

and others cannot wait indefinitely for information for making decisions. • The periodicity assumption requires that the activities of an enterprise be divided into artificial time periods. government. . creditors. usually as long as a year. • But investors .Periodicity • We assume a long life for a business. but sometimes as short as a quarter.

• The use of money as the unit of measurement enables us to compare financial information of different enterprises. • Therefore. • In India. we express and record all business transactions in terms of money. if we cannot measure something in terms of money. rupee is the monetary unit. it will have no place in accounting.Money Measurement • Under the money measurement assumption. . • Money is the only common denominator for all businesses.

is wrong with the following accounting practices? • A business recorded an expense for the electricity charges for the owner’s home. • A business bought a car at an auction for Rs 40. 000 and the business recorded the car at the new market value. . the price of the car went up to Rs. One week later.000 and recorded it at that amount.Test your understanding What. if at all. • A business recorded a DVD player purchased for the owner’s personal use as an asset of the business. 50.

we need a body of broad concepts and detailed practices to guide business enterprises in preparing financial reports.Generally Accepted Accounting Principles • The information contained in financial reports should be reliable and intelligible. . • Therefore. • Besides. we should be able to make meaningful comparisons between a firm’s past financial history and the financial information of other enterprises.

• The set of conventions. • GAAP represents the fundamental positions that have been generally agreed upon. rules. by accountants and encompasses contemporary permissible accounting practice. . and procedures that define accepted accounting practice is referred to as generally accepted accounting principles (GAAP).

Institutions that Influence GAAP • • • • • • • • Indian organizations The Ministry of Corporate Affairs (MCA) Securities Exchange Board of India (SEBI) Institute of Chartered Accountants of India (ICAI) Income Tax Department Reserve Bank of India (RBI) Insurance Regulatory and Development Authority (IRDA) Comptroller and Auditor-General of India (CAG) .

International organizations • The International Accounting Standards Board (IASB). is committed to developing a single set of accounting standards that will eventually be acceptable worldwide as the basis for listing of securities. • The IASB works with national accounting standard setters to achieve convergence in accounting standards around the world. .

ethics. . and auditing practices.• The International Federation of Accountants (IFAC) is primarily concerned with bringing about greater international harmony in matters such as education.

• It plays an imp role in improving accounting and disclosure regulation in securities markets around the world.• The International Organization of Securities Commissions (IOSCO) is an association of securities regulators. . such as SEBI and the US Securities and Exchange Commission (SEC).

• Companies should disclose their accounting policies. rules and procedures that enterprises adopt in preparing and presenting financial statements. • Accounting policies comprise the principles. . conventions.Accounting Standards and Policies • An accounting standard specifies the acceptable methods from the wide array of accounting choices. bases.

• The principle-based standards lay down the broad principles that govern the accounting and disclosure requirements. • In contrast.Principle-based and rule-based standards • Depending on the level of detail. . rule-based standards prescribe detailed conditions and stipulations. accounting standards are referred to as principle –based or rule-based.

US GAAP is closer to details. .• Many consider US GAAP to be rule-based and IFRS to be principle based. • Because of the US legal environment. • It would be fair to say that in the continuum from details to principles. American managers and auditors face a much greater risk of shareholder lawsuits and the use of prescriptive standards makes it easier to defend management’s and auditor’s assumptions and judgments.

Financial analysis-US GAAP and IFRS • Most Indian companies prepare their financial statements according to Indian GAAP. Reddy’s laboratories. and TCS. Wipro. Dr. • Examples of Indian companies that provide US GAAP or IFRS statements include Infosys. • A number of them provide supplementary financial statements applying IFRS and US GAAP. Bharti Airtel. Tata Motors. .

a single individual carries business.Forms of business organization • The common forms of business are sole proprietorship. • The sole proprietor’s liability is unlimited. if the business doesn’t do well. • He could lose his shirt. that is. . • He gets to keep all the profits the business earns. he is personally liable for paying off the debts. partnership and limited company. • In sole proprietorship.

• Each partner has unlimited liability for all the debts and obligations of the firm and is responsible for the liabilities in the firm of his fellow partner or partners as well as his own. .Partnership • A partnership comprises between two and twenty persons trading together as one firm and sharing profits and losses.

• Professional practices . and accountants . lawyers. are usually partnership firms. such as those of architects.• The Indian Partnership Act regulates partnership business. but the regulation is minimal. .

Limited company • A limited company is a legal entity. • Limited companies can either be public or private. . • The law lays down rules for the functioning of companies. • Under the law. unlike a sole proprietorship or partnership. it has most of the rights of a natural person.

only individuals can be partners in a partnership. but an LLP can have individuals or corporate bodies. • It has perpetual succession and separate legal existence similar to a limited company.Limited liability partnership (LLP) • A LLP differs from a partnership in that a partner of an LLP is generally not bound by anything done by other partners. . • Also.

• It is a body corporate having perpetual succession and a separate legal entity. there is no maximum. • The LLP form is essentially suitable for professional services firms. • In order to meet competition from international firms. indian forms should become bigger and that mena they should be able to have more than 20 partners (the limit for partnership). • It must have a minimum of two partners. .

• Also. • The Limited Liability Partnership bill introduced in parliament in 2006 has not yet become law. the partner of an LLP will have protection from professional negligence litigation. . • An LLP combines the flexibility and tax status of a partnership with limited liability for its partners.

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