Financial accounting is a crucial aspect of any business organization, as it enables them to keep a track of their financial transactions, generate financial reports, and make informed decisions. In this article, we will go through the basics of financial accounting and understand the key principles that govern it.
- Definition of Financial Accounting:
Financial accounting is a branch of accounting that focuses on the preparation and presentation of financial statements for external users, such as investors, creditors, and regulatory authorities, etc. The objective of financial accounting is to provide accurate, relevant, and reliable information to these stakeholders about the financial performance of the organization.
- Accounting Equation:
The accounting equation is the foundation of financial accounting. It states that assets are equal to liabilities plus equity. This equation helps in understanding how different components of the balance sheet affect each other. The balance sheet is a financial statement that provides information about the assets, liabilities, and equity of an organization at a given point in time.
- Double-Entry Accounting:
Double-entry accounting is a system of accounting that requires every transaction to be recorded in at least two accounts, i.e., debit and credit. This system ensures that the accounting equation remains in balance, and ensures the accuracy of financial statements. For instance, if a company purchases inventory on credit, it would record an increase in inventory (debit) and an increase in accounts payable (credit).
- Financial Statements:
Financial statements are the key output of financial accounting. They provide information about the financial health of the organization and its performance over a period of time. The primary financial statements that organizations prepare are:
- The income statement: It provides information about the revenue, expenses, and net income of the organization over a period of time.
- The balance sheet: It provides information about the assets, liabilities, and equity of the organization at a given point in time.
- The statement of cash flows: It provides information about the inflows and outflows of cash over a period of time.
- Accounting Standards:
Accounting standards are guidelines that organizations follow while preparing financial statements. They ensure that the financial statements are consistent, comparable, and reliable across different organizations. These standards are set by regulatory bodies such as the Financial Accounting Standards Board (FASB) or the International Accounting Standards Board (IASB).
Financial accounting is a crucial aspect of any business organization, as it enables them to keep a track of their financial transactions, generate financial reports, and make informed decisions. Understanding the basics of financial accounting is essential for anyone associated with a business, be it a shareholder, investor, or employee. By following the principles outlined in this article, organizations can ensure that their financial statements are accurate, reliable, and informative.