October 17, 2008
When starting a new business there are several things to take into account like how do you measure whether your business is making or losing money? Or how should you know where to ascertain funds to finance expansion, should you borrow money, issue stock, or become the primary investor and use your own money? In order to achieve success in the business world requires constant decision, and the best decisions that are made are based off financial information. And with this in mind, accounting is the information system that identifies, records, and communicates the economic events of an ...view middle of the document...
Businesses maintain accounting systems in order to promote good business ethics. People wonâ€™t go to the track and bet on horses if everyone thought it was rigged, same thing applies to businesses and the stock market. Companies want to put off a good image so that their customers can have faith when purchasing stocks and what better way than to have a solid accounting system. Accounting is basically the backbone of financial information that holds the company together.
Another part of accounting that helps business is that it keeps track of what the business owns and owes other people. Resources that are owned by the actual business are called assets, which primarily consist of cash, investments, and also property, plant, and equipment. Amounts owed to creditors in the form of debt or other obligations are called liabilities. Businesses can either have liabilities to their investors in the form of bonds payable as an I.O.U. for investing in the company or write out a note payable to the bank for the money borrowed. Similar in terms to liabilities in which creditors claim the money owed to them, stockholderâ€™s equity is the claims of owners that have bought up common stock. These three terms, assets, liabilities, and stockholderâ€™s equity, all come together to form the basic accounting equation which is the amount of assets is equal to the sums of liabilities and stockholderâ€™s equity.
In addition to having assets and liabilities, companies need something to record all of this information down. Thatâ€™s why companies publish monthly financial statements to make sure everything is up to date with all the numbers. The first financial statement is the balance sheet. This is where the basic accounting equation comes into play because assets must be in balance with the claims to the assets, which consist of liabilities and stockholderâ€™s equity. It lists assets first, soon followed by liabilities and stockholderâ€™s equity. The balance sheet is also interrelated to the retained earnings statement which shows the retained earnings for the month along with net income and dividends. Besides having something in common with the balance sheet, the retained earnings statement heavily depends on the outcome of the income statement. Income statements are a way to compare current forms of revenues, expenses, and net income to previous years of operating. The final financial statement is the statement of cash flows, whose primary purpose is to provide financial information about the cash receipts and cash payments of a business for a specific period of time. In laments terms, the statement of cash flow shows the bases of the three principal types of business activity which are...