Accounting is a means through which information about a business entity is communicated.
Let's take a moment to illustrate that.
Meet Mr. Strauss
Mr. Strauss started a printing business. He invested $100,000 personal money to start the company's operations. After a month, he wants to know how much the business made. He also wants to know if the money he invested is still there.
Without a way of recording the activities of the business, we will not be able to answer his questions. Surely we can tell him, "Mr. Strauss, we made a lot this month!", but we need proof! And he needs the figures!
We can easily answer Mr. Strauss' questions if we kept track of the company's transactions. If we used $30,000 of the $100,000 we had at the beginning to buy printers and pay the bills, then we'd have $70,000 cash left. If we collected $50,000 from our customers, then we would have $120,000. Easy, right?
Okay, that's just a tiny bit of what accounting can do. What if we have thousands of transactions? Also, there's a lot more to accounting than just recording. How much income did we make? How much do we owe our creditors? Is this a good investment? Ask away. Accounting would confidently say, "I'll have the reports prepared." How cool is that?
Technical definitions of accounting have been published by different accounting bodies. The American Institute of Certified Public Accountants (AICPA) defines accounting as:
Though I am not a fan of technical definitions, I believe that studying the statement above will give us a better understanding of accounting.
1. Accounting is considered an art
Accounting is considered an art because it requires the use of skills and creative judgment. One has to be trained in this discipline to be able to perform accounting functions well.
Accounting is also considered a science because it is a body of knowledge. However, accounting is not an exact science since the rules and principles are constantly changing (improved).
2. Accounting involves interconnected "phases"
Recording pertains to writing down or keeping records of business transactions. Classifying involves grouping similar items that have been recorded. Once they are classified, information is summarized into reports which we call financial statements.
3. Concerned with transactions and events having financial character
For example, hiring an additional employee is qualitative information with no financial character. Hence, it is not recorded. However, the payment of salaries, acquisition of an office building, sale of goods, etc. are recorded because they involve financial value.
4. Business transactions are expressed in terms of money
They are assigned amounts when processed in an accounting system. Using one of the examples above, it is not enough to record that the company paid salaries for April. It must include monetary figures – say for example, $20,000 salaries expense.
5. Interpreting the results
Interpreting results is part of the phases of accounting. Information is useless if they cannot be interpreted and understood. The amounts, figures, and other data in the financial reports have meanings that are useful to the users.
By studying the definition alone, we learned some important concepts in accounting. It also gave us an idea of what accountants do.
You may not notice but the simple things you do and encounter everyday can actually be related to some level of accounting. You make budgets, count change and check the receipts from the supermarket. You may also have listed things you spent your money with at one point in your life.
We are surrounded by business – from managing our own money to seeing profit statements of big corporations. And where there is business, there sure is accounting.