What is Accounting? – Purpose, Importance and Need

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accounting meaning

Accounting is considered as the core activity of any business. In all activities (business or non-business ) and in all organizations, accounting is required. Thus, in a nutshell, we can say that wherever money is involved, accounting is required to account for it. Like any other language,  accounting serves as a means of communication and provides useful information to the interested parties and that’s the reason why it is known as the “language of business.”

Key highlights of this blog are:-

  • What is Accounting ? – Meaning and Definition
  • Some Common Terminologies And Their Relationship With Accounting
  • How Book-Keeping and Accounting are Different?
  • What are the Objectives Of Accounting?
  • Advantages and Limitations Of Accounting
  • Accounting Today : A Quick Look At Students Outlook, Principles Followed & Systems Used In Present World

What is Accounting? – Meaning And Definition

Traditionally, Accounting is defined as “an art of recording, classifying and summarizing business transactions in a significant manner and in terms of money, and interpreting the results thereof.”

However, with the change in time, the definition has been modified. As per the modern definition of Accounting, it is “the process of identifying, recording and communicating business information to the interested parties.”

Some Common Terminologies And Their Relationship With Accounting

The terms, Bookkeeping, Accounting and Accountancy, are often used interchangeably. They are similar yet a lot different, which is also correct fundamentally. Let’s take a look at it:

Bookkeeping

Bookkeeping is one of the primary functions in the process of accounting, which is concerned with recording, storing, maintaining and retrieving the financial data of a firm. In simple words, it is a process of tracking all the financial transactions of an organization. It is done either by maintaining the physical books of accounts or via software. This work is often routine and clerical in nature.

It includes the following activities:

•   Identifying the transactions and events.

•  Measuring the identified transactions and events in a common measuring unit.

•  Recording the identified and measured transactions and events in proper Books of Accounts.

•  Classifying the recorded transactions and events in ledger.

Accounting

Accounting is the secondary function and starts where Book-Keeping ends.

It includes the following activities:

•   Summarizing  the classified transactions in the shape of Final Accounts.

•   Analyzing and Interpreting the results disclosed by Final Accounts to draw meaningful conclusions.

•  Communicating the required information to the interested parties.

Accountancy

Accountancy refers to the systematic knowledge of the concepts, principles, conventions, techniques and procedures used in accounting. It explains ‘Why to do’ and ‘How to do’ various aspects of accounting. It helps in preparing the book of accounts and understanding how to summarize and present the accounting information and communicate it to the interested parties.

Thus we can say that bookkeeping is a part of Accounting and Accounting is a part of Accountancy. This is how they are similar, related and yet different.

How Bookkeeping And Accounting Are Different?

While most people think bookkeeping and accounting are same, here we will discuss how they differ. Let’s take a look

Basis Of Distinction Bookkeeping Accounting
Scope   Book-keeping involves identifying, measuring, classifying and recording the business transactions.   Accounting in addition to Bookkeeping involves summarizing, analyzing, interpreting the information to draw useful conclusions and then communicate the same information to the interested parties.  
Stage   It is the primary stage. It starts where Bookkeeping ends and thus is the secondary stage.  
Basic Objective   The basic objective of Bookkeeping is to maintain systematic records of the financial transactions.   The basic objective of accounting is to ascertain the Financial Position and Financial Performance of the business and then communicate it to the interested parties.  
Performed By   Bookkeeping work is performed by a Junior Staff.   Accounting work is performed by a Senior Staff.  
Nature Of Job   The job of a bookkeeper is often routine and clerical in nature.   The job of an accountant is analytical in nature.  
Supervision & Checking   Bookkeeper does not supervise and check the work of an accountant.   An accountant generally supervises and checks the work of a bookkeeper.  
Analytical Skills   A bookkeeper may or may not possess analytical skills.   An accountant is required to possess analytical skills.  

Objectives Of Accounting

Accounting provides a reliable framework through which it constantly produces true and accurate financial information; thereby helping businesses to grow and achieve their objectives.

The main objectives of Accounting are as follows:-

To Maintain Systematic Accounting Records

Written records help in the decision making process and can also serve as an evidence of transaction. That is why, written records are considered better and reliable as compared to oral records. But nowadays, in every business the volume of transaction is so large that it becomes almost impossible for a human memory to absorb each and every transaction. Thus, Accounting is done to keep a systematic record of Financial Transactions and the Assets and Liabilities of the business.

