Definition and Importance of Accounting
Accounting is the process of recording financial transactions pertaining to a business. The accounting process includes summarizing, analyzing and reporting these transactions to oversight agencies, regulators and tax collection entities.
The financial statements used in accounting are a concise summary of financial transactions over an accounting period, summarizing a company’s operations, financial position and cash flows.
Accounting is one of the key functions for almost any business. It may be handled by a bookkeeper or an accountant at a small firm, or by sizable finance departments with dozens of employees at larger companies.
The reports generated by various streams of accounting, such as cost accounting and managerial accounting, are invaluable in helping management make informed business decisions.
A strong company can attribute some of its success to its accounting. Without accounting, it would be hard to keep track of your business’s finances and profitability, and you might not know exactly how much money is coming in or going out.
Accounting is how finances are tracked. As an individual, you may only ever use an accountant in the form of an online form for submitting your taxes. Those are done by certified public accountants (CPAs) who pass an exam to prove their mastery of accounting.
Tax collectors, regulators and other oversight agencies will want to see proper accounting. If your business ever seeks investors or other shareholders, these agencies will review your accounting paperwork.
When you see a deal made on a show like “The Profit” or “Shark Tank” that later falls apart, it’s almost always because of accounting problems.
Unless you are well versed in finance, your business will likely need to enlist the help of a professional accountant. Here’s a breakdown of what accountants can do for your company.
The American Accounting Association defines accounting as “the process of identifying, measuring and communicating economic information to permit informed judgments and decisions by users of the information.”
Accountants log a business’s accounts payable, accounts receivable and other financial transactions, typically using accounting software.
“Accountants use the work done by bookkeepers to produce and analyze financial reports,” said Stan Snyder, CPA. “Although accounting follows the same principles and rules as bookkeeping, an accountant can design a system that will capture all of the details necessary to satisfy the needs of the business – managerial, financial reporting, projection, analysis and tax reporting.”
In the United States, most accountants abide by the generally accepted accounting principles to present a company’s financial information to those outside the company in a format that everyone can understand. There are different sets of accounting standards for companies that operate overseas, as well as for local and state government entities.
Harold Averkamp, CPA and owner of Accounting Coach, said accountants also provide a company’s internal management team with the information it needs to keep the business financially healthy.
Some of the information originates from the recorded transactions, and some consists of estimates and projections based on various assumptions, he said.
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There are tax accountants, financial accountants, public accountants, government accountants and more. Forensic accountants are employed by regulators and law enforcement to help track illegal activity. Diving even further, crypto accountants deal with cryptocurrency assets.
An accountant usually works for one of the following: a person, a business or the government. However, accounting firms such as Deloitte, Ernst & Young, KPMG and PricewaterhouseCoopers are renowned for tracking and managing public and private financial data.
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Accounting ratios help to uncover difficult-to-find conditions and trends by inspecting the individual components that make up the ratio. Formulas like this help accountants determine a company’s status and projections.
Accounting ratios are divided into five main categories:
- Liquidity ratios measure a company’s liquid assets versus its liabilities.
- Profitability ratios measure an organization’s ability to turn a profit after paying expenses.
- Leverage ratios measure total debt versus total assets and gauge equity.
- Turnover ratios measure efficiency by comparing the cost of goods sold over a period of time against the amount of inventory that was on hand during that same time.
- Market-value ratios measure a company’s economic status compared with others in industry.
Many accountants choose to become CPAs, which they achieve by passing an exam and getting work experience. CPAs audit financial statements of public and private companies; serve as consultants in many areas, including tax, accounting and financial planning; and are well-respected strategic business advisers and decision makers, according to the Pennsylvania Institute of Certified Public Accountants. Positions CPAs hold include accountant, controller, chief financial officer and financial adviser.
You can find more information on accounting careers on The Accounting Path website.
Here are some examples of job duties accountants perform:
- Record transactions. Depending on the volume of transactions, an accountant may record each transaction (e.g., billing customers, receiving cash from customers, paying vendors) daily or weekly.
- Document and file receipts. Accountants may copy all invoices sent, all cash receipts (cash, check and credit card deposits) and all cash payments (cash, check and credit card statements). They also may start a filing system that makes sense, is easy to keep track of and is simple to maintain.
- Pay vendors and sign checks. Accountants may track accounts payable and have funds scheduled to pay suppliers on time to avoid late fees.
- Balance business checkbooks. Accountants may do this monthly to ensure that your cash business transaction entries are accurate and that you are working with the correct cash position.
- Process or review payroll and approve tax payments. You need to meet payroll tax requirements based on federal, state and local laws at different times, so accountants can make sure you withhold, report and deposit the applicable income, Social Security, Medicare and disability taxes to the appropriate agencies by the required dates.
