CHAPTER 1

INFORMATION NEEDS

ACCOUNTING: THE BASIS OF DECISION MAKING

Accounting is the information system that measures business activities, processes that
information into reports and communicates the results to decision makers
Working definition: a system providing information to managers and owners in order
to make business decisions
Formal definition: the process of identifying, measuring and communicating economic
information to permit informed judgements and decisions by users of the information
NATURE OF ACCOUNTING
Accounting is about recording, preparing and interpreting business transactions
It enables key questions to be answered, such as how much profit have we made?
In some businesses, managers and owners are the same people
In large businesses, managers and owners will be different
THE ACCOUNTING SYSTEM: THE FLOW OF INFORMATION

THE NOTION OF ACCOUNTING

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ACCOUNTIN AS COMMUNICATION OF FINANCIAL
INFROMATION

IMPORTANCE OF ACCOUNTING INFORMATION

Money makes the world go round
Businesses depend on cash and profit
Unless you understand accounting, you will never understand business
Need to know basic terminology such as: income, assets, expenses, liabilities, profit,
capital, cash flow
INTERNAL VS EXTERNAL USERS
Internal: management accounting
 More focused and detailed information
 Feed back is possible
External: financial accounting (financial statements)
 Global information
 No influence on the reporting process
FINANCIAL AND MANAGEMENT ACCOUNTING
Financial accounting
 Provision of financial information on a business´s recent financial performance
targeted at external users such as shareholders
 Backwards-looking
 Double-entry bookkeeping
 Profit and loss account (income statement) and balance sheet
Management accounting
 Internal needs of business
 Not require by law (unlike financial accounting)
 Management accounting can be split into cost accounting and decision making
OVERVIEW FINANCIAL AND MANAGEMENT ACCOUNTING

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FINANCIAL VS MANAGEMENT ACCOUNTING
Financial accounting serves outsiders while management accounting serves insiders
The main work of financial accounting is to prepare the financial statements
Financial accounting is based upon double-entry bookkeeping while management
accounting is not
Financial accounting looks backwards while management accounting looks forwards
The product of each accounting is different
USERS OF ACCOUNTING INFORMATION

FINANCIAL STATEMENTS
 Income statement: reports net income or net loss for the period. It reflects
the wealth generated by the company in a given period

 Balance sheet: reflects the financial position of the company at the end of a
period (assets and liabilities)

 They help managers take decisions about the company (although they may
have different incentives)

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THE DEMAND AND SUPPLY OF FINANCIAL INFORMATION
The demand for financial information will depend upon:
 Tastes and preferences (risk attitudes)
 Beliefs about the future
 Access to financial information
The supply of financial information will depend upon:
 Incentives companies have to voluntarily disclose financial information
 Regulatory framework
NEED FOR REGULATION

FINANCIAL INFORMATION AND FINANCIAL MARKETS

The relationship between financial information and security prices can influence
investors´ direct demand for financial information
Evidence shows:
 Annual earnings are not timely information and are preempted by alternative,
more timely sources
 However, significant price reaction was found in the week of the
announcement of annual earnings
 Prices act as if earnings announcements alter investors´ belief in such a way as
to alter the price o security
OVERVIEW OF INFORMATION CHARACTERISTICS

DECISION-MAKING
 Information characteristics
 Content
o Relevance – does it affect users´ decisions?
o Reliability – is it representationally faithful, neutral, free from material
error, prudent and complete?
 Presentation
o Comparable – inter- and intra- company comparisons

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 o Understandable – presented as understandably as possible
 It must also be
o Material
o Timely
ACCOUNTING PRINCIPLES AND CONCEPTS
Generally accepted accounting principles (GAAP) are:
 The rules that govern how accountants operate
 Based upon a conceptual framework
KEY SPANISH ACCOUNTING ORGANIZATIONS
 ICAC, Treasury Ministry, Bank of Spain, AECA, UE Commission, CNMV
ACCOUNTING REGULATION IN SPAIN
There are two different regulatory regimes in place in Spain:

REGULATORY BODIES ISSUING ACCOUNTING RULES IN SPAIN

INTERNATIONAL ACCOUNTING STANDARDS

Since 2005, all quoted companies within the EU have to prepare their accounts
following the International Accounting Standards issued by the IASB
 The IASB (International Accounting Standards Board) is the regulatory body of
the IASC (International Accounting Standards Committee)
Until 2001, the standards issued by the IASB are denominated IAS
From 2001, the new standards are denominated IFRS (NIIF in Spanish)

Benefits of IAS-General common standards

 Need to improve comparability of accounting information
 The objective is to have a common standard capital market
 Expand investment possibilities of European citizens
 Macroeconomic benefits: employment, economic growth, prosperity