To Ascertain The Financial Performance

Usually, to measure the performance of a business, the results of operations are ascertained by preparing an Income Statement ( which is known as Profit & Loss Account). The income statement shows the matching of current costs with current revenues during a particular period to know the financial performance of the business.

To Ascertain The Financial Position

Every businessman wants to know what the business owes to others and what it owns. Businesses are always inquisitive to know about their capital, its market value and the growth rate. Thus, to answer all these questions and to evaluate the financial strengths and weakness of the business, a Position Statement (also known as Balance Sheet) is prepared. It records the various assets and liabilities of the business and helps to evaluate the Financial Position of the business.

To Communicate The Information To The Users

The basic objective of Accounting is to communicate the information to the interested users. The interested users involve both internal as well as external users.

Internal users include all the organizational participants at all level of management (i.e. top, middle and lower). For internal use, the information is usually provided in the form of Reports, Feedback Reports, Project Appraisal Reports etc.

The external users include Banks, Creditors and third party who are interested to know the solvency and profitability of the enterprise. Since, they do not have direct access to the records of the enterprise, they have to rely on financial statements as the source of information.

Advantages And Limitations Of Accounting

Like every coin has two faces, similarly Accounting has its own pros and cons. 

Pros of Accounting

•    Facilitates To Replace Memory

Accounting facilitates to replace human memory by maintaining complete record of each and every financial transaction.

•    Facilitates To Ascertain Financial Performance And Position

Accounting facilitates to ascertain Financial Performance and Financial Position of an enterprise by preparing Income Statement and Position Statement respectively.

•    Facilitates The Users To Take Decisions

Accounting helps the users ( Creditors, Investors, Employees, Management, General Public, Tax Authorities etc.) to take decisions by communicating information to them.

•    Facilitates Comparison

Accounting provides the information to the users, thereby enabling them to go for a comparative study. Thus, Accounting helps in Inter-Firm, Intra-Firm and Patter Comparison.

•    Acts As A Legal Evidence

When books of accounts are prepared properly in a significant manner, then it acts as a legal evidence and can be very useful in case of any disputes between two parties.

Cons of Accounting

•    Ignores Qualitative Elements

Since Accounting is confined to matters that can be measured in terms of money only, qualitative elements such as honesty, quality of labor force, Public Relations which are essential for a business are overlooked.

•    Bias

In many situations, the accountant has to make a choice out of the various alternatives available (eg.- choice in the method of depreciation). Since, the subjectivity is inherent in personal judgements, the financial statements are not free from bias.

•   Ignores The Changes In Price Level

Accounting overlooks the changes in the price level over the period of time. (For e.g.- consider a piece of land brought for Rs 10,000 has been recorded duly in the books of accounts. But now, the value of land have increased to 20,000 which has not been taken into consideration. Thus, when accounts are prepared on the basis of historical cost, such situations are expected to arise).

•    Estimated Position And Not Real Position

Since the book of accounts, are prepared on the basis of going concern concept, they report only the estimated periodic results and not the actual results. The actual results can be ascertained only at the time of liquidation I.e. Winding up of the enterprise.

•    Window Dressing

When the management decides to enter wrong figures to artificially inflate or deflate the figure of Profits/Loss, Assets, Liabilities etc., it is known as Window Dressing. Thus, in such situations the Income Statement and The Position Statement fails to provide a true and fair view of the Financial Performance and Financial Position of the enterprise respectively.

Accounting Today

A Quick Look At Students Outlook, Principles Followed & Systems Used In Present World

Students Outlook

Accounting is the essential activity of any business. Right from the traditional times to the modern days, no business can survive without Accounting. Considering the scope that it has, more and more students are inclined towards this domain both as a field of study and as a career option. Every year, many students take up this subject keeping in mind the huge demand for the accountants in the industry. This is the reason why, accountancy is the most popular subject and field among students.

Accounting Principles Followed

Although Accounting has existed in different forms and sophistication of human society, the double-entry accounting system that we use today was developed in medieval Europe and is the gift to the world from Luca Pacioli.

Systems Used

For a very long period of time, Accounting have been done manually. While this method still prevails as many small scale organization maintain their accounts physically, but most of the businesses have adopted Computerized Accounting  System to maintain the books of accounts. Today, most of the accountants work on Tally ERP software to maintain the Books of Accounts.

The Bottom Line

Wrapping it up, all I would like to say is while accounting is the key element without which no business can survive, it take a lot to build your career and earn name and fame in this field. With the growing demand in the market, you as an accountant have to keep up the pace and be successful enough to earn your place in the industry.

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